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Bitcoin: navigating tax and exchange control

Oct 21, 2021

Regulation of bitcoin and other crypto assets is inevitable, but it makes investing in this new asset class safer.

Bitcoin: navigating tax and exchange controlA few years ago, I was sitting on a panel discussion when the topic of bitcoin was raised. The appeal of bitcoin for many people was that it was unregulated – that it allowed people to pay each other outside of the control of central banks.

For some, this was a way to get paid for illegal activities, but for many ordinary citizens, they simply liked the idea that their money was free to flow globally.

This is especially true in countries like South Africa where we have exchange control. Added to that, banks make an absolute fortune out of forex fees, so finding a single currency that everyone across the globe uses to buy and pay for things seemed a lot like the Tower of Babel.

My observation was that authorities would never allow it to remain unregulated. Over the last decade, governments have tightened reporting across the world to rein in money laundering, and let’s be honest, the bonus for them has been to make sure citizens pay their fair share of tax.

The tax incentive is a big one – governments need control over the flow of money to be able to tax residents.

Regulation would help reduce scams

For me, however, the main argument for the regulation of crypto assets is that it would minimise scams.

Every day I receive another complaint from a desperate person who has been scammed out of their money in the latest crypto “investment”.

There are those small scam groups that operate through social media, WhatsApp and Telegram, and which come and go every few months, but then there are those really large ones like Mirror Trading International – companies that claim they are trading crypto assets but are really a ponzi scheme.

If crypto assets remain unregulated, the authorities can do very little to shut down these scams.

This article is part of an education series on crypto assets in partnership with Luno. You can sign up to the Luno app here.

The Financial Sector Conduct Authority (FSCA) has been introducing a phased-in approach to regulation, with the intention of classifying crypto assets as a financial product, which would fall under the jurisdiction of the FSCA.

According to the FSCA, while this is not a tacit approval, it does give legitimacy to the asset class.

When it comes to regulation, South Africa is in line with global practices, according to Marius Reitz, Africa GM at global cryptocurrency platform Luno.

Luno operates in 40 different countries with headquarters in seven countries, and Reitz says the primary focus for regulators in all these regions has been anti-money laundering and protecting customers.

“The intention is not to regulate the actual crypto assets but rather the crypto asset service providers, such as exchanges like Luno, to ensure that customer information and assets are protected,” says Reitz. Luno is currently licensed as a Recognised Market Operator by the Securities Commission in Malaysia and has applied for its license in several other jurisdictions.

“Wherever possible we obtain a license to operate. Over time, regulation will allow differentiation between those exchanges who are regulated and those who are operating illegally,” adds Reitz.

The need for regulation has once again been highlighted by what looks like the latest crypto scandal involving Tether, a stable coin that claims to be backed by actual US dollars.

Bloomberg queried the validity of this in an investigative piece entitled Anyone Seen Tether’s Billions?

Proof of reserves is a very important aspect of regulation. Investors need to know that the crypto asset is actually being held by the platform.

Reitz says this is why Luno requested a proof-of-reserve audit by accounting firm Mazars. While not currently required by regulation, it provides prospective customers additional transparency, as well as reassurance that their cryptocurrency holdings are collateralised, exist on the blockchain, and are under the control of Luno.

Taxation

There is a misconception in South Africa that because crypto assets are not regulated, they are not taxable.

While SARS is formulating its exact tax policy around crypto assets, it has neatly solved the problem by requiring taxpayers to indicate on their tax returns whether they have bought or sold any crypto assets in that tax year. A failure to disclose would be a criminal offense under the Tax Administration Act.

The main debate is whether your crypto profits are taxed as income or capital gains. It is up to you to prove to SARS the intention of your investment. If your intention was to trade crypto assets, then profits would be added to your taxable income and taxed at your marginal tax rate. If your intention was to hold these assets as an investment, then capital gains tax would apply. (For more details on tax and crypto assets watch this video.)

It is also important to recognise that even if you hold assets on exchanges in other countries, these would still form part of your declaration in your South African tax return if you are a South African resident. Sale of these assets could trigger a tax event.

Reitz says that currently Luno is not required to submit tax information to SARS and does not share customer information with SARS on a routine basis, but that over time it is likely that crypto platforms will be integrated into the SARS reporting system.

Exchange control

Unlike many other countries that Luno operates in, South Africa has the added complexity of exchange control.

Currently there is no specific law around the treatment of crypto assets with regards to exchange control, however the South African Reserve Bank (SARB) has issued a guideline which clearly indicates that the intention is for current exchange control rules to apply – an annual limit of R1million without SARB approval and up to R10 million with approval.

It is up to the individual to adhere to the law. While Luno does have limits on transactions, this is more focused on the risk profile of the individual and avoiding illicit activities.

“For most people, investing in crypto assets is about being part of a new technology and asset class. It is not about trying to dodge tax or exchange controls,” says Reitz.

In fact, it is fallacy that blockchain transactions are anonymous or untraceable. In most circumstances they are easier to trace than cash transactions, and dollars are still the most widely used medium of exchange to facilitate illicit activity.

It is worth noting that the traceability of crypto assets has resulted in a decline of its use in illicit activities.

In 2019, illicit activity represented 2.1% of all cryptocurrency transaction volume, or roughly $21.4 billion worth of transfers. In 2020, the illicit share of all cryptocurrency activity fell to just 0.34%, or $10 billion in transaction volume.

While regulation is seen as a negative by those who believe in the idea of free-flowing money, regulation does give legitimacy to the asset class. This is key in developing it as a long-term form of investable asset.

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Maya Fisher-French author of Money Questions Answered

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