It’s that time of year again – everyone is talking taxes and it’s at the top of your mind even though you’ve been trying to avoid it all year. Besides just getting your taxes filed to avoid scary calls from the CRA and those hefty penalties and interest – tax season is a great opportunity to get a clear picture of your company’s financial health.
Money is the bloodline of your business so it’s important to have a finger on the pulse of your finances and not be afraid of it.
To make it just a little easier for you and in hopes that you can use tax season as an opportunity to understand where all your hard earned money is going, here is a guide with some quick tips and helpful information that might make this season a little easier and more informative for you!
Get Your Financial Books in Order
If you’re one of those people who have meticulously organized and tracked your business finances (i.e. income and expenses) throughout the year then you’re ahead of the game.
However, if you’ve been putting off dealing with your business finances all year, then now is the time to sit down and get organized!
If you’re a sole proprietor, using a tool like Microsoft Excel is a cost-effective and simple tool to track all your income and expenses. Alternatively, a more robust option is to use cloud-based accounting software such as Xero. There are other great cloud-based solutions such as Receipt Bank or Hubdoc that can really help you get your receipts and invoices organized. These are also great tools to store all your supporting documents, in the event of a CRA audit/review. You wouldn’t want to pass over receipts that have completely faded, in which case, they might disallow your expenses!
If you just don’t have the time to get your books in order and you have room in your budget, consider hiring a qualified bookkeeper to help you. Having clean and organized books will also help reduce your cost to file taxes (if you’re paying an accountant to file for you).
Pro Tip: Keep your detailed and itemized receipts for everything! Bank statements do not count as supporting documents for expense claims.
Don’t Miss The Deadlines for Filing Income Tax Returns
Small businesses that are operating as a sole proprietorship or partnership will have until June 15th to file their taxes. However, it’s important to note that any income taxes owing are due by April 30th. If you file late and end up owing taxes, you’ll pay interest and penalties on your outstanding tax balance until you submit your payment to the CRA. Keep your money in your pockets!
Small Business Tax Myths
1. My business did not make any money so I don’t need to report anything on my tax return.
False. Even if you had a net loss for the year (i.e. more expenses than income), you are still required to report your business income and expenses on your tax return. Moreover, it’s actually beneficial for you to report that net loss as you can apply the loss to other sources of income, such as employment income or investment income. If you can’t use those business losses in the current year, you can carry them back for three years and recover taxes previously paid or carry them forward for 20 years, to offset future earnings.
2. I made less than a thousand dollars and it’s just a hobby so I don’t have to report that income.
False. Even if you only made $10, you are required to report that income to the CRA. The CRA does not determine what is and what isn’t a business by how much money you make or by your intentions to “run a business”. They define a business as “any activity that you do for profit”.
Review the Financial Health of Your Business
Once your business finances are in order after filing your taxes, this is a great time for you to review the financial health of your business, see how you performed in the past year, and set financial goals for the year ahead. Did you make money or did you spend way more than you brought in? Was there an area where you spent way more than you expected? Where can you streamline costs and cutback on expenses?
Most business owners think that racking up tax deductions is great as it reduces your taxable income. However, you are still running a business and the goal is that your business will make money. Reducing unnecessary expenses also means there is more cash in your pockets and less outflow of money. Paying taxes is not a bad thing. It means that you are running a profitable business!
Scenario 1 –
- If you made $1000 of income and spent $500 on expenses. You will only get taxed on $500. The taxes you would have to pay to the CRA would be approximately $125.
- Amount of money left in your pocket at the end of the year = $375 ($1000 of income minus $500 of expenses and $125 of taxes).
Scenario 2 –
- However, if you made $1000 of income and spent only $200 on expenses. You will get taxed on $800. The taxes you would have to pay to the CRA would be approximately $200.
- Amount of money left in your pocket at the end of the year = $600 ($1000 of income minus $200 of expenses and $200 of taxes).
- You are still better off at the end of the year, if you managed your expenses and spent less money on things just for the sake of a “tax write off”.
Cryptocurrency is a relatively new innovation that requires guidelines on taxation so that Canadians are aware of how to meet their tax obligations. The Senate reviewed the issue of taxation on cryptocurrency in 2014 and recommended action to help Canadians understand how to comply with their taxes, which the Canada Revenue Agency (CRA) is doing by presenting this guide.
Tax treatment of cryptocurrency for income tax purposes
Cryptocurrency is a digital representation of value that is not legal tender. It is a digital asset, sometimes also referred to as a crypto asset or altcoin that works as a medium of exchange for goods and services between the parties who agree to use it. Strong encryption techniques are used to control how units of cryptocurrency are created and to verify transactions. Cryptocurrencies generally operate independently of a central bank, central authority or government.
The following pages outline the income tax implications of common transactions involving cryptocurrency. When we refer to cryptocurrency in this publication, we are talking about Bitcoin or other similar virtual currencies.
The CRA generally treats cryptocurrency like a commodity for purposes of the Income Tax Act. Any income from transactions involving cryptocurrency is generally treated as business income or as a capital gain, depending on the circumstances. Similarly, if earnings qualify as business income or as a capital gain then any losses are treated as business losses or capital losses.
Taxpayers have to establish if a cryptocurrency activity results in income or capital because this affects the way the revenue is treated for income tax purposes. Not all taxpayers who buy and sell cryptocurrency are carrying on business activity.
When you use cryptocurrency to pay for goods or services, the CRA treats it as a barter transaction for income tax purposes. A barter transaction occurs when two parties exchange goods or services and carry out that exchange without using legal currency. For more information, please review our archived content on barter transactions.
To figure out the value of a cryptocurrency transaction where a direct value cannot be determined, you must use a reasonable method. Keep records to show how you figured out the value. Generally, the CRA’s position is that the fair market value is the highest price, expressed in dollars that a willing buyer and a willing seller who are both knowledgeable, informed and prudent, and who are acting independently of each other, would agree to in an open and unrestricted market. For example, you could choose an exchange rate taken from the same exchange broker you are using or an average of midday values across a number of high-volume exchange brokers. Whichever method you choose, use it consistently.
If you hold more than one type of cryptocurrency in a digital wallet, each type of cryptocurrency is considered to be a separate digital asset and must be valued separately. For example, a Bitcoin is valued separately from a Litecoin.
Reporting business income or capital gains from the disposition of cryptocurrency
What is a disposition?
This refers to the way you get rid of something, such as by giving, selling or transferring it. In general, possessing or holding a cryptocurrency is not taxable. But there could be tax consequences when you do any of the following:
- sell or make a gift of cryptocurrency
- trade or exchange cryptocurrency, including disposing of one cryptocurrency to get another cryptocurrency
- convert cryptocurrency to government-issued currency, such as Canadian dollars
- use cryptocurrency to buy goods or services
Is it business income or capital gain?
The income you get from disposing of cryptocurrency may be considered business income or a capital gain. In order to report it correctly, you must first establish what kind of income it is.
The following are common signs that you may be carrying on a business:
- you carry on activity for commercial reasons and in a commercially viable way
- you undertake activities in a businesslike manner, which might include preparing a business plan and acquiring capital assets or inventory
- you promote a product or service
- you show that you intend to make a profit, even if you are unlikely to do so in the short term
Business activities normally involve some regularity or a repetitive process over time. Each situation has to be looked at separately.
In some cases, a single transaction can be considered a business, for example when it is an adventure or concern in the nature of trade. Whether you are carrying on a business or not must be determined on a case by case basis. For more information, please review our archived content on an adventure or concern in the nature of trade.
Another factor in deciding if there is a business activity is the date when the business begins. If you are still setting up or preparing to go into business, you might not be considered to have started the business. You usually have to undertake significant activity that is part of your income-earning process. Any funds or property you receive before your business begins are not generally considered to be business income. Similarly, you cannot claim deductions for income tax purposes before the business begins. For more information, please review our archived content on the start of business operations.
Some examples of cryptocurrency businesses are:
- cryptocurrency mining
- cryptocurrency trading
- cryptocurrency exchanges, including ATMs
Paragraphs 9 to 32 of Interpretation Bulletin IT-479R : Transactions in securities, provide general information to help you figure out if transactions are income or capital gains. Although the discussion of income and capital in this interpretation bulletin is helpful, remember that cryptocurrencies are not Canadian securities under the Income Tax Act.
Reporting as either income or capital gain
Generally, if disposing of cryptocurrency is part of a business, the profits you make on the disposition or sale are considered business income and not a capital gain. Buying a cryptocurrency with the intention of selling it for a profit may be treated as business income, even if it’s an isolated incident, because it could be considered an adventure or concern in the nature of trade.
If the sale of a cryptocurrency does not constitute carrying on a business, and the amount it sells for is more than the original purchase price or its adjusted cost base, then the taxpayer has realized a capital gain.
Capital gains from the sale of cryptocurrency are generally included in income for the year, but only half of the capital gain is subject to tax. This is called the taxable capital gain. Any capital losses resulting from the sale can only be offset against capital gains; you cannot use them to reduce income from other sources, such as employment income. You can carry forward your capital losses if you do not have any capital gains against which to offset those losses for the year or any of the preceding three years.
For more information on capital gains, see Guide T4037, Capital Gains.
Trading cryptocurrency for another type of cryptocurrency
Generally, when you dispose of one type of cryptocurrency to acquire another cryptocurrency, the barter transaction rules apply. You have to convert the value of the cryptocurrency you received into Canadian dollars. This transaction is considered a disposition and you have to report it on your income tax return. Report the resulting gain or loss as either business income (or loss) or a capital gain (or loss).
Example 1: Business income or loss
Alice regularly buys and sells various types of cryptocurrencies. She pays close attention to the fluctuations in the value of cryptocurrencies and intends to profit from the fluctuations. Her activities are consistent with someone who is engaged in the business of day trading. In 2017, Alice sold $240,000 worth of various cryptocurrencies, which she originally purchased for $200,000. Her net profit is $40,000. Since Alice is actively trading in cryptocurrency, which is a commercial activity, she has to report business income of $40,000 on her 2017 income tax return.
Example 2: Capital gain or loss
Tim found a deal on a living room set at an online vendor that accepts Bitcoin. Tim acquired $3,500 worth of Bitcoin to buy the furniture with. By the time he bought the furniture and converted his remaining Bitcoin back into dollars, the value of Tim’s Bitcoin had increased by $500. The gain realized by Tim was on account of capital, so Tim has to report a $500 capital gain on his income tax return. However, only 50% of that capital gain is taxable.
Example 3: Trading one type of cryptocurrency for another
On July 30, 2018, Francis bought 100 units of Ethereum, which had a value of $20,600. For this purchase, Francis used 2.5061 Bitcoins, which were trading at $8,220 per unit on that day, or the equivalent of $20,600. We consider that Francis disposed of those Bitcoins. Francis originally bought those Bitcoins for $15,000 and exchanged them for 100 units of Ethereum at a value of $20,600, resulting in a capital gain. It is calculated as follows:
$20,600 [fair market value of 2.5061 Bitcoins at the time of transaction]
– $15,000 [adjusted cost base of 2.5061 Bitcoins, their original purchase price]
$5,600 capital gain
$5,600 capital gain taxed at 50% = $2,800 taxable capital gain
If, on the other hand, the original purchase price of the 2.5061 Bitcoins had originally been $25,000, but at the time that Francis exchanged them for 100 units of Ethereum they were worth only $20,600, he would have a capital loss. It is calculated as follows:
$20,600 [fair market value of 2.5061 Bitcoins at the time of transaction]
– $25,000 [adjusted cost base of 2.5061 Bitcoins, their original purchase price]
$4,400 capital loss
$4,400 capital loss × 50% = $2,200 allowable capital loss
This example assumes that the cryptocurrency in question was held as an investment on account of capital; however, if this transaction occurred in the course of conducting a business, the entire amount of $5,600 would need to be reported as income in the first transaction and the entire $4,400 would be reported as a loss in the second transaction.
Earning cryptocurrencies through mining
Cryptocurrencies are commonly acquired in two ways:
- bought through a cryptocurrency exchange
- earned through mining
Mining involves using specialized computers to solve complicated mathematical problems which confirm cryptocurrency transactions. Miners will include cryptocurrency transactions into blocks, and try to guess a number that will create a valid block. A valid block is accepted by the corresponding cryptocurrency’s network and becomes part of a public ledger, known as a blockchain. When a miner successfully creates a valid block, they will receive two payments in a single payment amount. One payment represents the creation of new cryptocurrency on the network and the other payment represents the fees from transactions included in the newly validated block. Those who perform the mining processes are paid in the cryptocurrency that they are validating.
The income tax treatment for cryptocurrency miners is different depending on whether their mining activities are a personal activity (a hobby) or a business activity. This is decided case by case. A hobby is generally undertaken for pleasure, entertainment or enjoyment, rather than for business reasons. But if a hobby is pursued in a sufficiently commercial and businesslike way, it can be considered a business activity and will be taxed as such.
Valuing cryptocurrencies either as capital property or inventory
To file your income tax return, you need to know how to value your cryptocurrencies. This depends on whether they are considered capital property or inventory. When cryptocurrencies are held as capital property, you must record and track the adjusted cost base so that you can accurately report any capital gains.
If the cryptocurrencies are considered to be inventory, use one of the following two methods of valuing inventory consistently from year to year:
- value each item in the inventory at its cost when it was acquired or its fair market value at the end of the year, whichever is lower
- value the entire inventory at its fair market value at the end of the year (generally, the price that you would pay to replace an item or the amount that you would receive if you sold an item)
You might have to use other methods of valuing inventory, depending on the type of business you have. For example, property described in the inventory of a business that is an adventure or concern in the nature of trade must be valued at the cost you acquired the property for.
You will have to compare the cost and the fair market value of each item to figure out which is lower. You then use the lower figure for each item (or each class of items if specific items are not easily separated) to calculate the total value of your inventory at the end of the year.
“Cost” as used in the phrase “cost at which the taxpayer acquired the property,” means the original cost of the particular item of inventory (for example, a block of cryptocurrency), plus all reasonable costs incurred to buy that particular block of cryptocurrency.
Use the same inventory method from year to year. Please review our archived page on inventory .
For more information on valuating inventory, including the special rules for an adventure in the nature of trade, please review our archived content on this topic here.
Keeping books and records
If you acquire (by mining or otherwise) or dispose of cryptocurrency, you have to keep records of your cryptocurrency transactions. This also applies to businesses that accept cryptocurrency as payment for goods and services.
Cryptocurrency exchanges have different standards for the kinds of records they keep and how long they keep them. If you use cryptocurrency exchanges, we suggest that you export information from these exchanges periodically to avoid losing the information necessary to report your transactions. You are responsible for keeping all required records and supporting documents for at least six years from the end of the last tax year they relate to.
You should maintain the following records on your cryptocurrency transactions:
- the date of the transactions
- the receipts of purchase or transfer of cryptocurrency
- the value of the cryptocurrency in Canadian dollars at the time of the transaction
- the digital wallet records and cryptocurrency addresses
- a description of the transaction and the other party (even if it is just their cryptocurrency address)
- the exchange records
- accounting and legal costs
- the software costs related to managing your tax affairs.
If you are a miner, also keep the following records:
- receipts for the purchase of cryptocurrency mining hardware
- receipts to support your expenses and other records associated with the mining operation (such as power costs, mining pool fees, hardware specifications, maintenance costs, and hardware operation time)
- the mining pool details and records
Please note that different types of software are available to track cryptocurrency trades and maintain records. The CRA does not endorse any particular software, so choose the type of software that is best for you to help with your record keeping.
For more information, please review our link on keeping records.
How does the GST/HST apply to cryptocurrency?
Where a taxable property or service is exchanged for cryptocurrency, the GST/HST that applies to the property or service is calculated based on the fair market value of the cryptocurrency at the time of the exchange.
If your business accepts cryptocurrency as payment for taxable property or services, the value of the cryptocurrency for GST/HST purposes is calculated based on its fair market value at the time of the transaction.
Keep all records that show how you calculated the fair market value.