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In another development for the UK cryptocurrency industry, on July 5, 2022, the UK government announced a consultation on the taxation of lending and “staking” of crypto-assets in the context of decentralized finance (“DeFi “). In particular, the UK government is interested in determining whether administrative burdens and costs could be reduced for taxpayers engaging in DeFi lending and staking, as well as seeking to understand whether the tax treatment of such activities can be better aligned with the underlying economics of transactions. involved.
DeFi lending and staking encompasses a range of activities that reward users for depositing crypto-asset tokens into a pool or lending them to other people or platforms for a certain period of time to earn passive income often described like interest. The UK government has previously issued guidance regarding DeFi (previously covered here).
HMRC understands that there may be circumstances where current tax rules treat transactions as disposals where beneficial economic ownership of crypto-assets is retained. This position may lead to tax consequences that are not aligned with the economic effects of the transaction and may also give rise to a “deadweight tax charge” where a tax liability arises but no gain has been realized under a form that can be used for accountability.
The scope of the consultation is limited to the tax treatment of investors participating in DeFi lending and staking and specifically excludes transactions entered into by individuals or entities in connection with a transaction, such as running a platform.
As part of the consultation, HMRC is considering three possible options to ensure that the taxation of DeFi loans and staking matches the economic reality of the transaction while not causing market distortions by inducing participants to favor an activity or one asset over another. These three options can be summarized as follows:
- Option 1: Integrate DeFi lending and staking into current UK “repo and stock lending rules” by defining crypto-assets as “securities”;
- Option 2: Create separate rules for DeFi lending and staking, similar to the current UK “repo and stock lending rules”;
- Option 3: Apply “no loss or gain” treatment to DeFi loans and staking so that any tax liability is deferred until the assets are disposed of economically.
HMRC seeks to understand the suitability of each option as well as the pros and cons of each option. In addition, HMRC has requested specific comments regarding alternative approaches that have been taken by other jurisdictions or other options that should be considered.
The consultation will close on August 31, 2022.
The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.
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