VAT im­pli­ca­tions on ICOs

The Malta Business Weekly - - NEWS -

At a first glance, it is hard to be­lieve the fast adop­tion by en­thu­si­asts to­wards blockchain tech­nol­ogy in com­par­i­son with the spread of the In­ter­net in the 1990s. Pre­lim­i­nary to go­ing into de­tail on the VAT im­pli­ca­tions on Ini­tial Coin Of­fer­ings (ICOs) and the di­verse rights and obli­ga­tions as­signed to to­kens, one needs to get a grasp on what the fuss is all about.

Ini­tial Coin Of­fer­ings have be­come rapidly a new method to raise funds for re­search and de­vel­op­ment of a pro­posed project be­ing ex­posed to an un­lim­ited num­ber of po­ten­tial in­vestors con­nected vir­tu­ally world­wide. In ex­change for the in­jected funds to the ICO for re­search and de­vel­op­ment, the in­vestors re­ceive crypto to­kens.

Crypto to­kens con­sti­tute both coins and to­kens with as­signed di­verse rights and ben­e­fits to the in­vestor; how­ever most of the coins func­tion as a cur­rency or medium of ex­change. To­kens rep­re­sent any as­set that is trade­able and mu­tu­ally in­ter­change­able by an iden­ti­cal item. To­kens can range from priv­i­leges such as com­modi­ties to loy­alty points or even cryp­tocur­ren­cies.

To date, if any VAT li­a­bil­ity is due, ir­re­spec­tive who will be li­able for the pay­ment of VAT, one needs to make ref­er­ence to the ap­pli­ca­ble law and guide­lines is­sued by the re­spec­tive tax au­thor­i­ties in the juris­dic­tion where VAT be­comes li­able. Un­for­tu­nately, not all coun­tries have is­sued clear guide­lines on the treat­ment of these novel trans­ac­tions and we are at no point close to have any har­monised or unique treat­ment in the EU apart from Case Law which might give some light on the po­si­tion the EU might take in re­spect to ICOs, bit­coins or other cryp­tocur­ren­cies.

The in­vest­ing in an ICO by pur­chas­ing a to­ken or coin by fiat (con­ven­tional) money does not trig­ger a sup­ply, there­fore at this point, the trans­ac­tion is not vat­able. Rea­son be­ing that the trans­ac­tion is con­sid­ered as an ex­change of cur­ren­cies, based on the in­ter­pre­ta­tion by the Eu­ro­pean Court of Jus­tice (ECJ) in Case C – 155/94.

The case in ques­tion started with Mr Hedqvist, who wished to pro­vide ser­vices through a com­pany, con­sist­ing of the ex­change of fiat cur­rency for the “bit­coin” vir­tual cur­rency and vice versa. These trans­ac­tions were to be car­ried out elec­tron­i­cally via the com­pany’s web­site. The com­pany would pur­chase units of the bit­coin vir­tual cur­rency di­rectly from pri­vate in­di­vid­u­als or com­pa­nies in­tended to ex­change solely be­tween bit­coin and Swedish krona.

The query was in re­gards to the VAT treat­ment, if any, of trans­ac­tions in­volv­ing the ex­change from bit­coin cur­rency to con­ven­tional cur­rency and vice versa. Be­fore he opened the pro­posed com­pany, he wanted clar­ity with the Swedish Rev­enue Law Com­mis­sion on the VAT li­a­bil­i­ties to be in­curred both from the pur­chase and sale side of these cur­ren­cies.

The Swedish Rev­enue Law Com­mis­sion clas­si­fied the pur­chase and sale of bit­coins as a sup­ply of ser­vices for con­sid­er­a­tion, which was how­ever ex­empt from VAT in the con­ven­tional sce­nario. How­ever, the Swedish Tax Author­ity ap­pealed against this pre­lim­i­nary de­ci­sion of this VAT ex­emp­tion and ap­pealed the case with the Supreme Ad­min­is­tra­tive Court of Swe­den. Be­fore giv­ing any judge­ment, the Supreme Court opted to make a re­quest for guid­ance to the ECJ for in­ter­pre­ta­tion on this case.

This was the first time that the ECJ was to rule on the VAT treat­ment on the ex­change of vir­tual cur­ren­cies to fiat cur­rency. The ECJ court made ref­er­ence to the VAT Di­rec­tive, mainly Ar­ti­cles 2(1)(c), 135(1)(e)(d)(f) and Ar­ti­cle 15(2) ex­empt­ing ne­go­ti­a­tions and ex­changes of le­gal ten­der in the con­ven­tional method. Ref­er­ence was also made to items which do not fall un­der these ex­emp­tions such as col­lec­tor`s items, se­cu­ri­ties and ne­go­ti­a­tions re debt col­lec­tion, among oth­ers.

Sub­se­quent to the above in­ter­pre­ta­tion by the ECJ, the Case went back to the Supreme Courts of Swe­den for the fi­nal judg­ment. The Court based its rul­ing on the in­ter­pre­ta­tion by the ECJ that each trans­ac­tion needs to be com­pared to a con­ven­tional trans­ac­tion in or­der to fol­low the VAT Di­rec­tives for de­ci­sion-mak­ing.

The char­ac­ter­is­tics of to­kens earned through an ICO vary; there­fore, one can­not give uni­form VAT ad­vice on the whole spec­trum. One needs to an­a­lyse the rights and ben­e­fits con­veyed through a par­tic­u­lar ICO is­sue, case-by-case method. If the re­ceived to­kens are re­deemable against any crypto cur­rency, then these trans­ac­tions are also ex­empt from VAT be­ing a sup­ply for a con­sid­er­a­tion (cur­rency).

In con­trast, if the to­kens do not equate to shares, se­cu­ri­ties or cur­rency and the is­suer is a tax­able per­son for VAT pur­poses, than the ICO trans­ac­tion may be vat­able. An ex­emp­tion to this state­ment is when pur­chased ICOs only give the in­vestor the right to pay­ment; such as a share from fu­ture prof­its. In such a case, this ICO in­vest­ment will be ex­empt from VAT since the con­ven­tional trans­ac­tion con­cern­ing pay­ments, trans­fer or debts are out of scope for VAT.

In the case when to­kens in­fer the right to pur­chase goods or ser­vices, these must be con­sid­ered as “face value vouch­ers”. When we have vouch­ers, the point of sup­ply will be at the point of redemp­tion of rights by re­turn­ing back the to­kens to the is­suer in ex­change for goods or ser­vices from the ICO which could have been suc­cess­ful and launched as a com­pany. How­ever, this only ap­plies in the case when to­kens are clearly iden­ti­fied as “sin­gle pur­pose vouch­ers” in the ICO port­fo­lio/con­tract. When to­kens are not clas­si­fied as “sin­gle pur­pose vouch­ers”, the point of sup­ply will be when each to­ken is re­deemed, since they will have the right to redeem the to­kens in in­ter­vals and in ex­change to di­verse goods or ser­vices.

The UK Tax Author­ity ac­knowl­edged that “crypto cur­ren­cies have a unique iden­tity and can­not there­fore be di­rectly com­pared to any other form of in­vest­ment ac­tiv­ity or pay­ment mech­a­nism”. This state­ment can be mostly ac­cred­ited through the anal­y­sis of to­kens cre­ated through smart con­tracts by which tech­nol­ogy in­cor­po­rated unique de­tailed terms into each spe­cific to­ken is­sued as part of an ICO in or­der to as­sign the de­sir­able rights to be more at­trac­tive for crowd­fund­ing.

Then again, the ser­vice pro­vided by a third party cur­rency ex­change com­pany to process the trans­ac­tion, which mostly trans­lated to a con­ver­sion fee or com­mis­sion, would be sub­ject to VAT only if the same ser­vices given for fiat cur­ren­cies ex­changes would be vat­able. This is quite sim­ple to un­der­stand since the type of ser­vice be­ing pro­vided by the com­pany is com­pletely the same, while only the type of cur­rency be­ing con­verted is di­verse.

The Ger­man Fed­eral Govern­ment in a brief state­ment made on the in­quiry of “Kleine An­frage” dated 20 June 2013 clas­si­fied to­kens as an eco­nomic as­set. As a con­se­quence, these should be con­sid­ered for VAT pur­poses com­pa­ra­ble to the VAT im­pli­ca­tions for the trad­ing of coins, vin­tage cars or col­lectable stamps which are not ex­empt from VAT as per the VAT Di­rec­tive.

From a VAT per­spec­tive, Ger­many is ap­ply­ing the de­ci­sion taken by the EU in the case (C-264/14) by the ECJ courts con­sid­er­ing bit­coins are a means of pay­ment and as a con­se­quence be­ing out of scope for VAT. Dur­ing the court case in ques­tion, the judge added to ex­plain that his judge­ment cov­ers “new types of to­kens”. He gave the ex­am­ple of to­kens be­ing swapped for mem­ory space on a par­tic­u­lar plat­form. He ex­plained that although this is not a tra­di­tional pay­ment trans­ac­tion, this ex­am­ple con­firms that to­kens are just re­plac­ing fiat cur­rency to con­clude a pur­chase of goods or ser­vice.

The Swiss Fed­eral Tax Ad­min­is­tra­tion up­dated their tax­a­tion guide­lines in July of this year through the VAT-INFO 04 guide­lines draft. Sum­maris­ing the draft in ques­tion, they distin­guished be­tween three types of to­kens be­ing: pay­ment to­kens, util­ity to­kens and as­set to­kens.

With re­spect to pay­ment to­kens, if this will be the only pur­pose of these to­kens, then VAT treat­ment is the same as a pay­ment by any other cur­rency. How­ever, to­kens used as a pay­ment method for ser­vices re­lated to a trad­ing plat­form for crypto cur­ren­cies, are not ex­empt from VAT. This ap­plies if the re­cip­i­ent of these ser­vices is res­i­dent in Switzer­land for VAT pur­poses.

Con­versely, util­ity to­kens are con­sid­ered as a pre-pay­ment, pro­vid­ing the in­vestor a fu­ture pos­si­bil­ity to re­ceive a ser­vice from the is­suer. These trans­ac­tions qual­ify as a pro­vi­sion of ser­vice and are sub­ject to VAT if the re­cip­i­ent is res­i­dent for VAT pur­poses in Switzer­land. The lat­ter only ap­plies if on the date of trans­ac­tion, the value of such ser­vice is avail­able.

With re­gards to As­set to­kens, these en­ti­tle the holder to a cer­tain share in profit, rev­enues, and claims to de­riv­a­tive rights or sim­i­lar rights from the suc­cess­ful project to the in­vestor. These to­kens qual­ify as turnover in con­nec­tion with un­cer­tifi­cated se­cu­ri­ties and de­riv­a­tives which are ex­empt from VAT without the right to re­claim in­put tax. In a com­pa­ra­ble tra­di­tional case, the pur­chase of shares is out­side the scope of VAT. Fur­ther­more, as per VAT Di­rec­tive Ar­ti­cle 135(1)(b) or(f) of 2006/112/CE, those as­sets have the right to div­i­dend ex­empt un­der this di­rec­tive.

With re­gards to hy­brid to­kens, the Swiss au­thor­i­ties have not yet is­sued clear guide­lines. To date, hy­brid to­kens made up of as­set and util­ity to­kens can be clas­si­fied as pay­ment to­kens. How­ever, in that case, one can­not treat these hy­brid to­kens sep­a­rately to take ad­van­tage of one of the VAT treat­ments of one of the hy­brid to­kens. As de­clared by the Swiss au­thor­i­ties: “It varies from to­ken to to­ken.”

On 1 Novem­ber, the Com­mis­sioner for Rev­enue is­sued guide­lines un­der Ar­ti­cle 75(2) of the VAT Act (Chap­ter 406 of the Laws of Malta). The guide­lines is­sued cover Distributed Ledger Trans­ac­tions (DLT) as­sets and these have been drafted in agree­ment with the in­ter­pre­ta­tion given by the ECJ on vir­tual cur­rency ex­changes.

The guide­lines point out the def­i­ni­tion of “ne­go­ti­a­tion” by mak­ing ref­er­ence to Sched­ule 5, Part 2, item 3 of the VAT Act. “Ne­go­ti­a­tion refers to the ac­tiv­ity of an in­ter­me­di­ary who does not oc­cupy the po­si­tion of any party to a con­tract, re­lat­ing to a fi­nan­cial prod­uct and whose ac­tiv­ity amounts to some­thing, other than the pro­vi­sion of con­trac­tual ser­vices, typ­i­cally un­der­taken by the par­ties to such con­tracts.” If ne­go­ti­a­tions in an ICO con­tract sat­isfy this def­i­ni­tion, then the con­sid­er­a­tion paid to the in­ter­me­di­ary will be ex­empt without credit un­der the VAT Act. As per Ar­ti­cle 135(1)(d)(e)(f), any other ser­vice which is not cov­ered by these ex­emp­tions, would be vat­able.

Over­all, as per Ar­ti­cle 2 of the VAT Di­rec­tive, there needs to be a di­rect link be­tween the de­liv­ery of a good or ser­vice and the tax­able per­son for VAT to be ap­pli­ca­ble. Most ICOs fail this link test since when the project they in­vested in fails, they do not re­ceive any re­mu­ner­a­tion back for their in­vest­ment. This lack of link, would de­duce that in these failed cases, no VAT should be payable. In a nut­shell, only the use of the to­ken as a pay­ment for goods or ser­vices could be sub­ject to VAT once there is a clear link be­tween the in­vestor and the is­suer or sup­plier for redemp­tion of rights or ser­vices. How­ever, util­ity to­kens rights needs to be an­a­lysed in line with the ICO port­fo­lio since a charge­able event for VAT pur­poses can arise at later stages.

Shan­ice Finch is a tax ad­vi­sor for Er­remme Busi­ness Ad­vi­sors Lim­ited Con­tact de­tails: [email protected]

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