The ATO has emphasised the importance of correctly reporting taxpayers’ cryptocurrency affairs come tax time and is evident in ensuring a clear regulatory environment for taxpayers to operate within. However, there are a few grey areas, in particular bridging cryptocurrencies which we will explore in detail below.
What are Bridging Crypto Assets?
The ability to bridge your cryptocurrency assets between different network chains addresses a key issue of cross-chain interoperability. As cryptocurrencies operate on certain networks, or chains, there is no inherit ability for them to be used on other chains.
Bridging is a process that allows cryptocurrency assets to be transferred between two different blockchain networks. This creates a cross-chain transaction, that may require additional attention when preparing your records and affairs come tax time. Unfortunately, the complexity in addressing this issue from a tax perspective comes from the lack of guidance from the ATO in advising its views on how to treat in your Income Tax Return.
In determining the appropriate tax treatment, the likely tax implication will be addressing whether a Capital Gains Tax (CGT) event has occurred. A CGT event will occur whenever there is a fundamental change in ownership. This is commonly recognized when one cryptocurrency asset is swapped for another or sold to fiat currency. Although it may depend on the bridging platform being used, typically using a cryptocurrency bridging platform involves the input of one cryptocurrency and the output (or receipt) of another.
As the user will deposit their asset via smart contracts, and receive an asset denominated in the target blockchain network, we can speculate that there will likely be a disposal of cryptocurrency for another. In this instance, the user will trigger a capital gains event where the market value of the received cryptocurrency will be used to calculate the capital proceeds received. This transaction will result in the user making a capital gain if the capital proceeds exceed the cost base or a capital loss if the capital proceeds are less than the cost base.
What is Wrapping Cryptocurrency?
The process of wrapping cryptocurrency assets is often used during the bridging process. As we’ve discussed above, cryptocurrencies operating on different networks that are not interoperable, and therefore the process of wrapping is used to acknowledge the use of one cryptocurrency on its native network to another creating the interoperability.
The ATO’s position on this process is not officially recognised in its published guidance, however, there have been responses via its community forum. Although, these cannot be relied on, it is evident that the view is consistent in treating transactions involving wrapping cryptocurrencies as being a taxable event. We speculate that this is mainly due to ownership of the deposited cryptocurrency to a custodian wallet and receiving another cryptocurrency (in the form of a wrapped token) fundamentally changes the ownership of the deposited asset and therefore triggering a capital gains event.
Key Crypto Tax Considerations
We recommend that you conduct any bridging activities after consulting with a specialised crypto tax accountant to determine likely outcomes and mitigate risk of amending your reported affairs. For example, a high-risk scenario may include long-term holdings with a large unrealised capital gain becoming realised for tax purposes. These types of transactions warrant additional consideration and care when navigating this space.
Depending on the extent of the tax implications, it may be worthwhile consulting with your crypto tax professional in seeking advice from the ATO’s early engagement team. Here, you may seek clarification as to how the tax laws apply in your situation. If this is consistent with your situation, we recommend pursuing this matter at your earliest convenience as the chances of a quick turnaround from the ATO are slim.
The information presented in this article is based on the current guidelines provided by the Australian Taxation Office (ATO) and relevant legislation, but please be aware that these guidelines and laws are subject to change. This article is intended for educational purposes and may not relate to your specific situation therefore, we recommend seeking the advice of a crypto tax professional.
As one of the original crypto tax and advisory firms in Australia, Fullstack Advisory is committed to the ongoing tax compliance and advisory support to the crypto community. As part of our commitment, we welcome you to schedule a free 15-minute consultation to discuss your affairs and how we can help. Reach out to the Fullstack Crypto Teamtoday.