Original author: Christophe J Waerzeggers, Irving Aw, & Jess Cheng

Original translation: TaxDAO

Introduction

Neutrality is widely regarded as a fundamental principle of good tax design. In short, the tax system should remain neutral, ensuring that economic decisions are based on economic interests and other non-tax factors, rather than being influenced by tax factors.

Although the tax system can be an effective tool for achieving policy goals beyond taxation, so far, most jurisdictions have based their taxation of transactions involving crypto assets on neutrality.

According to this method of taxing transactions involving encrypted assets, each jurisdiction must rely on the primary principles of its domestic tax legislation to maintain neutrality similar to comparable conventional transactions or activities. This method requires a correct understanding of the facts on a case-by-case basis, but this is not easy due to the nature and diversity of encrypted assets and the unique operation of the encryption industry. The rapid development of underlying technology and its inherent global impact surpasses any single jurisdiction, making it even more complex. Similar challenges exist in other legal and regulatory areas, including those aimed at designing sound regulatory and supervisory methods for encrypted assets and their statistical processing.

Stablecoins are a type of cryptocurrency asset designed to maintain a stable value relative to a specific asset or asset pool, such as a sovereign currency (IMF, 2021, 41; FSA, 2020, 5). In this way, they aim to address the problem of price volatility in cryptocurrency assets, which often makes them unsuitable as a store of value and is one of the main obstacles to their wider use as a means of payment. Given the prospects for wider adoption of stablecoins, it is necessary to conduct more in-depth research on their tax treatment and related challenges.

This article believes that even though stablecoins have been proven to have more stable value compared to other forms of cryptocurrency, they cannot be widely adopted as a means of payment without higher tax certainty and neutrality. In addition, the mismatch of tax treatment between jurisdictions creates opportunities for arbitrage and abuse, thus requiring more comprehensive international cooperation and coordination to address these issues. Finally, regardless of whether the value of a specific stablecoin appreciates or depreciates, clear tax treatment is needed because taxpayers and tax authorities need to determine appropriate tax treatment for gains and losses.

This article is divided into four parts. The first part mainly introduces the overview of stablecoins, including the classification of known circulating stablecoin types; the second part discusses the relevant issues of value-added tax (VAT) unique to stablecoins; the third part involves the main income tax and capital gains tax issues of stablecoin transactions. The discussion refers to the practices of representative countries, but does not summarize the current practices or methods of each country in detail, nor does it cover all value-added tax or income tax issues that stablecoin transactions may generate, as this would exceed the scope of this article.

1. Overview and Classification of Stablecoins

There are many advantages to encrypted assets, including security through encryption technology, which may make them useful for payment purposes. However, the volatility of encrypted asset prices severely reduces their potential value as a medium of exchange and means of payment (IMF, 2020). To address this issue, stablecoins have emerged as a subcategory of encrypted assets, which link or "peg" their value to another more stable asset (such as the US dollar, precious metals, or even another encrypted asset) or a pool of other assets (such as a basket of commodities). Almost all currently circulating stablecoins attempt to mitigate price fluctuations through some form of pegging mechanism.

It is very important to distinguish between the concepts of "pegging" and "backing", and the difference between the two also depends on the nature of the claim of the holder of the stablecoin. The former only requires that the value of the stablecoin be pegged to the value of the underlying asset or asset pool (for example, requiring the issuer to redeem in US dollars), but the latter also involves the reserve assets of the stablecoin issuer (or a third party representing the issuer), and includes an understanding of the stablecoin's right to claim on these underlying assets (for example, pledging or using a short-term government securities pool in some way), as they may be seen as a means of supporting this peg. This distinction is important because some stablecoins may be explicitly pegged to the value of a particular asset or asset pool, but holders may lack any explicit, legally meaningful right to use any particular asset itself.

Stablecoins can be further distinguished based on the type of reference asset they are pegged to, either on-chain (i.e. another cryptocurrency) or off-chain (such as traditional currency or commodities), and a stablecoin can be supported by more than one asset. For example, Tether (issued by Tether Limited, initially claimed to be backed by one US dollar per token), TrueUSD (TrustToken platform), USD Coin (a collaboration project between Centre consortium, Circle, and Coinbase), and Gemini Dollar (Gemini exchange) are all pegged to the US dollar and claimed to correspond to various underlying assets in value. PAX Gold (issued by Paxos Trust Company) is another example of a stablecoin with off-chain reference assets (precious metals). Each token is described as "redeemable" and "backed" by one troy ounce of London Good Delivery gold stored in a professional vault facility in London. This off-chain support inevitably requires a certain degree of centralization, such as custody of the underlying assets by a custodian, which can be said to reduce the decentralization advantage of blockchain-based cryptocurrencies. In the technical field, there are also some stablecoins that claim to be pegged to various cryptocurrencies or supported by these assets, some of which claim to be completely decentralized, i.e. the underlying cryptocurrencies are managed by smart contract systems rather than central entities. For example, Dai runs on the decentralized Maker protocol and seeks to maintain its value by using Ether as collateral. However, the precise operating mode of different stablecoins (including the legal nature of their support mechanisms) may vary greatly.

At least in theory, stablecoins can be supported without underlying assets and can achieve a certain degree of price stability. Kowala's kUSD is an example of such a stablecoin, which claims to increase or decrease its supply based on market-based "prophecies" or data interfaces between the blockchain and relevant market data, in order to maintain its peg to the US dollar. This stablecoin relies on a completely algorithmic "monetary" policy, which adjusts the supply by referencing the value of the pegged currency. That is to say, when the supply is too low, the algorithmic protocol will issue new stablecoins, but when the demand is too low, the algorithmic protocol will reduce its supply ("burning"), thus ensuring that the price of the stablecoin remains within an acceptable range of its pegged value. Of course, there are more complex situations, such as stablecoins commonly known as "hybrid stablecoins", which combine support mechanisms and algorithmic protocols to reduce volatility.

As mentioned earlier, it must be recognized that holders of stablecoins tied to a certain asset do not necessarily have ownership of that particular asset. Instead, stablecoins can be pegged to the value of one asset but backed by another. For example, the value of the SGA (Saga) stablecoin is pegged to a basket of currencies that serve as the basis for the International Monetary Fund's Special Drawing Rights, but the stablecoin is backed by reserves of different currencies and assets (including cryptocurrencies). Therefore, those who choose to redeem stablecoins can receive the economic equivalent of the asset to which the coin is pegged, but not necessarily the asset itself. In a narrow sense, stablecoins can be further divided into two types: those with and without recourse to the underlying asset.

Figure 1: Classification of Stablecoins

If stablecoin issuers can make their stablecoins have the characteristics of price stability and a wide user network, and receive the support of the association that arranges stablecoins, such as Facebook's Diem (formerly known as Libra) project, then these stablecoins will be very suitable as a medium of exchange and a store of value to achieve economic goals. They can be used as a more efficient retail payment settlement method, especially in jurisdictions with volatile currencies, or they can reduce the cost of cross-border payments, or enable them to be made between jurisdictions that currently lack efficient interconnect payment infrastructure (IMF, 2020, 14). However, at the same time, these stablecoins may also be used by investors as speculative financial instruments, and some investors may be willing to take risks and try to profit from the value fluctuations of stablecoins. Therefore, the current challenge is to determine the position of stablecoins in the existing legal structure, including from a tax perspective (Cheng, 2020). For the rise of stablecoins, regulatory agencies have various response measures, and existing multiple regulatory frameworks may be applicable to specific currencies (for example, the Swiss Financial Market Supervisory Authority's stablecoin guidance guidelines formulated based on Swiss regulatory law pointed out that for specific currencies, anti-money laundering, securities trading, banking, fund management, and financial infrastructure supervision may be related to them). For these regulatory purposes, the regulatory scope of stablecoins may overlap. Specific stablecoin arrangements may be placed under different regulatory regimes and applied at the same time, but tax law requires that the treatment of specific coins be determined by a single or primary classification - in other words, the treatment of stablecoins can only be placed under one tax law classification and system.

二、稳定币的增值税处理

Two, VAT Treatment of Stablecoins

Value-added Tax and Currency

The majority of value-added tax systems do not tax currency separately when it is paid for goods or services. Instead, they generally achieve this by implicitly treating such currency supplies as "out of scope" or explicitly excluding them from the definition of "supply". Conceptually, currency itself does not belong to the consumption category, but is only a measure of consumption expenditure. Value-added tax taxation related to the supply of goods or services (excluding currency) is determined based on this measure. Therefore, in terms of value-added tax, providing currency as a means of exchange and payment to obtain goods and services does not constitute a separate taxable transaction. This approach, in practice, also has the benefits of reducing tax complexity and avoiding double taxation on individual transactions.

On the other hand, exchanging one currency for another, known as currency exchange, is usually considered a supply for the purpose of value-added tax, but even so, it is generally exempt from value-added tax. Excluding such transactions from the consumption tax base is reasonable because there is no consumption in currency exchange transactions, only an exchange of one transaction medium for another, or a purely investment. Such tax exemptions are also important for promoting barrier-free payments, as they avoid the practical difficulties of determining the taxable amount and deductible value-added tax amount for each transaction.

Viewing currency supply as tax-free supply rather than non-supply (or out-of-scope supply) is not without consequences. Although no tax is payable in either case, in the case of tax-free supply, the taxpayer's right to deduct input tax depends on the amount of currency supplied, whereas they are usually not affected when currency supply is viewed as out-of-scope supply. From a compliance perspective, jurisdictions generally require tax-free supplies to be reported separately in the VAT return, while out-of-scope supplies do not need to be reported at all.

Finally, it should be noted that value-added tax is only not levied when currency is used as a medium of exchange or obtained as an investment. For example, if the provided currency is coins or collectibles, it should be taxed because coins themselves have intrinsic value and should therefore be subject to value-added tax as goods supplied.

Non-traditional digital payment methods' VAT processing trend

It seems that the judicial jurisdiction that levies value-added tax is increasingly willing to regard certain non-traditional digital payment methods as currency for the purpose of levying value-added tax, even though they are not currency and do not enjoy legal currency status (IMF 2020, 11-12).

In the case of Skatterverket v David Hedqvist, C-264/14 (Hedqvist), the European Court of Justice interpreted the purpose of Article 135(1)(e) of the EU VAT Directive and determined that, for the purposes of EU VAT, the exchange of traditional currency for non-traditional "currency" units (excluding currencies that have legal tender status in one or more countries) for the purpose of earning a profit (or vice versa) constitutes a VAT-exempt financial transaction. However, the Court made it clear that this VAT exemption should only apply to the following non-traditional "currencies": (1) those accepted by both parties as a substitute for a currency with legal tender status; and (2) those with no purpose other than as a means of payment.

The European Court of Justice believes that the difficulties faced by such exchange transactions in levying value-added tax (this case involves exchange transactions between traditional currency and Bitcoin) are the same as those faced by (traditional) currency exchanges, that is, how to determine the taxable amount and deductible value-added tax amount for each transaction. Therefore, not exempting exchange transactions involving non-traditional currencies such as Bitcoin from value-added tax will make the value-added tax exemption lose some of its effectiveness. As far as value-added tax is concerned, EU member states believe that such non-traditional currencies should be regarded as currencies as long as they are subjectively accepted by all parties as substitutes for currencies and objectively have no other purpose except as a means of payment. Although Hedqvist involves exchange transactions between Bitcoin and traditional currencies, the ruling of the European Court of Justice also means that when using non-traditional currencies such as Bitcoin to obtain goods and services in the EU, the supply itself does not need to pay value-added tax as it would with traditional currencies.

In 2017, Australia revised the Goods and Services Tax (GST) law, which stipulates that when digital currency is used to pay for other goods and services, its supply enjoys the same GST treatment as currency supply, which is not considered a supply for the purpose of GST. The purpose of amending the law is to ensure that "digital currency" is defined as having "roughly the same characteristics as the national legal currency." In addition to other matters, digital currency may not (1) be denominated in the currency of any country; (2) have a value that depends on anything else or is derived from the value of anything else; or (3) confer the right to receive or direct the supply of any specific item or items, unless that right is purely incidental to its holding or use as consideration. This practice is in stark contrast to the ruling of the European Court of Justice in the Hedqvist case, which did not explicitly prohibit digital payment instruments from being denominated in the national currency or deriving their value from or depending on the value of something else, but did require that digital payment instruments have no other objective function besides being used as a means of payment. Therefore, according to Australian tax law, if a digital payment instrument does not meet the definition of "digital currency" because its value depends on or derives from something else, it will be treated as a "financial service supply" for input tax purposes (i.e. exempt from output GST, generally not allowed to deduct input tax).

Similarly, since January 1, 2020, Singapore has actually regarded digital payment tokens as currency for goods and services tax purposes; that is, payment with digital payment tokens does not constitute a supply, and the exchange of digital payment tokens for traditional currency or other virtual currencies is exempt from goods and services tax. The proposed definition of "digital payment token" in section 2A of the Goods and Services Tax Act is broadly similar to Australia's definition of "digital currency," but there are two significant differences. First, the definition excludes tokens that (1) confer a right to receive or direct the supply of goods or services, or (2) no longer function as a medium of exchange after the right is used. This is more lenient than Australia's approach, which prohibits digital currencies from providing any non-incidental right to receive or direct the supply of anything. Second, tokens cannot be denominated in any currency or pegged to any currency by their issuer, and Australia's approach does not allow tokens to be denominated in any currency or to derive their value from or depend on anything. However, despite the clear legislative language, the Inland Revenue Authority of Singapore (IRAS) has stated in its recent e-Tax Guide that "tokens pegged or backed by any legal tender, basket of currencies, commodities or other assets" should be treated as derivatives and their supply for payment constitutes a financial service supply exempt from GST (IRAS 2022, para. 5.7).

Value-added Tax and Stablecoins

As mentioned earlier, the volatility of cryptocurrency prices often makes them unsuitable as a store of value and hinders their widespread use as a means of payment and medium of exchange. The emergence of stablecoins aims to address this issue by pegging their value to other relatively stable currencies or assets. However, the pegging mechanism means that, according to the methods used in Australia and Singapore, stablecoins will always be considered derivatives rather than currencies, and therefore their supply will be exempted rather than completely ignored, resulting in substantial value-added tax implications for both parties to the transaction. Although Australia's approach is more lenient than the approach of the European Court of Justice towards tokens with other ancillary purposes besides being used as a means of payment, this does not change the fact that stablecoins can only be categorized and cannot be considered as currencies because they are inevitably pegged to other assets or currencies to maintain stability.

On the contrary, according to the method of the European Court of Justice, the mechanism of pegging - whether it is pegged to currency or other assets - does not itself exclude the possibility of levying value-added tax on stablecoins as currency, provided that the parties subjectively regard stablecoins as a substitute for currency and objectively have no other purpose except as a means of payment. With regard to the former requirement, the stability of coins or tokens can to some extent support the presumption that the parties are more likely to use them as a substitute for currency. On the other hand, since the lack of stability itself does not prevent traditional currency from being regarded as currency for value-added tax purposes, its relative stability should not be decisive. The strictness of the latter requirement - that tokens objectively have no purpose other than as a means of payment - may exclude hybrid tokens, including hybrid stablecoins, which may have other objective purposes besides as a means of payment.

挂钩和/或追索权？

Hooks and/or Clawback Rights?

In the interpretive memorandum of the revised bill in Australia, it is believed that the value of digital currency is the same as traditional currency, "must come from the market's evaluation of the currency value in order to achieve the purpose of exchange, even though it has no intrinsic value." Therefore, linking the value of digital payment methods to another asset or currency will exclude this unit as a qualification for digital currency and be regarded as a derivative instrument, whose price directly depends on the value of its underlying asset or currency, as far as goods and services tax is concerned.

However, since many traditional currencies are in fact or legally anchored to one or more major currencies, it is unclear why being pegged to a traditional currency or a basket of traditional currencies would automatically disqualify non-traditional digital payment methods from being considered as currency for goods and services tax purposes. In addition, comparing stablecoins to derivatives is not entirely accurate. Most derivatives are financial contracts that create rights and obligations between parties based on the value of an underlying asset or currency on a future predetermined date or event. In contrast, stablecoin holders have open-ended rights or claims against their issuers or others, which are exercised on demand and do not involve fixed dates or events in the future. For algorithmic stablecoins or seigniorage stablecoins, holders can only make unsecured claims against their issuers, as there is no asset backing and no redemption for any other assets. Similarly, stablecoins with asset backing but unclear or non-existent recourse to the underlying assets - including due to lack of consumer protection regulations - do not provide any claim to the assets for their holders, even if these assets are used in some way to maintain the stablecoin's value, regardless of the mechanism.

On the contrary, stablecoins pegged to sovereign currencies are more similar to transferable tickets, banknotes, or traveler's checks, where the holder can pay upon presentation, similar to a substitute currency, but it is issued by private entities rather than sovereign states and does not enjoy legal tender status (i.e., unless otherwise provided in the contract, the law does not require the creditor to accept redeemable stablecoins as payment for monetary debts). The fact that stablecoins are not issued by sovereign states (through central banks) should not determine whether they should be considered as currency for value-added tax purposes. For example, bank deposits representing claims against commercial banks are privately issued but are still considered as currency. In any case, for value-added tax or consumption tax purposes, treating certain types of privately issued non-traditional digital currencies as currency assumes that they are not a prerequisite for issuance by sovereign states. Similarly, the fact that certain types of non-legal tender digital payment methods are treated as currency for value-added tax purposes in various jurisdictions means that legal tender status is not a necessary condition for being a primary means of transaction and payment. In fact, value-added tax laws generally do not require legal tender for items considered as currency.

However, stablecoins tied to assets outside of sovereign currencies raise concerns about value-added tax evasion or avoidance, as the supply of underlying commodities may be taxable. If parties do not intend to use stablecoins as a medium of exchange, but rather as a supply or substitute for underlying assets, there is a risk of tax evasion as long as the supply of underlying assets does not exceed the scope or exemption. The low entry threshold for token creation and issuance makes this issue even more complex, which may allow individuals to evade value-added tax on taxable commodity supplies by repackaging transactions as token issuance and transfer. The financial technology regulatory framework is still in its early stages of development, and many jurisdictions have expressed the need to avoid hindering innovation and entrepreneurship when designing regulatory systems. However, the lack of or inconsistency in regulation may also make it more difficult for tax authorities to monitor any transactions involving underlying assets, even the existence of underlying assets.

Therefore, according to the methods of Australia and Singapore, the requirement that the value of a digital payment unit must not be linked to the value of any other commodity can be reasonably interpreted as a means to deal with this potential leakage and avoidance. The approach of the European Court of Justice does not provide for this requirement, but focuses on the subjective intention of the parties to the transaction and whether the token is used as a substitute for currency. Although the subjective intention test allows for different relevant factors to be considered as a whole and does not exclude tokens whose value is linked to other assets, it may be more difficult to determine in practice, which may reduce the tax certainty of taxpayers and tax authorities.

Hybrid

Tokens may have more than one functional characteristic, which poses more challenges for classification for tax and other purposes. The objective test in the Hedqvist case by the European Court of Justice addressed the issues of tax evasion and avoidance, namely that tokens that have any other use besides being a means of exchange (i.e. pure payment tokens) are refused treatment similar to currency for value-added tax purposes. Under this approach, any other type of token is not considered currency for value-added tax purposes and their supply is generally subject to taxation, unless they are sufficiently similar to financial transactions that enjoy existing exemptions.

However, many tokens with other built-in functionalities may be widely accepted as a medium of exchange and means of payment. In this regard, Australia's associated benefit test seems to be less strict than the EU's approach, allowing tokens primarily designed as payment tokens to be considered as digital currencies as long as their non-payment functionalities are incidental to their primary purpose as an exchange medium. As explained in the explanatory memorandum of the Australian amending bill, its purpose is to ensure that "many common incidental functionalities in the operation of digital currencies, such as updating distributed ledgers to confirm transactions, do not affect the status of these currencies as digital currencies".

The payment method test in Singapore's Goods and Services Tax legislation is the most lenient of the three methods, with no restrictions on the primary or incidental degree of non-payment functions of hybrid tokens. Instead, the tokens are used as a medium of exchange and payment method after non-payment benefits or rights have been exhausted. However, this approach presents challenges in delineating the boundary between currency supply and substitute supply, as substitute supply can continue to exist as a payment method even after all welfare or rights have been exhausted. This can be illustrated by the fact in Example 2 of the IRAS e-Tax Guide:

Example - digital payment tokens, used to receive designated services and can be used as a medium of exchange.

StoreX is a digital token designed to be the exclusive payment method for X Company's distributed file storage network. According to its initial token issuance terms, StoreX grants holders the permanent right to a specified amount of file storage space. The token can also be used to pay for goods and services from other merchants on the X Company platform, even after exercising a specific amount of file storage rights. If it meets all other conditions of a digital payment token, StoreX will qualify as a digital payment token.

In this example, although StoreX also has file storage rights, the first issuance of StoreX by X company is considered as currency supply because it is not subject to consumption tax. Assuming that the token only has file storage rights, the token will be regarded as a product voucher and should be subject to goods and services tax at the time of voucher issuance. Since StoreX has payment functions, it is treated as currency rather than vouchers and is not subject to taxation for the file storage services provided.

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