Author: FinTax

Canada In the process of exploring cryptocurrency regulation, through gradual legislation and penetrating supervision, a governance system that balances risk prevention and control and technological inclusiveness has been built. This article will try to systematically analyze the Canadian cryptocurrency tax and regulatory framework based on existing systems and the latest legislative trends.

1. Overview of Canada's basic tax system 1.1 Canadian tax system

Canada implements a three-level taxation system in federal, provincial and local levels. The federal and provincial have relatively independent tax legislation, but provincial tax legislation cannot violate federal tax legislation, and local tax legislation powers are granted by the province. In terms of tax types, Canada is called the "country of ten thousand taxes". Its current tax types are numerous and have penetrated into all aspects of each resident's life, mainly including corporate income tax, personal income tax, sales tax, land transfer tax, property tax, consumption tax, digital service tax, etc.

1.2 Main types of taxes

1.2.1 Personal income tax

Under the Income Tax Act, Canadian resident taxpayers must pay personal income tax on their income obtained worldwide, while non-resident taxpayers must pay tax on their local income in Canada only. Canadian individuals need to pay federal and provincial personal income taxes separately. The federal personal income tax is a comprehensive income system and requires reporting income including employment income, operating income, property income and capital income.

The criteria for identifying residents are as follows:

(1) An individual is usually considered a Canadian resident if he has residence in Canada or usually lives in Canada;

(2) A non-resident stays in Canada for at least 183 days in a calendar year and will be considered a Canadian resident in that year;

(3) An individual lives or travels outside Canada but still maintains significant residential connections with Canada, and the individual will be considered a de facto resident. Important criteria for determining residence connections include individuals’ residence, property, social relations, economic connections, immigration status, etc. in Canada.

Federal personal income tax adopts five excess progressive tax rates, i.e., taxable income does not exceed CAD 53,359, with a tax rate of 15%; CAD 53,359~Cad $58,713, with a tax rate of 20.5%; 58,713, with a tax rate of 26%; 70,569, with a tax rate of 235,675, with a tax rate of 29%; 33% for more than CAD $235,675. In addition, provincial and territorial taxes will be levied, and provincial and territorial tax rates and surcharges of up to 25.75% will be applied according to different provinces and regions.

In addition, Canada implements two types of personal income tax incentives for taxpayers who meet the statutory conditions. Tax credits include basic personal tax credits, medical expenses, social security contributions, donations, child benefits that qualify for tax credits for children under 17 years of age or with disabilities, as well as other personal tax credits such as employment, nursing, skills training. Tax deductions include specific types of personal expenses such as interest expenses, insurance expenses, childcare allowances, alimony, child support, eligible childcare expenses, etc.

1.2.2 Corporate Income Tax

Canadian enterprises pay corporate income tax in accordance with the Income Tax Act, and are divided into resident enterprises and non-resident enterprises. Resident enterprises refer to enterprises registered in Canada or whose main management and control agencies are in Canada and must pay taxes on their global income; non-resident enterprises only pay taxes on their business activities in Canada, whether or not obtained through permanent institutions.

Resident enterprises must pay federal and provincial corporate income tax on their global income, while non-resident enterprises must pay Canadian income tax on their income engaged in commercial activities in Canada, regardless of whether the income is obtained through a permanent institution. Regarding the tax rate, the basic tax rate of federal corporate income tax is 38%, while the provincial corporate income tax rate varies from province to province, with a tax range of 0% to 16%. Enterprises that meet specific conditions can enjoy preferential tax rates of 28% or 15%, and small and micro-profit enterprises and specific industries also have special tax incentives. In addition, the branches of foreign companies that sign tax agreements between the two countries can apply the agreed tax rates.

Non-resident enterprises are also required to impose withholding tax, that is, dividends, interest, royalties, technical service fees, branch remittances, rental income, management fees, other income, etc. obtained from Canadian resident enterprises, and are subject to a withholding tax rate of 25%, unless the applicable tax rate is reduced in the conditions stipulated in the applicable tax agreement.

1.2.3 Sales Tax

Canada's sales tax system is relatively complex.Sales tax is required at both the federal and provincial (or territorial) levels. Depending on the location of business, Canadian businesses may have to deal with three types of sales taxes, namely federal sales tax, some provinces’ own retail sales tax, and several provinces’ unified sales tax.

The federal sales tax is goods and services tax (GST), which is applicable to most goods and services transactions in Canada, with a tax rate of 5%. The sales tax at the provincial or territorial level is retail sales tax (PST), which is levied by local governments. Except for Alberta, Northwest Territories, Nunavat and Yukon Territories where GST is only levied, and Quebec Province, which is levied on the basis of GST, PST is levied in the retail stage of commodity, with the tax rate of 8% to 10%.

In recent years, Canada has integrated GST and PST to implement a unified sales tax (HST) reform, that is, taxpayers who pay HST will no longer pay GST and PST, but currently only a small number of provinces have participated in the merger. HST is managed by the federal government. Except for different tax rates, the rules and operating methods applicable to HST are consistent with GST. The HST rate in the four provinces of New Burranwick, Newfoundland and Labrador, Novascotia and Prince Edward Island is 15% and the rate in Ontario is 13%.

In short, sales tax can be understood as a broad value-added tax levied on goods and labor consumption, but due to differences in each province, the collection method is different. This tax is borne by the end consumer and is collected by the enterprise or supplier at each stage of production or distribution of goods and services.

2. Canadian crypto taxation

Regarding the nature of cryptocurrencies, the Canadian Taxation Agency (CRA) takes the position that cryptocurrencies are commodities with certain financial attributes, not currencies. Therefore, the proceeds generated by cryptocurrency transactions should be taxed as income or capital. In addition, since CRA does not consider cryptocurrency to be fiat currency, when someone uses cryptocurrency to pay for services or commodities, such transactions can also be regarded as a special trading model for the exchange of goods or services, namely "barter transaction". Regarding the determination of the tax value of cryptocurrencies, the CRA believes that its "fair market value" (FMV) should be used as the basis for tax declaration. Fair market value, i.e. familiar with the market situation in a fair cryptocurrency transactionThe price reached by the buyer and seller on the premise of voluntary voluntary. Given that the gains or losses arising from cryptocurrency transactions are taxed as income or capital, the way in which commercial income and capital gains are distinguished affect the corresponding tax amount and the way taxpayers report their cryptocurrency in taxes.

In terms of business income, 100% of cryptocurrency profits are taxable. For capital gains, taxable income can be reduced to 50%. CRA classifies cryptocurrency transaction revenue as commercial income in cases where there is a profitable intention (regardless of the likelihood of short-term profit); the product or service is promoted; the activity is conducted in a commercially viable way for commercial reasons; the activity is completed “commercially similar” (such as obtaining inventory or capital assets or developing a business plan). When it is not sold on commercial income and someone makes a profit by selling it, the CRA taxes cryptocurrency as capital gains. When filing taxes, Canadians are required to list any capital gains from selling cryptocurrencies in the income section of the tax. Taxpayers can also use these capital gains to offset capital losses caused by selling cryptocurrencies. However, losses from other sources cannot be offset by cryptocurrency capital gains. In the case where capital losses are greater than capital gains, the losses can be carried forward for up to three years. This capital gain must be calculated using an adjusted cost basis or average cost, meaning that the taxpayer must average the purchase cost of the same property. Simply put, one has to calculate a single average for each cryptocurrency. For example, suppose someone buys BTC at two different times of the year and buys ETH at three different times and sells them all within the same year, the adjusted cost basis will be the average of two BTC purchases and the average of three ETH purchases.

Due to the nature of cryptocurrencies, the Canadian Taxation Bureau believes that taxpayers do not have any tax obligations when holding cryptocurrencies, but taxpayers will all have tax obligations when giving, selling, exchanging, conversion, and payment. Under the Canadian crypto tax system, specific cryptocurrency transactions are taxed in the following mode:

(1) Intraday trading cryptocurrency: Intraday trading is classified as commercial income, so the net profit minus net losses obtained by taxpayers from intraday trading cryptocurrencies need to be reported in the income tax return.

(2) Obtaining cryptocurrency through mining: "Mining" refers to the process in which people calculate and produce cryptocurrencies through special mining machines. When taxing, it is necessary to distinguish between the nature of mining behaviors that belong to personal hobbies or commercial business activities. If as a personal hobby, the taxpayer needs to pay capital gains tax, the cost basis is zero, and the CRA does not allow any deductions; if as a commercialActivity, then treats cryptocurrencies as inventory, requires income tax and value cryptocurrencies at acquisition costs or their fair market value. To judge business operators and enthusiasts, we need to explore the intentions and behavioral characteristics of crypto miners based on individual cases: business operators usually conduct mining activities in a commercial manner for profit purposes, with high transaction frequency, large time spent, and complete professional knowledge; while enthusiasts act more "amateur" and mainly aim for entertainment and enjoyment.

(3) Holding cryptocurrency: When holding cryptocurrency only, there is no need to pay taxes.

(4) Transfer of cryptocurrencies between wallets: There is no need to pay tax when transferring cryptocurrencies between two wallets, exchanges or accounts.

(5) Purchase cryptocurrency: No tax is required when purchasing cryptocurrency. However, the buyer should keep an accurate record, as the value at the time of purchase may be used to calculate the cost basis when cryptocurrency is sold in the future.

(6) Selling cryptocurrencies for fiat currency: When someone sells cryptocurrencies in exchange for fiat currencies such as Canadian dollars, the relevant profits will be taxed as capital gains.

(7) Selling one cryptocurrency for another: profits in such cases are also taxed as capital gains. To calculate the value of cryptocurrencies at the time of sale, we need to refer to the value of the cryptocurrency being sold. For example, suppose someone buys 1 cryptocurrency A for CAD 100, and a few months later, he exchanges it for 3 cryptocurrency B. When calculating capital gains, you need to check the value of the 3 cryptocurrencies B at the time of redemption. Assuming its value is 200 CAD, the person should report a capital gain of 100 CAD for cryptocurrency A.

(8) Purchase of goods or services using cryptocurrency: The CRA believes that purchasing goods or services using cryptocurrency is a barter transaction. Therefore, taxpayers need to determine the value of goods or services purchased using cryptocurrency and treat it as the amount of cryptocurrency sold for taxation.

(9) Earn cryptocurrency: People who earn cryptocurrencies through work must report them as income for tax reporting.

3. Canadian Crypto Regulatory Framework and Dynamics 3.1 Regulatory Framework

In addition to the Canadian Taxation Bureau's supervision of cryptocurrencies from a tax perspective, Canada also implements certain regulatory measures on the cryptocurrency market from other levels.Canada's cryptocurrency regulation is mainly under the responsibility of two core institutions, namely the Canadian Securities Administrators (CSA) and the Financial Transactions and Reports Analysis Centre of Canada (FINTRAC). These two institutions regulate cryptocurrencies from different angles: CSA is responsible for regulating cryptocurrencies with securities attributes, ensuring that cryptocurrency trading platforms and related activities comply with securities regulations, and protecting investors' rights and interests; FINTRAC is responsible for regulating cryptocurrency-related anti-money laundering and anti-terrorism financing activities, and ensuring that cryptocurrency trading platforms and wallet providers comply with relevant regulations.

3.2 Regulatory evolution

Canada's crypto regulatory system is showing a trend of exploratory supervision to gradual improvement. In 2014, the Canadian Revenue Agency (CRA) issued its first tax guidance on cryptocurrencies, treating cryptocurrencies as commodities rather than fiat currencies and requiring taxation on their transactions, however, the guidance did not focus on the risks posed by cryptocurrencies to other areas. In recent years, Canada has gradually realized the need to establish a dedicated regulatory framework to deal with this emerging field, and has taken a series of important measures in cryptocurrency regulation:

On June 1, 2020, Canada passed the Amendment to the Money Services Business Ordinance to include cryptocurrency service providers in the definition of money services businesses (MSBs), requiring all cryptocurrency exchanges and related businesses to be registered with FINTRAC and comply with AML and KYC regulations, and to include cryptocurrency trading platforms in the regulatory scope of anti-money laundering and anti-terrorism financing. In March 2021, the CSA issued the "Guidelines for Crypto Asset Trading Platforms", which clearly stated that cryptocurrency trading platforms must be registered with the CSA and comply with relevant securities regulations, and incorporate cryptocurrency trading platforms into the securities regulatory framework. The above measures show that Canada has begun to pay attention to the potential risks of cryptocurrencies in money laundering, terrorist financing, and securities trading, and has built a basic regulatory framework through legislative means.

In 2022, Canada further strengthened its regulation of cryptocurrencies and proposed the Digital Asset Trading Platforms Act, which stipulates that cryptocurrency trading platforms must comply with strict operational and reporting requirements - implement stricter customer identity identification (KYC) and anti-money laundering (AML) measures, and regularly submit operational reports and audits to regulators. In November 2022, Canada plans to launchThe financial sector legislative review of the digitalization of currency to maintain the stability and security of the financial sector. The budget proposed in April of the same year stated that a budget of $17.7 million will be provided within five years to carry out the aforementioned review. The first phase of the review is aimed at digital currencies, including: examining how to adjust the regulatory framework of the financial sector to manage new digital risks; examining how to ensure the security and stability of the financial system under the ever-evolving business models and technologies; and examining the potential demand for the Bank of Canada’s digital currency. This move lays the foundation for the subsequent adjustment of cryptocurrency regulation. In December 2022, the bankruptcy of cryptocurrency exchange FTX continued to cause market turmoil, with many affiliated companies going bankrupt one after another, and investors suffered heavy losses. The collapse of FTX has triggered global attention to cryptocurrency regulation, and Canada is also among them. On February 22, 2023, the Canadian Securities Administration (CSA) issued a notice requiring all cryptocurrency trading platforms to sign a legally binding pre-registration commitment to meet new regulatory requirements and continue to operate in the country. Against this backdrop, the operating threshold of cryptocurrency exchanges has been raised, prompting some large cryptocurrency exchanges such as Binance to withdraw from the Canadian market one after another. While digital assets and cryptocurrencies have been used to circumvent sanctions and implement illegal activities over the past period, they continue to strengthen regulatory measures and remain “open to projects that can bring greater benefits”.

On April 18, 2024, Canada announced plans to implement the International Cryptocurrency Reporting Framework (CARF) developed by the Organization for Economic Cooperation and Development starting from 2026, requiring cryptocurrency service providers located in Canada or doing business in Canada to submit annual reports to the CRA. According to the budget regulations, these service providers must disclose information about each customer and each cryptocurrency, including the exchange between cryptocurrencies and issued currencies such as the Canadian dollar, the exchange of other cryptocurrencies, and the transfer of cryptocurrencies. Cryptocurrency Service Providers in Canada are also obliged to provide CRA with information about each customer, such as name, address, date of birth, and jurisdiction in which they reside. The requirement will apply to transactions after 2026, with the first exchange of information collected by Canada and others in 2027. The proposed approach is that as the new economic sector grows, an update to Canada and international tax and reporting framework will improve compliance and transparency among cryptocurrency service providers and promote international compliance in the cryptocurrency market. In September 2024, the Canadian Securities Administration (CSA) also updated its stablecoin regulations for cryptocurrency trading platforms, extending compliance period for cryptocurrency trading platforms until the end of 2024, providing trading platforms with more time to meet new regulatory requirements to ensure a smooth transition in the market.

Following the evolution of cryptocurrency regulation in Canada in recent years, since the regulatory framework was established, Canadian cryptocurrency transactions have faced increasingly strict and comprehensive regulatory scrutiny, but on the premise of curbing potential financial risks, Canada is still relatively open to the development of cryptocurrencies, trying to find a dynamic balance between promoting innovation and protecting investors. But as Lucas Matheson, Canadian Director of Coinbase, said at the meeting of Blockchain Futurists in August 2024, "Frankly speaking, Canada still has a lot of work to do in changing the law, and the goal is to change Canadian laws so that we can increase economic freedom and update Canada's financial system." Canada still has a long way to go to modernize cryptocurrencies.

4. Summary and Outlook

In short, Canada's attitude towards the cryptocurrency market is relatively open. Canada recognizes the potential of cryptocurrency and blockchain technology, encourages innovation and technological development, and is also aware of the risks brought by the cryptocurrency market, especially in anti-money laundering, investor protection and market order maintenance. In the future, Canada may further strengthen international cooperation in cryptocurrency regulation, introduce stricter and specific regulatory measures, and implement more specific regulations on investor protection of cryptocurrency trading platforms, such as strengthening information disclosure and severely punishing cryptocurrency-related fraud, to ensure that the emerging cryptocurrency industry, a healthy development under the premise of compliance.