Attorney Shao Shiwei | Is Tax Payable on Trading Virtual Currencies? — Interpretation of the Announcement Issued by the Shanghai Municipal Tax Service

 

Introduction:

On January 3, 2024, the Shanghai Municipal Tax Service of the State Administration of Taxation published an article titled “Common Misconceptions Regarding Business Income and Classified Income for Individual Income Tax” on its official WeChat account, pointing out that:Individuals trading virtual currencies online are required to pay individual income tax。

Consequently, the crypto community was stirred up again. Many friends asked, “Attorney Shao, does the requirement to pay tax on virtual currencies mean that trading virtual currencies will be legal in China in the future? Does the state recognize virtual currencies? Will the tax authorities audit my previous accounts? How much back tax do I need to pay?”

We even saw marketing articles that were laughably misleading to the public.

Therefore, Attorney Shao believes it is necessary to help everyone analyze what the Shanghai Tax Service’s article actually says.

 

Author of this article: Attorney Shao Shiwei

01

Is Individual Income Tax Payable on Trading Virtual Currencies?

1. The original text issued by the Shanghai Tax Service, which excited many in the crypto community, is as follows:

MisconceptionThree: Individuals trading virtual currencies onlineare not requiredto pay individual income tax.

Correct Interpretation: Individual income tax is payable.。

The “Reply on Issues Concerning the Collection of Individual Income Tax on Income Derived by Individuals from Trading Virtual Currencies Online” (Guo Shui Han [2008] No. 818) stipulates: Income derived by individuals from purchasing players’ virtual currencies online and selling them to others at a markup constitutes taxable income for individual income tax purposes and shall be calculated and paid under the item “Income from Transfer of Property.”

 

2. Attorney Shao’s Interpretation

First, regarding timing, the legal basis corresponding to the question-and-answer format in the original text is the “Reply of the State Administration of Taxation on Issues Concerning the Collection of Individual Income Tax on Income Derived by Individuals from Trading Virtual Currencies Online,” which became effective on September 28, 2008.When did Bitcoin emerge?—It was proposed by Satoshi Nakamoto on November 1, 2008, and came into existence on January 3, 2009.

From a temporal perspective, it is evident that the drafters of this regulation were unaware of novel concepts such as Bitcoin and Tether at that time.

 

Second, regarding content, “individuals purchasing onlineplayers’ virtual currencies” clearly refers to game coins used by players in gaming platforms. Game coins are also “virtual currencies.” Have friends in the crypto community forgotten this?

 

Therefore,the meaning of this Reply is thatincome derived from trading game coins belongs to “Income from Transfer of Property” under individual income tax and is subject to taxation.It has nothing to do with Bitcoin.。

 

The tax authorities must be thinking, “What is the crypto community trying to do? Are you attempting to associate yourselves with this improperly?” If you truly think this way,it might not be entirely unreasonable to consider.……？

 

02

How far are we from taxing Bitcoin?

Although this incident was a significant misunderstanding, Attorney Shao believes thattaxation of cryptocurrencies by the state(hereinafter referred to as “cryptocurrencies” to distinguish them from virtual game currencies)is inevitable sooner or later. The main reasons are as follows:

 

1. Is there a legal basis for taxing cryptocurrencies?

Since 2013, relevant Chinese authorities have issued a series of documents regarding cryptocurrencies. Among them, according to the Notice issued by five ministries and commissions in December 2013, Bitcoin was characterized as avirtual commodityand cannot circulate or be used as currency in the market. According to the September 2017 Announcement (commonly known as the “9.4 Announcement”),trading of cryptocurrencies between individualswas not prohibited. Subsequent documents

have never negated these two points.

 

According to Article 2 of the Individual Income Tax Law, the following categories of individual income shall be subject to individual income tax: “(8) Income from Transfer of Property.” Trading of cryptocurrencies between individuals, such as USDT merchants earning spreads by buying low and selling high, or ordinary crypto traders,the spread income obtained thereby constitutes income from transfer of property under the Individual Income Tax Law,

does it not?。

 

Moreover, according to some unofficial sources, certain large-scale holders in China have already been required by tax authorities to undergo audits for individual income tax.

 

2. What are the pros and cons for China if taxation is imposed?

Before issuing relevant policy regulations, the state will inevitably conduct a comprehensive and thorough consideration of the pros and cons of such a decision. So, what are the advantages and disadvantages of taxing cryptocurrencies for China? —This determines whether cryptocurrency taxation will be implemented domestically in the future.

 

Attorney Shao tentatively offers several preliminary observations:

 

A. Advantages of Taxation:

Naturally, it increases state revenue. Taxation is an important source of national income. With more funds, the state can utilize tax policies to adjust the economic structure and strengthen macroeconomic control. Additionally, taxation can effectively close loopholes exploited by high-income individuals to evade taxes using virtual currencies.

 

B. Disadvantages of Taxation:

In light of current policies, tax authorities should not act rashly. According to China’s historical policies, such as cracking down on ICOs, rectifying mining activities, and characterizing virtual currency-related business activities as illegal financial activities, if tax authorities suddenly impose taxation on cryptocurrencies, would this not create contradictions among government departments and cause confusion?

The public’s simplistic understanding of taxation is that the state acknowledges the legality of cryptocurrencies. Could this evolve into a public perception that the state encourages cryptocurrency trading, triggering butterfly effects such as nationwide crypto speculation? This could potentially impact the status of the Renminbi as legal tender in China (even if it is continually asserted that cryptocurrencies are not currencies but merely

commodities). Crypto speculation may also exacerbate unlawful activities such as underground banking for foreign exchange (illegally trading foreign exchange using cryptocurrencies as instruments; refer to Attorney Shao’s previous articles “Introducing Foreign Exchange Services, Sentenced to 8 Years (Part I)》《Introducing Foreign Exchange Services, Sentenced to 8 Years (Part II)”) and asset transfers using virtual currencies. —Would imposing taxation result in gaining trivial benefits while losing substantial ones?

These are inevitably issues that legislators will consider.。

 

C. Challenges Facing Taxation:

Although cryptocurrencies emerged in 2008, they remain emerging phenomena for most people. Currently, taxing cryptocurrencies presents significant technical difficulties. Concepts such as encryption algorithms, smart contracts, and distributed ledgers pose challenges even for police officers handling criminal cases.Creating a cryptocurrency version of the “Golden Tax Phase

IVsystem”? Clearly, the necessary conditions do not currently exist.

 

3. How do other countries perceive cryptocurrencies?

For thorny issues, it is helpful to examine how others handle them. Whether to impose taxation can also reference practices in other countries.

As early as 2014, the U.S. Internal Revenue Service clarified the taxation method for cryptocurrencies in Notice 2014-21. In April 2017, the Japanese government amended the “Act on Prevention of Transfer of Criminal Proceeds” (often referred to in context alongside the Payment Services Act), recognizing Bitcoin as a lawful payment method and establishing a series of standards and rules for exchanges. On February 22, 2021, according to the Ministry of Economy and Finance of South Korea,

the South Korean government announced that starting the following year, income from virtual assets such as cryptocurrencies exceeding 2.5 million KRW within one year would be taxed at a rate of 20% (though this appears not to have been implemented to date).

In summary, the value of cryptocurrencies has been recognized by many mainstream countries, albeit with different characterizations, such as commodities, digital assets, electronic certificates with economic value, payment methods, securities, etc. Some countries have also formulated relevant plans regarding taxation.

 

 

Concluding Remarks:

Regarding whether cryptocurrencies will be taxed, Attorney Shao believes:At some uncertain point in the future, they will be. However, the amount and method of collection may require resolving a series of complex issues. Only after coordination among various departments will tax authorities issue policies and guidelines that can be practically implemented.