The digital currency scene has heated up in 2017 due to the great increase in value of digital currencies, as well as significant developments in the area – primarily the wave of new “token” offerings that have joined the existing ones; as a result, today’s trading platform includes some 1,600 different currencies.

Professional circular published by the Israel Tax Authority (“ITA”)

In addition to position 2017/32 which summed up the Authority’s position on classification and taxation of digital currencies, the ITA has published two circulars on the topic:
Circular 5/2018: Taxation on decentralized method of payment activity (entitled “virtual currency”).
Circular 7/2018: ICO – Initial Coin Offerings for service provision and/or products in development (Utility Tokens).
Circular 5/2018 (“Virtual currency taxation circular”) distinguishes currency used as a “decentralized method of payment” – referring to Bitcoin, Litecoin or any other “coin” based on a unique platform, from a “decentralized smart contract” (“tokens”) which constitutes a group of tokens that exploit an existing platform, such as Ethereum.
The Virtual currency taxation circular establishes the tax principles only for the second class of currencies – the “tokens” (decentralized smart contracts). Below are the main points of the circular:

1. Virtual currencies are not considered “currency” – this is the Authority’s position; a consequence of this position is that the linkage differential exemption that exists for individuals in Israeli law for ordinary currency (“fiat” money) may not be exercised in this case. This position of the Authority is based on the definitions in the Bank of Israel Law. We would like to stipulate that our office maintains that virtual currency is in fact currency, and an individual therefore would be eligible for exemption due to an increase in value.

2.  Virtual currencies are “assets” – a consequence of this position is that their sale is subject to capital gains tax. Based on our aforementioned position that these are in fact “currencies”, our position is that an increase in their value would be tax exempt.

3. Currency activity at a “business” or mining level is classified as business income – consequence of this position is that their sale would be subject to the marginal tax rates (up to 50%). Activity from a “business” is as defined in different rulings, but remains varied and inconsistent.

4.  Purchase of virtual currency with another currency – the Authority’s position is: asset exchange means capital gains in lieu of the asset put forward, and “purchase” of a new asset in exchange. At this point we would like to state that there is a finance issue regarding the amount of taxes, because of the “movement” or asset exchange within a portfolio of virtual currency, without the client encountering “fiat” money (such as dollar, euro, NIS, etc.).

5.  Sale of an asset or service provision in exchange for virtual currency – Two different revenue calculations must be performed for profit or loss incurred (typically considered a capital gain or loss); one with the sale of an asset or provision of service, and the second with the sale of the virtual currency.

6.  Amount of proceeds in an exchange transaction in which the asset/goods has a “nominal price” – it has been established that in this case, the value of the sale of the virtual currency shall be in accordance with that

   nominal price. For example – if a car was purchased using Bitcoin, the amount of proceeds for that sale would be the “nominal price” (apparently the car’s book value). The subject of proceeds is important, because different price quotes may be found on different trading platforms simultaneously. Note that this provision does not apply to the “nominal price” of service providers – in which case the “fair value” of the currency must be determined.

7.  VAT considerations – an investor whose level of activity is not considered a “business” is not required to pay VAT; one with business-level activity, however, would be classified as a “financial institution”. Anyone engaging in mining must register as a “proprietorship” with business activity taxed at a rate ranging from zero to the highest rate (up to 50%), as relevant. We would like to point out that in our view, this blanket position defining mining as a business is problematic, as it could also be considered an investment – especially when the mining has an investment-like nature, such as a “pool” which manages the entire process of mining remotely, where the investor is completely uninvolved in the activity itself.

As you can see the subject of taxation of cryptocurrency is a new one, and the Authority’s positions are not straightforward, with other interpretations possible for these cases.