Cryptocurrencies: Bitcoin and the Tax Authority – When are profits taxable?

The topic of cryptocurrencies is very relevant as regards taxation. More and more investors are investing in cryptocurrencies. They should, at an early stage, look into the question of in how far these investments may result in taxation liability, and, if applicable, also criminal tax law consequences. This article is intended to provide a brief introduction to the subject. However, it does not replace comprehensive taxation legislation advice.

For the sake of completeness, terms regarding the subject of cryptocurrencies will be explained. Afterwards, we will outline the taxation of cryptocurrencies using the example of bitcoins. There are significant differences between the individual cryptocurrencies which are frequently - but not always - insignificant for the tax effect. The following tax legislation explanations refer to the unlimited tax liability in Germany.

What are cryptocurrencies?

Cryptocurrencies are digital means of payment based on a block chain. In block chains, data blocks are attached to a data set in accordance with fixed rules. Most cryptocurrencies are produced by so-called "mining". In this process, the miner receives "new" coins through the provision of computing capacity for solving cryptographic (encoded) tasks. Cryptocurrencies are traded on so called on-line exchanges via the internet.

Digital addresses are needed for the transmission of cryptocurrencies. These digital addresses include a public key and a private key. The public key is comparable with a mailbox address or an account number, while the private key resembles the mailbox key or the access PIN number to the bank account. If the coins are deposited at an exchange, this exchange also administers the PIN number which grants access to the coins. The coins as such are located in the block chain. There are so-called wallets to secure the so-called private keys. These are comparable with a wallet in which you keep the PIN number for a bank account.

Cryptocurrencies are not classified as e-money or as legal tender because there is no issuer in the procurement through mining. The Federal Ministry of Financial Affairs (BMF) and the Federal Financial Supervisory Authority (BaFin) classify cryptocurrencies as a mere accounting unit.

Income tax treatment of cryptocurrencies as private assets 

Contrary to commonly held assumptions, income in connection with cryptocurrencies in private assets does not constitute income from capital assets according to art. 20 section 1 EStG. Provided the preconditions for a so-called private sales transaction according to art. 22 no. 2 in conjunction with art. 23 section 1 sentence 2 no. 2 sentence 1 EStG are fulfilled, there is a tax liability under this provision. Therefore, any possible income is not subject to the so-called settlement tax but to the taxpayer's personal income tax rate according to section 32a EStG.

1. Purchase and sale of cryptocurrencies (bitcoins)

a. Principle: One-year period (art. 23 section 1 sentence 1 no. 2 sentence 1 EStG)

Example 1:

On 01/06/2017, A purchases 70 BTC at €450.00 each (= €31,500.00) and sells these 70 BTC at € 6,000.00 each (= €420,000.00) on 05/03/2018.

Version 1: A sells the 70 BTC at €3,000.00 each (= € 210,000.00) on 08/06/2018.

Version 2: On 01/06/2017, A purchases 20 BTC at €380.00 each (= €7,600) and sells these 20 BTC at € 400.00 each (= €8,000.00) on 31/05/2018.

If cryptocurrencies are held as part of private assets and sold again within a period of one year after acquisition, the profits generated are taxable according to art. 22 no. 2 in conjunction with art. 23 section 1 sentence 1 no. 2 sentence e EStG. This classification results from the fact that virtual currencies - as which cryptocurrencies are classified - are defined as "other assets" within the meaning of art. 23 section 1 sentence 1 no. 2 EStG. According to art. 23 section 3 sentence 5 EStG, there is a tax exemption limit of €600.00 for profits.

If coins of a cryptocurrency are only sold after a holding period of more than one year, the income is exempt from taxation (art. 23 section 1 sentence 1 no. 2 sentence 1 EStG). A possible exemption from this will be addressed under the heading "Stumbling block of the ten-year deadline".

According to art. 23 section 3 EStG, the taxable sales profit or loss is established on the basis of the difference between the costs of acquisition and the professional expenses on the one hand and the sales price of the cryptocurrencies on the other. The professional expenses include the costs of selling, such as e.g. the transaction fees or market fees. However, these must have been incurred in direct connection with the sales process. Both the purchase price and the ancillary costs of acquisition, such as e.g. transaction fees or market fees, can be deducted as costs of acquisition. Any possible costs of acquisition for the purchase of the cryptocurrency are not part of the costs of acquisition.

The time at which profits are realised is decisive for taxation. According to art. 11 section 1 sentence 1 EStG, this is defined as the time at which the income accrues to the taxpayer. In as far as cash payment is effected in so-called Fiat money (conventional means of payment, such as Euro or Dollar), this is the time at which the funds are credited to the account.

Example 1: The sales profit of €388,500.00 (€420,000.00 - €31,500.00) is taxable since the acquisition and sales transaction took place within a period of one year.

Version 1: The resulting sales profit of €178,500.00 (€210,000.00 - €31,500.00) is not taxable because more than one year elapsed between the acquisition and sales transaction.

Version 2: The resulting sales profit of €400.00 (€8,000.00 - € 7,600.00) is not taxable since the total profit achieved did not exceed €600.00 during the calendar year.

b. Exemption regarding the one-year period "stumbling block" (art. 23 section 1 sentence 1 no. 2 sentence 4 EStG)

Example 2: On 20/05/2015, P purchases 40 BTC at €600.00 each (= €24,000) and sells these 40 BTC at € 1000.00 each (= €40,000.00) on 20/02/2017. P "lent" (leased) these 40 BT to a trader at an interest rate of 3% for a period of three months in 2015 and received interest income of €335.00 in 2015.

In order to generate additional income, some holders of cryptocurrencies lease their coins (so-called bitcoin lending) to other traders via on-line exchanges. In terms of taxation, we have to differentiate between the taxation of interest income and the possible effects under section 23 EStG.

If lending is effected in return for the payment of interest, the interest received is taxable income according to art. 22 no. 3 EStG. This is not classified as income from capital assets according to art. 20 EStG since there is no "claim regarding monetary payment".  

The decisive cut-off point for tax liability is the time of payment. Income of up to € 256.00 per calendar year is tax-free according to art. 22 no. 3 sentence 2 EStG. However, this only applies if all income from such payments does not exceed this limit.

If income is generated with cryptocurrencies or through the generation of interest income as a result of lending in, at least, one calendar year, the speculation period might be extended from one year to ten years according to art. 23 section 1 sentence 1 no. 2 sentence 4 EStG, if applicable. In this case, profits from the sale would only be tax-free after a period of ten years. In practice, this extension of the speculation period is sometimes overlooked.

However, as is shown in the explanatory memorandum regarding art. 23 section 1 sentence 1 no. 2 sentence 4 EStG, this provision is intended to prevent abuse of tax saving schemes – even though this was not included in the wording of the provision. Therefore, in our opinion, this provision has to be interpreted restrictively in such a way as to ensure that only those assets which form a "separate means of income" are covered by the term "income source". As a rule, this is based on the precondition that the asset was acquired for the sole purpose of generating additional income which can form a livelihood and clearly transcends mere portfolio management - over and above the mere increase in value. Please note that this only reflects our legal opinion and that the fiscal administration and/or the fiscal courts might have a different view on this.

Solution - Example 2: In our opinion, art. 23 section 1 sentence 1 no. 2 sentence 4 EStG does not apply here. The 40 BTC do not constitute a "separate means of income" because the BTC were not acquired in order to generate income from leasing them. As a result, there is no taxable transaction according to art. 23 EStG because the 40 BTC were sold outside the one-year period under art. 23 section 1 sentence 1 no. 2. In our opinion, this result is also in line with the legislator's intention because taxation of the 40 BTC was not to be avoided by subverting the one-year period with the help of a complicated structure comprising a large number of contracts.

Solution in the case of a different view: P receives interest income for lending 40 BTC. This results in an extension of the speculation period to ten years until 19/05/2025. Under this view, the sales income generated for the sale of the 40 BTC on 20/07/2017 of €16,000.00 (€40,000.00 - €24,000.00) is taxable according to art. 22 section 2 in conjunction with art. 23 section 1 sentence 1 no. 2 sentence 4 EStG. As a result of the 2015 interest income of €335.00, the tax-free sales profits would become taxable.

c. How are losses from cryptocurrencies (bitcoins) treated?

According to art. 23 section 3 sentence 7 EStG, sales losses may only be offset up to the amount of profits generated from private sales transactions in the same calendar year. However, according to art. 23 section 3 sentence 8 EStG, these can also be asserted in the framework of loss deduction under art. 10d EStG so that offsetting with income generated during the immediately preceding or following assessment periods is possible.

d. Sequence of use in the acquisition and sale of cryptocurrencies (bitcoins) at different times

Example 3: On 06/06/2015, M purchases 40 BTC at €600.00 each (= €24,000) and 30 BTC at € 1000.00 each (= €30,000.00) on 01/01/2016. On 03/04/2016, he sells 20 BTC at €5,000 each (=€100,000.00).

Investors often sell or buy coins in a cryptocurrency at different times. This leads to the question of how to determine the sales profit in coins purchased consecutively and then sold again step by step.

In the dominant opinion, the FIFO method (first in - first out) method is applied with regard to the sequence of use according to art. 23 section 1 sentence 1 no. 2 sentence 3 EStG. This valuation simplification is based on the assumption that "in the acquisition and sale of several similar foreign currency amounts [...] it [has] to be assumed that the amounts purchased first were also sold first". However, this provision is only intended for "foreign currency amounts", such as foreign exchange, and this does not apply to cryptocurrencies.

The answer to the question of whether the FIFO method is favourable is based on a case-by-case assessment. It has a positive effect in the following cases:

• in case of value increases provided more than one year has passed since the first acquisition which is still held
• in case of value decreases provided less than one year has passed since the first acquisition which is still held

Solution - Example 3: If the FIFO method is applied, a sale of 20 of the coins acquired on 06/06/2015 is assumed. This results in sales profits of €88,000.00 (€100,000.00 - € 12,000.00). If the LIFO (last in - first out) method is assumed, it is assumed that the 20 coins sold are proportionately those which were purchased on 01/01/2016. This would result in sales profits of €80,000.00 (€100,000.00 - € 20,000.00). Even though the LIFO method would be more favourable than the FIFO method in the present case, it has to be assumed that the application of this method is probably not admissible in the case of income from private sales transactions. Therefore, the sales profit of €88,000.00 is taxable.

Example 4: On 15/03/2014, T purchases 20 BTC at €500.00 each and, on 15/05/2016, he purchases a further 20 BTC at € 1000.00 each. On 10/02/2017, he purchased 20 BTC at €3,000.00 each. The BTC are all still at the same exchange.

Solution - Example 4: In this case, the FIFO method is more favourable since T holds the BTC over several years (2014-2017), which means that the preconditions under art. 22 no. 2 in conjunction with art. 23 section 1 sentence 1 no. 2 EStG are not fulfilled. As a result, there is no taxable transaction.

Example 5: On 01/03/2013, R purchases 20 BTC at €500.00 each (= €10,000) and a further 20 BTC at € 1000.00 each (= €20,000.00) on 01/05/2013. On 01/02/2014, he sells 20 BTC at €3,000.00 (=€60,000.00) each. The BTC are all still at the same exchange.

Solution - Example 5: Since the one-year period has not yet expired for the first ten coins acquired and since these coins are considered as having been sold, the FIFO method is unfavourable in this case. Even though the costs of acquisition were €500.00 each rather than €1,000.00 each, which would have been the case in the assumed sale of the second acquisition. This results in profits of €50,000.00 (€60,000.00 - €10,000.00).

Example 6: On 16/03/2016, P purchases 20 BTC at €1,000.00 each (= €20,000) and a further 20 BTC at € 500.00 each (€10,000.00) on 16/05/2016. On 13/02/2017, he sells 20 BTC at €700.00 (=€14,000.00) each. The BTC are all still at the same exchange.

Solution - Example 6: Since the one-year period has not yet expired for the first 20 coins and since these are considered to have been sold, the FIFO method is more favourable in the present case since the acquisition costs for the coins from the first purchase were €1,000.00 each rather than €500.00 each for the coins from the second purchase. This results in a loss of €6,000.00 (€14,00.00 -€ 20,000.00).

However, there is no mandatory FIFO for cryptocurrencies in Germany. In as far as sufficient customisability is possible, individual assessment is also permissible in our opinion. However, this requires the provision of corresponding material proof to the tax authority. To this end, all tax-relevant information should be kept or saved. This is sensible, in particular, against the background that foreign exchanges frequently only save the information for a limited period, possibly only for a period of 90 days. It is likely that the tax authority will classify the mere listing in an Excel spreadsheet showing the transactions (i.e. how many coins of which cryptocurrency were sold at which price and which exchange) as being insufficient - in particular with regard to the BFH ruling on Excel driver's logbooks - since subsequent changes of such lists are possible.

In literature, the opinion is sometimes voiced that the profit has to be determined using the average method. According to this, that part which was procured outside the holding period is considered to have been sold first. If the residual amounts of similar foreign currency were purchased at different times and have not been completely sold again, proportionate selling of the residual stock of such acquired at different times has to be assumed.

The costs of acquisition regarding those foreign currency amounts whose holding period has not yet expired are determined as the average of the individual costs of acquisition. 

Example 7: As in example 6, however, P moved the coins from the first purchase (16/03/2016) to a hardware wallet (special stick with USB port) before the second purchase (16/05/2016). At the time of sale, the coins from the second acquisition were still at the exchange.

To avoid the FIFO procedure, possible cryptocurrencies can be "moved to a wallet". However, to be precise, the coins of the cryptocurrency as such are not really moved since they remain in the block chain. Only the private key which provides access to the coins connected with it is saved in the wallet. If the cryptocurrency (e.g. BTC) is held at various exchanges, the FIFO method is not applied. Similar to the case of a depot separation for income from capital assets, the concrete BTC which are deposited at the exchange from which the sale is effected are sold so that, in our opinion, mixing is only possible at the same exchange. 

Solution - Example 7: Against the backdrop of the transfer of the coins from the first acquisition to a wallet, coins which only come from the second acquisition can now be sold. The relevant sales price is €200.00 each (€ 700.00 - € 500.00). 

2. Exchange of coins of one cryptocurrency with coins from another cryptocurrency

 Example 8: On 05/02/2012, G purchases 40 BTC at a price of €900.00 each (= €36,000.00) and, on 05/06/2012, he exchanges these at a price of € 3,000.00 each (= €120,000.00) with a corresponding number of Ethereal (120 pcs., assumed total value:  €120,000.00) because he believes that Ethereal has a higher upside potential. 

The exchange of coins of one cryptocurrency with coins of another cryptocurrency (e.g. Ethereal with bitcoins) within a period of one year after acquisition constitutes a private sales transaction within the meaning of art. 22 no. 2 in conjunction with art. 23 section 1 no. 1 EStG because a different asset is purchased against payment because of the acquisition of the other cryptocurrency. The tax is incurred upon completion of the exchange since the taxpayer accrues the profit (in EUR) for a legal second at that point in time before he reinvests said profit. The sales price for the exchange of assets held in private assets is based on the fair market value of the consideration received, art. 23 section 3 sentence 1 EStG. In this context, the final price of the service procured usual at the place of delivery according to art. 8 section 2 sentence 1 EStG.

Solution - Example 8: The costs of acquisition for the BTC were €36,000.00. The determination of the sales price is not difficult since the value of the service received in the form of IOTA was assumed at €120,000.00. The sales profit was €84,000.00 (€120,000.00 - €36,000.00).

Example 9: U wants to purchase IOTA which, however, are only available on the Y platform/exchange at which a direct acquisition in return for a payment in EUR is not possible. After, initially, U purchased BTC having a value of €30,000.00 at the A platform, he immediately forwarded these to the Y platform. There, U exchanges these against IOTA one hour after they arrived at the Y platform. Until the exchange into IOTA, however, the BTC price rose to €33,000.00 by 10%. It is assumed that, at that time, the value of the IOTA was €33,000.00. Solution - Example 9: The costs of acquisition for the BTC were €30,000.00. The sales price is identical with the fair market value of the consideration received, i.e. the fair market value of the IOTA of €33,000.00. This means, during the period of the transfer, taxable income of €3,000.00 was generated.

3. Tax effects of the use of cryptocurrencies (bitcoins) as means of payment

 If bitcoins are used as means of payment for the acquisition of an asset or the use of a service within a one-year period, this also concerns a private sales transaction according to art. 22 no. 2 in conjunction with art. 23 section 1 sentence 1 no. 2 EStG. Unless the cryptocurrency was mined by the party concerned itself, this constitutes an acquisition procedure; while the exchange has to be classified as a sales transaction. The sales price is established as the difference between the costs of acquisition of the cryptocurrency and the price for the service or the sales price of the good. In part, literature shows the opinion that there is no acquisition if, similar to a foreign currency, cryptocurrencies are used to fulfil liabilities or to cover private living expenses.

4. Special (acquisition) procedures with regard to cryptocurrencies (bitcoins)?

Moreover, there are special (acquisition) processes in connection with cryptocurrencies. However, there are significant differences between the individual cryptocurrencies and the designations for such acquisition constellations are also used in various ways so that every individual case requires a careful examination. Irrespective of this, some case constellations encountered more frequently are assessed with regard to taxation with the help of examples below. In this context, we have to consider that there is no (supreme court) jurisdiction on this and that the view expressed here is not covered by an administrative order.

a. Forks

A so-called "fork" was carried out, e.g., in August 2017. During this transaction, everyone who owned a bitcoin received a corresponding amount in bitcoin cash in addition. In our opinion, analogue provisions, which e.g. also apply in the case of a share split, have to be applied here with regard to taxation. A direct application is not possible since the income from cryptocurrencies is not classified as income from capital assets according to art. 20 EStG.

Example 10: I purchased 5.5 bitcoins at a price of € 300.00 each (= in total € 1,650.00) on 25/01/2011. At the fork held on 01/08/2012, I received additional 5.5 bitcoin cash having a value of €310.00 each and, hence, a total of € 1,705.00. At the time of the fork, a Bitcoin had a value of €1,000.00. On 24/01/2013, I sold his 5.5 bitcoins for a total of €25,000.00 and the bitcoin cash for a price of €3,500.00. During a fork, the costs of acquisition of the cryptocurrency originally acquired remain unchanged.

Since expenses were not incurred, the costs of acquisition of the additional cryptocurrency are €0.00. The fork does not result in any changes with regard to the time of acquisition of the cryptocurrency originally purchased. In our opinion, as in the case of a share split, the time of acquisition of the cryptocurrency received in addition corresponds to the time of acquisition of the cryptocurrency originally acquired. Similarly to the case of the share split, in our opinion, there is no (new) acquisition transaction - with the result that any later sale of the additional cryptocurrency cannot constitute a private sales transaction since the requirement of both remuneration and an involved third party is not fulfilled.

Moreover, classification of income from other services according to art. 22 no. 3 EStG is not possible because, in the case of a fork, the required commercial connection between performance and consideration is not fulfilled. Therefore, the taxpayer's strategy has to be classified as mere "non-action" rather than performance/consideration. Furthermore, an inter vivos gift according to art. 7 section 1 no. 1 ErbStG [German Inheritance Tax Act] does not apply either because the enrichment of the taxpayer is not effected at the detriment of a third party with the result that there is no transfer of assets from a third party to the taxpayer.

Because, in the present case, the old cryptocurrency is not used to generate revenue, the speculation period was not extended from one year to ten years in accordance with art. 23 section 1 no. 2 sentence 4 EStG. Moreover, a new period within the meaning of art. 23 EStG is not triggered either because there was no acquisition transaction with regard to the new cryptocurrency.

Solution - Example 10: The time of acquisition (25/01/2011) as well as the costs of acquisition of the bitcoins remain unchanged at € 300.00 per coin. The costs of acquisition of the bitcoin cash are €310.00 per coin. Because of I, the bitcoin cash within the meaning of art. 23 EStG was also acquired as of 25/01/2011 (= time of acquisition of the bitcoins); however, this does not apply in the case of the fork on 01/08/2012. However, at the time of the sale of the bitcoin cash, the one-year period had expired for both the bitcoin and the bitcoin cash As a result, the sales profit of I is tax-free according to art. 23 EStG.

b. GAS from NEO

The GAS cryptocurrency can be generated through so-called "claiming” by simply holding NEO in a wallet. In our opinion, crediting of GAS does not lead to an extension of the speculation period for the existing NEO coins to ten years according to art. 23 section 1 sentence 1 no. 2 sentence 4 EStG. As outlined above (example 2), this provision is only intended to combat misuse and, in our opinion, it needs to be given a correspondingly restrictive interpretation.

A GAS credit does not constitute income from capital assets according to art. 20 section 1 no. 7 EStG. There is no income from other capital claims because such is based on a "claim to monetary payment" and coins of a cryptocurrency are not classified as such. However, at the time of crediting, there is income according to art. 22 section 3 EStG. In the framework of this provision, the remuneration can be provided both in cash or in kind. As a result, the payment of cryptocurrencies as remuneration can also be included in this.

Since there is no acquisition transaction (against payment) according to art. 23 EStG, the later sale of the GAS coins is tax-free after expiry of the applicable periods under art. 23 EStG.

c. Initial Coin Offerings (ICOs)

So-called tokens are offered for sale at the initial coin offerings (ICO). This is a financing model in the form of a virtual initial public offering during which so-called tokens are offered for sale. As a result, a new cryptocurrency is sold against another cryptocurrency. Taxation is effected at almost the same principles as the sale or purchase of cryptocurrencies and the exchange against other cryptocurrencies.

d. Krypto Airdrops

In a Krypto Airdrop, the crypto-community is provided coins through a block chain project in order to raise awareness of these projects. This resembles a fork during which someone who has already received a certain cryptocurrency before now receives coins of another (new) cryptocurrency free of charge.

If you receive Airdrops within the holding period of one year, the opinion is expressed - at least in Internet forums - that this leads to an extension of the holding period under art. 23 EStG to ten years for the cryptocurrency already held; this is explained on the basis of the use of this commercial asset to generate income during, at least, one calendar year according to art. 23 section 1 no. 2 sentence 4 EStG. However, according to the view held here, this does not apply. There was no targeted acquisition of the cryptocurrency already held in order to generate additional income (e.g. in the form of Airdrops) which might form a livelihood and clearly exceed the simple asset management. As a result, the one-year holding period under art. 23 section 1 sentence 1 no. 2 sentence 1 EStG continues to apply with regard to the existing cryptocurrency.

At the time of the accrual, the acquisition of the new (free) coins could only form a taxable acquisition within the meaning of art. 22 no. 3 EStG (Income from services). This provision only has the task of supplementing the other types of income - however, it does not have the task of ensuring the gapless recording of all services. Therefore, only those cases which commercially correspond to the other types of income without a relevant formal correspondence are covered by no. 3 of this provision. In our opinion, the procurement of new coins in the framework of a Krypto Airdrop does not constitute a taxable transaction since the Airdrop is a free transaction and (in the form of a gift) it should and/or cannot be the subject of a paid transaction within the meaning of the Federal Fiscal Court ruling referred to above. This also applies in those cases in which the holder of the existing cryptocurrency needs to take action of some kind, e.g. by registering on a platform. This action (e.g. registration) is not a transaction which commercially corresponds to another type of income under EStG. It does not change the free character of the Airdrop. As a result, the procurement of the new coins is not subject to a tax liability under EStG.

Registration on a platform: This action (e.g. registration) is not a transaction which commercially corresponds to another type of income under EStG. It does not change the free character of the Airdrop. As a result, the procurement of the new coins is not subject to a tax liability under EStG.

Irrespective of the view held here, this question is probably only academic in a large majority of cases because the assessment of the "gifted" coins is effected at the time of accrual according to art. 11 EStG (e.g. receipt in the wallet) at the usual final price at the delivery point according to art. 8 section 2 sentence 1 EStG, which is probably very low in most cases.

The later sale of the coins received in the framework of an Airdrop does not result in any tax liability according to art. 23 section 1 no. 2 EStG. There is no acquisition of an asset in return for payment if the coins were obtained free of charge in the framework of an Airdrop. In the event of the free acquisition, art. 23 section 1 sentence 3 EStG provides for the allocation of the legal predecessor to the singular legal successor, which also includes the allocation of the time of acquisition for the calculation of the applicable periods. However, usually, an acquisition transaction does not apply because the distributors of the coins themselves generated or produced these in the framework of an Airdrop, in principle. Therefore, a tax liability under EStG does not apply with regard to the later sale of coins received in the framework of an Airdrop.

e) Proof of Stake

Various methods are used to establish consensus in reviewing transactions and finding the next block. The most well-known procedure also used for bitcoins is the so-called "proof of work". As outlined above, the miners have to use computing power to solve mathematical algorithms in this process in order to mine the respective block and to receive the proportionate transactions costs. However, as a result of the increasing number of miners, the required computing power as well as power consumption in increasing all the time. In order to ensure the authenticity of transactions and prevent the increasing energy consumption, many cryptocurrencies rely on consensus building with the help of the so-called "proof of stake" (e.g. Dash, NEO and soon, probably, also Etherium). The stake of a user, i.e. his share in the total volume of existing tokens, is decisive. The bigger its share is, the more likely it is that this user is selected to mine the next block. Moreover, an incentive for the so-called proof of stake is also created on account of the fact that investors do not only participate in price gains but also that an additional source of income is generated through the so-called "staking". The coins created as rewards in generating blocks and the retained transaction fees are randomly and periodically distributed to the coin holders in this process.

As regards taxation, this also raises the question of whether income in the form of new coins extends the speculation period for the existing coins to ten years according to art. 23 section 2 no. 2 sentence 4 EStG. This also raises the question of how the new coins and any possible later sale of the new coins has to be treated in terms of taxation. With regard to this, comprehensive reference can be made to the explanations above regarding crediting of GAS upon holding of NEO: According to the opinion expressed herein, crediting of new coins does not lead to an extension of the speculation period for the existing coins to ten years according to art. 23 section 1 sentence 1 no. 2 sentence 4 EStG. In crediting of the new coins, there is income according to art. 22 section 3 EStG at the time of crediting. Since there is no acquisition transaction (against payment) according to art. 23 EStG, the later sale of the new coins is tax-free after expiry of the applicable periods under art. 23 EStG.

5. When is the threshold to commercial trading in cryptocurrencies (bitcoins) reached?

Example 11: In the past, V was employed as a full-time tax adviser and, in addition, he also very successfully traded in cryptocurrencies. In order to have more time for trading in cryptocurrencies, he reduces his weekly working time to 20 hours and, during his "free time", he almost exclusively focuses on trading cryptocurrency. In this process, he concludes approx. 150 trades per day almost exclusively for his own account - and he uses so-called trading bots (computer programs permitting automatic trading) to this end. 

Amended version: As explained in section 11; however, V does not trade for his own account only - but also for B and C and he hires M in order to be able to conclude even more trades for B and C. In addition, he has specifically rented an office. 

Section 23 EStG only applies if the income is not covered by any other type of income (art. 23 section 2 EStG). Depending on the extent of his activities, the income might also be covered by art. 15 section 1 EStG. According to the BFH ruling, commercial activity is based on the negative requirement that the activity is not classified as private property management. The "overall impression of the situation and the generally accepted standards" are material for BFH for the classification of an activity as being commercial, with the question of "whether the activity corresponds to the impression of a commercial operation in accordance with the generally accepted standards" being decisive. In this process, the specific particularities of the respective "commodity traded" must be considered in this process.

Therefore, the question of which differentiation criteria are material is doubtful in this case. BFH has already developed case groups for certain assets. 

For example, BFH has established the so-called "three-property threshold" for trading in properties. According to this, the sphere of private asset management is usually considered to have been exceeded if more than three properties are bought and sold within a period of five years.  

However, BFH is more generous with regard to trading in securities: Against the background that changes in stocks of securities are inherent in this type of asset management - in particular, in order to sell poorly performing securities and acquire well performing securities in order to realise price gains, restructuring of securities is usually still part of private asset management according to generally accepted standards. As a result, commercial securities trading only applies in exceptions if this is supported by special circumstances ("professional contouring"). This, e.g., includes personal work efforts, the use of offices, the employment of assistants, predominant trading for third-party account, third-party management, offerings to third parties or a corresponding occupation.

Moreover, trading in gold/precious metals is usually also classified as private property management. In this context, Munich Fiscal Court advocated the transfer of case-law principles developed for securities trading to trading in gold via trading platforms.

However, in the framework of a ruling on the "Goldfinger model" in 2017, BFH ruled that the principles of securities trading cannot be transferred to gold. Physical gold is classified as being a "fruitless" asset from which income can exclusively be generated through a sale. Therefore, in principle, trading in gold requires a different business approach than trading in securities in order to generate income. Frequent and short-term restructuring is not part of investments in gold for the purpose of asset management. Even if criteria for the classification of trading in cryptocurrencies have not yet been established, the criteria for commercial securities trading have to be applied in our opinion. Against the backdrop that cryptocurrencies are comparable with securities and have to be classified as being interchangeable and volatile, a commercial character can only be confirmed if special circumstances are fulfilled in exceptional cases. Offering of securities transactions to a broader public, using a market by applying professional experience, maintaining an office or an organisation for the execution of transactions, the scope of transactions as well as other conduct unusual for private property management constitutes signs of proof supporting the allocation to the "impression of securities trading" which can, in our opinion, also be transferred to cryptocurrency traders. Since the overall impression is material and since the isolated consideration of individual characteristics is not permitted, the individual signs of proof have to be considered and weighted against each other. According to BFH jurisdiction, the activity for third-party account (based on the role model of a securities trading company) or trading for own account and directly towards the market participants as the main activity (based on the model of a financial company) constitute material indications for commercial operations. In contrast, the mere consideration of the number of purchases and sales (turnover rate) is not sufficient. Keeping an office, organising the execution of transactions or the use of professional experience is only of minor importance. The criterion of credit financing is entirely insignificant.

Solution - Example 11: V's potential income is only taxed during the holding period under art. 23 EStG because V only operates via an exchange instead of directly towards other market participants and since, in addition, he also exclusively operates for his own account. However, we consider the use of trading bots and the fairly high number of 150 trades per day insignificant. 

6. Private mining

Example 12: A occasionally "mines" bitcoins as an investment in order to sell these again at a suitable time, if applicable. However, he only spends a few hours per month mining since his main occupation is that of a tax adviser. In 2011, he produced 10 BTC, which had an estimated total value of approx. € 7,000.00 on 31/12/2011. However, a computer bought specifically for this purpose spent several weeks computing in order to generate these BTC and A sold the 10 BTC for €500,000.00 in 2015. In 2011, the electricity costs and costs of acquisition for the hardware (depreciation for wear and tear) were €10,000.00.

Mining raises the question of when the limit to a commercial activity is exceeded so that commercial income was generated in accordance with art. 15 section 1 EStG. As a result, we have to differentiate between commercial and private - occasional - mining. What makes this difficult, however, is that there are no fixed definition criteria and no corresponding jurisdiction.

By all accounts, some representatives of the fiscal administration hold the view that, against the background of the high initial capital expenditure, there is a refutable presumption that the mining operations are sustainable - and, hence, commercial. However, in contrast to this, mining for some cryptocurrencies, e.g. verge or XVG, is (as yet still) possible with a relatively low resource input. 

In our opinion, the question of whether "the activity is in line with the impression of a commercial operation according to generally accepted standards" is decisive in this case. In this context, market involvement is required which, however, does not have to apply as early as during the years of mining as such. This has to be assessed in the framework of a case-by-case analysis which has to be assumed to take place – in line with the height of investment costs.

If losses are incurred because of the activity - which is something to be accepted because of the partly high mining costs (acquisition of hardware, power, etc.), classification as a commercial activity applies. However, discussions with the fiscal administration have to be expected with regard to the fact of whether this constitutes a hobby which is insignificant in terms of taxation legislation and which would, as a result, be subject to a prohibition on loss deduction. In this context, total profit constitutes the benchmark so that losses can be tolerated, at maximum, during a five-year start-up phase, in principle. 

If, in a specific individual case, a commercial activity does not apply, this does not automatically mean that any income resulting from this is not taxable. However, the sale of cryptocurrency mined by the seller does not constitute a private sales transaction because art. 23 section 1 sentence 1 no. 2 EStG only comprises assets purchased previously instead of self-made assets.

But the income from such a sale might constitute revenue from "other services" according to art. 22 no. 3 EStG. However, in this context, we have to differentiate between mining itself and the verification of transactions.

In our opinion, in the case of mining, the preconditions of art. 22 no. 3 EStG are not fulfilled. For example, only those parties who are the fastest in solving the task receive "new coins" as a kind of bonus. As a result, chance in combination with the scope of the computer capacity used is decisive rather than skill. This means that there is no consideration since the bonus is neither allocated by other competitors nor by a central office. Because there is no acquisition, any possible later sale of the coins generated through hobby mining is not taxable according to art. 23 EStG. In verifying transactions - i.e. in confirming the correctness of the transaction - the miner receives a consideration as payment from another unknown person. According to art. 22 no. 3 EStG, this process is taxable because it concerns a pecuniary advantage according to art. 8 section 1 EStG. The costs connected with the verification, such as e.g. power costs and the acquisition of hardware, etc., can be deducted as professional expenses according to art. 9 section 1 EStG. With regard to the income, there is an exemption of up to € 256.00 per calendar year. 

Solution - Example 12: In our opinion, the BTC generated by A were not generated commercially within the meaning of art. 15 section 1 sentence 1 no. 1 EStG since there was no comprehensive market involvement within the meaning of the impression of a producer with an absolute intention to sell. Since A himself generated the BTC, there is no paid acquisition process and, as a result, no acquisition within the meaning of art. 23 EStG. As a result, the tax liability of art. 23 EStG does not apply. Moreover, art. 22 no. 3 EStG also does not apply since there is no performance relationship with another person and, as a result, there is no consideration. In our opinion, the sale of the BTC does not constitute any taxable transaction. Even if, by all accounts, this opinion is, at least, shared by individual representatives, this cannot be classified as being secured regardless of this so that we have to wait for the further development of jurisdiction in this direction.

Since mining is becoming increasingly demanding, specific mining forms by groups of persons have evolved:

Cloud mining: In this process, investors buy so-called "hash rates", i.e. computing capacity, from a mining company. In contrast to this, the proportionately mined coins are allocated proportionately. Tax liability is assessed differently: On the one hand, commercial activity is confirmed so that this constitutes income from commercial operations. On the other hand, the view is held that the limit to commercial operations is not exceeded because independence does not apply because the respective taxpayer's influence on the server structure is not sufficient. However, in the context of this opinion, the presence of services according to art. 22 no. 3 EStG is confirmed.

Pool mining: In this process, each individual provides his computing capacity to the mining pool which is then bundled via a central service provider and is intended to increase changes for a so-called "block reward". In as far as the taxpayer engages in mining more than occasionally, he usually operates commercial within the meaning of art. 15 section 1 and 2 EStG, as a result of which his income is taxable. 

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The authors of this article, Ingo Heuel (lawyer, tax adviser and tax lawyer) and Dr. Isabell Matthey, LL.M. (lawyer and tax adviser) have looked into the subject of cryptocurrencies in more detail, also in articles in academic journals. Therefore, the full depth of their knowledge cannot to be comprehensively portrayed in the framework of this Internet contribution.