UK Treasury opens consultation on the taxation of DeFi lending and staking

UK Treasury opens consultation on the taxation of DeFi lending and staking

Financial services have developed rapidly over recent times. This has included the arrival and expansion of the crypto ecosystem and related services that are at a nascent stage in contemporary times but can be used for financial transactions and can play an increasingly important role in financial innovation.

Countries across the globe are extensively working on the regulation and legislation of crypto assets and related aspects. For example, the European Union recently passed legislation for the regulation of cryptocurrencies, while Hong Kong is planning to publish guidelines for licensing virtual digital exchanges.

In a similar row, The United Kingdom’s Her Majesty’s Revenue and Customs (HMRC) on Thursday published a consultation document seeking views on modifying the tax treatment of Decentralized Finance (DeFi) lending and staking. The consultation intends to create a regime that better aligns the taxation of crypto assets used in defi lending and staking transactions.

It is important to note here that the focus of the document is on DeFi lending and staking, the proposed tax framework is also intended to apply to the lending and staking of crypto assets which is done through an intermediary. The consultation will run for 8 weeks from 27 April 2023 to 22 June 2023.

In the current step, the government is consulting on the implementation of a taxation option for DeFi lending and staking that is intended to disregard from CGT any disposal of beneficial ownership that may happen when crypto assets are staked or lent. Instead, a charge to CGT will arise when the crypto assets are economically disposed of (such as an outright sale or when they are exchanged for goods and services). Here, CGT is capital gains tax.

The document further mentions the proposed scope of the rules where it allows transactions if it contains the following elements. Firstly, there is an initial transfer of crypto assets from one party (the lender) to another party (the borrower) and/or there is a transfer of crypto assets through the use of a smart contract. Also, the borrower must return to the lender the borrowed tokens and/or the smart contract allows the lender to withdraw the tokens. The tokens can be returned at the instigation of the lender, at the request of the borrower, or automatically at the end of a predetermined period.

It also mentions the application of rules, the proposed design of a new taxation framework and its impact. Here it highlights that the lending or staking arrangement usually has three stages. First the transfer of tokens to another party, second, the term of the loan/stake and third, the return of the lent/staked tokens. The consultation documents further explain the tax consequences, taxation of DeFi returns and assessment of impacts.

This consultation document reveals how critically countries such as the United Kingdom are steering the issues related to crypto assets and related services. Here the government aims to establish clear tax and regulatory treatment of crypto assets to place the UK at the forefront of safe and rapid innovation in crypto assets and blockchain technologies.

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