In the absence of specific legislation governing the rapidly expanding trade in virtual currencies (cryptocurrencies), taxpayers in Bulgaria have to rely on guidelines for matters relating to the taxation of their income, with the explanations provided by the Bulgarian tax authority – the National Revenue Agency (NRA) – being among the most important of these. In Explanation No. 3-580 of 19 March 2018, the NRA provides answers to some basic questions about the tax treatment of cryptocurrency transactions, subject to their conditionality. This article aims to summarise the key points of the Bulgarian revenue authority's statement. The article follows the structure of the questions posed to the NRA and the answers provided.
I. Definition of cryptocurrency and application of the Bulgarian Corporate Income Tax Act
The Revenue Agency correctly notes that Bulgarian legislation does not contain a legal definition of the term "virtual" currency (which cryptocurrencies are). Most legislations avoid legally binding definitions of the term. This leads to the establishment of a working definition by administrative authorities and courts. In its explanation, the NRA refers to the warning notice issued by the European Banking Authority (EBA) EBA/WRG/2013/01 of 12 December 2013, according to which a virtual currency is a specific type of unregulated digital money that is not issued or backed by a central bank and can be used as a means of payment. There are very different types of virtual currency: currencies initially used in online computer games and social networks later developed into means of payment accepted offline or in "real life".
In light of this definition, the NRA answers questions related to the application of the Bulgarian Corporate Income Tax Act. The Bulgarian Revenue Agency answers the question "Are the expenses recorded for the purchase of cryptocurrencies recognised as tax-deductible expenses for the period in which they are recorded, or is their recognition deferred until the proceeds from the purchased currency are realised?" According to the Corporate Income Tax Act, the components of income relevant for tax purposes are determined by converting the accounting result for tax purposes. The KStG does not contain any separate provisions on the tax treatment of income from the sale of virtual currency (e.g. Bitcoin, Litecoin, etc.), and for this reason it is generally recognised for tax purposes, i.e. it does not change the accounting result.
If the cryptocurrency is to be interpreted as a financial asset within the meaning of the applicable accounting standards referred to in Section 1 No. 3 of the Supplementary Provisions to the Corporate Income Tax Act, the provisions of this Act regarding the special tax treatment of certain business transactions related to financial assets in Bulgaria must be taken into account. The Bulgarian revenue authority excludes the application of Art. 34 para. 2 CITA on the non-recognition of income and expenses from subsequent valuations (revaluations and impairments).
II. Application of the Income Tax Act
Of particular interest are the tax authority's interpretations regarding the application of the Bulgarian Income Tax Act for natural persons.
Income from the transfer of rights or assets is considered a separate type of income under Art. 10(1)(5) Law on Taxes on Income of Natural Persons (LTINP). In view of the provisions of Art. 12 (1) LTINP, income from all sources earned by the taxpayer during the assessment period, except for income exempt from tax under this Act, is considered taxable income under this Act. Income derived from the sale/exchange of cryptocurrency is taxable unless it is tax-exempt income listed under Art. 13 LTINP or is to be treated as tax-exempt under another law.
Pursuant to Art. 16(1) LTINP, taxable income and the tax base must be determined separately for each source of income. Consequently, determining the type of income for tax purposes is extremely important.
In the broadest sense, cryptocurrencies can be defined as financial assets according to their characteristics and purpose. The taxable income and tax base for income from the transfer of rights or assets are determined in accordance with the provisions of Section V of Chapter V of the LTINP.
Pursuant to Section 33(3) of the Income Tax Act, the taxable income from the sale or exchange of shares, business shares, investor compensation instruments, investment vouchers or other financial assets, as well as from foreign exchange trading, is the sum of the profits generated during the year, determined for each individual transaction and reduced by the amount of losses incurred during the year for each individual transaction, less 10 per cent of expenses.
The effective income tax rate is therefore 9%.
This income must be declared in Appendix 5 of the annual tax return. In this case, column 2 must be completed. First, the code for the type of income is selected, then the total amount of the sale price when selling or exchanging financial assets is entered, followed by the total amount of the purchase price of the same. The gains and losses realised during the year are also reported. Based on the amounts reported, the taxable income and the tax payable are calculated automatically.
Virtual currencies are digital representations of value that are not issued or guaranteed by a central bank or public authority, are not necessarily linked to a legal currency and do not have the legal status of currency or money, but are accepted by natural or legal persons as a means of exchange and can be transferred, stored and traded electronically.
The profit/loss generated for each transaction is determined by reducing the sale price by the acquisition price of the financial asset (Art. 33(4) LTINP). The taxable income pursuant to Art. 33 (3) LTINP is taxed on the basis of the annual tax assessment basis and must be declared in the annual income tax return (see Art. 14 (1) and Art. 50 (1) No. 1 LTINP).
Apparently, the revenue authority does not take into account the special features of assessing the fair value for transactions with cryptocurrencies and the special accounting based on individual business transactions.
The Bulgarian Revenue Agency also provides guidance on the question posed by several Bulgarian and European citizens: When should their proceeds from cryptocurrencies be treated as income from a commercial activity? Here, we agree with the NRA's position that the determination of a natural person as a trader cannot be linked solely to the presence or absence of registration under the provisions of the Bulgarian Commercial Act. If a natural person engages in commercial transactions, it does not matter whether they manifest their involvement as a sole trader or not. In view of the acquisition of special software for the creation (acquisition) of cryptocurrencies for the purpose of generating profits from their sale on the relevant exchanges, it can be assumed that a commercial activity is being carried out, i.e. it serves as a permanent source of income. According to Art. 1(3) Commerce Act, any person whose business operation requires a commercially organised business operation in terms of its nature and scope is also considered a merchant, even if the activity they carry out is not listed in paragraph 1. In this case, pursuant to Art. 26(7) LTINP, the taxable income is determined in accordance with the provisions of paragraphs 1–6, i.e. in accordance with the provisions of the tax law on income from activities as a sole trader. If these circumstances exist, the income must be declared in Appendix No. 2 to the annual tax return in accordance with Art. 50 LTINP.
III. Application of the Bulgarian Value Added Tax Act
In addition to the information provided in our article on the legal and tax treatment of Bitcoin in Bulgaria regarding the application of the VAT Act, we cite here the NEA's position on the acquisition of cryptocurrencies:
"Bitcoins are created using special software based on the calculation of certain algorithms. The process of obtaining bitcoins through computing power is called "mining". If mining can be defined as an activity related to data processing or the provision of information, it is important to assess whether this constitutes the provision of services within the meaning of the VAT Act.
According to the interpretation of the European Court of Justice in paragraph 13 of its judgment in Case C-16/93 Tolsma, a service within the meaning of Article 2(1) of the Sixth Directive only exists if there is a direct link between the service provided and the profit received. A service is only provided "for consideration" if there is a legal relationship between the provider and the recipient of the service within the framework of which mutual services are exchanged, whereby the remuneration received by the provider constitutes the actual consideration for the service provided to the recipient.
In view of the above, it should be noted that if there is a direct link between the service provided – the computing power used and the consideration received in the form of Bitcoin – within the framework of a legal relationship between the provider and the recipient, the services of Bitcoin mining in Bulgaria could be defined as the provision of a service. Given that the provision of this service does not fall under the provisions of Chapter Four of the VAT Act, "Tax-exempt supplies and acquisitions", it could constitute a taxable supply within the meaning of Article 12(1) of the VAT Act, provided that it has been provided by a taxable person under this Act and at a place of performance located in the country.
Provided that there is no direct connection between the service provided and the profit received and that there is no legal relationship between the service provider and the service recipient within the framework of which mutual services are exchanged, Bitcoin mining falls outside the scope of the VAT Act.
The Bulgarian tax office also explains the liabilities of persons who are considered natural persons for tax purposes in connection with their activities involving cryptocurrencies, whereby the interpretations of the Bulgarian revenue authority as to the extent to which these activities constitute independent economic activity within the meaning of the VAT Act are of interest. Such an activity "is any activity that is carried out regularly or commercially for remuneration". The VAT Act does not contain a legal definition of the term "regularly or commercially". "Regularly and commercially" presupposes the person's intention to carry out this activity as a permanent source of income. This intention is evident when the person systematically carries out certain activities in their private interest for the purpose of earning income. Regularity is expressed both in the systematic (regular) acquisition of income and in the duration and/or repetition of the actions/activities, whereby whether such income has actually been earned by the person is legally irrelevant from the perspective of the VAT Act.
In view of the above, if a natural person regularly carries out transactions involving the trading of purchase and difference contracts for cryptocurrencies for the purpose of earning income and does not limit themselves to the ordinary management of their assets, but actively engages in market activities (in the commercial sense), their activity has the characteristics of a "self-employed economic activity" for the purposes of the VAT Act and, accordingly, this person is a taxpayer within the meaning of Art. 3 of the VAT Act.
With regard to registration under the VAT Act, the main activity of the person and the subject matter of the supplies are taken into account in Bulgaria for the assessment of taxable turnover. For the purposes of Art. 96 of the VAT Act, the provision of financial and insurance services that are not related to the main activity of the person is excluded. The assessment criteria are set out in letter ref. 91-00-114 of 18 April 2008 from the MF and NRA.
In view of the above, it must be assessed whether the supplies:
- taxable supplies or
- tax-exempt supplies within the meaning of Art. 46 UStG,
in which case no VAT is payable, but if a turnover of 50,000 leva from supplies with a place of performance in the country is achieved, there is a registration obligation under the VAT Act.
Taking into account the case law of the ECJ and the considerations of the NEA, it can be concluded that although transactions with cryptocurrencies are generally considered tax-exempt supplies, their execution may give rise to a registration obligation under the VAT Act.
With regard to social security law: in general, income earned by a natural person not registered as a trader from trading cryptocurrencies – Bitcoin – on the stock exchange is not considered income from gainful employment within the meaning of Art. 4 or Art. 4a(1) of the Social Security Code (SVGB) and is therefore not subject to social security and health insurance contributions in accordance with the provisions of Art. 4(3)(2) and Art. 127(1) of the SVGB and Art. 40(1)(2) of the Health Insurance Act (HIA).
Despite the explanations provided by the Bulgarian revenue authorities, it should be noted that the legal provisions regarding cryptocurrencies, and in particular their tax treatment, are very sparse, similar to the practice of the enforcement authorities.
The purpose of this article is to provide guidance to individuals who earn income from cryptocurrencies on how this income is treated by the authorities in the context of the virtual economy.