An initial coin offering (ICO) is a new method of funding for start-ups which involves the raising of capital through the issue of crypto-currencies in the form of digital tokens. The start-up issuing the tokens is usually receiving other crypto-currencies in return, such as Bitcoin or Ethereum.
An ICO is in substance a fundraising tool, through which a company can attract potential investors for a particular project. The main difference between an ICO and the traditional methods of raising capital is that the investors do not participate in the equity of the issuing company, as they buy tokens instead of shares. The value of a token is increasing as the company’s value appreciates, thereby enabling the investors to trade it for a profit.
Most jurisdictions have not issued any clear guidelines or regulations regarding the tax treatment of ICOs. Accordingly, they may apply a different tax treatment for each case, by using various approaches in order to tax the funds/proceeds derived through ICOs.
As the raising of funds through ICOs is considered a capital raising exercise, the most obvious tax treatment would be the one that applies to an issue of shares, in which case there would be no tax exposure for the company issuing the tokens. Nevertheless, unlike shares, each token is unique and thus the tax treatment for each ICO may vary, even within the same jurisdiction. For example, even if the issue of tokens via an ICO is considered as a capital transaction, it may be the case that the company is considered as disposing of one of its existing assets (i.e. the token that it created). Under this scenario, the company may be taxed under either corporation tax or capital gains tax on the full proceeds derived from the ‘disposal’ of the tokens, as its base cost would be zero.
On the other hand, there may be cases where some jurisdictions will decide to adopt a different position and deem that the issue of tokens via ICOs is considered a trading transaction, especially if the company is issuing tokens regularly (i.e. it may be seen as a pure trading activity similar to the trading of traditional currencies). In this case, the proceeds derived from the issue of tokens will be considered as regular trading income and may be taxed under corporation tax. Needless to say, under this scenario, the value added tax (“VAT”) treatment of such a transaction also needs to be considered.
In addition to the above, another important factor to consider would be the tax implications for the investors and particularly their tax exposure for the return that they will receive form the tokens that they hold (or dispose).
To date, Cyprus does not have any specific tax legislation or tax regime relating to the taxation of crypto-currency transactions but it would be interesting to see whether the increasing use of ICO’s for funding will create the need for one in the future.
Author: Savvas M. Klitou - Assistant Manager - Tax Advisory Services & Regional Coordinator