It is evident that virtual currency or cryptocurrency (crypto) has become mainstream in 2021. As large financial institutions began to work with crypto, it has become a more accessible asset class, and New York State (NYS) and City (NYC) tax issues arise for traders and fund managers in NY. This legal update addresses possible considerations regarding NYC Unincorporated Business Tax (UBT) and NYS Personal Income Tax (PIT), namely whether transactions in crypto should qualify for the respective “self-trading” tax exemptions. It also discusses whether crypto should be subject to sales and use taxes in NYS and NYC.
The state tax treatment of Crypto, along with the structure of the UBT and PIT tax exemptions, guidance from NYS, and recent case law, supports the position that trading Crypto should qualify as a tax-exempt self-trading activity under the UBT and PIT, provided that it occurs not in connection with any other taxable business such as that of a trader. Similarly, the status of crypto as intangible property under NYS guidelines means that it should not be subject to sales and use taxes.
Partnerships, with the exception of traders who buy and sell “property” exclusively for their own account, are not subject to UBT tax due to a statutory provision commonly referred to as “self-trading exemption” if the company generates income from taxable activities, but at least 90% of his property still meets the exemption criteria; In this case, their operating income remains taxable, but their proprietary trading income is tax-free
A UBT taxpayer determines their net income by reference to Federal Gross Income and Deductions, which means the UBT may conform to the Internal Revenue Code and other securities, but it does not relate to Crypto. 4 The absence of Crypto on this list is given Not surprising of his relative childhood compared to NYC tax law, but poses problems for funds and traders who trade crypto. If it is not a “good” asset, it could both generate taxable income and break all or part of the proprietary trading exemption, potentially exposing funds and trading companies to taxable income on otherwise tax-exempt income. However, UBT regulations state that “property” includes real and personal property and includes, but is not limited to, a range of common financial assets.5 This definition structure would logically include crypto since it is personal property and a financial asset which serves an investment purpose when it is not held for sale by a dealer. It is precisely this type of asset that is intended to qualify for the self-trading exemption, and the “not limited to” language leaves the exception open for new types of assets such as crypto.
While NYC has not issued any clarifying guidance, the Internal Revenue Service (IRS) has stated that Crypto is “owned” for federal income tax purposes; This treatment should confirm the status of Crypto as a qualifying asset for UBT purposes as well. In 2014, the IRS issued Notice 2014-21, which contains several FAQs on the federal tax treatment of transactions in crypto. The IRS recognized that crypto could be used to pay for goods or services held for investment and traded digitally between users.6 In response to the first question raised in the notice – how virtual currency should be treated for federal income tax purposes – The IRS replied, “Virtual currency is treated as property” and “General tax policies for real estate transactions apply to virtual currency transactions.” 7 The IRS goes on to say in response 7 that “a taxpayer generally realizes capital gains or losses”. on the sale or exchange of virtual currency, which is a capital good in the hands of the taxpayer. ”8 This approach should flow through to the UBT. The UBT does not distinguish between capital gains and losses, but state treatment as property is fundamental to calculating the income or loss on the asset, which then determines the gross income and loss of the UBT. The UBT is therefore tied to the federal status of Crypto as property.
PIT exemption for non-residents
For PIT purposes, a resident is taxable on all income wherever he or she has earned it, and Crypto exemption status is less relevant – that is, residents are taxable on all of their crypto trading income and there are no exceptions. However, non-residents, including investors and partners in NYS managed funds, are only taxable on income received in NYS, either as business income or income specifically attributed to NYS, such as income from taxes. B. Salaries or profits from NYS real estate. In this regard, buying and selling real estate for your own account is not considered a trade or business.9 In addition, income from intangible assets will not be drawn to NYS unless the underlying asset is used in a trade or business conducted in NYS . 10 This means that most non-resident affiliates in NYS managed funds can claim that their shares of income from the funds are not from NYS because they are not from any trade or business of NYS and are not otherwise attributed to NYS.
Unlike its cousin UBT, the PIT does not define “property” or “intangible property”, nor does it provide an exclusive list of qualifying assets. This offers more flexibility than the UBT and has generally resulted in a partial self-trading exemption without the same restrictions as the UBT. Nonetheless, the PIT does not mention Crypto either and therefore leaves some ambiguity as to its status for alien exemption. Fortunately, however, NYS has adapted to the IRS approach through guidance issued by the NYS Department of Taxation and Finance (the Department). The ministry has stated that it will characterize crypto as “property” but will ensure its status as an asset that qualifies for self-trading exemption
The recent decision of the New York Tax Appeals Tribunal in the In re LePage12 case also supports this treatment. The Tribunal determined that for the purposes of the compulsory S corporation election of state under NY Tax Law Section 660 (i), “investment income” includes gains from the sale or exchange of real estate, including goodwill. The Tribunal argued that the Federal Treasury Regulations’ approach to goodwill as property should dictate its treatment for NYS personal income tax purposes based on the state’s federal compliance rule in NY Tax Law Section 607 (a). 13 The Tribunal’s Analysis at S-Corporation The Elective Context supports the application of the federal status of crypto as property to the NYS and NYC auto trading exemptions as well.
Sales Tax Considerations in NYS and NYC
Trading crypto or using crypto as a currency when buying or selling goods or services can also raise sales tax issues. Fortunately, the ministry has issued guidelines on the VAT treatment of transactions with Crypto. The ministry determined that the purchase of Crypto is not a sales taxable transaction because Crypto is intangible property.14 Therefore, buying and selling Crypto for investment purposes should not trigger sales tax obligations. However, if someone uses crypto as payment for taxable goods or services, the buyer owes sales tax on the market value of the crypto at the time of the transaction
Treating non-fungible tokens (NFTs) as qualifying property is likely to require more factual analysis. Unlike Crypto, which is fungible and works like a traditional currency, each NFT has a unique digital signature that represents a single object, e.g. B. a work of art, a video or even a tweet. While one unit of crypto can be traded for another unit or converted into dollars, this does not necessarily apply to two NFTs. This means that each type of crypto is its own specific kind of property, but an NFT is defined by the element it represents, which can be crypto or something else. Thus, in a different way than Crypto, the tax status of an NFT may depend on the circumstances of the purchase and sale and the nature of the particular NFT.
Similarly, the individual circumstances surrounding the purchase and sale of an NFT can affect whether the transaction remains exempt from sales tax as intangible property, as per the guidelines of the Department of Crypto. However, prior advice from the department in a somewhat related context can be helpful. In particular, the ministry has consistently stated that the sale of electronically transmitted or downloaded music recordings is not subject to sales tax as such transactions are intangible digital property and would therefore likely constitute intangible property not subject to sales tax as per the reasoning of the Ministry of Music Downloads.
Crypto raises a wide variety of state and local tax issues. Fortunately, the existing legal framework and guidelines in New York support treating crypto as an asset that can fit into the current exemptions.