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A closer look at VAT and not-quite-fungible tokens

Sponsored by

Lobo Vasques
Virtual tokens have been created with a wide variety of functions

Sérgio Vasques of Lobo Vasques explains why the absence of a clear tax framework for crypto-assets fuels operator risk, market volatility and unfair tax competition between member states.

First there was cryptocurrency

The emergence of crypto-assets has brought with it a set of problems that are at once thorny and fascinating regarding the application of taxes on income and consumption. Among other problems, we have been forced to discuss how to qualify operations involving crypto assets, how to quantify these operations, how to treat operators and platforms and how to report the information necessary to apply tax law.

The 2015 CJEU ruling on Hedqvist and the working papers put out by the European Commission between 2014 and 2016 sought to answer the most pressing questions concerning VAT, at a time when the crypto market was still in its infancy. 

In the Hedqvist ruling, the CJEU carried out a skillful reading of the VAT Directive and concluded that the exchange of cryptocurrencies for fiat currency constitutes a supply of services that must benefit from the same exemption provided for the exchange of traditional legal tender currencies. 

In its working papers, the European Commission examined the possible treatment of other services associated with the cryptocurrency market and sought to identify possible solutions to apply VAT to currency miners, wallet providers and exchange platforms. In essence, these services were considered non-taxable or exempt supplies.

The intervention by the CJEU and the European Commission succeeded in giving member states some breathing space and brought greater clarity to the market. As regards the application of VAT, the reading of the CJEU and the European Commission was incorporated by many EU member states into their administrative practice. The VAT treatment given to these operations also allowed member states to better define how national income taxes should be applied, a much complex problem in and of itself.

In any event, this intervention was limited in scope. The CJEU's ruling referred solely to services directly linked to the exchange of crypto currencies for legal tender. The European Commission's analysis, for its part, was only of an exploratory nature and was not translated into VAT Committee guidelines, which shows the relative uncertainty with which member states still viewed the problem. Moreover, the intervention of the CJEU and the European Commission took place at a time when the market was still in its infancy and therefore concerned only crypto currencies, overlooking different classes of crypto assets that have since developed.

Then there were non-fungible tokens

In recent years, virtual tokens have been created with a wide variety of functions. 

Utility tokens are used to facilitate the exchange or access to specific goods and services and are used by companies to fund or raise interest in their projects, namely in the context of an ITO. Security tokens represent an ownership stake in an asset, typically a company or a credit relationship, and give its holders a share of the expected resulting income. Non-fungible tokens (NFTs) are tokens which have distinctive identification codes and metadata and can represent ownership of unique items such as works of art, digital collectibles, or media.

Semi-fungible tokens (SFTs) are both fungible and non-fungible at different points in their lifecycle, as a sort of a voucher with a given face-value which can initially be traded like-for-like but becomes non-fungible once redeemed for a given product, such as in-game items.

The importance of new classes of crypto assets has grown immensely in recent times. NFTs opened entirely new possibilities for creators to generate value through the tokenisation of their work, often dispensing with intermediaries in the relationship with their buying public. 

The emergence of NFTs and the creation of platforms specifically geared towards their trading generated a speculative bubble that has not yet fully deflated. In the first half of 2021 alone, the NFT market reached $2.5 billion, where it did not even exceed $13 million the year before.

The VAT treatment of these classes of assets raises major problems requiring a quick solution. The framework for cryptocurrencies clearly cannot be fully applied here, given the peculiar characteristics that distinguish these assets. 

Utility tokens resemble vouchers in that they can be redeemed for goods and services within a limited network, but redemption is not their only purpose and information on the goods and services supplied or the supplier’s identity may be lacking. NFTs and SFTs, on the other hand, are neither (fully) fungible, nor do they serve (mainly) as a means of payment, contrary to the crypto currencies addressed in the Hedqvist ruling. In short, not only are these classes assets different, but they are in many cases of a hybrid and impermanent nature, which only adds to their complexity. 

Therefore, it may be necessary for the European Commission and the VAT Committee to revisit the issue and go beyond the world of Bitcoin. The EU Markets in Crypto Assets (MICA) Regulation, the coming EU DAC8 proposal and the ongoing work at the OECD may provide some guidance. It is desirable that there is good coordination between these instruments and a reliable set of concepts which may also serve the application of VAT. 

The absence of a clear tax framework fuels operator risk, market volatility and unfair tax competition between member states. Markets of this size cannot operate for long without secure tax rules. Not with good results anyway.


Sérgio Vasques

Founding partner, Lobo Vasques



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