Taxation of cryptocurrencies in Luxembourg
Vincent Martin of Deloitte Luxembourg details Luxembourg’s digital asset environment, as the country strives for a cryptocurrency-friendly tax landscape.
The digital assets market has grown impressively over the past few years and Luxembourg, as a central player in the development of this asset class, has witnessed the emergence of several forms of new digital assets.
To establish Luxembourg as a hub for cryptocurrency and blockchain technology, the country’s government has taken a proactive approach to the development and use of these technologies. The government has implemented measures to encourage innovation, investment and initiatives to promote the development of blockchain technology.
In response, cryptocurrency exchanges and blockchain companies have set up operations in Luxembourg, attracted by the country's pro-blockchain stance and the presence of a large financial services industry.
In November 2021, the Commission de Surveillance du Secteur Financiers published an FAQ on digital assets (updated in March 2022) that outlines the conditions under which Undertaking for Collective Investment in Transferable Securities (UCITS) and Alternative Investment Funds (AIFs) may invest in digital assets. In a nutshell, UCITS and other regulated funds targeting non-professional customers and pension funds are not permitted to invest directly or indirectly in digital assets, while AIFs may do so.
In addition, the Second Blockchain Law on dematerialised securities allows both foreign and domestic companies to issue dematerialised securities (including bonds and other debt securities) using distributed ledger technology (DLT), and to convert other forms of securities into DLT-dematerialised securities.
The Luxembourg tax authorities clarified the direct tax framework applicable to virtual currencies via a circular issued on 26 July 2018. The tax treatment applicable to taxable events related to virtual currencies will depend mainly on the nature of the transaction and the tax status of the taxpayer. In the context of a virtual currency taxation assessment, general Luxembourg tax rules apply, with the economic reality of the transaction prevailing. Accordingly, a review of the accounting treatment of virtual currencies should highlight the relevant tax effects of such transactions.
The 2018 circular outlines that virtual currencies (such as Bitcoin) are not considered currencies because they are not legal tender. Accordingly, for Luxembourg direct tax purposes, assets and liabilities (as well as income and expenses) that are denominated in a virtual currency should be reported in Euros or in a currency for which the European Central Bank prepares and publishes an exchange rate against the Euro.
Because cryptocurrencies are characterised as intangible assets, Luxembourg companies are not allowed to prepare their financial statements or their tax returns in cryptocurrencies. However, given that most virtual currencies are listed as USD pairs (e.g., BTC/USD), a company holding cryptocurrencies should be able to use the USD as its accounting and tax functional currency to limit the foreign exchange impact. When a company uses a cryptocurrency, the tax rules follow the accounts. Price volatility, therefore, has a significant impact in determining taxable basis.
Since corporate taxpayers are conducting a commercial activity, the gains they realise upon the disposal of cryptocurrencies constitute commercial income. This is subject to Luxembourg corporate income tax (CIT) and municipal business tax (MBT) at an aggregated rate of 24.94% (for corporate taxpayers based in Luxembourg City). On the other hand, losses are fully deductible.
In addition, cryptocurrencies held by Luxembourg corporate taxpayers are subject to an annual net wealth tax at a rate of 0.5% on their fair market value (as at December 31 of the tax year).
For mining activities (linked to proof of work networks), the tokens received as compensation for securing the network should be fully taxable for CIT/MBT purposes as well. In principle, all operational and amortisation expenses related to the IT devices used should be fully deductible as long as they have been incurred by the company. The circular does not cover the treatment of income received for securing proof of stake networks. Nevertheless, it is expected that, for companies, such income would be taxed in the same way as mining operations.
Given the fully taxable nature of the income, interest limitation rules can apply. Indeed, if a company decides to use a debt instrument to finance the acquisition of cryptocurrencies, the deductibility of interest is subject to interest limitation rules (i.e., capped at the higher of 30% of EBITDA or €3 million). However, this should be analysed on a case-by-case basis.
The 2018 circular is a good starting point to provide taxpayers with visibility on the tax environment for cryptocurrencies. It should be updated further to adapt to a fast-growing sector, thereby ensuring Luxembourg remains a hospitable environment for digital assets.