Australian Taxation Office Clarifies CGT on DeFi and Crypto Wrapping

The Australian Taxation Office (ATO) has provided pivotal guidance on the capital gains tax (CGT) treatment concerning decentralized finance (DeFi) and the process of wrapping crypto tokens. This move is part of the ATO's ongoing efforts to clarify tax obligations in the evolving domain of digital assets and blockchain-based finance.

DeFi, a form of finance leveraging blockchain technology to operate without traditional financial intermediaries, predominantly runs on the Ethereum blockchain. In DeFi, capital gains can occur, and the ATO has highlighted several CGT events (A1, E2, C2, H2) that might be relevant, depending on the specific arrangement's nature.

A critical factor in determining CGT events is whether a trust relationship is established within the DeFi arrangement. This becomes significant in scenarios where the legal person holds the same type of asset for other beneficiaries, impacting the sole beneficiary status.

The ATO's guidance clarifies that many DeFi lending and borrowing arrangements could trigger a CGT event, primarily when beneficial ownership of a crypto asset changes. This can occur through either asset exchange or a future rights exchange.

In DeFi, liquidity pools are mechanisms for pooling crypto assets to facilitate lending and add liquidity to trading. Providers who contribute to these pools receive new assets or rights, representing their pool share. The ATO clarifies that depositing into and withdrawing from these pools can constitute CGT events, determined by the market value of the assets involved.

Rewards or returns from DeFi platforms are treated similarly to interest income for tax purposes. The market value of any crypto asset reward at the time of receipt must be reported as assessable income.

Wrapped tokens, representing another crypto asset, are subject to CGT upon wrapping or unwrapping. This is based on the market value of the wrapped token at the exchange time.

Following the ATO's clarification, there's been notable industry response. Chloe White from Genesis Block and Blockchain Australia criticized the ATO's stance for violating the principle of technological neutrality, potentially impacting the financial future of young Australians.

Adding to the complexities, CoinSpot, a local cryptocurrency exchange, reportedly experienced a security issue leading to a significant financial loss. This incident adds another layer of concern for Australian crypto users in the current regulatory landscape.