UK Tax Regulator Updates Guidance on Staking and DeFi Lending

Her Majesty’s Revenue and Customs (HMRC), the U.K.’s tax agency, has updated its guidance on the taxation of returns from decentralized finance (DeFi) lending and staking in proof-of-stake networks.

According to the new guidance, published Wednesday, how a return from lending or staking is taxed depends on whether it is considered capital or revenue. But deciding if a return is capital or revenue is complicated, as the HMRC itself admits.

“The lending/staking of tokens through decentralized finance (DeFi) is a constantly evolving area, so it is not possible to set out all the circumstances in which a lender/liquidity provider earns a return from their activities and the nature of that return. Instead, some guiding principles are set out,” the update said.

The HMRC first published guidance on how returns from staking are taxed in March 2021. According to last year’s guidance, the taxation of staking activity depended on whether the activity amounted to a “taxable trade,” the wording almost identical to the rules laid out for taxing crypto mining.

In a statement published across multiple social media platforms, the digital assets trade association CryptoUK said the new guidance significantly alters the classification and treatment of DeFi lending and staking for tax purposes in the U.K.

According to the new guidance, the return may be treated as revenue or capital based on a number of factors that include whether the amount of the return was known at the time the agreement was made; whether the return is paid periodically or upon repayment of the principal; and whether the period of the lending is short term or long term.

Another factor is how the return is realized: If it is realized through the disposal of a capital asset, it would indicate a capital receipt.

CryptoUK interprets this to mean that when a token is lent or staked into a platform or protocol, it may be classified as a disposal by the HMRC for tax purposes “at the moment the token leaves the user's wallet.”

“This means that the transaction will be subject to Capital Gains Tax reporting at that moment, even though control still lies with [users], and they expect that the asset is still theirs and will be returned at a point in the future,” the CryptoUK statement said.

The new guidance lays out some examples of how users could decide the nature of their return from lending or staking. For instance, if the return amount, say 5% per annum, was already agreed to, it would most likely be a revenue receipt. If the proceeds are “unknown and speculative,” it’s probably a capital receipt.

According to Ian Taylor, executive director of CryptoUK, the new rules add “undue reporting requirements for the consumer, and creates tax compliance confusion.”

The HMRC update states there may be additional factors that determine the nature of the return, which “highlights the need to obtain all the facts of a transaction before reaching a conclusion as to the nature of the return.”

If crypto investors have any difficulty determining the nature of the return, the HMRC asks them to refer the case for advice following general guidance.