15 March 2018

Virtual currencies – a risk-free chance to get rich?

Are you planning to invest in virtual currencies? Beware: according to EU regulatory bodies, trading in bitcoins and other similar units entails more risks than one would expect.

Iva Baranová
Pavel Martiník
Tomáš Prchal

Virtual currencies are a digital expression of value. Yet, they are not issued by any state and do not have a status of legal tender; hence, their acceptance by a counterparty is not guaranteed by anybody; neither are they linked to any commodity prices and their value is based solely on investor trust.

Perhaps the biggest surprise for potential investors may be that the exchange of or payment in virtual currencies is not regulated in any manner. Unlike standard means of payment, it is not possible to complain about a transaction or to approach the Czech National Bank if problems occur.

Significant price fluctuations, up to hundreds percent per day, are typical for virtual currencies. And extreme changes in value mean yet another thing: a complete absence of price transparency, i.e. the manner in which the value of the virtual currency is set. It may thus easily happen that the value of an investment may drop to its fragment within minutes, never to recover. And even when the value of a virtual currency is stable, it does not mean that all is good for the investor as there are no guarantees that the virtual currency will eventually be bought from them and its value converted to money.

When transacting in virtual currencies, technical problems may pose a serious challenge: no compensation is provided to virtual currency holders in the event of a technical breakdown, and the limited functionality may be permanent; if technical problems persist, investments may depreciate completely.

At present, virtual currencies are not specifically regulated by Czech accounting or tax legislation. It is thus impossible to say with certainty what the tax treatment of virtual currencies or their mutual exchange or the exchange to a conventional currency will be. The only official information available in this respect is the General Financial Directorate’s statement in the mass media to the effect that the financial administration considers virtual currencies intangible, movable and substitutable items. According to the financial administration, virtual currencies are not to be viewed as classic currencies, which is in line with the Czech National Bank’s statement. The income generated from the sale of virtual currencies may be subject to personal income tax either as income from business, if generated as part of independent gainful activity (or if a part of business assets), or as other income. Expenses to be deducted from such income are governed by the general regulations of the Income Tax Act.

Despite the above described risks, virtual currencies are becoming increasingly popular. It will be interesting to see how the regulation in the area develops. So far, the European Union has focused solely on the prevention of money laundering, leaving aside the regulation of exchange offices for virtual currencies. A harbinger from overseas is the U.S. SEC (Securities and Exchange Commission) standpoint that virtual currencies should be viewed as investment instruments.

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