Bitcoin - is it a Foreign Currency?

In this new position for 2021, the Tax Authority expressed its opinion on the status of Bitcoin as a "foreign currency":

"'Virtual currency' does not constitute a currency or foreign currency as defined in the Bank of Israel Law, 5755-1985. Accordingly, and for the avoidance of doubt, the difference between the consideration in the sale and the cost of the purchase will not be considered as linkage differences and / or exchange rate differences. "

Why is it important for the tax authority to make it clear that the difference between the proceeds from the sale of Bitcoin and the cost of its purchase will not be considered as exchange rate differences?
The reason is that section 9 (13) of the Income Tax Ordinance gives a tax exemption on those linkage differences.

The exemption is granted for the linkage differences received by an individual due to an asset, provided that all of the following have been met:

(1) the linkage differences are not partial linkage differences; For this purpose, "partial linkage differences" - as determined by the Minister of Finance with the approval of the Knesset Finance Committee;

(2) the individual did not claim a deduction for interest expenses or linkage differences due to the property;

(3) The linkage differences are not income under section 2 (1) and are not recorded in his ledgers or must be recorded as aforesaid.

The term "linkage differences" is defined in section 1 of the Income Tax Ordinance as follows:

"Any amount added to the debt or claim amount - due to linkage to the currency exchange rate, the consumer price index or another index, including exchange rate differences, but for tax exemption any amount added to the debt or claim amount due to linkage to the currency exchange rate or consumer price index, including exchange rate differentials";

Whereas the term "exchange rate differentials" is defined in section 1 of the Ordinance as follows:

"Amount added due to a change in the exchange rate to the Mileva Fund, which is a foreign currency deposit or which is a loan to be repaid in foreign currency";

It is clear that Bitcoin profits are not "exchange rate differences" since they are not a "deposit" or a "loan". The question is whether these gains are an "amount added to the debt or to the amount of a claim due to linkage to the exchange rate".

The ordinance does not define the terms "currency" and "foreign currency".

Section 1 of the Bank of Israel Law defines a "currency" - "as stated in section 1 of the New Shekel Currency Law, 5755-1985." Section 1 of the New Shekel Law stipulates that Israel's currency will be a "new shekel".

"Foreign currency" is defined in section 1 of the Bank of Israel Law as "banknotes or coins that are legal practice in a foreign country and are not legal practice in Israel."

As mentioned, in order for Bitcoin to be considered a foreign currency, two conditions are required:
1. It is required that the currency be of the "banknotes or coins" type, that is to say, that it have some physical-tangible expression.

2. It is required that the currency has been granted legal status in a country other than the State of Israel.

Condition 1: Bitcoin must have a physical expression
In Judgment p. 11503-05-16 Kopel v. Rehovot Assessing Officer, the appellant has just raised a claim against the Assessing Officer. The term banknotes or coins is an archaic term that is irrelevant to modern banking and the desire to reduce the use of cash as required by the Law for Reducing the Use of Cash, 2018.

According to the appellant, just as a tax exemption is given for exchange rate differentials on a foreign currency deposit at the bank, even though it is not a "bill and money" but a digital record, so an exemption should be granted for bitcoin profits. "That the banks create on their computers and not in the commitment of the central bank. Thus, the assessee's approach reflects an 'anachronistic position' detached from the modern financial reality in which the tangible amount of cash is irrelevant.

In this judgment it was determined that Bitcoin is nothing more than a digital record, and therefore has no such physical-tangible expression.

In this judgment, in our view, appellant's claims lacked one central and clear claim: Bitcoin can be transferred to dedicated physical devices such as Trezor and Ledger, which are capable of storing virtual currencies.

These devices also have a clear physical expression and can be stored in a safe.

In addition, these devices themselves can be physically sold for a sum of money, just like banknotes.

It is also possible to "print" a "bitcoin note" - to print on paper the code which is called a "private key" which in fact functions as a note for all intents and purposes.

At the same weight, physical physical coins of Bitcoin that were worth a fixed amount have always been sold - and are still being sold today, just like regular coins. The technical method is to print for each coin a note with the same "private key" of a fixed nominal bitcoin amount, and lock that note inside the physical coin (see for example issued coins called Denarium).

Hence Bitcoin also has physical expression as well.

The traditional banknote was born physical, before the banking system made it electronic through a series of numbers in our digital bank account, while Bitcoin was born electronic, and only then did its physical expression appear in the form of a Trezor or Ledger device, using a "private key" banknote and denarium coins.

Just as a person withdraws money from an ATM only when he needs cash, so a person can "pull" Bitcoin into a Trezor device or into a "private key" if he wants to.

A Trezor device or a Ledger device actually functions as a "smart note":

• The traditional note is made of paper and has a fixed face value ($ 20, $ 50, $ 100, etc.), while the face value included in a Trezor device can be $ 0, up to billions of dollars and even more.
• The traditional banknote may be torn but can be washed in the washing machine, while the tracing device can not be torn but can not be washed in the washing machine.
• A traditional bill can be stolen and lost, while a Trezor device can be stolen but is password protected, and as long as it is not hacked the amount contained in it can be rehabilitated.
• Just as a person can manage his entire life within the banking system without using a single banknote at all (paying by credit card for coffee, cigarettes, fuel, haircut, shopping at the supermarket, etc.), so too can a person manage all his transactions in Bitcoin Without using a Trezor device. Conversely, just as a person can manage his entire life in cash without using the banking system, so a person can receive money in Bitcoin solely using a Trezor device, without the need for an Internet connection, and without the need for a transaction interface such as a computer or mobile phone. Also required to pay in Bitcoin from the Trezor device)

Although when a person withdraws his money from the bank and no longer runs a bank account, there is no longer any record of the amount of cash in his possession, whereas when a person "pulls" all his bitcoin into a Trezor device there is still record in the digital record (known as "blockchain"). , But this difference is insignificant for the sake of definition, since the definition does not refer to the method of recording or documenting the money available to the person, but only his physical expression - which in this case can certainly exist on a dedicated device such as Trezor or Ledger.

Therefore, in our opinion, despite the ruling of the District Court in the Kopel case, Bitcoin does meet the conditions of "physical expression".

Condition 2: Bitcoin must have legal status in a foreign country
Another condition that exists in the definition of "foreign currency" in the Bank of Israel Law is that the currency, ie the banknotes or coins, be "legal tender" in a foreign country.

In the 'Koppel' ruling given in 2019, indeed Bitcoin was not legal in any country, but in 2021 the state of El Salvador officially adopted Bitcoin as legal.

Therefore, Bitcoin does meet the conditions of "legal action".

Hence, in our opinion, solely from the linguistic aspect of the legal definition of "foreign currency", Bitcoin does meet its conditions, and its status is a failure of "foreign currency" for all intents and purposes.

As stated our interpretation is our opinion only, it should not be relied upon from this article, it is inconsistent with the official position of the Tax Authority, and it has never been examined in the courts.

It should also be noted that our opinion applies only to Bitcoin and not to other virtual currencies, such as Ethereum, Lightcoin, Dogecoin, Shiba Inu, EOS, NEO, QTUM, Tezos, OmiseGo and many others, as well as stable currencies ( Stable Coins) such as USDT, USDB, etc., whose status has not been legally regulated in any country, and therefore cannot be considered a legal tender.

In addition, it should be noted that this article is relevant only to the issue of taxes, and not to the issue of money laundering, or a law to reduce the use of cash, according to which other interpretations can apply to virtual currencies.

This article was not written with the intention of providing legal or tax advice and should not be relied upon when preparing tax returns for the IRS; In order to present this position to the tax authority, a professional opinion document signed by us must be obtained, backed by the tax advisor or accountant, who is familiar with the field faucets of virtual currencies.