Income Taxation of Token Sales and Revenue Shares
From an income tax perspective, a token sale can be grouped into the following:
- Token represents revenue
- Token represents share capital
- Token represents a liability (including asset-backed stable coins)
(i) Token represents revenue: received funds qualify as taxable income.
In practice, most common type of tokens, with the tax treatment generally the same for native tokens, utility tokens, and asset tokens.
Received funds qualify as taxable income and are to be identified as income at the time of issuance on the income statement. A contractual obligation to implement a specific project justifies the recognition of a provision as an expense. Such obligations are to be documented in white papers, other contracts, and business plans. Undertakings no longer required are to be reversed to the income statement after the go-live phase.
Minimum taxation: where received funds from a token sale and funds expended on the project match exactly (received funds = expended funds), in which case a Swiss company would end up with no taxable profit, tax authorities have begun assessing a minimum taxation.
While there is no official guideline for such minimum taxation, the practice of Canton of Zug is to tax the company at 5% of its total annual costs.
- Example: if a company raises CHF 10 million and spends it equally over five (5) years, annual costs would be CHF 2 mil., and the taxable income, then, CHF 100,000 / year (5% of CHF 2 mil.). If the corporate income tax is at 12%, this would lead to annual tax of CHF 12,000 (or a total of CHF 60,000 over the project’s lifetime).
Payments to token holders:
- Generally: payments to token holders qualify as business expenses – thus, tax-deductible expenses, and not subject to Swiss withholding tax as long as beneficiaries can be proven at the time income is due.
- Exception: payments might be requalified and deemed dividends if either is not met:
- Issuer`s shareholders hold a max. of 50% of issued tokens at the time of respective due dates for income
- Defined profit-sharing ratio must result in payments to token holders not to exceed 50% of EBIT
- Withholding tax: if payments to token holders are requalified as dividends, they are non-tax deductible and subject to 35% withholding tax.
(ii) Token represents share capital: treated as a share from a tax perspective.
Where a token represents a share, it will be treated as a share from a tax perspective:
- Capital issuance exceeding CHF 1 million is subject to 1% Swiss issuance tax.
- Received funds do not constitute taxable income for the entity.
Revenue shares paid to token holders are treated as dividends – non-tax deductible and subject to 35% withholding tax.
(iii) Token represents liability: raised funds are not taxable income to extent of liability.
Most common forms of such tokens are bond tokens or asset-backed stable coins.
Since no formal legal criteria exist for what constitutes a liability, the legal relationship between the token holder and the entity needs to be assessed to determine if a token creates a liability for the entity.
To qualify, the liability must:
- (1) exist in the present (payment of future profits would not qualify), and
- (2) materialise with a certain probability (a liability to repay principal amount in case the project fails might not qualify unless the project is on the brink of failing).
Since Swiss tax treatments follows Swiss accounting treatment, requesting an accounting opinion on the existence of a liability under Swiss law would be well in place.
Where a token constitutes a liability:
- To the extent matched by the liability, raised funds from the token sale will not constitute taxable income.
- To the extent the funds raised exceed the liability, they constitute taxable revenue (e.g. issuance of asset-backed stable coin only 70% backed by assets).
Revenues paid on the tokens would likely qualify as bond interest subject to 35% withholding tax. Payments on such tokens should generally be tax deductible. Tax authorities, however, might deny deduction of excessive interest if the issuer cannot prove an arm`s length nature of the revenue, which might be quite difficult in practice due to lack of comparables.