As is common knowledge, the Taxes Authority has expressed its opinion regarding cryptographic currencies such as Bitcoin (which we will be relating to as a representative example in this article), pursuant to which it is an “asset”, and accordingly, a sale type transaction, including a conversion between currencies, may generate a capital gain, which is chargeable to taxation in Israel (or a capital loss, which can be offset in the appropriate circumstances).

One of the questions that arises in this regard relates to the place where the capital gain on the sale of the virtual currency is generated. One of the central implications that derive from a decision on this issue relates primarily to someone who is classified as a new immigrant or a returning veteran resident (“A beneficiary individual“).

So, insofar as the issue is with a capital gain deriving from an asset that is located outside of Israel, so this is a capital gain that is exempt from tax in the benefits period that applies for that beneficiary individual (and on the other hand, a capital loss will not be recognized for tax purposes).

So where is the bitcoin?

A bitcoin is not a tangible asset, but rather it constitutes a digital right with an economic value for its holder, where this right is highly marketable, although not on a regulated market but rather on various trading platforms. This right is embodied in agreement of the “community (a decentralized worldwide computer network, which enables a chain of transactions in the currency), pursuant to which a particular quantity of coins, which are the subject of a transaction are attributed to a particular public address. Whoever has the private key to that public address (in effect a sophisticated password), has, in effect, the economic ownership of those coins.

Is it possible to attribute the properties of a security to a bitcoin in this connection?

Even though a bitcoin does constitute an “asset”, as we have stated above, it does not constitute a security.

If we compare a bitcoin to a security (a share or a bond, for example), we will find that there is not really any room for a comparison. Whereas the place where a capital gain on a share or a bond is generated is the country of residence of the company whose shares are being sold or which has issued the bond, whereas when we look at a bitcoin, there is no central factor to which the economic right can be attributed and accordingly it does not have a geographical location.

An additional aspect in connection with a comparison to a security, is the exemption that a regular returning resident (other than a veteran resident) is entitled to on the sale of “beneficiary securities” (a securities portfolio), in a manner that enables the exchanging of securities within the portfolio without impairing the exemption that is provided in relation to a dividend, interest and a capital gain from those securities.

Prima facie, the alleviating provision that is mentioned above will not apply and accordingly the conversion of a bitcoin that has been purchased by a foreign resident when they were a foreign resident into a different sort of currency after their return, may not be exempt from tax on the sale of the exchange currency in the future since this is already an asset that has been purchased after their return to Israel.

We would mention that despite the aforesaid, there are still other ways to protect and to maintain the exemption for the returning resident, who holds digital currencies, even if they are exchanged.

An interesting question in this connection is what the law is regarding a situation in which it is determined by a regulatory authority (the Securities Authority in Israel or abroad) that a particular currency, which has been issued by a company constitutes a security type currency (Security Token). In this case will the abovementioned provisions apply as they apply to “regular” type securities? This is something that needs to be pondered.

Additional possibilities for determining the location of the asset

A claim that could be brought up in this connection is that the place where the key for the item is located when the transaction is executed constitutes an indication for the asset’s location.

This claim is not without problems, since the key for an item is nothing other in practical terms than a password, which enables access to that public address, and as such, neither does it have a geographical location. The fact that an individual can use the same key when he is staying in a particular location does not indicate the physical location of the private key, even if it is stored on physical hardware (which is called a “cold wallet”), which is located in the place where the seller is located.

In addition, transactions in digital currencies are generally executed through a trading platform (exchange), and in the overwhelming number of cases, they are not located in Israel. In such a situation, a customer of that platform merely inputs orders (just like an individual who inputs orders for the sale and purchase of shares), however the platform is what makes use of its private keys in order to execute those orders.

An additional indication for the question of the location of the digital currency, may be the location in which the legal rights that are inherent in that economic right are anchored, for example – the ability to sue for ownership of the currency. This indication may be decisive in relation to the location of a patent, for example. However, since there is no person or legal body that can grant validity to the ownership of a bitcoin, but rather it is with the agreement of a decentralized computer network, as mentioned above, which not subject to any regulatory body, so this parameter too does not help us to examine the question.

If we refer to the spheres of the economic location of the intellectual property (IP), inter alia, in light of the BEPS (Base Erosion & Profit Shifting) provisions, so the location of the development of that IP (and in effect the location where the significant decision regarding development are made) may determine the location of the asset for tax purposes, even if the property ownership in it is different. And again, even in this case it is not possible to attribute the location of the asset to Israel, since apparently, the code that bitcoin launched was not developed in Israel (we are talking about a person/ body whose pseudonym is Satoshi Nakamoto), and even the mining activity, which gives birth to a fixed number of bitcoin tokens every fixed number of minutes is also performed across the globe, as mentioned above.

In light of all of the aforesaid, it would seem that a bitcoin and other similar assets should be viewed as assets that are located outside of Israel (even in the absence of the ability to identify a specific country in which they are located), and accordingly, a capital gain on their sale by a beneficiary individual will be seen as a tax-exempt capital gain during the benefits period.

This interpretation fits, of course, with the main objective of the New Immigrants Law – the encouragement of immigration and the return to Israel by imposing taxation in Israel, which is similar to the tax applies in relation to foreign residents.