Following the Ministry of Finance’s repeated announcements in recent years that it would publish the Israel Tax Authority’s official position with regard to taxation of virtual currencies (bitcoins and the like), the ITA recently published a draft circular in this regard (“the Draft”).

According to the Draft, the ITA’s position is that virtual currencies should be deemed “assets” and not as currency or foreign currency or even as financial instruments.

The effect of the ITA’s interpretation is that exchange-rate differentials on digital currencies accruing to individuals will be taxable (as a capital gain) when they redeem the digital currency, as opposed to exchange-rate differentials on foreign currency, which are tax-exempt for individuals.

Furthermore, the ITA’s position is that, when the nature of the transaction is a business nature and not a capital nature, the difference in the virtual currency exchange rate will be subject to tax as business income

The ITA further states that payments using virtual currencies will be subject to the same rules as any other asset, including with regard to withholding tax and reporting rules.

The Draft also addresses, inter alia, the issue of VAT on virtual currencies and states that it deems them to be goods and, that being the case, are subject to VAT just like in respect of any sale of other goods. The ITA’s position is that anyone who engages in mining of virtual currencies in a manner tantamount to a business should be deemed a dealer for the purposes of the VAT law, with all that this implies.

The significance of the Draft is that it imposes almost insurmountable restriction on the use of virtual currencies in Israel, due to the liabilities and costs involved in using them, as well as in light of the reporting obligations issued against the underlying use of bitcoins and similar virtual currencies.