¿Te worried about how to tax rewards from DeFi liquidity pools? Many UK taxpayers treat liquidity mining as either income or capital without evidence. This guide explains HMRC's stance and gives step-by-step calculations, record templates and reporting rules for Liquidity Mining Tax.
Get precise rules on when rewards are taxable as income, when disposals trigger capital gains, and what records HMRC expects if an audit occurs.
Key takeaways: what to know in one minute
- HMRC treats liquidity mining rewards case by case — they can be income or subject to Capital Gains Tax (CGT) depending on activity and intent.
- Receiving reward tokens is usually a taxable event: value on receipt forms the taxable basis, either as income or as acquisition cost for CGT.
- Providing and removing liquidity are separate events: adding liquidity may create pool tokens; withdrawing can trigger disposals and gains/losses.
- Accurate records are essential: timestamps, token amounts, pair composition, exchange rates and transaction hashes must be retained.
- Report via Self Assessment: use the UK Self Assessment income section for trading-like activities and the Capital Gains summary for disposals.
HMRC's stance explained for liquidity mining tax in the UK
HMRC assesses crypto activity by facts and circumstances. The key documents are HMRC's Cryptoassets Manual and the published policy paper on cryptoassets tax treatment. For primary references see Tax on cryptoassets (HMRC) and the internal manual at HMRC Cryptoassets Manual.
HMRC does not apply a single rule to all liquidity mining. The determining factors include:
- whether the activity is an organised trade or a hobby;
- whether rewards are received as regular returns akin to interest/fees;
- the nature of the token received (governance, reward, native LP token);
- whether tokens are immediately disposed of or retained.
If the activity resembles a business (frequent, systematic, profit-seeking), rewards may be assessable as trading income subject to Income Tax and National Insurance. If rewards are incidental and the provider is an investor, disposal of assets derived from liquidity provision will more commonly fall under CGT.
How HMRC classifies liquidity mining rewards: income or capital?
Classification requires mapping each taxable event to HMRC categories. Common events are:
- receipt of reward tokens (incentive tokens, fees);
- issuance of pool (LP) tokens when providing liquidity;
- disposal of LP tokens or underlying assets when withdrawing liquidity;
- swaps and automatic compounding inside vaults.
Principles to decide classification:
- If the reward is received for carrying out an activity that is trade-like (regular, organised, marketed), treat as trading income. Use HMRC's trading tests: frequency, commerciality, scale and intention to make a profit.
- If the reward is incidental to holding an investment, treat the receipt as not income but the disposal of tokens later may give rise to capital gain or loss measured from the acquisition cost.
- Where tokens are received as a reward for staking/providing liquidity and represent earnings (fees from pool), they can be taxed as miscellaneous income at the market value on receipt.
Examples (short):
- Daily fees credited in ETH to a professional market-maker: likely income.
- One-off token airdrop as a long-term incentive to a passive LP: likely capital when sold, but value on receipt may still be taxed if HMRC considers it income.
Reporting liquidity mining on your UK self-assessment
Where to report depends on classification:
- Income Tax (Self Assessment, pages for 'other income' or 'self-employment'): use the self-employment or other UK income pages if acting as a trader. For miscellaneous crypto earnings, use 'Other taxable income'.
- Capital Gains Tax (SA108): report disposals, including disposals when withdrawing liquidity or selling reward tokens; calculate gain using acquisition cost and disposal proceeds.
Practical reporting steps:
- Determine whether activity is trading — if yes, file profit/loss in the self-employment section and include crypto receipts and allowable deductions.
- If not trading, aggregate all disposals for the tax year and complete the SA108 for CGT. Use the acquisition cost for each token (often the market value when received or when bought).
- Convert values to GBP using an objective exchange rate at the time of each event (e.g. CoinMarketCap hourly or exchange spot price). Record source.
- Claim allowable costs (transaction fees, gas costs attributable to acquiring/disposing tokens) — keep invoices.
Useful HMRC links for practical guidance: Self Assessment (HMRC) and Guidance: tax on cryptoassets.
Calculating gains and allowable losses from liquidity mining
Calculations split into stages: valuation on receipt, calculation of acquisition cost, and disposal proceeds. The following formulas and worked examples cover typical scenarios.
Core formulas:
- Value on receipt (GBP) = Token amount × market price (GBP) at timestamp of receipt.
- Acquisition cost for CGT = value on receipt (if tokens received as reward) + attributable fees.
- Gain on disposal = disposal proceeds (GBP) − allowable base cost (GBP) − allowable costs.
Special cases to consider:
- Impermanent loss: when providing two assets, the combined value upon withdrawal may be less than the sum of standalone holdings. HMRC treats the disposal of LP tokens or underlying assets as a disposal for CGT purposes. The loss realized on withdrawal is a capital loss; it must be calculated at GBP values at each event.
- Auto-compounding: if rewards are auto-reinvested into the pool, HMRC treats each reinvestment as a new acquisition at the market value of tokens used.
- Governance or incentive tokens: when received, record the GBP market value at receipt; disposal later triggers CGT with that acquisition cost.
Worked example — symmetric pool with reward token received:
- Day 1: Provide £10,000 worth (5 ETH at £1,000) + 5,000 DAI. Receive 100 LP tokens.
- Day 90: Receive 50 REWARD tokens over time; market value at receipt averaging £4 each. Taxable on receipt: 50 × £4 = £200. If activity is non-trading, this £200 is the acquisition cost for those reward tokens; if considered income, include £200 in taxable income when received.
- Day 120: Withdraw liquidity. Underlying assets converted to 4.5 ETH (price now £1,100) + 5,500 DAI; combined GBP value = (4.5 × £1,100) + £5,500 = £10,450. Compare to original combined GBP cost allocated to these assets. If disposal treated as capital disposal, compute gain/loss on the LP position.
Table: simplified comparative outcomes for common events
| Event |
Likely tax treatment |
Reporting location |
| Regular fees credited as ETH |
Income (trading or miscellaneous) |
Self Assessment income / self-employment |
| Single incentive token airdrop |
Often CGT on disposal; may be income if reward for services |
SA108 (CGT) or Self Assessment income |
| Withdraw liquidity (burn LP tokens) |
CGT: disposal of LP or underlying assets |
SA108 |
Record-keeping for UK liquidity mining: evidence and receipts
HMRC expects verifiable records. Minimum records to keep for each event:
- transaction hash and blockchain explorer link;
- date and time (UTC) of event;
- token type and amount (both sides in a pair, if applicable);
- GBP value and the source of the exchange rate (exchange and timestamp);
- gas fees and platform fees (GBP) with supporting invoices/screenshots;
- a short note describing the event (e.g. "LP deposit on Uniswap V2 pair ETH/DAI — earned REWARD").
Recommended file formats and organisation:
- CSV export of wallet and exchange transactions with columns: timestamp, tx_hash, token_in, token_out, amount_in, amount_out, fee_gas_gbp, value_gbp, note.
- Store snapshots of pool state (reserves) if impermanent loss needs proving.
- Keep smart contract addresses and documentation showing how rewards were calculated by protocol.
If HMRC opens an enquiry, the presence of consistent, timestamped blockchain records and independent GBP valuations reduces compliance risk significantly.
Tax planning and compliance risks for liquidity mining
Practical risk management focuses on classification certainty, correct valuations and robust records. Key risks and mitigations:
- Risk: Misclassifying trading income as capital gains (or vice versa). Mitigation: Apply HMRC trading tests; where unsure, disclose position clearly in Self Assessment and consider professional opinion.
- Risk: Under-reporting rewards received in small increments. Mitigation: Aggregate micro-payments and report the sum; use software to reconcile many on-chain events into tax events.
- Risk: Incorrect GBP valuations or missing timestamps. Mitigation: Use a reliable third-party price source and save screenshots or API responses; keep a consistent method.
Tax planning ideas (prudently and within law):
- Separate wallets for active liquidity provision and long-term holdings — easier to demonstrate intent and activity patterns.
- Harvest losses by realising capital losses where appropriate to offset gains in the same tax year, remembering the bed-and-breakfast rules and the 30-day rule (rules differ for crypto due to same-day pooling rules; seek specific advice).
- Use professional tax software compatible with DeFi (many tools now import DeFi transactions and map on-chain events to taxable events).
When to consider professional advice and audit likelihood
Seek a specialist if:
- the annual number of transactions exceeds several hundred;
- there are cross-chain swaps, wrapped tokens or contract-level complexity (e.g. LP mint/burn loops);
- HMRC contact is received regarding prior years.
HMRC interest in crypto has increased; robust records and early voluntary disclosure where errors occurred can reduce penalties.
Quick flow: how a liquidity mining event becomes a tax event
🧩 Step 1 → Provide liquidity and receive LP tokens or reward tokens
🔁 Step 2 → Rewards are credited (record GBP value at receipt)
🔥 Step 3 → Withdraw liquidity (disposal) — calculate proceeds and acquisition cost
⚖️ Step 4 → Allocate tax treatment: income vs capital
✅ Result → Report on Self Assessment (income or SA108) and retain proof
Advantages, risks and common mistakes
✅ Benefits / when liquidity mining tax treatment is straightforward
- When rewards are occasional and documentation shows no trading intent, CGT treatment on disposal is usually clearer.
- Clear, timestamped records and single-source valuations make reporting straightforward.
- Using specialist tax tools reduces manual error and shows an audit trail.
⚠️ Errors to avoid / compliance risks
- Failing to value tokens at the timestamp of receipt.
- Treating all DeFi rewards as tax-free 'airdrops' — HMRC often treats many as taxable.
- Mixing personal and business wallets, which makes intent harder to demonstrate.
Questions frequently asked about liquidity mining tax
What records does HMRC want for liquidity mining?
Keep transaction hashes, timestamps, GBP valuations with sources, gas fees, contract addresses and notes on the event type. These form the minimum evidence set.
Are LP tokens taxed when received?
LP tokens themselves may not be taxed on receipt if they represent pooled assets; however, rewards credited to a provider are usually taxable when received and disposals of LP or underlying assets trigger CGT.
Is impermanent loss an allowable capital loss?
Yes — when withdrawing liquidity results in a loss compared with the cost of holding the underlying tokens, that realised loss can be a capital loss if the withdrawal is treated as a disposal.
How to value tokens for tax purposes?
Use a reputable exchange spot price at the exact UTC timestamp of the event and record the source. Consistency is key.
Do small rewards need to be reported?
All taxable receipts must be reported, even small ones; aggregation is acceptable but documentation must support totals.
Can trading allowances cover liquidity mining income?
The trading allowance (£1,000 for miscellaneous income) might apply for small, incidental income. If total miscellaneous income from crypto is below the allowance and no other trading income claim is made, it may be tax-free. Documentation still required.
Your next step:
- Export transaction history and build a CSV with timestamp, tx_hash, token, amount, GBP_value, fee_gbp and a short note.
- Decide classification for each activity (income vs capital) and flag borderline items for professional review.
- Complete Self Assessment or SA108 with totals, keep the supporting calculation file and store raw blockchain evidence for at least 6 years.