Decrypting what we know about the legitimacy of cryptocurrencies so far

When Finance Minister Nirmala Sitharaman first announced during her Budget speech that a 30 per cent tax will be levied upon “income from transfer of virtual digital assets”—including cryptocurrencies and NFTs—along with a one per cent TDS on all such transactions from April onwards, potential investors as well as big players in the Indian crypto exchange market rejoiced and breathed a sigh of relief. For them, this move on behalf of the government of India was a sign of lending legitimacy to globally popular cryptocurrencies such as Ethereum and Bitcoin.

However, as the initial excitement—as well as disappointment at the high tax rate—began to dissipate, it seems like there remains more than a few blanks left to fill in. Stakeholders say that the next few weeks will be crucial in determining the future of cryptocurrencies in the country, as well as establishing the central government’s stance on virtual digital assets.

“Income” from virtual digital assets means that if a person invests ₹1,000 in a cryptocurrency such as Bitcoin, and makes a profit of ₹500 on it, he/she is liable to pay 30 per cent tax on this profit or “income” i.e. ₹150, once they convert the cryptocurrency back to INR. However, if the initial ₹1,000 investment drops to ₹500, then the person cannot use this loss as a deductible to offset against any other income taxable income (as is the norm with stocks).

Despite all the confusion and chaos post-Sitharaman’s Budget speech—and even though the official Crypto Bill defining the legality of cryptocurrencies in India hasn’t been officially released yet—here’s what we know for sure so far: If you gift a cryptocurrency to another person, the receiver will have to pay a whopping 30 per cent tax on it (April onwards). A one percent TDS is applicable on all transactions involving virtual digital assets. A 30 per cent tax will be levied on any sort of income or profit made from these virtual digital assets.

The government also announced its decision to launch its very own blockchain technology-based “digital rupee” next year, which will be regulated by the Reserve Bank of India (RBI). This will not be subjected to the 30 per cent proposed tax norm.

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In spite of all these seemingly positive announcements that seem to have boosted investor sentiment and prompted crypto enthusiasts to jump the gun and invest in the market, it must be made clear that private cryptocurrencies and NFTs, broadly referred to as “virtual digital assets” by the FM during her Budget speech, are not yet what we could call “entirely legal.” At the same time, this “special asset class” is not illegal either.

According to Sitharaman’s post-Budget press conference, “A currency is a currency only when it is issued by the central bank, even if it is crypto.” She stated that anything outside of this understanding can be loosely termed as cryptocurrencies—and not currencies. “Everything that prevails outside of it (the to-be-issued digital rupee by RBI), in the name of digital whatever, are assets being created by individuals. And, if profits are being made in transacting those assets, we are taxing that profit at 30 per cent.

The optics of the situation are such that it seems like the government wants to discourage investments in cryptocurrencies by taxing them at 30 per cent—which is higher than the tax paid on the profit earned from stocks or mutual funds. At the same time, it doesn’t want to miss out on any sort of taxable revenue. Experts believe that levying a tax on cryptocurrencies and NFTs moves these virtual assets far away from the “banned” category and has made popular the hypothesis that if the central government had any intentions of banning cryptocurrencies, it wouldn’t have taxed the virtual asset in the first place.

However, in an interview with Economic Times, Revenue secretary Tarun Bajaj said on Thursday that just because the government has decided to implement a 30 percent tax, it doesn’t necessarily confer legitimacy on such products. At the same time, Bajaj made it clear that dealing and trading in this “special asset class” is not an illegal activity. “If it had been illegal, we would have nabbed those dealing in it. Regulated, unregulated, or whether we want to ban it, that is not Revenue’s concern. We want our due tax.”

Bajaj further said that the Department of Economic Affairs will be the one to take the final call on legitimising cryptocurrencies, but just because the commodity has been taxed does not—by default—translate into a step towards legitimising it.

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Indian crypto exchanges don’t really see the situation through Bajaj’s lens. For them, taxation is a first step in the right direction towards lending legitimacy to virtual assets.

“Our initial reaction was that this (taxation) is great news because setting up a tax treatment is step one to opening things up for investors,” said Edul Patel, Co-founder and CEO, MudreX. “But now that we’ve worked through the details, we see that a lot is missing from the finer print. We hope to get clarification on certain things over the next few weeks.”

According to him, one of the major grey areas that exist post-Budget is the rules around the implementation of one per cent TDS, which seem “operationally too difficult to implement.” “The question that arises is what happens if a person transfers crypto to themselves from one exchange in India to another exchange in India? Do they need to pay TDS?” he asked.

When asked about the government’s stance of making it clear that simply taxing cryptocurrency does not literally translate into this special asset class being on the path to becoming legal, Patel said: “I think it’s a very natural progression of things. The tax treatment needs to be defined first.” According to him, what the government has essentially done is set up a “catch-all” tax treatment to start with—and it is only post this “first step” that it can begin to specify what various agencies are able to do in order to provide a pathway to legalization.

“Most things are defined as being ‘illegal,’” said Patel, and not whether they are legal or not. “What this (30 percent tax) does is basically remove the question of illegality—and that is the benefit. With whatever was declared (during the budget) it is clear that crypto is no longer illegal. But whether it is legal or not is still a separate conversation to have. The part that I am most ecstatic about is that we have gone from 10-year jail imprisonment to a 30 per cent tax in a matter of 1.5 years.”

When asked if the high tax was meant to discourage investor sentiment in the crypto market, Patel said: “Any sort of tax always discourages something or the other. But the reality of life is that debt and tax are the only two things that are permanent.” He agrees that taxing at a high rate of 30 percent also seems to be a way of the government sending a strong message in a bottle. “This message is fair from the regulator’s perspective. Products like alcohol and cigarettes are taxed at an insanely high rate…so by implementing a heavy tax on cryptocurrencies, the government has recognized that this (crypto) is something that is fairly risky. From that perspective, the regulator is simply doing its job.”

Nischal Shetty, Founder, WazirX, said that he has full confidence that the grey areas will be cleared by the government in weeks to come. “The government is not here to kill the industry…they are trying to find the right balance,” he said. When it came to the 30 per cent tax that is to be implemented from April onwards, he said: “You only pay taxes when you make money.”

When asked about the legitimacy of cryptocurrencies, Shetty said: “It depends on what you mean by ‘legitimacy.’ The internet is not regulated, hence, the question about legitimacy is very vague. What we should be questioning is whether it (cryptos) will be regulated or not. It is not about legitimacy—but about regulation. Traditionally, finance has been a regulated sector.”

Shetty added that the next logical step, after the levying of tax, would be to frame guidelines that clear the air over certain issues such as how do you apply these rules at exchanges that are not registered in the country.

Union Finance Secretary T.V. Somanathan, in an interview with The Federal, said: “Crypto assets are a new class of assets; a lot of people are taking interest in them. But as of now, there are considerable doubts about their productive utility and a lot of people are investing in them. All I can say is, they are unregulated; their value depends on the eye of the beholder. If somebody thinks it is valuable, it is valuable.”

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Somanathan added: “This is a very fickle type of market. It is a risky asset. It is for people to invest in, knowing the risks. But it certainly has no government endorsement. It is risky. Now people may take risks… but I think it’s something that should be taken only by those who understand that they are buying something very risky. Sometimes risk may pay off also.”

When asked if the government was giving some sanctity to crypto and blockchain-backed products by taxing them, Somanathan said: “No. Everything is taxable under the law—even smuggling income is taxable. Even corruption income is taxable. So, taxability and legality are quite different things. I am not suggesting that crypto is illegal—it is not illegal. But there are many activities that are not illegal—which are taxable. For example, betting on horse races is taxable. But it is not a regulated activity. And nobody says that it is a safe activity and the government will protect you if you invest in horse races.”