Cryptocurrency and Taxation Challenges

Cryptocurrencies have been in the news recently because tax authorities believe they are often used to launder money and evade taxes. Even the Supreme Court appointed a Special Investigating Team on Black Money recommended that trading in such currency be discouraged. While China was reported to have banned some its largest Bitcoin trading operators, countries such as the USA and Canada have laws in place to restrict stock trade in cryptocurrency.

What is Cryptocurrency?

Cryptocurrency, as the name suggests, uses encrypted codes to effect a transaction. These codes are identified by other computers in an individual community. Rather than using paper money, an online ledger is updated by ordinary bookkeeping entries. The buyer’s account is debited and the seller’s account is credited with such currency.

How are Transactions Made on Cryptocurrency?

When a transaction is set up by one user, her computer sends out a public cipher or public key that interacts with the private cipher of the person receiving the currency. If the receiver accepts the transaction, the initiating computer attaches a piece of code onto a block of several such encrypted codes that is known to every user in the network. Special users called ‘Miners’ can attach the extra code to the publicly shared block by solving a cryptographic puzzle and earn much more cryptocurrency along the way. Once a miner confirms a transaction, the record in the block cannot be changed or deleted.

BitCoin, for example, can be used on mobile devices as well to enact purchases. All you have to do is allow receiver scan a QR code from an app on your smartphone or bring them in person through the use of Near Field Communication (NFC). Note that this is very similar to ordinary online wallets such as for example PayTM or MobiQuick.

Die-hard users swear by BitCoin because of its decentralized nature, international acceptance, anonymity, permanence of transactions and data security. Unlike paper currency, no Central Bank controls inflationary pressures on cryptocurrency. Transaction ledgers are stored in a Peer-to-Peer network. hardware means every computer chips in its computing power and copies of databases are stored on every such node in the network. Banks, however, store transaction data in central repositories which are in the hands of private individuals hired by the firm.

How Can Cryptocurrency be utilized for Money Laundering?

The very fact that there surely is no control over cryptocurrency transactions by Central Banks or tax authorities implies that transactions cannot continually be tagged to a specific individual. Which means that we don’t know whether the transactor has obtained the store of value legally or not. The transactee’s store is similarly suspect as nobody can tell what consideration was presented with for the currency received.

What does Indian Law Say about such Virtual Currencies?

Virtual Currencies or cryptocurrencies are commonly seen as pieces of software and hence classify as a good under the Sale of Goods Act, 1930.

Being truly a good, indirect taxes on their sale or purchase together with GST on the services provided by Miners would be applicable in their mind.

There is still a substantial amount of confusion about whether cryptocurrencies are valid as currency in India and the RBI, which includes authority over clearing and payment systems and pre-paid negotiable instruments, has certainly not authorized buying and selling via this medium of exchange.

Any cryptocurrencies received by way of a resident in India would thus be governed by the Foreign Exchange Management Act, 1999 being an import of goods into this country.

India has allowed the trading of BitCoins in Special Exchanges with built-in safeguards for tax evasion or money-laundering activities and enforcement of Know Your Customer norms. These exchanges include Zebpay, Unocoin and Coinsecure.