Cryptocurrency and taxation issues

Cryptocurrencies have been in the news recently because tax authorities believe they can be used for money laundering and tax evasion. Even the Supreme Court has appointed a special investigation team on black money and has recommended that trade in such currency should not be encouraged. China has reportedly banned some of its biggest bitcoin trading operators, while countries such as the US and Canada have laws restricting exchange trading of the cryptocurrency.

What is cryptocurrency?

Cryptocurrency, as the name suggests, uses encrypted codes to carry out a transaction. These codes are recognized by other computers in the user community. Instead of using paper money, the online ledger is updated with regular accounting entries. Such currency is debited from the buyer’s account and credited to the seller’s account.

How are cryptocurrency transactions made?

When a transaction is initiated by a single user, their computer sends a public cipher or public key that interacts with the private cipher of the person receiving the currency. When the recipient accepts the transaction, the originating computer appends the piece of code to a block of several such encrypted codes that is known to every user on the network. Special users called “Miners” can attach additional code to the public block, solving the cryptographic puzzle and earning more cryptocurrency in the process. Once a miner confirms a transaction, the entry in the block cannot be modified or deleted.

BitCoin, for example, can be used on mobile devices as well as for making purchases. All you have to do is allow the receiver to scan the QR code from an app on your smartphone or bring them face-to-face using Near Field Communication (NFC). Note that this is very similar to regular online wallets like PayTM or MobiQuick.

Die-hard users swear by Bitcoin for its decentralized nature, international recognition, anonymity, transaction maturity, and data security. Unlike paper currency, no central bank controls the inflationary pressure on cryptocurrency. Transaction logs are stored on a peer-to-peer network. This means that each computer has its own computing power, and copies of the databases are stored on each such network node. Banks, on the other hand, store transaction data in central repositories held by private individuals employed by the firm.

How can cryptocurrency be used for money laundering?

The very fact that there is no oversight of cryptocurrency transactions by central banks or tax authorities means that transactions cannot always be traced back to a specific person. This means that we don’t know if the transactor received the store of value legitimately or not. The merchant’s store is also suspicious, as no one can tell what reward was given for the currency received.

What does Indian law say about such virtual currencies?

Virtual currencies or cryptocurrencies are generally considered to be pieces of software and are therefore classified as goods under the Sale of Goods Act of 1930.

Being good, they will be subject to indirect taxes on their sale or purchase, as well as GST on the services provided by the Miner.

There is still a lot of confusion about whether cryptocurrencies are valid as currency in India and the RBI, which has authority over clearing and payment systems and prepaid negotiable instruments, has definitely not allowed buying and selling through this medium of exchange.

Therefore, any cryptocurrencies received by a resident of India will be governed by the Foreign Exchange Management Act, 1999 as an import of goods into that country.

India has allowed bitcoin to be traded on dedicated exchanges with built-in safeguards against tax evasion or money laundering and enforcement of Know Your Customer regulations. These exchanges include Zebpay, Unocoin and Coinsecure.

For example, those who invest in bitcoins are liable to recover from the dividends received.

Capital gains from the sale of securities using virtual currencies are also subject to tax as income and online filing of IT returns accordingly.

If your investment in this currency is large, it is better to seek help from an individual tax office. Online platforms have made the process of tax compliance much easier.