The dawn of Indian crypto tax

A new disruptive force of digital technology, blockchain technology, is changing the way business is conducted and is increasingly becoming more relevant now than before for businesses to ignore it. It is not only the currencies created digitally with the help of blockchain technology such as Bitcoin that have triggered attention across the world, but also Non-fungible tokens (NFTs) that are gaining in popularity as Indian celebrities too have been issuing their NFTs. As the name suggests, while a cryptocurrency is designed to operate as a currency which is fungible, each NFT (a digital code) is unique and not interchangeable representing a specific item such as a piece of art, image, music, etc.

In the Budget speech for 2018, the then Finance Minister (FM) announced, "The government does not consider crypto-currencies legal tender or coin and will take all measures to eliminate use of these crypto assets in financing illegitimate activities or as part of the payment system. The government will explore use of block chain technology proactively for ushering in digital economy." Taking the work forward, the FM in her Budget 2022 speech while highlighting the importance of digital currency as leading to a more efficient and cheaper currency management system in India, announced the introduction of Central Bank Digital Currency (CBDC) in the fiscal year 2022-23 using blockchain and other technologies. With the likely introduction of CBDC, doubt arises on the future of private cryptocurrencies. As announced by the FM and other government officials, taxing income from such virtual assets does not mean that the government has legitimized trading in such currencies or tokens.

Proposed new section 115BBH in Income-tax Act, 1961 (Act) seeks to tax income from transfer of any Virtual Digital Asset (VDA) at a flat rate of 30% (plus applicable surcharge and cess). It has also been provided that income from VDA shall be computed after reducing the cost of acquisition only and no deduction of any other expense will be allowed. The taxpayer is further disentitled to set-off loss incurred on transfer in these assets against income from any other head and such loss cannot also be carried forward to subsequent years.

The term VDA is proposed to be defined widely to mean a) any information or code or number or token generated through cryptographic means or otherwise, providing a digital representation includes its use in any financial transaction; b) a nonfungible token; c) any other digital asset as the government may notify. In order to keep track of VDA transactions, it has also been proposed to insert a new section 194S in the Act obligating the payer, with effect from 1 July 2022 , to withhold tax from payments made for transfer of VDA to a resident at the rate of 1%. Payments being made in kind or partly in cash and kind, are also covered under the tax withholding net. It is also provided that where consideration for transfer of VDA is wholly in kind or partly cash / kind, the payer must ensure that tax been paid before releasing the consideration.

It has also been proposed to amend Explanation to section 56(2)(x) of the Act to provide that any gift of VDA to any person will be taxable in the hands of the recipient, subject to the existing carve-outs available in case of gifts from relatives or on the occasion of marriage of the individual or under a will.

While bringing clarity on taxation on VDA is welcome, however some proposals seem to be unreasonable. For instance, not allowing expenditure necessarily incurred for purpose of earning income or transfer of VDS like service fee charged by the exchange on which trades take place, not allowing losses to be carried to future years. It is understandable that the government wants to create gains as a separate class of income and therefore losses should likewise be considered or at least parity with treatment of speculative losses as in Section 73 of the Act could have been maintained. Clearly, such high rate of tax and manner of taxation seems to suggest that private cryptos are being discouraged.

Additionally, at the ground level unless government provides clarity on values to be adopted for trading in kind where VDA is exchanged for another VDA, applying the withholding tax and taxation in the hands of payer, is likely to pose complexities. Further, most of the trading in VDAs happening at the exchange is instant and the transaction would be known only after it has taken place, the restriction of ensuring that tax has been paid before releasing the consideration appear to be onerous.

Given the nascent stage of development of VDA market and its gaining popularity, it could bring in significant tax revenues for government and only time will tell how much. History has shown that self-compliance is best achieved with lower rates and taxation that is taxpayer friendly. It is therefore imperative that government should revisit some aspects of the proposed legislation including rate of tax and also provide detailed guidance on VDAs to create an environment which is taxpayer friendly, encourages self-compliance and trust.

(Promod Batra is Partner, Deloitte India; Amit Pahwa is Director with Deloitte Haskins and Sells LLP; and Narinder Garg is Deputy Manager with Deloitte Haskins and Sells LLP)