India: The Bitcoin Bandwagon: Hiatus - Recent Union Budget 2018 Proposals'

Any discussion on bitcoins irresistibly brings thoughts on the value and pricing rather than the theory and relevance of bitcoins. Purportedly, developed by Craig White1. 'Bitcoin' is being regarded as an "alternate currency" which has caught the imagination of every virtual world freak fantasizing the possibility of minting money in no time.

Since 2008, bitcoin adoption has been influenced by a disparate range of factors that have made it one of the most volatile currencies in the world. The year 2017 will also be remembered as the year of bitcoin surging by almost 900% in its trade value2.

What is Cryptocurrency?

The creation of cryptocurrency can be attributed to a set of programs and protocols, and in plain vanilla terminology, it can be regarded as a digital asset that has been created to function as a medium of exchange, like cash. It uses cryptography to ensure the security of transactions, authentication and prevention of duplicate transactions and to control the creation of new units of currency.

One of the critical highlights of bitcoin, as a cryptocurrency, is that it is free from any regulatory oversight from the Central Bank and the Government. Cryptocurrency has been conceptualized owing to the need to have a new form of money that uses cryptography to control its creation and transactions rather than a central authority.

Bitcoins are just one of the many digital currencies in the world although bitcoin is the oldest and most popular among its traders. Like any other cryptocurrency, bitcoins can be purchased from dedicated bitcoin exchanges.

Bitcoins are generated through "mining operations". Mining is the process of spending computing power to process transactions, secure the network, and keep everyone in the system synchronized together. A bitcoin miner is like a manufacturer who generates Bitcoins.

Bitcoin investors do claim that making payments is easier than debit or credit card purchases, and can be received without a merchant account. Payments are made from a wallet application, either on your computer or smartphone, by entering the recipient's address, the payment amount and pressing send.

Pros and Cons of Cryptocurrency

Cryptocurrency, including bitcoins, works in a decentralized system and it is believed that some are not prone to be manipulated. Further, since transactions are carried out anonymously, the privacy of the sender and the recipient is completely safe. The transaction fee is less compared to other electronic modes of payments, and being virtual, it is not susceptible to theft.

However, critics are of the view that since transactions are anonymous, cryptocurrencies could be used for illegal purposes; although an increasing number of shops and markets accept payments in bitcoins, they are still a very small percentage of the total, and your wallet can be lost forever if the data is lost or corrupted; bitcoin and other virtual currencies have been used by speculators, and their prices suffer from high volatility, etc.

Regulatory Framework

The impossibly insane rate of return that bitcoins offered to their investors in the year 2017 has urged governments across the globe, including India, to evaluate the legitimate efficacy of such a virtual world currency. Most of the currencies in the world at present including the reserve currencies are fiat currencies i.e. backed by central authority. To introduce cryptocurrencies like bitcoins in such a scenario would mark a titanic shift in the economic system of a state and would have a domino effect in the field of economic, monetary policy, finance, tax and other contract regulations.

The legal status of bitcoin varies notably from country to country and is still undecided or changing in many of them. Whilst the majority of countries do not make the usage of bitcoin itself illegal, its status as money (or a commodity) varies, with differing regulatory implications. While it is understood that some countries have explicitly allowed its use and trade, others have banned or restricted it and have classified bitcoins differently. Recognizing the potential benefits and risks of this innovative form, incremental efforts are being made by the governments to develop a regulatory framework to draw these transactions within the ambit of law.

International Response

Three major banks (Bank of America, JPMorgan Chase and Citigroup) confirm that they won't allow cryptocurrency transactions with their credit cards3.

United States - The U.S. Treasury classified bitcoin as a convertible decentralized virtual currency in 20134. The Commodity Futures Trading Commission, CFTC, classified bitcoin as a commodity in September 20155.

Australia - In December 2013, the governor of the Reserve Bank of Australia (RBA) indicated in an interview about bitcoin legality stating, "There would be nothing to stop people in this country deciding to transact in some other currency in a shop if they wanted to. There's no law against that, so we do have competing currencies."6 Australia has officially confirmed it will treat bitcoin "just like money" on 1 July 2017 and it will no longer be subject to double taxation7.

China - To stamp out cryptocurrency trading completely with ban on foreign platforms8.

Nepal - On 13 August 2017, Nepal Rashtra Bank declared bitcoin as illegal9.

Japan - Japan officially recognizes bitcoin and digital currencies as a "means of payment that is not a legal currency"10.

United Kingdom - As of 2017, the government of the United Kingdom has stated that bitcoin is unregulated and that it is treated as a 'foreign currency' for most purposes, including VAT/GST.11

Taxation aspects - Some jurisdictions have regarded bitcoin/cryptocurrencies as 'other negotiable instruments' and hence exempt from VAT/GST while others classify it as 'intangible property' subject to GST. The supply of the cryptocurrency is treated as a supply of services under Singaporean tax law, and hence, GST is payable on supply, as well as on any subsequent trade of 'virtual currency' for other goods or services. The Canadian Revenue Agency has taken a view that, digital currencies are intangible goods for tax purposes and to be dealt accordingly for tax purpose.12 As one analysis, the governments which have recognized the digital currencies have appropriately classified them based on their use in that country and considering the economic environment. The taxability issues have accordingly been identified, if not settled.

Looking at bitcoins through the Indian legal lens

Virtual/digital currencies are not recognized by the Reserve Bank of India (RBI) or any other authority in India as a 'currency'. The risks perceived are that use of digital currencies for illegal, anti-social and illicit activities may not be controllable. Since there is lack of information of the trading parties, such peer-to-peer non-regulated system may expose the investors to unforeseen losses, including breaches of anti-money laundering and financing of terrorism laws.

The RBI says that it has not given any licence/authorization to any entity / company to operate such schemes or deal with bitcoin or any virtual currency.13 As of 2017, government officials have given statements that bitcoin is not a legal tender.14

Some experts compare bitcoins to the prepaid instruments which are regulated by the RBI. However, no such recognition of digital currencies under 'payment systems' or 'prepaid instruments' has been accorded by the RBI. This unsurprising declaration has been long time coming over the past few months. The recent high number of bitcoin transactions in the country has had both investors and the RBI worried. The finance ministry has in the past called cryptocurrency a ponzi scheme, and the RBI has cautioned Indians to not engage in the trading frenzy as it lacks legitimacy and is unsafe for investors. The Hon'ble Finance Minister of India said, 'The Government does not consider cryptocurrencies 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 but government will keep exploring blockchain technology'15.

Tax and Regulatory - India

Primarily, the taxation for any goods/services is governed by their classification under the taxation law.

Bitcoin – Is it 'currency'? 'Currency' has not been defined in the tax laws. Guidance may be taken from the Foreign Exchange Management Act, 1999 (FEMA), which defines currency, as including all currency notes, postal notes, postal orders, money orders, cheques, drafts, travellers cheques, letters of credit, bills of exchange and promissory notes, credit cards or such other similar instruments, as may be notified by the RBI.

So far, RBI has not recognized Bitcoin or any other cryptocurrency as a currency. Hence, it is not currency. They cannot be treated 'foreign currency' either. Thus, Bitcoin or any other cryptocurrency is neither an Indian currency nor foreign currency.

Bitcoin as asset or property/store of value – Bitcoins ought to be treated as capital assets if bought for investment purposes.

Bitcoin/crypto-currency transactions in business – Taxation on bitcoins will be applicable, depending on how you treat income from Bitcoins, based on the frequency of transaction. If the gains from Bitcoins arise due to trading, it ought to be treated as business income. In case the gains arise due to increase in prices while you hold it as an investment, the gains ought to be treated as income from other sources.

Of an estimated 20 lakh entities registered on these exchanges, about 4 to 5 lakhs were "operational" and indulging in transactions and investments. "Those individuals and entities are now being probed under tax evasion charges. As per media reports, notices are being issued seeking their financial details, and if tax demand can be established, they will have to pay capital gains tax on the bitcoin investments and trade.16

For the purposes of the CGST Act 2017, the term 'money' is defined as 'the Indian legal tender or any foreign currency, cheque, promissory note, bills of exchange, letter of credit, draft, pay order, traveller cheque, money order, postal or electronic remittance or any other instrument recognized by the RBI when used as a consideration to settle an obligation or exchange with Indian legal tender of another denomination but shall not include any currency that is held for its numismatic value'.

Therefore, it cannot be contemplated with certainty that virtual / digital currencies fall within the above definitions. A contract relating to bitcoin, prima facie, is not such that its enforceability would defeat the provisions of law or is otherwise fraudulent. Therefore, a contract respecting bitcoin, whether it is in relation to mining of bitcoin, transfer of bitcoin without or for consideration, is not per se illegal.

Bitcoins may well be classified as "Value for money" and hence, valid consideration under the Indian Contract Act, 1872.

Considering the lack of clarity in India, there are bound to be immediate tax and regulatory issues which need to be addressed quickly by the government. One would affirm with consensus that regulations on digital currencies will defeat the basic purpose of such currencies being free from any government intervention. However, if somehow the digital currencies can be tracked, the resulting ease of business may surpass the ills being counted.

Conclusion

Bitcoin will need to pass the muster of "public perception of being safe" and less vulnerable to large-scale misuse before being widely adopted for everyday trade/commerce. In other words, it is in its own advantage to offer some "regulatory certainty". Financial transparency and financial innovation can be mutually reinforcing, and in the case of bitcoin, effective regulation can allow the technology to gain mainstream acceptance and become a real part of global commerce.

There are meritorious policy issues with existing cryptocurrencies, including consumer protection and socially unacceptable activities related to tax evasion and money laundering. The payment technology itself, however, could play an important and useful role in the financial system.

The generic policy issues that need to be evaluated are:

  • A general ban on any form of use of cryptocurrencies in the clearing system between banks and the central bank – to ensure that the monetary system is not undermined.
  • Recognition that a trust-less transfer and ledger technology is separable from the idea of a cryptocurrency and is potentially very useful for future healthy competition in the financial system.
  • Some form of agreement for best practice registration that permits consumer protection, tax and anti-money laundering authorities to verify the owner's identity.
  • Some amount of capital should be held by exchanges on the balance sheet (perhaps in the form of legal tender) for fraud and technological failures.
  • Exercise of government plenary powers to close down all non-complying networks.

The general aim of the policy should be to encourage technologies that improve and aid in the utility / efficiency in the payments system; the objective is to ensure that the use of cryptocurrencies removes anonymity where money transmission is concerned (to avoid the darker aspects of bitcoin use) and to meet minimum requirements for consumer protection.

Certainly, the technology and its advancement cannot be ignored; all one needs to ensure that the same suit serves humanity, this aspect holds good in the case of "bitcoins" also.

Footnotes

1. Australian Entrepreneur claims invention of Bitcoin (May 2, 2016) - https://www.cnbc.com/2016/05/02/bitcoin-inventor-satoshi-nakamoto-finally-revealed.html.

2. https://www.theguardian.com/business/2017/dec/02/bitcoin-is-it-a-bubble-waiting -to-burst-or-a-good-investment.

3. https://www.theverge.com/2018/2/4/16971666/cryptocurrency-bitcoin-jpmorgan-chase-bank-of-america-citigroup-credit-card.

4. https://www.fincen.gov/news/testimony/statement-jennifer-shasky-calvery-director-financial-crimes-enforcement-network.

5. https://www.irs.gov/newsroom/irs-virtual-currency-guidance.

6. http://www.afr.com/news/economy/monetary-policy/glenn-stevens-says-bitcoins-show-promise-but-so-did-tulips-20131212-iygau.

7. https://cointelegraph.com/news/bitcoin-to-become-just-like-money-in-australia-july-1.

8. http://www.scmp.com/business/banking-finance/article/2132009/china-stamp-out-cryptocurrency-trading-completely-ban.

9. https://nrb.org.np/fxm/notices/BitcoinNotice.pdf.

10. https://bitconnect.co/bitcoin-news/130/japan-officially-recognizes-bitcoin-and-digital-currencies-as-money/.

11. https://www.loc.gov/law/help/bitcoin-survey/.

12. http://www.cio.in/opinion/cryptocurrency-india-story.

13. https://rbi.org.in/scripts/BS_ViewBulletin.aspx?Id=16773.

14. https://timesofindia.indiatimes.com/business/india-business/trading-in-bitcoin-ethereum-other-cryptocurrencies-illegal-says-arun-jaitley/articleshow/62339092.cms?

15. http://www.livemint.com/Money/o4bSQ6CiUfjCIWDFDyZjnJ/Cryptocurrency-not-legal-tender-in-India-but-blockchain-get.html.

16. Bitcoin crackdown: Income Tax Department to send notices to 4-5 lakh HNIs for suspected tax evasion (December 19, 2017) - http://www.businesstoday.in/current/economy-politics/bitcoin-cryptocurrency-income-tax-notices-hnis-bitcoin-trading/story/266269.html.

Originally published by Legal Era, April 2018.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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