Cryptocurrencies and the challenges of taxation

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 to recommend that trading in such currency be discouraged. While China is said to have banned some of its largest operators from trading bitcoins, countries like the US and Canada have laws restricting trading in cryptocurrency stocks.

What is a cryptocurrency?

Cryptocurrency, as the name suggests, uses encrypted codes to execute a transaction. These codes are recognized by other computers in the user community. Instead of using paper money, the online book is updated with ordinary bookkeeping entries. The buyer’s account is debited, and the seller’s account is credited in that currency.

How are cryptocurrency transactions made?

When a transaction is initiated by a single user, its computer sends a public code or public key that interacts with the private code of the person receiving the currency. If the recipient accepts the transaction, the initiation computer attaches a piece of code to a block of several such encrypted codes known to each user on the network. Special users called ‘Miners’ can add extra code to a publicly shared block by solving a cryptographic puzzle and earn more cryptocurrency in the process. Once the miner confirms the transaction, the record in the block cannot be changed or deleted.

BitCoin, for example, can also be used on mobile devices to make purchases. All you have to do is let the receiver scan the QR code from the app on your smartphone or face it face to face using near field communication (NFC). Note that this is very similar to regular online wallets such as PayTM or MobiQuick.

Stubborn users swear by BitCoin because of its decentralized nature, international acceptance, anonymity, transactional durability, and data security. Unlike paper currency, no Central Bank controls inflationary pressures on cryptocurrencies. Transaction books are stored in the Peer-to-Peer network. This means that each computer chip in its computing power and copies of databases are stored on each such node in the network. Banks, on the other hand, store data on transactions in central repositories that are in the hands of private individuals hired by the firm.

How can cryptocurrency be used for money laundering?

The mere fact that there is no control over cryptocurrency transactions by central banks or tax authorities means that transactions cannot always be identified by a particular person. This means that we do not know whether the transferor acquired the stock of value legally or not. The store of the recipient of the transaction is similarly suspicious because no one can say what fee was given for the received currency.

What does Indian law say about such virtual currencies?

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

Because they are good, they would be subject to indirect taxes on their sale or purchase, as well as VAT on services provided by miners.

There is still considerable confusion over whether cryptocurrencies are valid as a currency in India, and RBI, which has powers over clearing and payment systems and pre-paid transferable instruments, has certainly not approved buying and selling through this medium of exchange.

All cryptocurrencies received by a resident of India would therefore be regulated by the Foreign Exchange Management Act 1999 as imports of goods into this country.

India has allowed bitcoin trading on special exchanges with built-in safeguards for tax evasion or money laundering activities and the implementation of Know Your Customer standards. These exchanges include Zebpay, Unocoin and Coinsecure.

Those who invest in bitcoins, for example, are subject to the payment of dividends received.

Capital gains from the sale of securities involving virtual currencies are also subject to taxation as income and the consequent filing of IT reports.

If your investments in this currency are large, it is better to get the help of a personalized tax service. Online platforms have greatly facilitated the tax compliance process.