By Hemang Sharma and Garima Agarwal

This article is part of a special series of articles by the Editorial Team at Nickeled and Dimed. It will explore Budget 2022 through the varying lenses of public policy, finance, gender, environment, law, among others.

It is likely the first time when industry leaders cheered the imposition of a steep levy on the assets they trade in. Investors working in the digital asset class applauded Finance Minister Nirmala Sithraman’s decision to tax 30% on any income generated from the transfer of all digital assets, including cryptocurrencies and NFT(Non-Fungible Tokens). They believe it to be the first step towards legitimising digital currency in India. Ashish Singhal, the CEO of CoinSwitch Kuber, one of the largest crypto platforms in India, welcomed the government’s decision as he tweeted, “ The budget provides clarity on taxation and shows the government’s intent to take a business-friendly approach while protecting the interest of consumers and the exchequer”. Such a positive outlook by the industry tycoons did raise the morale of many investors, however, should not be misinterpreted for the government’s growing acceptance of digital assets. Finance Minister Nirmala Sitharaman made her stance clear when she said, “taxing cryptos doesn’t mean it has been legalised”.

To address the mixed interpretation of this new policy, we first discuss issues around the legality of digital assets in India, and then we try to assess the government’s take on the decentralized aspect of these assets.  

Does the taxing of crypto make it legal? 

For a long, Bitcoin and blockchain technology has been in limbo. People who transact in cryptocurrency have always been confused about its legality. Cryptocurrency transactions, especially Bitcoin gained massive momentum and popularity in 2017 when its value reached an all-time high at $20,000. This period saw a massive rise in interest of potential investors to invest in Bitcoin and other cryptocurrencies. The Crypto market emerged to have the potential to disrupt not only markets and banks but the entire financial institutions. Since then it has also been under government scrutiny. This is because cryptocurrency uses blockchain technology which thereby eliminates the concept of centralization and facilitates decentralization, i.e., focuses more on peer to peer connection. Unlike fiat currency, where there is a central regulator involved, like the RBI, blockchain does away with such regulators. Exchanges in Bitcoin, Ethereum, Non-Fungible Tokens (NFTs) are channelling millions in profits which are primarily based on gambling and speculation. In 2018, RBI had banned the provision of banking services to any person who dealt with crypto-currencies and thwarted any exchange which facilitated their use. However, later the Supreme Court had quashed RBI’S circular in its judgment in Internet and Mobile Association of India v. RBI, stating the circular to be disproportionate and ultra vires the constitution. The court considered that dealing with currencies was a legitimate trade and was protected by the Indian Constitution by the fundamental right under Article 19(1)(g) which allowed the citizens of India to carry on any occupation, trade, and business. Since then there has been much speculation over the legality or illegality of the use of cryptocurrency.

However, in the Budget of February 2022, the Indian Finance Minister has proposed to now put the profits incurring from cryptocurrency under the purview of the Income Tax Act and have laid a 30% tax on it. This is the very first time the Indian government can be said to have officially recognized the use of cryptocurrency. However, India is not the first or the only country to have levied tax on it. In the past, countries like the U.K, US, Italy, Canada, Germany have done the same in their respective states. The question now persists whether taxing cryptocurrency gives it legal status. Unfortunately, the answer is no. Taxation is a sovereign function and anything and everything that falls into the income tax head and can be categorized as income (such as salary, profits or capital gains) can be taxed regardless of the fact whether the income is legal or illegal. This stance has been held by courts in various judicial pronouncements too. In a 1980 case of CIT v Piara Singh,  the court had held that income earned by the assessee from his business of smuggling money was taxable irrespective of the fact that he was carrying on an illegal business. In a 2006 case of Dr TA Quereshi v CIT, the court had taken a very clear stance on taxing the income of an individual regardless of its source. The court had held that the primary function of the Income Tax Act was to bring the various kinds of income into its tax net. This must be done without considering what is or what might have been the manner or source of such acquired income. “Any illegality tainted with the earning has no bearing on its taxability. The assessee having acquired income in an unethical manner or by resorting to acts forbidden by law cannot be heard to say that the state cannot be a party to such sharing of ill-gotten wealth. Allowing such income to escape the tax net would be nothing but a premium or reward to a person for doing an illegal trade.” Thus, the taxing of crypto only means that the government has recognized crypto and still hasn’t been given a legal tender to be used for transactions.

Decentralization and the government

This budget can be seen as an attack on the decentralised aspect of digital assets. Cryptocurrencies, tokenised assets, etc run on blockchain networks, which are decentralised by their basic design. In the past, the government has discouraged people from trading in crypto assets, however, when they could not control the growing fascination with digital trading, they decided to accept it and tax the income generated at a fixed 30% rate. 

The important thing to note is that this tax rate is higher than what the government charges for equities and bonds. Further, the budget also offered tax relief to investors in capital assets by capping the surcharge levy on LTCG(long term capital gains) at 15%. This increases the opportunity cost to invest in digital assets, which are also more volatile and could sway people towards safer, and regulated assets like mutual funds. In addition to this, the government is also introducing its own digital currency which would be completely monitored and regulated by the central government. Contrary to other digital assets, this currency will be a safer, less volatile asset as it is backed by the central bank. Hence at a higher tax rate, if people still want to invest in digital assets, they have a relatively safer option than investing in crypto assets. 

              Though people believe that the move to tax these assets could be a sign of the government’s changing notion about them, however, it would be foolish to look at this in black and white. Government is well aware of the growing popularity of crypto assets. Hence, while increasing the cost of investing in them, they also are providing people with a fiat alternative. If the demand from decentralized assets shifts to the regulated digital currency, the government would be in control of digital trading as well. 

However, this does not mean that demand for crypto assets will completely decline. One aspect which separates it from other assets is its potential to yield large returns in short periods. Hence people would still be attracted to it. However, the government still increased the cost of investing in digital assets and it is clear that they are not very supportive of decentralized digital assets.

Conclusion

It’s evident that the government is troubled by the growing popularity of digital assets in India. By taxing them, they are just trying to find a balance between keeping people happy and regulating the majority of investments in the market. It is a win-win situation for them as digital assets are not legal and they will still be collecting taxes on them. Further, at this point, it is premature to adequately predict the impact of taxation on the digital asset market, yet one thing is for sure, the government is against digital assets and their legitimisation will be a long fight.   

Hemang is a third-year student at Ashoka University majoring in Economics and Finance

Garima Agarwal is a 4th-year undergraduate student pursuing BBA.LLB (Hons.) from O.P Jindal Global University.

Image credits – Economic Times