Cryptocurrencies have been in the news lately because tax authorities believe they can be used for money laundering and tax evasion. Even the Supreme Court appointed a special team to investigate black money recommended to discourage trade in such currency. While China has reportedly banned some of its largest operators from trading in bitcoin, countries such as the US and Canada have laws that restrict trading in cryptocurrency stocks.
What is cryptocurrency?
Cryptocurrency, as the name suggests, uses encrypted codes to make a transaction. These codes are recognized by other computers in the user community. Instead of using paper money, the online ledger is updated through regular accounting records. The buyer’s account is debited and the seller’s account is credited with such currency.
How are cryptocurrency transactions made?
When a transaction is initiated by a user, their computer sends a public cipher or public key that interacts with the private cipher of the person receiving the currency. If the recipient accepts the transaction, the initiating computer attaches a 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 the additional code to the publicly shared block by solving a cryptographic puzzle and earn more cryptocurrency in the process. Once a miner confirms a transaction, the block entry cannot be changed or deleted.
BitCoin, for example, can be used on mobile devices as well as to make purchases. All you have to do is let the receiver scan a 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 acceptance, anonymity, transaction permanence, and data security. Unlike paper currency, no central bank controls inflationary pressures on cryptocurrency. Transaction logs are stored on a Peer-to-Peer network. This means that each computer includes its computing power and copies of databases are stored on each such node in the network. Banks, on the other hand, store transaction data in central repositories that are in the hands of private individuals employed by the firm.
How can cryptocurrency be used for money laundering?
The very fact that there is no control over cryptocurrency transactions by central banks or tax authorities means that transactions cannot always be traced back to a specific person. This means we don’t know if the transactor received the store of value legitimately or not. The store of the recipient of the transaction is also suspicious, since no one can tell what reward is given for the currency received.
What does the 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.
Since they are good, indirect taxes on their sale or purchase as well as GST on services provided by the miners would be applicable to them.
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 certainly not allowed buying and selling through this medium of exchange.
Thus, any cryptocurrency 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 trading on dedicated exchanges with built-in safeguards against tax evasion or money laundering and enforcement of know-your-customer norms. These exchanges include Zebpay, Unocoin and Coinsecure.
Those who invest in bitcoins, for example, are subject to tax on dividends received.
Capital gains received due to sale of securities involving virtual currencies are also subject to tax as income and subsequent online filing of IT returns.
If your investments in this currency are large, it is better to get the help of a personalized tax office. Online platforms have greatly facilitated the process of tax compliance.