Afraid of Taxation on your Crypto gains?

Afraid of Taxation on your Crypto gains?

Published on
taxation of cryptocurrency

Author – CA Swati Bhat, Edited By – CA Jigar Shah

Before we dive into taxation of cryptocurrency in India let us have a look at the currency of crypto world

At the time of writing this article in October 2021 Bitcoin price has skyrocketed to USD 64000 up from USD 32000 in July 2021. Also in this week First Exchange Traded Fund (ETF) linked to Bitcoin got listed on Wall Street, El Savador became the first country to adopt bitcoin as a legal tender few months back (what this essentially means that in El Savador no one can deny to accept bitcoin against sale of goods or delivery of services), on the domestic front in India CoinDCX became the first unicorn in the country in Crypto space, we have started seeing cryto exchanges signing up Bollywood stars as brand ambassadors, more and more advertising in the main stream media, etc.

Let me confess, what I have written so far makes the article sound like one of those ads pushing people to buy into crypto frenzy. However, that is not the point that I am trying to make over here. The point I am trying to make is that at this juncture and the direction in which we are heading, it seems very unlikely that there will be a “ban” on crypto currencies in India. Yes, there will be regulation and there must be a regulation but the uncertainty of there being a blanket ban is fading out. 

There are around 5000 types of cryptocurrencies in the world; Bitcoin, Ethereum, Litecoin being some of the most popular ones.  

  1. Before going further let us look into the “legality” of transactions in cryptocurrency A lot of people have this misconception that cryptocurrencies are banned / are illegal in India. 
  • RBI did issue a circular in April 2018 putting a ban. The ban was not on cryptocurrencies but on regulated financial institutions from providing services to businesses dealing in exchange / trading of cryptocurrencies. Basically, RBI told that banks cannot give services to any crypto exchanges making it practically impossible to buying or selling crypto currencies through Indian bank accounts  
  • However, in March 2020, Supreme Court, in its decision in Internet and Mobile Association of India v. Reserve Bank of India struck down this circular. 
  • Cryptocurrencies are absolutely legal. However, they are not yet recognized as a legal tender in India. 

Many believe that crypto is still at the infancy stage and there is a lot more which is to be explored. Many also believe that it is one of the greatest wealth creating opportunities and where there is “possibility” of wealth creation there is “certainty” of taxation. 

  1. Currently, there are no specific provisions w.r.t cryptocurrency in the Income Tax Act. Lack of clarification has puzzled many as to how the transactions would be taxed, whether the transactions would be taxable or not in the first place. 
  • Please mind that not having specific provisions in the Act and lack of clarifications does not eliminate cryptocurrency transactions from the purview of Income Tax. 
  • As per the current tax regime these transactions can be briefly classified in 4 categories: 
  1. Investment in cryptocurrency – Capital Asset 
  1. Trading in cryptocurrency – Business Income 
  1. Mining of cryptocurrency – Business Income 
  1. Freelancing – Business Income 

The categorization would depend on the intention with which a person deals in cryptocurrency. 

  1. Taxation under different scenarios 

In the below mentioned cases, if cryptocurrency is exchanged for INR or any other foreign currency, there would be no difficulty in determining the sale value and purchase value. But when it comes to transfer of cryptocurrency as cryptocurrency itself, the question of valuation of the transaction arises. In such cases, value of the cryptocurrency as on date of transfer should be considered to be sale value / purchase value. 

  1. Investment in Cryptocurrency: 
  • Cryptocurrency purchased with the intention of investment (lets say holding period of over a year) could be considered a Capital Asset Income from transfer of capital asset is taxable as capital gains If the Cryptocurrency is sold after holding for a period more than 3 years, it would amount to Long Term Capital Gain and would attract tax @ 20% (plus cess and surcharge as applicable). 
  • If the transfer is made within 3 years of purchase, the gain would be taxable as Short Term Capital Gain and would attract tax @ applicable slab rate (plus cess and surcharge as applicable). 
  • Losses, if any, shall be set off against the gains and only net gain (if any) would be taxable. In case of net loss, the same can be carried forward for 8 subsequent years. 
  1. Trading in Cryptocurrency: 
  • If a person trades in cryptocurrency on a regular basis, income from the same could be taxable under the head Profits & Gains from Business & Profession
  • Further, just like intra-day trading of shares, if both purchase and sale of cryptocurrency are done on the same day, it could be considered as Speculative Business Income
  • Business income (whether speculative or normal) would attract tax @ applicable slab rate (plus cess and surcharge if applicable). 
  1. Mining of Cryptocurrency: 
  • Crypto mining, sounds simple but is a bit complex concept to understand. It is a process in which the data blocks are validated and added to the blockchain by solving cryptographic equations. 
  • People carrying out this process are called Miners. These miners receive free cryptocurrency as a reward for carrying out this process. 
  • One point of view could be that crypto mining leads to creation of capital asset and the same being self-generated asset, cost of which is not determinable, cannot be computed under the capital gains provision and hence may be exempt from tax. This may lead to litigations as the IT department might not accept the above contention. 
  • Thus, such cryptocurrencies received should be taxed as business income after deduction of expenses incurred in relation to the same. 
  • Such Net Profit would be taxable @ applicable tax rate (plus cess and surcharge if applicable). 
  1. Freelancing: 
  • Here we are talking about people running any kind of business, consultancy or are working as a freelancer and receive payments for their sales / services in cryptocurrency. 
  • Just because the receipts are not received in INR or any other foreign currency does not eliminate it from taxation as Income Tax clearly states that all kinds of income are taxable. 
  • Thus, the entire business / freelancing receipts in cryptocurrency must be disclosed as income under the head Profits & Gains from Business & Profession
  • Of course, all business expenses would be allowed as a deduction and only the Net Profit will be taxable
  • This Net Profit would be taxable @ applicable tax rate (plus cess and surcharge if applicable). 
  1. Miscellaneous income: 
  • Apart from the aforesaid four main categories, one can also earn miscellaneous and trivial income from cryptocurrency by way of interest on yield farming*, airdrops** received, referral bonus, etc. 
  • Such income, if earned as an ancillary income along with the primary business income from trading in cryptocurrency, could be clubbed and disclosed under the head Profits & Gains from Business & Profession
  • If it is the primary and only source of income earned from cryptocurrency, then the same could be disclosed as Income from Other Sources
  • These incomes shall be taxable @ applicable tax rate (plus cess and surcharge if applicable). 

*Yield farming involves lending of cryptocurrency. The returns on the same is earned by way of interest 

**Airdrops is a promotional activity in which cryptocurrency token or coin are distributed to numerous wallet addresses, usually for free. 

  • Cryptocurrency Traders will have to maintain and get their books audited if they cross the threshold limit u/s 44AB of the Income Tax Act. 
  1. Disclosure of Cryptocurrency in the IT Return 

The following clauses in the Income Tax Act could mandate disclosure of Cryptocurrency in the IT Return: 

  • In case where Total Income exceeds Rs. 50 lakhs, disclosure of movable and immovable assets along with liabilities incurred in relation to such assets is mandatory. 
  • Every person who is a Resident in India as per the Income Tax Act and holds any foreign asset, the same must be compulsorily disclosed. 
  • If the Cryptocurrency is held as a Business Asset, the same must be disclosed in the ITR Balance Sheet. Further, if the same is held by a Partnership Firm or a Company, even as Investments, it must be disclosed in the ITR Balance Sheet. 

As per the existing provisions of the Income Tax Act, we can determine the nature of Cryptocurrency and offer the income to tax as above. However, due to lack of clarifications from the Revenue Department, it could lead to plenty of litigations. The department should provide clarifications or make appropriate provisions in the Act regarding the its nature and tax treatment. 

The government is planning to introduce “The Cryptocurrency and Regulation of Official Digital Currency Bill, 2021”. The bill aims at creation of an official digital currency issued by RBI and regulate crypto transactions in the country. Cryptocurrency is an emerging market and has huge potential in India. India has around 350 Start-ups in this space. The Government should take expeditious decision and provide appropriate clarifications at the earliest. This would prevent investment losses and would enable such businesses to cease the opportunity of becoming global Start-ups taking India to next levels of growth. 

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