Why Taxing Cryptos Still Does Not Make Them Legal
In a country with low financial literacy, the government has a duty to explain its stand clearly and unambiguously when it takes the first step towards taxing or regulating a new and confusing ‘financial asset’. The numbers are large enough to warrant clarity, especially when the government expects to collect taxes on income from the product. However, typical of how the National Democratic Alliance (NDA) functions, it first delayed a decision on regulating crypto currency for too long and, when it finally took a decision, it put taxation before legislation—a bit like putting the cart before the horse. 
 
According to the crypto industry, there may be as many as 20mn (million) crypto investors in India. This is equal to the number of investors we have had in the capital market (including mutual funds) for over two decades, right until the COVID pandemic. Their total investment is estimated at around US$6bn (billion). These are industry estimates. The Budget has not even put out any official numbers on the size of the industry or trading volumes. 
 
The finance minister’s (FM’s) decision to impose a 30% tax on profits from crypto transactions and 1% tax deduction at source (TDS) was seen as legalising crypto currency in India. It also opened the doors to a deliberate and cynical attempt by the crypto industry to mislead the gullible. Founders of crypto exchanges, miners , influencers and public relations (PR) companies are out in force declaring that a decision to tax equals legalising crypto; especially since it was accompanied by the announcement that the Reserve Bank of India (RBI) will launch its digital currency this year. There is also a misguided social media petition lobbying for a reduction in tax which is approvingly re-circulated among blind followers. 
 
1. (@BuddhaSource) tweeted on Budget day: “The clarity on crypto tax is such a positive move by our government. This essentially removes doubt of illegal vs legal for those who are still wondering. Now waiting for Banks to support us.”
 
 
2. @NischalShetty of WazirX a crypto exchange, and a big campaigner for spreading the crypto cult, tweeted: “Today’s budget has ensured a very bright future for Indian Crypto ecosystem A few notable outcomes: - Government has legitimised industry - No more fear to BUIDL - Everyone can participate Over 1188 days of #IndiaWantsCrypto It’s been worth it! Next, let’s Build For Crypto.” 
 
 
3. @BlockBulletin : “Crypto in India is legal from now on with India's finance minister revealing plans for CBDC and 30% tax on cryptocurrencies profits.” 
 
RBI and the finance ministry, that have a presence on social media, cannot have failed to notice thousands of tweets declaring that India has legalised crypto. Instead of clarifying the situation, the finance ministry is only adding to the confusion.  
 
On 2nd February, finance secretary (FS) TV Somanathan told Bloomberg Television (India says crypto not illegal as it’s taxed like gambling win), “They are in a grey area. It’s not illegal to buy and sell crypto.” Two days later, on 4th February, the same FS told PTI that cryptocurrency ‘will never be a legal tender’ and that RBI’s digital rupee would alone be a legal tender in India. Couldn’t FM Nirmala Sitharaman have said this unambiguously in the Budget?  
 
But wait, the FS himself goes on to muddy the waters in the very same interview. Asked why crypto legislation is not listed for the Budget session of parliament, he says, "We are in a democracy. In a democracy, the government starts with something but then there is feedback. Government is listening to that feedback; based on that feedback they are yet to conclude how it should be done. Meanwhile, the questions of tax clarity cannot wait forever because volumes have become very large.” 
 
So his unambiguous initial statement may not even hold water a few months down the road. How then should we read his emphatic ‘will never be a legal tender’? Does ‘never’, in the finance ministry’s lexicon, mean ‘until there are wider consultations that may change their mind’? Or does it mean that they may even introduce a Bill in parliament and roll it back after a few months if there are protests, outrage and losses? 
 
According to the FS, “Legal tender means by law it is accepted in settlement of debts.” The tweets quoted above show that the industry is telling investors something different and the government is not offering any clarity.  While the FS spoke about having to “take into account the international consensus since there would be cross-border transactions…,” the fact is that, with the exception of El Salvador, no other country has accepted crypto as legal tender. 
 
Taxed but Not Legal
Most people understand taxation as a simple binary: That government can only tax what is legal; if it is illegal, they expect the government to punish it and force disgorgement of ill-gotten gains. Otherwise, doesn’t the State become a partner in crime? Taxation works very differently. Unfortunately, investors only listen to self-proclaimed ‘gurus’ in the crypto echo-chamber. So let me point to an example that should ring a bell.  
 
The most famous case of successfully taxing illegal income is the nailing of Chicago crime boss Al Capone in the US. It was not fiction. Tax laws around the world are based on this principle. Global precedents (https://taxguru.in/income-tax/taxability-of-fraudulent-income-earned-under-income-tax.html) on this issue go back to the 1927 case of Minister of Finance vs Smith (1927 AC 193 PC) where Lord Haldane observed that the Income-Tax (I-T) Act is not necessarily restricted in its application to lawful business only. The revenue merely looks at an accomplished fact. It brings the profit to tax but it does not condone or take part in the illegal enterprise. Prosecutions for the offence will not disentitle the I-T department from taxing the profits arising out of the commission of the offence. 
 
Tax expert HP Ranina explained this in a column in February 2009.  “Section 2(24) of the Income Tax Act, 1961,” he wrote, “creates an obligation to pay tax on all income received.” He cites several cases that were eventually decided by the Supreme Court. In Dr TA Quereshi vs CIT (287 ITR 547), the Court held that “cases are to be decided by courts on legal principles and not on moral views. Law is different from morality. The primary function of the Act is to bring the income of various kinds into the tax net. The income tax authorities are not concerned about the manner or means of acquiring income. The income might have been earned illegally or by resorting to unlawful means. Any illegality tainted with the earning has no bearing on its taxability… Allowing such income to escape the tax net would be nothing but a premium or reward to a person for doing an illegal trade,” he wrote.
 
It was further iterated that the I-T department cannot act like the police to prevent the commission of unlawful acts; but the tax machinery can tax such income. “The Act considers the income earned legally as well as tainted income alike. There is nothing like an illegal income so far as the tax collector is concerned. Even if the assessee is prosecuted by law enforcing authorities for commission of offence, the income earned by the offender would be income liable for assessment. It is not a defense in such cases that the State is also becoming a party to the illegal act by sharing the booty.” The Madras High Court also upheld this view in CIT vs K Thangamani (309 ITR 15) where a tax practitioner was claiming TDS refunds by filing bogus returns in the names of fictitious persons. The substantial questions of law are decided (https://taxguru.in/income-tax/illegal-income-is-taxable-madras-high-court.html) in favour of the revenue, setting aside orders by the tax tribunal. 
 
Globally, the US has accepted this principle since 1961 and illegal income, such as theft, embezzlement and drug–trafficking, are included in ‘gross income’. It has been argued that the government needs money to operate; hence, although it does not condone illegal activity, it doesn’t let that stop it from getting its fair share of the income earned. Interestingly, the law also allows assesses to claim deduction on expenses related to that illegal activity and tax only ‘net income’. This is because the US Supreme Court said that the tax code was not meant to punish unlawful behaviour but only to collect tax.
 
The Canadian government specifically audits people accused of criminal behaviour to check if they have paid taxes on illegal income (https://taxpage.com/articles-and-tips/income-from-illegal-activities/).  Such earnings are taxed as business income with similar deductions as allowed by the US, plus penalties for delayed filing, etc. Europe has similar laws. In effect, there are plenty of global precedents, which could have been explained to people. 
 
A new twist to the Indian situation is that many misguided youngsters are already accepting payments in crypto currency, since the government has yet to decide on its legality and regulation. There is no clarity on how the 1% TDS would apply on this after April 2022. There is no clarity on the impact and mechanism for such deduction, especially for traders, since crypto exchanges themselves are not ‘legal’. 
 
Another unanswered question is whether the 30% tax will be applicable on such income, irrespective of whether people being paid in cryptos are in the tax bracket or not. A simple reading of the finance ministry’s statement would suggest that it will, indeed, be taxed at 30%, because the government sees its decision as a smart move to collect revenue in a legally ambiguous situation. The issue of expenses on business income would be decided based on established precedents, unless the tax department decides to disallow such expenses and have the issue decided by the court. 
 
All this suggests that those earning in cryptos may be forced to go underground and accept illegal payments that fly below the tax radar, while those with taxable income and earnings may be in for a harrowing time until the government sorts out, what is smugly seen as a canny move to collect taxes from trading that has attracted 20 million Indians, largely youngsters. 
Comments
anant.9196
4 months ago
There is no comprehensive understanding or law enacted in any part of the world on Cryptos and yet we expect magic from our govt.

A unusually Frank govt which very clearly admits that it has not understood this subject in depth and thus wants time for more debate and deliberations - is being found fault with. I am sure similar sounding articles blaming the govt for both legalising the cryptos or declaring it illegal would have abounded in this magazine ..... Essentially it is damened if you do and damned if you don't!

And in this case when it is neither a do or a don't still damning follows!!

To my mind the govt message is very loud and clear and I am sure every crypto dealer has got the same:
- YOU ARE DEALING with it AT YOUR OWN RISK!

- in the meantime as is applicable to Tax earnings ( the legality of income is not the moot question) the govt has decided to tax it - so what is wrong in it - it has its own compulsions of deficit etc - And very clearly at the same time it is reiterating the RISK involved for participants!

The nature of the product is such that no geographic boundaries can be applied and thus the Govt's realisation that International common law is what will make any law in crypto workable is quite insightful.

And I give kudos to the Govt in trying to propagate this move towards a common international law on it...
S.SuchindranathAiyer
4 months ago
Like selling cigarettes but taxing them? What is the Government doing about taxing brothels, whores, heroin, bribes, etc? Except for bribes and cigarettes the Government has not yet acquired equity in the rest.
adheer
5 months ago
If the Government intends to tax profits from crypto trading it implies it has recognised crypto currencies and trading.

Then the question arises - so who regulates crypto trading ?

How can government tax crypto trading for which it does not have a regulatory authority ?
Ravindranath
5 months ago
"A new twist to the Indian situation is that many misguided youngsters are already accepting payments in crypto currency, ..."

I can't understand something, in exchange of what? are these people are accepting payments in crypto currency.

In lieu of salaries, in exchange for goods sold or services rendered.

If they are misguided, what is that item of value they are selling in the first place.
Ravindranath
Replied to Ravindranath comment 5 months ago
If they are smart enough to sell something of value in exchange for the above crypto currencies, they probably aren't dumb as the society generally assumes them to be, or maybe we are underestimating their far sightedness.
Ravindranath
Replied to Ravindranath comment 5 months ago
About 10 years back, I see this online classified in gumtree, people advertising bitcoins for sale.

It was something like this, you had to meet the seller in person, pay them cash for what bitcoins was worth at that time and they transfer bitcoins into your wallet.

Bitcoins wasn't popular at that time so people who knew about this and mined bitcoins at home had difficulty finding the buyers.

I was about to buy it out of curiousness to learn what this is. Discussed this with my friends, they gave all the rational reasons to prove, the people who are into this is talking bs.

Looking back now, a concept that looked foolish 10 years ago has generated wealth multifold for the early adopters.

So what I meant to express here is, that crypto currency could the next big thing (or the only thing for monetary exchange in the future), that we don't know yet.
mnavarathan
5 months ago
Don't understand the headline. Is the Govt asking and welcoming the traders with open hands to trade in Crypto? If the crypto guys lose, is it the Govt's fault? There are around 200 countries and slightly lesser number of currencies (maybe 1 for each country).... do you know the no. of crypto currencies? Isn't crypto supposed to replace national currency? If yes, why so many floating around?
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