Cryptocurrencies and virtual assets are the new generation's assets and payment modes. The concept of cryptocurrency took its boom after the sudden rally of Bitcoin in 2009. The rapid growth of Bitcoin made people invest and trade in cryptocurrencies. Starting from its establishment in 2008, the market valuation of cryptocurrency assets experienced a remarkable rise, reaching a record-breaking sum of around USD 3 trillion by November 2021.

Nations across the globe are currently grappling with the challenge of integrating cryptocurrencies into their taxation frameworks. it's logical that numerous countries face difficulties grasping this revenue source's essence. Advanced economies tend to adopt a more straightforward method for taxing cryptocurrency earnings when compared to developing economies. Notably, cryptocurrencies exhibit a dual character, serving as both a medium of exchange and an investment asset.

Consequently, the determination of the precise nature of this income becomes increasingly intricate for all nations involved. Every nation determines the nature of cryptocurrency according to its domestic taxation framework. In India, the Finance Act 2022 was the first legislation that talks about cryptocurrencies. In 2018, the Reserve Bank of India (RBI) released a circular, prohibiting entities from engaging in transactions involving virtual assets and rendering it unlawful for financial institutions to furnish services to cryptocurrency exchanges. However, this ban was subsequently overturned by the Supreme Court on March 4, 2020.

The court ruled that the ban contravened Article 19(1)(g) of the Indian Constitution, which safeguards the "Right to practice any profession or to carry on any occupation, trade or business." As of now, there is no Indian legislation that explicitly labels cryptocurrencies as illegal, thereby establishing the legality of cryptocurrencies within India. The following are the different forms of crypto income and taxation framework in India.

Definition of cryptocurrency:

According to Merriam-Webster Cryptocurrency means "any form of currency that only exists digitally, that usually has no central issuing or regulating authority but instead uses a decentralized system to record transactions".

The Finance Act 2022 made an amendment to the Income Tax Act, of 1961, and added Section 2(47A) (a). This act clearly states that cryptocurrencies are considered Virtual Digital Assets (VDA).

Virtual Digital Assets (VDA):

Section 2 (47A) (a) of income tax (amended act) 2002, Virtual Digital Assets (VDA) means any information or code or electronically".(not being Indian currency or foreign currency), generated through cryptographic means or otherwise, by whatever name called, providing a digital representation of value exchanged with or without consideration, with the promise or representation of having inherent value, or functions as a store of value or a unit of account including its use in any financial transaction or investment, but not limited to investment scheme; and can be transferred, stored or traded electronically"

Different Forms of Cryptocurrency Income:

Typically, income generated from cryptocurrencies is considered passive in nature. The financial sector offers an extensive array of passive income avenues, including bank deposits, the stock market, bonds, and more. In recent times, cryptocurrencies have also become a prominent component of passive income strategies adopted by individuals worldwide. The revenue derived from cryptocurrencies encompasses a variety of methods. The following are some of the most widely utilized approaches globally for earning profits from cryptocurrencies:

Crypto Investments:

A common method involves putting money into cryptocurrencies like Bitcoin or Ethereum. Similar to buying stocks, you hold onto these digital assets for a while. If their value goes up, you make a profit when you sell them for more than what you paid. The difference between the buying and selling prices determines how much money you gain or lose.

Crypto Mining:

It involves validating transactions and adding them to a blockchain network using computer power. Many cryptocurrencies utilize a system called Proof-of-Work (PoW) for this purpose. Miners receive rewards in the form of the respective cryptocurrency for verifying transactions. The mining process encompasses tasks like validating transactions, performing complex computations (proof of work), adding new blocks to the blockchain, and bolstering network security.

Air Drops:
Airdrop is like giving away free tokens, cryptocurrencies, or coins to specific people who meet certain requirements. It's a clever way to promote and market these digital assets by rewarding loyal customers and introducing a new currency to the public. Airdrops can be quite diverse, depending on the type of currency and tokens being distributed.

Staking:
Staking involves keeping a specific number of cryptocurrencies in a wallet linked directly to a network. These held coins contribute to the network's security and operations. The earnings from staking come in the form of rewards. To get these rewards, individuals need to participate in a Proof-of-Stake (PoS) or Delegated Proof-of-Stake (DPoS) blockchain network.

Gaming rewards:
Earning cryptocurrency through gaming is remarkably straightforward, as numerous gaming platforms utilize crypto as a form of reward. Many games worldwide operate on the Play To Earn (P2E) idea. Various games present distinct ways of rewarding players with tokens. These rewards can differ significantly from one game to another, adhering to the specific terms and conditions of each game.

Taxation of crypto income in India:
In India, we have two different taxes 1. Income Tax (Direct Tax) and 2. Goods and Services Tax (Indirect Tax). The following is the tax rate on cryptocurrencies in India.

1. Income Tax:
   The Finance Act of 2022 introduced Section 115BBH to the Income Tax Act, which stipulates that gains stemming from Virtual Digital Assets (VDA) transactions are subject to a tax rate of 30%, along with an additional 4% cess. Commencing on July 1, 2022, Section 194S mandates a 1% Tax Deducted at Source (TDS) on the transfer of cryptocurrency assets. This applies when transactions surpass ₹50,000 (or in specific cases, ₹10,000) during the same financial year.
   
   It's now obligatory for all exchanges dealing with Virtual Digital Assets to deduct TDS and report it to the government. The total TDS amount deducted can be claimed using Form-6A. Income acquired from Virtual Digital Assets encompasses all forms of income, which means any income gained through activities related to VDA is subject to taxation in the same manner.
   
   This includes activities like Mining, Trading, Staking, Airdrop, token vesting, referrals, and even crypto gifts exceeding ₹50,000. Section 115BH (a) Income Tax (amended act) 2022 "the amount of income-tax calculated on the income from transfer of such virtual digital asset at the rate of thirty percent"
   
   Set-off and carry forward of losses:
   Certainly, under Section 115BBH(2), there are limitations on setting off and carrying forward losses. This implies that apart from the cost of acquisition, if applicable, no deductions related to expenses, allowances, or the offsetting of losses will be permitted to the taxpayer under any provision of the Income Tax Act. let's consider Mr. X. He invested Rs 60,000 in Bitcoins and later sold them for Rs 80,000. Additionally, he purchased Ethereum worth Rs 40,000 and sold it for Rs 30,000. During these transactions, a trading fee of Rs 2,000 was deducted by the exchange.
   
   Under the given scenario, the loss of Rs 10,000 from the Ethereum trade cannot be offset by the gains of Rs 20,000 from the Bitcoin trade. The entire income of Rs 20,000 will be subject to a tax rate of 30%. Moreover, the trading fee of Rs 2,000 cannot be subtracted from the gains for tax purposes.
    
2. Goods and Service Tax:
   In India, the Goods and Services Tax (GST) is levied on the supply of goods and services. If GST is applicable, the supplier is required to include the GST in the pricing of their supply and subsequently pay it to the government. Simultaneously, the recipient of the supplied goods or services generally has the right to claim a credit for the Goods and Services Tax (GST) that they've paid on that supply. This credit can be used to offset any GST liability the recipient has for their own provided goods or services.
   
   While the GST Act does not explicitly address cryptocurrencies, the Finance Act of 2022 has prompted the Central Board of Indirect Taxes and Customs (CBIC) to clarify that cryptocurrencies are not considered currencies or mediums of exchange. Instead, they are categorized as goods and services. As a result, the supply of cryptocurrencies is subject to GST at a rate of 18%. This means that when cryptocurrencies are traded or transacted, a Goods and Services Tax of 18% is applicable to those transactions.

GST on VDA transactions:
When an individual obtains cryptocurrency for the purpose of investment, the act of acquisition usually does not trigger Goods and Services Tax (GST). This is due to the fact that acquiring a capital asset like cryptocurrency is not considered a taxable transaction according to GST regulations.

Likewise, when an individual sells cryptocurrency that they have held as an investment, the transaction typically does not involve GST. This exemption is based on the principle that selling a capital asset, including cryptocurrency, is not treated as a taxable supply under GST regulations. In essence, GST is not levied on the capital gains arising from the sale of cryptocurrency held for investment purposes.

GST on VDA for the medium of exchange:
When an individual uses cryptocurrency to either buy or sell a product or service, that transaction becomes subject to Goods and Services Tax (GST). This is because the act of using cryptocurrency as a means of payment is treated as an exchange for the supply of goods or services. In such cases, the supplier is obligated to levy GST on the value of the provided goods or services.

Furthermore, when a payment is executed using any form of Virtual Digital Asset (VDA), the supplier should collect GST based on the value of the supply they've provided.

Conclusion:
India currently faces a significant gap in terms of a comprehensive legal framework governing cryptocurrencies and digital assets. While the Finance Act of 2022 introduced initial regulations for Virtual Digital Assets (VDAs) and their taxation, there are concerns about the fairness and potential legal challenges associated with the tax provisions outlined in this act.

The primary question revolves around how to categorize the income derived from VDAs. If VDAs are considered assets, any resulting gains should be treated as capital gains, allowing for the utilization of losses incurred for offsetting and carrying forward. The imposition of a 30% tax rate on such gains could be seen as lacking in fairness and reasonableness.

Furthermore, there are potential concerns that the tax provisions introduced might not fully align with the principles of natural justice. This points to a need for further clarification and potentially more balanced tax regulations in the evolving landscape of cryptocurrencies and digital assets in India.

Reference:

• Income Tax (Amended) Act, 2022 - No. 24 Acts of Parliament, 2022(India)
• Constitution of India 1950
• Merriam-Webster https://www.merriam-webster.com/dictionary/cryptocurrency

Written By: Bhagavath P (Fifth year BBA.,LL.B) - IFIM Law School, Bangalore.