Introduction
Virtual currencies, the most popular of them being ‘bitcoin’, have taken the world by a storm in this last decade. Currently, there are over 1600 virtual currencies being circulated. This number is growing. Unlike money, which is legal tender, virtual currencies are decentralized, unregulated and uninhibited. Cryptoassets, and virtual currencies in particular, are in rapid development and tax policymakers are still at an early stage in considering their implications. The term virtual currency was first coined by European Central Bank (ECB) in the year 2012. It was defined to classify types of “digital money in an unregulated environment, issued and controlled by its developers and used as a payment method among members of a specific virtual community.” (1) In India, virtual currency is still an unknown animal. Definitions, let alone rules and regulations, are absent. A void looms large over aspects which would form subject matter of taxation on transactions involving such currencies. This needs to be answered. In this piece, we would endeavour to examine issues arising taxation of transactions involving virtual currencies.
Concept of Virtual Currency
Virtual currency is digital currency that is created from a code. There is no legal definition. The concept of ‘Neti Neti’ is an expression of something inexpressible, but which seeks to capture the essence of that to which no other definition applies. This mystery will squarely apply to crypto currencies and hence hindsight, into its genesis, so that it’s DNA is sequenced. The European Banking Authority defined virtual currency as “a digital representation of value that is neither issued by a central bank or a public authority, nor necessarily attached to a fiat currency, but is accepted by natural or legal persons as a means of payment and can be transferred, stored or traded electronically” (2). Virtual currency is not fiat currency. It is not issued by the Government. It can be characterised as decentralised mode of transaction that can be is used for payment of both goods or services or can also be stored digitally as investment. It allows two parties to transact with each other securely, without a need for a trusted third party by offering ‘crypto proof’(3).
The process of creation of virtual currency is termed as mining. It is the key procedure for transaction processing, recording and security. Issuance of virtual currency is done by miners through software run on specialized hardware to process transactions. These transactions are verified and added to the block chain digital ledger. Each time a transaction is made; a miner ensures the authenticity of information and updates the block chain with the transaction (4).
The act of creation itself (mining) would amount to a “transaction” or “supply” is being debated. Whether such “currencies”, if not “money”, would be considered as “goods” or “Services”? If held to be currency, then it would be out of the ambit of taxation, in India, under the Goods and Services Tax (GST) regime. EU VAT Before analyzing the provisions of GST in India, it would prudent to have a look as to how the global village recognizes such transactions. The EU VAT Directive from 2006 regulates VAT systems in EU member countries. Article 2 thereof sets out transactions that are subject to VAT. It states that supply of goods or services for a consideration within the territory of a Member state would be subject to VAT. In 2014, the EU Group on the Future of VAT (European Commission Value Added Tax Committee, 2014) discussed the status of virtual currencies. The Group concluded that it was unlikely that virtual currencies could be considered to be e-money. Likewise, it expressed uncertainty over whether they would be characterised as a digital product or negotiable instrument. In 2015, a subsequent paper from the EU Value Added Tax Committee (European Commission Value Added Tax Committee, 2015) addressed issues arising from the two potential approaches, including: the lack of an exchange rate; the complexity of compliance in barter transactions; anonymity; place of supply; users becoming taxable persons for VAT purposes; and the risk of carousel fraud. Based on the analysis of the impacts of the two potential characterisations and the associated challenges, the 2015 paper concluded that virtual currencies are most appropriately treated as “negotiable asset”, bringing them within the exemption in Article 135(1)(d).
However, in EU countries, the decision in Hedqvist, treating virtual currencies as akin to currencies for the purpose of the VAT Directive has been responsible for the tax treatment currently applied. In October 2015, the ECJ ruled on these issues in Skatteverket v Hedqvist (European Court of Justice, 2015). In that case, Hedqvist intended to provide exchange services between virtual currencies (specifically, Bitcoin) and fiat currency, via an online platform and a company structure. The Swedish Revenue Law Commission found that this would be a supply of an exchange service for consideration that was exempt under the Swedish law on VAT. The Swedish tax authority appealed. ECJ was asked to rule on two questions: whether exchanges of virtual for fiat currency were a taxable supply under Article 2(1) of the EU VAT Directive; and if so, whether Article 135(1) of that Directive meant that those exchange transactions are VAT exempt. The opinion of the court was thus:
(i) Bitcoin with bidirectional flow which will be exchanged for traditional currencies in the context of exchange transactions cannot be categorized as tangible property since virtual currency has no purpose other than to be a means of payment;
(ii) VC transactions do not fall within the concept of the supply of goods as they consist of exchange of different means of payment and hence, they constitute supply of services;
(iii) Bitcoin virtual currency being a contractual means of payment could not be regarded as a current account or a deposit account, a payment or a transfer, and unlike debt, cheques and other negotiable instruments (referred to in Artcile 135(1)(d) of the EU VAT Directive), Bitcoin is a direct means of payment between the operators that accept;
(iv) Bitcoin virtual currency is neither a security conferring a property right nor a security of a comparable nature;
(v) The transactions in issue were entitled to exemption from payment of VAT as they fell under the category of transactions involving ‘currency [and] bank notes and coins used as legal tender’;
(vi) Article 135(1)(e) EU Council VAT Directive 2006/112/EC is applicable to non-traditional currencies i.e., to currencies other than those that are legal tender in one or more countries in so far as those currencies have been accepted by the parties to a transaction as an alternative to legal tender and have no purpose other than to be a means of payment.
The ECJ, accordingly, concluded that virtual currencies would fall under this definition of non-traditional currencies.
Thus, exchange of virtual currencies for fiat currency, following scenarios could emerge: (i) supplies of goods and services, subject to VAT, remunerated by way of virtual currencies; (ii) services concerning the arrangement of transactions in virtual currencies (digital wallets); (iii) services concerning the verification of transactions in virtual currencies (i.e. mining); and (iv) services related to intermediation provided by exchange platforms for consideration.
The VAT treatment of virtual currencies is more consistent across countries than income taxes. In almost all countries, the exchange of virtual currencies is not subject to VAT, whether the exchange is made for fiat currency or other virtual currencies. The pure activity of using virtual currencies to acquire goods or services is also outside the scope of VAT, and thus no VAT should be charged on the value of the virtual currencies themselves. Virtual currencies represent only a means of payment and the transaction is not “barter”. However, the supply of taxable goods and services paid with virtual currencies remain subject to VAT as appropriate.
With a few exceptions, for example in France and Italy, the receipt of new tokens via mining is also not chargeable under VAT. Another impact of this treatment is to avoid practical difficulties associated with treating these transactions as taxable under VAT rules, including the complex record keeping needed to establish values and deductions, and the potential inclusion of individuals or small dealers under VAT registration rules.
Services related to virtual currency exchanges but which are not integral to these exchanges have a more varied treatment across countries. VAT is not chargeable in the vast majority of countries, typically because it is considered to be covered by exemptions or provisions relating to financial services. In other countries, particularly outside the EU, services related to the exchange of virtual currencies are subject to the normal VAT rules as a supply of taxable services. In relation to these services, consistency with countries’ treatment of traditional payment instruments and financial services is important as well as consideration of the practical implications of different treatments for taxpayers in terms of registration, record-keeping, and valuation of the virtual currency
As virtual currencies are typically considered to be property for tax purposes, with the possible exception of VAT, they are also likely to be subject to property taxation in countries that levy inheritance, gift, wealth or transfer taxes, although the guidance available rarely provides information on whether and how these taxes apply to virtual currencies.
Regulatory Mechanism in India
There is no regulatory mechanism governing the arena of virtual currency in India. The Reserve Bank of India issued a circular in 2018 which prohibited banks and financial institutions from dealing in and from providing services that facilitate dealing in virtual currencies (5). This Circular was challenged in the Supreme Court and in March 2020, the said Circular was struck down by a three-judge bench of the Supreme Court of India on the ground of proportionality (6). However, inter alia, it held that virtual currencies fall short of the legal concept of money. It was held that RBI can intervene only if crypto currency has acquired the status of currency, which at present it does not have, they nevertheless constitute digital representations of value and that they are capable of functioning as (i) a medium of exchange and/or (ii) a unit of account and/or (iii) a store of value. Since then, gloomy clouds still ponder.
GST in India
In the back drop of the Apex Court judgment, let us see the implications there of and taxation under GST.
As is well known, GST is touted to be the single biggest tax reform to take place post-independence. Most of the indirect taxes levied on manufacture and sale of goods and provision of services are sought to be subsumed into one single tax known as GST. GST would be applicable on supply of all goods and services in India. Central Goods and Services Tax Act has come into effect from 01.07.2017. Chapter III of the said Act provides for levy and collection of GST. Section 7 of the CGST Act provides for the scope of supply. It is, inter alia, provides that “supply” includes: (a) all forms of supply of goods or services or both such as sale, transfer, barter, exchange, license, rental, lease or disposal made or agreed to be made for a consideration by a person in the course or furtherance of business. The Act defines “money” under Section 2(75) to mean “the Indian legal tender or any foreign currency, cheque, promissory note, bill of exchange, letter of credit, draft, pay order, traveler cheque, money order, postal or electronic remittance or any other instrument recognised by RBI, when used as a consideration to settle an obligation or exchange with Indian legal tender of another denomination but shall not include any currency that is held for its numismatic value.” Under the RBI Act, “rupee coin” means rupees which are legal tender in India under the provisions of the Indian Coinage Act, 1906. Section 2(h) of the Foreign Exchange Management Act, 1999 (‘FEMA’) defines “currency” to include “currency notes, postal notes, postal orders, money orders, cheques, drafts, travellers cheques, letters of credit, acts of exchange and promissory notes, credit cards or such other similar instruments, as may be notified by the RBI.” It also defines foreign currency as any currency which is not Indian currency. Thus, in light of the above ruling, it can be deciphered
that crypto currency would not be considered as “money” for the purposes of GST Act. In fact, at Para 6.68 of the judgment, their Lordships refer to the definition under section 2(75) of the Act.
Once virtual currency is not legal tender, could it be termed as “consideration” is the obvious question that would, in my view, arise. “Consideration” has been defined under section 2(31), inter alia, as any payment made or to be made, whether in money or otherwise, in respect of, in response to, or for the inducement of, the supply of goods or services or both, whether by the recipient or by any other person. Thus, consideration could be anything other than money as well. Section 2(52), goods has been defined as “every kind of movable property
other than money and securities but includes actionable claim, growing crops, grass and things attached to or forming part of the land which are agreed to be severed before supply or under a contract of supply.” Section 2(102) defines the term “services” as anything other than goods, money and securities. Thus, once virtual currency is not “money”, to fall out of the tax net it has to be either “actionable claim” or “securities”. These are not securities. Securities have been defined under section 2(101) as the same defined under section 2(h) of the Securities Contracts (Regulation) Act, 1956. It has been defined to include (i) shares, scrips, stocks, bonds, debentures, debenture stock or other marketable securities of a like nature in or of any incorporated company or other body corporate; (ia) derivative; (ib) units or any other instrument issued by any collective investment scheme to the investors in such schemes; (ic) security receipt as defined in clause (zg) of section 2 of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002; (id) units or any other such instrument issued to the investors under any mutual fund scheme; (ii) Government securities; (iia) such other instruments as may be declared by the Central Government to be securities; and (iii) rights or interest in securities.
“Actionable claim” has been defined under section 2(1) of the Act as having the same meaning under section 3 of Transfer of Property Act, 1882. Transfer of Property Act defines “Actionable claim’ to mean a claim to any debt, other than a debt secured by mortgage of immoveable property or by hypothecation or pledge of moveable property, or to any beneficial interest in moveable property not in the possession, either actual or constructive, of the claimant, which the Civil Courts recognize as affording grounds for relief, whether such debt or beneficial interest be existent, accruing, conditional or contingent. Based on this definition, it can be understood that: (i) it should be a claim to debt, or (ii) a beneficial interest in moveable property not in the possession, either actual or constructive; (iii) the debt or beneficial interest may be existent, accruing, conditional or contingent. Whether virtual currency would satisfy the said tests? I think not.
In fact, virtual currency has been classified as an “intangible asset” by the OECD (7). Whether such intangible would be “goods” or “services” leaves to be determined. Here, the principles laid by the Constitution Bench of the Supreme Court in Tata Consultancy Services v. State of Andhra Pradesh (8) would be relevant. In that case, the Court held that canned software which is sold in packages or CDs or DVDs or USB Drivers will be classified as goods. Though the copyright of the program would remain with the development company, the moment copies are made and marketed; it would be termed as goods. In the same way, can virtual currency be termed as “goods” or not remains to be seen. In any case, it could be classified as supply of “services”. The problem would not rest here. There could be issued relating to point of taxation and valuation. Issues of double taxation and input tax credit could also arise. Hence, it would be advisable, in my opinion, to keep the virtual currencies out of the tax net.
Conclusion
Due to its unregulated nature and easy accessibility to everyone on the internet, people have started transacting and investing in virtual currencies. The major concern regarding virtual currencies is that if left unregulated then it may result in diabatization of the monetary system because of its volatile nature. Other areas of concerns also include fraud, funding of unlawful activities, security and consumer protection. India rather than banning virtual currencies should evolve with the changing system and provide for and implement a clear, regularly updated guidance and legislative frameworks for the tax treatment of crypto-assets and virtual currencies, which considers consistency with the treatment of other assets and remains abreast of emerging areas; supporting improved compliance, including through the consideration of simplified rules on valuation and on exemption thresholds for small and occasional trades; and aligning the tax treatment of virtual currencies with other policy objectives, including regarding the use of cash and environmental considerations.
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2. EBA Opinion on ‘virtual currencies’ (EBA/Op/2014/08). (2014, July).
3. Nakamoto, S. (2009). Bitcoin: A Peer-to-Peer Electronic Cash System.
4. Malone, D. (2014, January). Bitcoin Mining and its Energy Footprint. 25th IET Irish Signals &
Systems Conference 2014 and 2014 China-Ireland International Conference on Information and
Communities Technologies.
5. RBI Circular No. RBI/2017-18/154 issued on 5th April, 2018
6. Internet and Mobile Association of India Vs Reserve Bank of India 2020 SCC OnLine SC 275
7. OECD (2020), Taxing Virtual Currencies: An Overview Of Tax Treatments And Emerging Tax Policy
Issues, OECD, Paris. www.oecd.org/tax/tax-policy/taxing-virtual-currencies-an-overview-of-tax-
treatments-and-emerging-tax-policy issues.htm
8. (2005) 1 Supreme Court Cases 308
The Article was authored by Bharat Raichandani, Advocate and Annweshaa Laskar, Advocate
