With the dawn of the information and communication technology a quantum leap has been observed in the technological developments and advancements across the globe. The credit of opening up of new avenues in almost every field of knowledge goes to the massive advancements and developments in science and technology. One such emerging area of interest is cryptocurrency. Cryptocurrency is essentially based on the idea of virtual money that is beyond the rein and control of the Government or banks. Cryptocurrency uses extremely complex codes or protocol systems that encrypt sensitive data in order to secure their units of exchange. Such complex codes or protocols are developed based upon complex and advanced mathematical and computer engineering principles that are virtually impossible to hack or break which in turn makes it impossible to counterfeit or duplicate the protected data or currency. These codes also veil the identity of the user and thus making the attribution to any specific person or group very difficult.1 A cryptocurrency is mathematically produced and digitally stored. The scope of this article would be confined only to the direct taxation aspects of cryptocurrency.
Cryptocurrency, as on date
The Report of the Subhash Chandra Garg Committee, constituted by the Department of Economic Affairs, Ministry of Finance, to propose specific actions to be taken in relation to virtual currencies dated 28-2-2019 recommended that the private cryptocurrencies should not be allowed. These cryptocurrencies, according to the Committee, cannot serve the purpose of a currency. The private cryptocurrencies are inconsistent with the essential functions of money/currency and hence, private cryptocurrencies cannot replace fiat currencies. The Committee further recommended that all the privately dealt cryptocurrencies be banned in India, except any cryptocurrency issued by the State. The Committee also recommended that a group may be constituted for the examination and development of an appropriate model of digital currency that would suit the Indian context. The Committee also provided that if in future it is decided to accord the status of legal tender on digital currencies, then Reserve Bank of India should be the regulating authority. The Committee also gave a model Bill titled as “Banning of Cryptocurrency & Regulation of Official Digital Currency Bill, 2019”. As the title suggests, this Bill proposes to put a ban on the mining, generation, holding, selling, dealing in, issuing of, transferring of, disposing of or use of cryptocurrency – such acts have been made penal offences under the provisions of the Bill. Further, this Bill allows government authorised cryptocurrency as legal tender and currency subject to the approval of the Central Government.
As on date, the position on regulation of cryptocurrency is that there is no regulation, as such, on dealing in cryptocurrencies in India. However, the regulatory authorities have issued cautionary advices to users and traders about their risks. Additionally, there were certain circulars that have been issued by Reserve Bank of India which prohibit the banks from dealing in cryptocurrencies. On 5-4-2018, RBI issued a “Statement on Developmental and Regulatory Policies” which directed the banks and other entities regulated by RBI (i) not to deal with or provide services to any individual or business entities dealing with or settling virtual currencies; and (ii) to exit the relationship, if they already have one, with such individuals/business entities, dealing with or settling virtual currencies. Following this, RBI also issued a Circular dated 6-4-2018, in exercise of the powers conferred by Section 35-A3 read with Section 36(1)(a)4 and Section 56 of the Banking Regulation Act, 19495 and Sections 45-JA6 and 45-L of the Reserve Bank of India Act, 19347 and Section 10(2)8 read with Section 18 of the Payment and Settlement Systems Act, 20079, directing the entities regulated by RBI (i) not to deal in virtual currencies nor to provide services for facilitating any person or entity in dealing with or settling virtual currencies; and (ii) to exit the relationship with such persons or entities, if they were already providing such services to them. This circular was challenged in Internet and Mobile Assn. of India v. Reserve Bank of India10, wherein the Supreme Court quashed RBI’s circular banning the dealings in cryptocurrency. The Court observed that when the consistent stand of RBI is that they have not banned virtual currencies (VCs) and when the Government of India is unable to take a call despite several committees coming up with several proposals including two draft Bills, both of which advocated exactly opposite positions, it is not possible for us to hold that the impugned measure is proportionate and thus the circular banning the entities from dealing in cryptocurrencies was set aside.
Taxability of cryptocurrency
The dealings in cryptocurrency are multiplying manifolds with every passing day and the non-taxation of such transactions is leading to a loss of revenue to the public exchequer. The Income Tax Act, 196111 makes no distinction between income obtained from a legal source or an illegal source and thus, both the incomes are taxable alike. However, taxation of an illegal income does not absolve the assessee of the criminal liability.12 But as far as the case of cryptocurrency is concerned, it is still a grey area whether it is an illegal activity or not, thus in order to avoid the non-taxability of income from such transactions, the tax liability shall be imposed on the transactions in cryptocurrency.
The Income Tax Act, 1961, under Section 1413 lays down heads of income as follows:
- income from salary;
- income from house property;
- profits and gains of business or profession;
- capital gains; and
- income from other sources.
Income from cryptocurrencies can broadly be said to fall either under the head of profits and gains of business or profession or under income from capital gains.
Cryptocurrency as capital gains
For a charge under Section 45 of the Income Tax Act, 196114, the profit or gain must arise on the transfer of a capital asset.15 As per Section 2(14) of the Income Tax Act, 196116 “capital asset” is property of any kind held by an assessee, whether or not connected with his business or profession. In J.K. Trust v.CIT17, it was held that as there is no definition of the word “property” in the Act (Income Tax Act, 1961), and that “property” must be construed in its plain natural meaning subject to the context in which that expression occurs. Further, in Rustom Cavasjee Cooper v. Union of India18, the Supreme Court observed that:
- 38. …In its normal connotation “property” means the “highest right a man can have to anything, being that right which one has to lands or tenements, goods or chattels which does not depend on another’s courtesy: it includes ownership, estates and interests in corporeal things, and also rights such as trademarks, copyrights, patents and even rights in personam capable of transfer or transmission, such as debts; and signifies a beneficial right to or a thing considered as having a money value, especially with reference to transfer or succession, and to their capacity of being injured”.
The term “property”, as it appears in Section 2(14), covers within its sweep many kinds of properties. It is of such wide amplitude so as to take in both tangible as well as intangible assets.19 The phrase “property of any kind” used in Section 2(14) is of widest amplitude and include not only intangible assets but also intangible rights. It may either be corporeal or incorporeal.20 In Ahmed G.H. Ariff v. CWT21 the Supreme Court observed that property is a term of widest import subject to any limitation which the context may require. It signifies every possible interest which a person can hold and enjoy. The word “property” does not mean merely physical property, but also means the right, title or interest in it.22 The all-inclusive definition of the term “capital asset” brings within its ambit property of any kind held by the assessee, except that has been expressly excluded by sub-clauses (i) to (vi) of Section 2(14) of the Income Tax Act thereunder. Thus, the expression “capital asset” has a wide connotation.23 Therefore, cryptocurrency can be well covered within the meaning of property in definition of “capital asset” owing to the wide connotation of the expression. Property has been held to encompass intangible as well as incorporeal assets. Cryptocurrency is a form of payment that uses cryptography to control its creation and management, rather than relying on central authorities.24 According to Nakamoto, bitcoin (a form of cryptocurrency) is a software-based online payment system and introduced as open-source software in 2009.25 Thus, it could be concluded that the cryptocurrency is an intangible asset and thus, could be covered under the ambit of the term “property” and hence, capital asset for the purpose of Income Tax Act.
Also, in Tata Consultancy Services v. State of A.P.,26 it has been held that:
- 78.A software may be intellectual property but such personal intellectual property contained in a medium is bought and sold. It is an article of value. It is sold in various forms like — floppies, disks, CD-ROMs, punch cards, magnetic tapes, etc. Each one of the mediums in which the intellectual property is contained is a marketable commodity. They are visible to the senses. They may be a medium through which the intellectual property is transferred but for the purpose of determining the question as regards leviability of the tax under a fiscal statute, it may not make a difference….
* * *
- It is not in dispute that when a program is created it is necessary to encode it, upload the same and thereafter unload it. Indian law, as noticed by my learned Brother, Variava, J., does not make any distinction between tangible property and intangible property. A “goods” may be a tangible property or an intangible one. It would become goods provided it has the attributes thereof having regard to (a) its utility; (b) capable of being bought and sold; and (c) capable of being transmitted, transferred, delivered, stored and possessed. If a software whether customised or non-customised satisfies these attributes, the same would be goods. Unlike the American courts, the Supreme Court of India has also not gone into the question of severability. (emphasis supplied)
Thus arguing on similar lines of reasoning, cryptocurrency can be well covered within the meaning of the term “property” as it appears in the definition of capital asset and hence be taxable under the Income Tax Act, 1961.
The classic conflict with chargeability of an income under the head of capital gains and profits and gains of business or profession is the nature in which the asset has been held. That is to say if the asset is held as an “investment” or “capital asset”, then a charge under capital gains is leviable; but the asset is held as a “stock in trade”, then a charge under profit &gains of business or profession is leviable. At this juncture, it is pertinent to note the difference between investment and stock-in-trade. In Nawn Estates (P) Ltd. v. CIT27, the Court held that the word “investment” must be construed in the ordinary popular sense of the word as used by businessmen and not as a term of art having a defined or technical meaning. Investment in general would be spending money for the purpose of acquiring property or commodities that in turn generate further income.28 Hidaytullah, J.29 had observed that the word “investment” is a word of large import. In one sense, every mode of application of one’s money intended to yield a return by way of interest, income or profit is investment. While stock-in-trade includes all those goods or commodities which are dealt in the sense of buying and selling in the course of business activity, but it cannot be said to include a commodity which is acquired for the purpose of being let to hire.30 In M.K. Bros. (P) Ltd. v. CIT31, the Supreme Court had held that the nature of the transaction depends upon the purpose for which the payment has been made and the expenditure incurred. It is on similar lines that there may be cases where a taxpayer may acquire an asset not with the idea of selling it at a profit but to retain it as his own investment. In such cases the profit or gain derived from the sale or other transfer of such an investment would constitute a capital profit which cannot be charged to tax under the head “income from business or profession”. However, if the same assessee who holds some investments, decides at a later point of time to convert this investment into stock-in-trade and deals with them as part of his business assets in the normal course of his business, the profit or gain derived from the sale of the same asset in the ordinary course of the business would constitute income assessable under profits and gains of business or profession. The fact that the asset concerned was originally acquired without the idea of making profit on sale, is immaterial for the purpose of assessment. The law is settled that in order to determine that the asset is a capital asset or forms a part of stock-in-trade intention is the factor to be considered (G. Venkataswami Naidu & Co. v. CIT32).33 Upon a perusal of the decisions34, it is evident that the question whether an asset is a capital asset or a stock in trade depends on the intention and purpose of assessee in purchasing or acquiring that asset. It is to be noted that there is no straitjacket formula or test to determine intention – it has to be gathered from the facts and circumstances of the case. Mere holding of property or investment cannot amount to a business.35 A person who merely invests in shares for the purpose of earning dividends does not carry on business. Although, he may, at any time, convert those shares into his stock-in-trade and carry on business in that commodity.36 The surplus realised on the sale of shares, would be capital if the assessee is an ordinary investor realising his holding; but it would be revenue, if he deals with them as an adventure in the nature of trade. The fact that the original purchase was made with the intention to resell if an enhanced price could be obtained is by itself not enough but in conjunction with the conduct of the assessee and other circumstances it may point to the trading character of the transaction. For instance, an assessee may invest his capital in shares with the intention to resell them if in future their sale may bring in higher price. Such an investment, though motivated by a possibility of enhanced value, does not render the investment a transaction in the nature of trade. The test often applied is, has the assessee made his shares and securities the stock-in-trade of a business?37
In CIT v. Sutlej Cotton Mills Supply Agency Ltd.38, it has been held that a single transaction of purchase and sale outside the assessee’s line of business may constitute an adventure in the nature of trade. Neither repetition nor continuity of similar transactions is necessary to constitute a transaction an adventure in the nature of trade. Further, it was also held that the question to be determined in such cases is that the sum of gain that has been made a mere enhancement of value by realising a security or is it a gain made in an operation of business in carrying out a scheme for profit-making?
Thus, it is evident that the question whether an asset is a capital asset or a stock-in-trade depends on the intention and purpose of assessee in purchasing or acquiring that asset. It is to be noted that there is no straitjacket formula or test to determine intention – it has to be gathered from the facts and circumstances of the case.
While charging an income under Section 45 of the Income Tax Act, there is an inherent limitation that the income from such capital assets could be taxed as must have a cost or the cost of which is conceivable.39 Though the definition of capital asset includes all kinds of property, it has been held that the liability to tax on capital gains would arise in respect of only those capital assets in the acquisition of which an element of cost is either actually present or is capable of being reckoned and not in respect of those assets in the acquisition of which the element of tax is altogether inconceivable. In such cases, no capital gains will be chargeable because though the ingredients of Section 45 may be satisfied, a computation under Section 4840 would be impossible since the charging section and the computation provisions together constitute an integrated code.41 If the computation provision cannot be given effect to for any reason, the charge under Section 45 fails. Sections 45 and 48 must be read together as a part of an integrated code.42 Section 48 deals with the mode of computation of capital gain. As per this provision, in order to arrive on the taxable income the expenditure incurred wholly and exclusively in connection with such transfer and the cost of acquisition of the asset and the cost of any improvement thereto must be deducted from the full value of consideration. In CIT v. B.C. Srinivasa Setty43, the Supreme Court had laid down that Section 48 is concerned with an asset capable of acquisition at a cost. Where such cost of acquisition, it was pointed out, cannot be conceived of, as for instance in the case of a goodwill generated on its own in a newly commenced business, it cannot be said that a capital asset has been acquired within the meaning of Section 2(14), and hence, the provisions of capital gains taxation cannot be invoked. However, it is to be noted that there is a difference between impossibility of ascertainment of cost and difficulty in ascertaining the same. It is only in the former case, the law would favour no liability for the taxpayer.44 The implication of the decision in CIT v. B.C. Srinivasa Setty45 is that in cases where it is difficult to ascertain the (i) date of acquisition; (ii) cost of acquisition; (iii) date of transfer; and (iv) consideration for transfer, in such cases the gains are not chargeable to liability under Section 45. Owing to the implication of this decision, the capital gains in the hands of the assessee were going untaxed and hence, the legislature had amended Section 5546 which contains the meaning of “cost of acquisition under Section 55(2) by the Finance Act, 198747, w.e.f. 1-4-1988. After the amendment, the cost of acquisition for capital assets (where there was no cost or it was difficult to ascertain cost) was taken to be nil and therefore, the entire amount of the capital gain was taxable.
In case of cryptocurrency, if it being mined then the cost of the equipment and the setup for mining of cryptocurrency shall be taken up the cost of acquisition. In case where the cryptocurrency is traded between independent parties, then the consideration for which the currency is being acquired shall be the cost of acquisition.
Therefore, cryptocurrency can be taxed as a short-term capital gain or a long-term capital gain depending upon the duration and intention for which it has been held by the assessee.
Taxation of cryptocurrency as profit and gains from business or profession
The taxation under the head of profits and gains of business or profession depends upon whether the commodity is being used as stock in trade or trade. Section 2(13) of the Income Tax Act defines business to include trade, commerce or manufacture or any adventure or concern of such nature. Any continuous activity, or for that matter any adventure in the nature of trade involving cryptocurrency would qualify within this definition and thus, such profits are attributable to income under the head of profits and gains of business or profession. Even if such profits are not in terms of money or fiat currency, they are taxable even if they are in kind. Any person who is engaged in trading of cryptocurrency or mining of cryptocurrency would fall under this provision and the fair market value of such cryptocurrency shall be deemed to be the taxable income. In addition to this, the business deductions in form and value of cryptocurrency shall also be allowed to be made under various provisions.
Cryptocurrency is an emerging technology which will certainly take the reins in the near future. Therefore, it is imperative that it is regularised and regulated in India as soon as possible. However, the anonymity associated with the use of cryptocurrency is worth taking a note of and thus while regulating cryptocurrency appropriate measures should be adopted in order to ensure that no illegal transaction take place in terms of this digital currency. As far as the taxation aspect of cryptocurrency is concerned, the transactions shall not go untaxed in whatever form as these transactions, if taxed, would generate a lot of revenue for the exchequer and there is no bar on taxability of cryptocurrency irrespective of it being a currency in a digital form.
1https://www.moneycrashers.com/cryptocurrency-history-bitcoin-alternatives/ visited on 26-11-2019.
15The asset must have been transferred in the previous year; and such profit or gain is not exempt from tax under Ss. 54, 54-B, 54-D, 54-EC, 54-EE, 54-F, 54-G, 54-GA and 54-GB.
24JerryBrito and Andrea Castillo, Bitcoin: A Primer for Policymakers (2013), available at <http://mercatus.org/sites/default/files/Brito_BitcoinPrimer.pdf>.
33Reiterated in Raja Bahadur Visheshwara Singh v. CIT, (1961) 3 SCR 287.
34CIT v. Madan Gopal Radhey Lal, AIR 1969 SC 840; Saswad Mali Sugar Factory Ltd. v. CIT, 1999 SCC OnLine Bom 948; Dalmia Cement Ltd. v. CIT, (1976) 4 SCC 614; Ramnarain Sons (P) Ltd. v. CIT, AIR 1961 SC 1141.
39 Chaturvedi & Pithisaria’s Income Tax Law, 5th Edn., p. 4183.
42Dana Corporation, In re, (2010) 321 ITR 178 (AAR).