How are Indian crypto industry & investors coping with the new tax regime?

After a period of prolonged uncertainty -- marked by the government and the RBI’s scepticism towards virtual digital assets -- a new tax regime for cryptocurrencies was finally unfurled in this year’s budget. And it came into force with the onset of this financial year last week.

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Text on screen: India has 15-20 million crypto investors with holdings of $6 billion, according to industry estimates. 

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The introduction of a separate taxation system was seen as a relief by the industry, as it gave an air of legitimacy to cryptocurrencies. But it looks like it wasn’t much of a relief.

The new norms effected a flat 30% tax on profits made from the transfer of crypto assets and NFTs --irrespective of the holding period. The gains from virtual digital assets are being taxed in the same way as from those made in gambling, lottery or horse racing. No deduction except the cost of acquisition is allowed. Crypto gifts are also taxable at the slab rate if their value exceeds Rs 50,000.

And if that was not enough, a far harsher Tax Deducted at Source (TDS) at the rate of 1% for every trade will be levied from July 1 if the aggregate transaction value in the financial year crosses Rs 50,000. The buyer must withhold the TDS on behalf of the seller. 

Experts warn that the TDS will suck liquidity from the market by forcing high-frequency traders to curtail their trading. Some even warn that the government’s decision not to permit offsetting of trading losses in digital assets may lead to an exodus of crypto companies from India.

Meanwhile, Indian crypto exchanges have been witnessing higher volumes in the past week for multiple reasons. New investors are entering the crypto market as they view the tax as a tacit recognition of the asset class by the government.  

Some traders have booked profits to take advantage of the prevailing system, which, unlike the new framework, allowed set-off and carry forward of capital losses in crypto. While some investors are squaring off their positions to start the new year with a clean slate.

In a way, the tax puts an end to the constant uncertainty that plagued the sector in India for half a decade now. The industry welcomed the move even as they bemoaned the prohibitive taxes which threatens to accelerate the brain drain and discourage innovation. 

Experts have highlighted the impracticality of enforcing the TDS provision, especially on foreign exchanges and in the case of crypto-to-crypto trades where there is no clarity on who will be designated as the buyer. 

Given the nature of the industry, which lives by the ethos of decentralization, enforcing the TDS becomes arduous. As the TDS will dry up liquidity on exchanges, investors will neither get the best prices nor quick execution of trades.

This may also push traders to the grey market and devise ways to evade taxes.

While, individuals with resources, high-frequency traders as well as start-ups and entrepreneurs in the cryptocurrency and Web 3.0 ecosystem are now being incentivized to shift their base to crypto-friendly jurisdictions like Singapore and Dubai in the UAE. India may see a brain drain of thousands of highly-skilled developers.

The tax has come as a body blow to an industry that was starting to thrive. Venture capital funding into Indian cryptocurrency and Web 3.0 start-ups grew 28 times to $500 million in 2021, according to a Bain & Co report. Indian crypto exchanges CoinSwitch Kuber and CoinDCX turned unicorns in quick succession last year. 

Polygon, a decentralized scaling platform for the Ethereum blockchain, raised $450 million through a private sale of its native token MATIC to venture capital firms in February.

Polygon was founded in Bengaluru by three Indians as Matic Network in 2017. However, in order to derisk its business from geography-specific regulatory concerns, Polygon has distributed its operations between several countries keeping only a limited presence in India.

Giottus Co-founder Arjun Vijay says India will be forced to play catch up a few years down the line if it lets go of an opportunity that’s presenting itself now. With three months to go for the TDS provision to take effect, the industry is hoping the government will heed its warnings.