Challenges of ‘accounting' for cryptocurrency gains

Dipak Mondal

'NEW DELHI:  The ambiguity over the legal status of cryptocurrency, and the lack of clear guidelines from the tax department on the treatment of capital gains made from cryptos may expose investors to many future litigations, and in some cases, even criminal proceedings.

And yet cryptocurrencies in India are selling like hotcakes with scores of start-ups launching crypto exchanges, giving investors easy access to this asset class. As per various estimates, India today has close to 1.5 million cryptocurrency investors. The rise in the number of investors and invested amounts have coincided with the rise of cryptocurrency prices.In one year to 29 August 2021, the most popular cryptocurrency – bitcoin – has seen its prices surging by 320% from Rs 8.40 lakh on 29 August 2020 to Rs 35.60 lakh on 29th August 2021. This explains the craze for virtual currencies in India.

However, the hype around digital currency has not impressed the government and regulators, as they remain wary of private virtual currencies. While the finance ministry has been keeping its cards close to its heart as far as its policy regarding cryptocurrencies is concerned, the RBI has been more categorical in his stance with governor Shaktikanta Das  stating that private cryptocurrencies remain a risk for financial stability.

Disclosing details to tax dept
Even if there is no order or guidelines from the tax department on disclosing the capital gains made from cryptocurrency, the tax department is asking questions and sending notices about the crypto-transactions and the gains from them.

Income tax department has been sending notices asking from the assessee the source of income (which has been used to buy virtual currencies), source of investment, along with supporting documents, statement of the bank account through which investments are being made in virtual currency, and the capital gains made from such investments.

Clearly, the department is not only looking at the taxability of capital gains made from virtual currencies, they are asking for details to check if any illegal proceeds are being funneled into virtual currencies.

Sandeep Sehgal, who is director - taxes and regulatory services in tax consulting firm AKM Global, says since there are no express guidelines as to what all information needs to be disclosed, the department may try to gather as much information as possible.

“The information that is being asked for are the source of income from where the investments have been made, treatment in the tax return on the income/loss generated on cryptos, and whether any transfer of coins has taken place from one wallet to another wallet in or outside India,” he says.

The lack of clarity on taxability also poses several challenges for investors even in disclosing their gains from virtual currencies. There have been instances, explains Sehgal, where crypto investors have exchanged the crypto asset purchased on exchange with an over-the-counter market, which poses challenges to identify the exact person who actually dealt in crypto currency.

“The department could ask if any such transaction has been entered by a taxpayer, particularly, if there is mismatch in holdings (of virtual currencies) of a person over a period,” he says. But even if there is no clarity, tax experts advise investors to disclose their gains on their own. “It is always advisable to pay taxes on the profits made from transactions in cryptocurrency as well as report information regarding cryptocurrency held in the return of income filed, to avoid any adverse penal consequences,” says Dhaval Jariwala, a Mumbai-based chartered accountant.

Taxability of gains
In absence of any clear rules, tax experts believe that crypto currencies are treated as assets and the gains from them are treated as capital gains and taxed accordingly. However, even this could be disputed.

What about gains from frequent trading? In the case of equities, income from frequent trading is considered business income. If this rule is applied, gains from trading could be treated as business income and taxed accordingly.

Even in cases where the profits are treated as capital gains, should the capital gains be treated as long term after completion of 12 months as in case of equities or after the completion of 36 months as in case of debt, gold and real estate? These are questions which only the tax department could  answer, and without clear rules you are at the mercy of tax officials.

Key stats

$6.6 billion is the estimated amount of crypto currency investments made in India

Rs 35.6 lakh is the current price of bitcoins

320% is the increase in bitcoin prices over the last one year

1.5 million is the total estimated number of crypto currency investors in India