WIll Crypto-Asset Reporting Framework bring clarity for investors?

Transactions in cryptocurrency have increased manifold. The very character of crypto assets, and the ability of investors to hold, transfer and transact across jurisdictions, makes them an easy target to be used for unlawful activities or tax evasion. The limited visibility of tax authorities on these transactions poses difficulty in verifying gains and determining taxes on such transactions.

OECD’s guidance: With a view to increase transparency among nations, the OECD (Organisation for Economic Co-operation and Development) has developed the Crypto Asset Reporting Framework (CARF). The Common Reporting Standard (CRS) required jurisdictions to obtain information from financial institutions and banks and exchange such information with other jurisdictions. The CARF is a step forward in this direction as crypto assets do not automatically fall in the realm of CRS that dealt with traditional financial assets and fiat currencies. With CARF, the reporting scope has been expanded to include digital assets and consequently have visibility over intermediaries, exchanges and e-wallet service providers.

The OECD defines crypto assets as a digital representation of value that relies on a cryptographically secured distributed ledger or a similar technology to validate and secure transactions. Crypto assets are those that can be held and transferred in a decentralized manner, without the intervention of traditional financial intermediaries, including stable coins, derivatives issued in the form of a crypto asset and certain non-fungible tokens (NFTs). There are certain exceptions to this, such as currency issued by the central bank, specified electronic money products, etc. The framework provides guidance on various aspects of entities and individuals, subject to data reporting responsibility and data collection requirements, types of transactions covered, and relevant information to be reported, etc.

India is a signatory to the multilateral competent authority agreement on automatic exchange of financial account information. Thus, India would soon have to comply with the required framework so that flow of information is smooth.

Crypto taxation in India: Taxation of digital assets in India was introduced in Budget 2022 when a tax of 30% on all gains from the transfer of virtual digital assets (VDAs) was proposed, without allowing any deduction for expenses (other than cost of acquisition) nor set-off of any losses. Further, the purchaser is required to deduct TDS at 1% on all VDA transfers beyond a specified threshold with an intention to widen the tax base and avoid tax leakage due to non-reporting.

India’s tax provisions define VDAs as any information or code or number or token (not being Indian currency or foreign currency) generated through cryptographic means or otherwise, by whatever name called. It provides a digital representation of the 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 and includes its use in any financial transaction or investment but not limited to investment schemes, and can be transferred, stored or traded electronically, including non-fungible tokens or assets of a similar nature, by whatever name called, and any other digital asset as notified by the central government. Circulars were issued in June 2022 to provide additional guidance on tax withholding compliance requirements.

With the announcement of CARF, the government has an opportunity to frame regulations now, considering the reporting guidelines of the CARF. This may prompt applying the CARF to investors as well as service providers resident in India and covering a wide range of digital assets. To meet the requirements, service providers would need an enhanced data collection mechanism like KYC documents, to ensure that identity of each of the participants is established, ensure that appropriate taxes are withheld for each transaction, appropriate mechanism for record-keeping and reporting, etc. Investors may be required to mandatorily disclose norms in addition to the current provision of tax levy and tax withholding.

The guidance provided by OECD is a welcome move to bring standardization and regulation for trading in digital assets, though it may add to the responsibility of exchanges. It will provide visibility to regulators and tax officers on the transactions, besides clarity to investors and exchanges on their obligations.

Aarti Raote is a partner with Deloitte India.