homeviews NewsBudget 2023 — Why virtual digital assets need a different approach for taxation

Budget 2023 — Why virtual digital assets need a different approach for taxation

Budget 2023 — Why virtual digital assets need a different approach for taxation
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By Srinath Sridharan  Jan 26, 2023 12:44:31 PM IST (Updated)

A TDS of one percent (on transactions above Rs 10,000) is high for an industry that has high-frequency transactions like any other securities markets. Rather, India should pick up cues from existing other markets where they have mechanisms to track VDA transactions for tax compliance. 

The Union Budget 2022-23 brought to the virtual digital asset (VDA) industry a levy of a flat 30 percent tax on gains from trade applicable from 1st April 2022; a levy of 1 percent tax deducted at source (TDS) on transactions above Rs 10,000 from 1st July 2022; the provision disallowing the offsetting of losses applicable from 1st April 2022. This meant to achieve a threefold objective ie;  tracking VDA transactions by resident Indians and the corresponding sources of income; discouraging speculation and trading on VDAs; and building guard rails for financial stability. 

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For example, the US taxes short-term and long- term gains from VDA at separate rates. The short-term gains are taxed at a rate between 10-37 percent, long-term gains attract a lower tax rate of 10-20 percent. None of the countries, except India, impose a TDS on VDA transactions. A TDS of one percent (on transactions above Rs 10,000) is high for an industry that has high-frequency transactions like any other securities markets. Rather, India should pick up cues from existing other markets where they have mechanisms to track VDA transactions for tax compliance. 
Web3.0 potential
Cryptos alone don’t define Web3.0. The core distinctive feature of Web3 is the decentralisation of business models. Web3, potentially changes that power structure with control to the users. Governance will be with the user community and not hidden with anonymous or convoluted structure of large global platforms. 
The Web 3.0 tokens are digital assets that are associated with the idea of building a decentralised Internet. Digital assets are intangible digital items with assigned & clear ownership rights. Yet the legal sanctity is not clear in many countries. The market volatility & reduced valuations of major cryptocurrencies,  reduced trading volume of non-fungible tokens (NFTs), and early movers and few large platforms in this space have shut due to misuse of customer funds and poor risk management and governance practices. 
However this does not mean that the underlying potential of digital assets and their growth in the medium to long term is to be doubted. The younger population sees VDAs as a serious investment class, despite last 18 months of global volatility in this space. The VDA exchanges are increasingly becoming centralised. An irony, considering the nature of their origin was to be decentralised. Centralised exchanges are able to provide investor services like speedier process transactions, futures contracts and margin trading.
Push to foreign exchanges
Current policy thinking around VDAs have led to offshoring of domestic business and liquidity to foreign exchanges, at greater risk to Indian domestic investors. Industry estimates indicates that a cumulative trade volume of  INR 3o,ooo crores have moved from domestic centralised VDA exchanges to foreign ones, during Feb-Oct 2022 alone. An estimate of over 15 lakh users switched to foreign exchanges. 
High taxation has a  large negative impact on tax revenues, as well as a decrease in transaction traceability. While much of these policy formation probably shaped up with idea to keep cryptos at bay, and to discourage Indian investors from totally investing in VDAs. But instead Indian consumers continue to invest into VDAs, but simply shifting their investments into VDA exchanges abroad. This makes traceability and tax compliance, far complicated and tougher. With current issues at global exchanges, there is greater chance of Indian retail investors in those exchanges losing their assets. We can’t outsource domestic consumers’ protection to foreign market regulators. 
Treating VDA exchanges as securities exchanges
Treating VDA exchanges like other securities market exchanges could help build tighter regulatory supervision, as well as solve for granular Know Your Customer (KYC) and Anti-Money Laundering (AML) policies. This would also bring focused governance upgrades in the functioning of these exchanges. This can be supplemented with regulations that can provide minimum level of capital, proof of reserves (POR) daily by VDA exchanges, to ensure that they have sufficient resources to protect against any losses. 
Given that the TDS mandate is also meant to enhance transaction tracking, lowering its rate in line with securities transaction tax (STT) would bring in higher tax revenues. The government should reconcile tax rates vis-a-vis revenue maximisation by ascertaining the optimal taxation point(s). The government could adopt a tax structure with differentiated rates for short term and long-term gains, in line with international best-practice. 
In a Web 3.0 world, Indian tech entrepreneurs can have a larger pie of the global possibilities. The concept of Virtual Digital Assets is shaping up now, globally, and many countries have regulations on them. While we might have a sense of policy disdain, we may be better off using a sandbox approach to treating it fairly. 
 
 
— The author, Srinath Sridharan, is a Writer, Policy Researcher & Corporate Advisor. The views expressed are personal.
Read his previous articles here
 
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