Money laundering provisions will now apply to India’s cryptocurrency sector as the government seeks to tighten oversight of digital assets in the country.
The central government via a notification dated 7 March, 2023 has brought digital assets and fiat currencies, virtual digital assets, more commonly, the crypto currencies and such other digital assets, their trading, safe keeping and related financial services under the ambit of Prevention of Money Laundering Act ( PMLA).
The Finance Ministry said the exchange between virtual digital assets and fiat currencies, exchange between one or more forms of virtual digital assets, and transfer of virtual digital assets, will fall under the purview of the PMLA Act.
“With this inclusion, crypto dealers, exchanges and intermediaries will now be required to perform KYC and maintain their records of their clients and users of the platform, as are usually done by the banks. Further, such dealers and exchanges will now have to report any suspicious activity to the government agencies. This will enable government to keep a closer watch on the crypto trading activities,” said Shashank Agarwal, Advocate, Delhi High Court.
What does the notification state?
The Indian Government imposed Anti-Money Laundering provisions on Virtual Digital Assets (VDA) vide Ministry of Finance notification dated 7th March 2023. As a result, VDA service providers / businesses have now become the ‘reporting entities’ under PMLA Act, and they have to follow similar reporting standards and KYC norms as the other regulated entities like banks, securities intermediaries, payment system operators, etc. do.
What does the notification mean?
This means that any financial wrongdoing involving cryptocurrency assets can now be investigated by the Enforcement Directorate.The definition of ‘virtual assets’ would be the same as that in the Income-Tax Act, the notification stated. The definition includes cryptocurrencies and non-fungible tokens. With the imposition of the new rules, Indian crypto exchanges will have to report suspicious activity to the Financial Intelligence Unit India (FIU-IND).
It also mandates entities dealing in crypto to follow KYC, anti-money laundering regulations and due diligence as followed by banking and other financial entities which fall under the classification of reporting entities under PMLA.
“Cryptocurrency industry members will now be required to undertake the necessary steps to verify and maintain accounts of individuals, transactions, and report any suspicious activity to the Financial Intelligence Unit. Additional compliance requirements such as verification of source of funds, ownership and financial positions will further lend credibility to an industry, which has been subject to severe regulatory attention over the last few years. This move also empowers the government to access the information stored by crypto exchanges at any point in time,” said Bagmisikha Puhan, (Associate Partner TMT Law Practice.
“Cryptocurrency transactions continue to lack transparency and the trail is difficult to establish. This move pushes responsibility on the cryptocurrency markets to bring transparency to cryptocurrency trading,” said Prashant Garg, partner, technology consulting, EY.
“The responsibility of maintaining transparency, identity, and following regulations is on cryptocurrency exchanges. Globally, banks are severing ties with exchanges, straining the exchanges and forcing them to look for an alternative model,” said Garg.
New rules will prevent misuse of crypto
“The new rules are introduced to prevent misuse of crypto, such as money laundering, and they do not stop the regular, KYC-verified conversion of crypto to INR users do on the CoinSwitch app or CoinSwitch PRO platforms. We took a conscious decision in 2021 to limit crypto movement within our KYC-compliant ecosystem to ensure transparency and compliance with the laws of the land,” said Ashish Singhal, Co-founder & CEO, CoinSwitch.
” In this digital era of finance, compliance is a must not just to safeguard interest of investors but also of the country and in this aspect the crypto industry is becoming increasingly important, governments and regulators around the world are paying closer attention to this rapidly evolving space. We welcome the government move for bringing ‘money laundering provisions’ in the crypto sector. Moreover, we see this as a step forward to make the ‘Indian crypto market’ having a compliant framework for Investment in ‘crypto currency’,” said Lavin Kotian – CTO and Cofounder, TransBnk.
“The move by India to impose money laundering provisions on cryptocurrencies shows that governments around the world are recognizing the importance of having clear regulations in place for cryptocurrencies, which can help prevent criminal activities such as money laundering and terrorist financing. While this may lead to some short-term challenges for cryptocurrency traders and investors, it could ultimately lead to a more stable and trustworthy environment for the industry to thrive in the long run,” said Vijay Pravin Maharajan, Founder & CEO, bitsCrunch.
What is considered as money laundering and what are the consequences of being involved with the same?
As per the Indian laws, “whosoever directly or indirectly attempts to indulge or knowingly assists or knowingly is a party who is actually involved in any process or activity connected with the proceeds of crime and projecting it as untainted property shall be guilty of offence of money laundering”.
” For the crypto space this means that if an individual is transferring crypto having a monetary value without complete disclosure to the government and the receiver is not reporting that as income or a payment, both parties can be held liable under the money laundering act. It is relatively easy for an individual to open a crypto wallet without having the need to disclose their identity or fulfil any KYC requirements and load funds in the form of crypto. The interesting part about this is that there is no limit to transfers, no transaction trail, valued at par globally, doesn’t require government approvals, and can easily be sent within a few minutes,” said Abhinav Soomaney, Managing partner at CryptoTax International Pvt Ltd.
As stated in the money laundering section, “whoever commits the offence of money laundering shall be punishable with rigorous punishment for a term no less than three years, but which may extend to seven years and shall also be liable to fine which may extend to five lakh rupees”.
” If there are laws and guidelines against crypto laundering, investors will have the fear of being penalized. To make things more streamlined, exchanges in India must track transfers made by investors within a tax year exceeding a certain amount and report the same to the tax authorities. It is very important to note that this law will be applicable to crypto traders, safekeepers, and financial service providers which will include exchange platforms and blockchain startup companies as well,” said Soomaney.
Enforcement Directorate and Income Tax Department are already probing several such money laundering cases against companies running cryptocurrency exchanges and transactions and nearly Rs 936 crore related to crypto currency has been attached or seized under PMLA, so far.
In the last one year, Enforcement Directorate and Income Tax Department have already probied at least 10 crypto exchanges for allegedly assisting foreign firms launder money via crypto. The probe had unearthed instances of the accused firms approaching the exchanges to buy crypto coins for more than Rs 100 crore and crypto coins being sent to international wallets. In many cases, the KYC details (know your customer) collected by the exchanges were found to be dubious. The government agency estimates the accused firms laundered more than Rs 1,000 crore in the instant loan app case, adding that most of the allegations have a China link.
Under Foreign Exchange Management Act, 1999 (FEMA), assets amounting to Rs 289.28 crore have been seized under section 37A of FEMA and one show-cause notice to crypto currency exchange Zanmai Labs Pvt Ltd, known as WazirX and its directors under FEMA for transactions involving cryptocurrencies work Rs 2,790 crore has also been issued.
The government notification is expected to aid investigative agencies in carrying out their actions against crypto companies.
The notification reflects government’s intent to regulate, and not ban crypto
“This notification reflects Central Government’s intention to regulate the VDA space rather than an outright ban, which is a welcome step. It will be interesting to see how VDA service providers / businesses streamline their services to accommodate the PMLA obligations without any industry specific governing body overlooking. Overall, this has tightened the governance of VDA service providers/ businesses, which results in more depth in this large ambiguously regulated industry” said Diviay Chadha, Partner, Singhania & Co. LLP.
Last month, Finance Minister Nirmala Sitharaman told Parliament that India was discussing with the G-20 member countries the need to develop a standard operating protocol for regulating crypto assets.
She had said crypto assets and Web3 are relatively new and evolving sectors and require significant international collaboration for any specific legislation on these sectors to be fully effective.
Crypto assets are by definition borderless and require international collaboration to prevent regulatory arbitrage. Therefore, any legislation for regulation or for banning can be effective only with significant international collaboration on the evaluation of the risks and benefits and evolution of common taxonomy and standards.
In April 2022, India introduced a 30 per cent income tax on gains made from cryptocurrencies. In July 2022, rules regarding 1 per cent tax deducted at source on cryptocurrency came into effect.
What is the RBI’s take?
The Reserve Bank of India has so far cautioned people against crypto assets. In January, RBI Governor Shaktikanta Das said investing in crypto was akin to gambling and will even undermine the power of the central bank if allowed to grow unchecked. “If crypto is allowed in India, the RBI will lose control over monitoring transactions,” Das had said.
What’s the government’s position
India, which currently holds the G20 presidency, has been pushing for a collective global effort to regulate VDAs and mitigate its potential risks. During the latest G20 meeting, which ended on Saturday, Sitharaman held a seminar for member states to share their concerns regarding the risks of cryptocurrencies while discussing how to come up with a common framework.
17 lakh users Indian VDA users have switched from domestic centralised VDA exchanges to foreign counterparts since the announcement of the tax regime in the Union Budget in February 2022:
The current tax structure on VDS in India have impacted trading volumes on local cryptocurrency exchanges.
A research study by Esya Centre, a Delhi-based technology policy think tank, shows Indian crypto traders have moved over $3.8 billion in trading volume from local exchanges to international crypto platforms after the country’s controversial tax policy came into effect last year.
“This is likely to lead to a large negative impact on tax revenues, as well as a decrease in transaction traceability—which defeats the two central goals of the extant policy architecture. The downside impact of the VDA tax architecture is likely to further accentuate capital outflow and deter international investors. This implies reduced competitiveness of Indian centralised VDA exchanges relative to international counterparts,” the study added.
The Esya Centre recommended three steps to stem the offshoring of domestic business and liquidity to foreign exchanges.
It says tax deducted at-source (TDS) on VDAs should be at par with securities transaction tax. The government should reconcile tax rates vis-a-vis revenue maximisation by ascertaining the optimal taxation point(s) using economic analysis tools such as the Laffer Curve. And, India should adopt a progressive tax structure with differentiated rates for short-term and long-term gains, in line with international best-practices, it added.
“While this move will undoubtedly bring about greater consumer confidence in a regulated industry, aspects in relation to data security and privacy measures will require strengthening, with increased incidence of collection of user’s sensitive data sets. While banking and financial institutions are required to adhere to sector specific data security norms released by RBI, crypto industry members are still largely regulated under SPDI norms, which will require a re-look,” said Puhan.
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