Crypto under PMLA: New rules of the game

The central government has tightened regulatory control over virtual digital assets, more commonly known as cryptocurrencies. According to a gazette notification, the government has mandated that a host of trading activities in such assets will now come under the ambit of the Prevention of Money Laundering Act (PMLA). In other words, going ahead, trading between cryptocurrencies and fiat currencies or among cryptocurrencies and other such services can be investigated by agencies such as the Enforcement Directorate (ED) and the Income Tax department. The move should be seen in light of the government’s efforts to bring cryptocurrencies under greater regulation. In April 2022, for instance, the government introduced a 30% income tax on gains made from cryptocurrencies. Later in July 2022, the government brought in rules regarding 1% tax deducted at source on cryptocurrency. Broadly speaking, greater regulation of cryptocurrencies is advisable.

The starting point of this regulation is the government’s decision to not accept cryptocurrencies as “currencies”, and instead treat them as virtual digital assets. That lack of recognition strikes at the heart of what cryptocurrencies essentially aim to do: Provide an alternative to regulated currencies. The fundamental aim behind cryptocurrencies and their attractiveness is that they are designed to bypass the financial system and existing regulations. As such, they aim to evade being traced or confiscated or frozen by governments. What makes them effective in doing this is that they are anonymous in character and, since they work over the internet, are not bound by physical borders. But these characteristics also throw up several risks for any economy. For one, absent regulation, they can evade minimum prudential norms such as Know-Your-Customer regimes, Anti-Money Laundering (AML) and Combating the Financing of Terrorism (CFT) rules, etc. Each of these gaps increases the chances of cryptocurrencies being used for a range of criminal behaviors. Without effective regulation, there is an even bigger issue at hand: The question of monetary sovereignty. Since such “private” currencies are often pegged to the US dollar, with greater use they not only replace the Indian rupee but could also lead to greater “dollarisation” of the Indian economy even as the monetary and fiscal authorities (read the RBI and government, respectively) lose control.

The government’s move is in line with most regulators and policymakers globally. For a while now, the IMF has been urging a global architecture for effective regulation of such assets as they cannot be contained by neat geographic divisions. However, as reports in this paper show, the industry entities are concerned about the lack of time given to them for complying with the new norms. Moreover, in the interest of effective regulation, the government must at the earliest decide on a full-time regulator for this sector and not leave entities trading in cryptocurrencies at the mercy of investigative agencies alone.