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Until this year, India was one of the fastest growing markets for crypto assets. Then, in April, the government started taxing crypto transactions and volumes on local exchanges plummeted. The government presented the tax measure as an opportunity to formalize the asset class. It has also made crypto trading prohibitively expensive. The decision comes amid a drumbeat of criticism of the industry by government officials and regulators. Some of the deadliest attacks have come from India’s central bank as it prepares to launch a national digital currency that is a potential competitor to crypto tokens such as Bitcoin and Ether.

1. What did the government do?

As of April 1, any gain on the transfer of crypto assets is taxed at 30%, a higher rate than in many other jurisdictions, including the US and UK. Trade losses cannot be compensated by income, even from a different token. In July, the government added an additional 1% tax – to be deducted at source – on transfers of digital assets worth more than 10,000 rupees ($125) or a total of 50,000 rupees of transactions during a single exercise.

The 1% transaction tax known as TDS, considered unique in the crypto industry, hurt market makers and high-frequency traders who accounted for a large portion of trading volume. Trading on three exchanges – ZebPay, WazirX and CoinDCX – fell 60% to 87% after the tax took effect, according to data from CoinGecko. A typical high-frequency trader could see around 60% of their capital frozen for TDS payouts after just 100 trades, according to Manhar Garegrat, former executive director of policy at crypto exchange CoinDCX.

3. What was the purpose of the move?

The collapse of crypto trading means the government is unlikely to get much revenue from the new levies. What it does do is give state officials a way to track activity on many crypto platforms. Since many digital tokens carry an element of anonymity, officials fear they could be used for terrorist financing, fraud, and other illicit activities. There is also the risk that an unregulated environment will further attract domestic household savings to volatile assets, leaving savers vulnerable to a crash.

4. Was the tax ruling unexpected?

Not really. India has had a hot and cold relationship with digital currencies. The government is keen to promote distributed ledger technology of crypto, known as blockchain. However, in 2018, the Reserve Bank of India banned banks from holding crypto or facilitating crypto transactions. The Supreme Court overturned this in 2020, but regulatory uncertainty has continued and Indian banks are still hesitant to work with crypto startups. Government officials and financial regulators continue to warn of the risks of crypto, with RBI Deputy Governor T. Rabi Sankar comparing cryptocurrencies to Ponzi schemes and suggesting they should be banned. Finance Secretary TV Somanathan said India treats crypto trading as income from gambling and speculation.

5. Did the trade stop or just go somewhere else?

It is difficult to say because there is a lack of data. Local exchange WazirX said long-term crypto holders were still buying and selling, but others were migrating to foreign trading platforms or dealing directly with each other through so-called decentralized exchanges to avoid the tax.

6. How big was crypto in India?

Investments in crypto in India have grown from around $923 million in April 2020 to almost $6.6 billion in May 2021, according to Chainalysis. The country’s population of 1.4 billion is quite young, with a growing and well-educated middle class. That, combined with a less-developed traditional financial system, has led to the world’s second-highest crypto adoption rate behind Vietnam, according to data from Chainalysis. In November last year, India had over 15 million registered crypto users with total assets worth $6 billion, said the chairman of the parliament’s finance committee. By comparison, 34 million American adults are expected to own a crypto asset by the end of 2022, according to Insider Intelligence estimates.

While China has banned crypto transactions entirely, India has yet to introduce a bill defining digital assets and deciding how to regulate them. Finance Minister Nirmala Sitharaman said any legislation can only be effective with international cooperation to prevent so-called regulatory arbitrage, whereby companies seek the most lenient jurisdiction to do business. Uncertainty is chilling Indian startup clusters developing blockchain-based products, from decentralized financial apps to non-fungible tokens. It is also unclear how the Indian digital rupee, which is scheduled to launch in 2023, will impact the industry. RBI Deputy Governor Sankar said in June that central bank digital currencies could “kill any small case that might be for private cryptocurrencies.”

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