[Kashvi is a student at National Law University Odisha.]
Virtual digital assets (VDAs) are digital entities that function as a medium of exchange, a unit of measurement, or a store of value. They have evolved from niche innovations into a crucial part of the global financial ecosystem. With a market capitalization exceeding USD 3 trillion and a user base of 560 million worldwide, VDAs can no longer be considered inconsequential. India has also experienced a significant surge in VDA adoption, with millions of users and a rapidly growing domestic market supported by organized players, including exchanges and technology startups. By 2025, the Indian VDA market is projected to reach USD 6.4 billion, with over 107.3 million active users, highlighting its increasing relevance in the country’s financial landscape.
However, India is yet to establish its own regulatory framework for VDAs. The Ministry of Finance (MoF) informed Parliament that there is “no timeline anticipated for the introduction of comprehensive regulatory guidelines for the VDA industry in India.” While the government continues to adopt a wait-and-watch approach, the industry remains in a state of uncertainty regarding future regulatory developments. This regulatory ambiguity also reflects in the taxation landscape. With the budget unveiled, there was anticipation that it would address the taxation framework for VDAs, offering potential relief to investors and stakeholders. However, no changes were introduced, leaving the existing tax structure unchanged and reinforcing concerns over high rates of tax deducted at source (TDS) and compliance burdens within the crypto industry.
VDA’s Taxation in India
The taxation of VDAs in India, introduced in the Union Budget 2022, imposes a 30% tax on income from VDA transactions, a 1% TDS on payments exceeding INR 50,000, and taxes on gifted VDAs, with no allowance for loss set-off or indexation benefits.
The taxation of VDAs in India offers several advantages.
First, taxation provides a significant revenue stream and formal recognition for VDAs. As cryptocurrencies, NFTs, and other digital assets gain traction, taxing them allows the government to tap into a lucrative market. In the financial year 2022-23, India collected approximately INR 150 crore (INR 1.5 billion) in VDA taxes. Moreover, taxation integrates VDAs into the formal economy, reducing ambiguity and creating a structured legal framework. This formal recognition not only enhances regulatory clarity but also strengthens India’s credibility on the global stage as a committed player in the digital asset space.
Second, it helps curbing illicit activities and promoting transparency. The taxation framework, particularly the 1% TDS requirement, helps track VDA transactions, making it harder for individuals to use these assets for money laundering, tax evasion, or other illegal activities. This aligns with global efforts to ensure the integrity of financial systems. This also discourages short-term speculative trading, which often leads to market volatility. By promoting long-term investment over short-term speculation, the government aims to stabilize the VDA market and protect retail investors from excessive risks.
Third, it lays down the foundation for future regulation and institutional participation. The taxation of VDAs lays the groundwork for a comprehensive regulatory framework, enabling policymakers to address emerging challenges and opportunities in the digital asset space. A clear and structured tax regime can attract institutional investors, who prefer regulated environments. For example, global asset management firms like BlackRock and Fidelity have entered the crypto space in jurisdictions with clear regulations. In India, institutional participation could bring stability, liquidity, and credibility to the VDA market.
Fourth, taxation can stimulate innovation and economic growth. By legitimizing the broader blockchain ecosystem, VDA taxation encourages businesses to explore applications beyond cryptocurrencies, such as supply chain transparency (Agri10x), healthcare data management (MediLedger), and governance (IndiaChain). A robust digital asset sector can drive job creation, attract foreign investment, and foster innovation. With the global blockchain market projected to grow at a 56.3% CAGR (2023–2029), India has the potential to capture a significant share.
Fifth, taxation aligns India with global trends and enhances investor protection. As countries adopt VDA regulations, India’s taxation framework keeps it competitive and supports global tax transparency efforts like the G20’s CARF. Additionally, it helps protect retail investors by mitigating fraud and market manipulation risks.
Challenges of VDA Taxation in India
However, despite these advantages, the taxation framework also presents significant challenges that hinder the growth and adoption of VDAs in India.
First, high tax burden and liquidity constraints. The 30% tax rate on income from VDA transactions, coupled with the 1% TDS, places a significant burden on retail investors and traders. This has led to liquidity constraints and a decline in trading volumes on Indian exchanges, as investors face reduced net gains and increased compliance costs. For example, major Indian crypto exchanges reported a 70-90% decline in trading volumes post the implementation of the 1% TDS in July 2022.
Second, this has led to a shift to foreign exchanges and grey markets. The high tax burden has driven Indian investors to shift to foreign exchanges and grey markets to avoid the 1% TDS. This undermines the government’s objective of tracking and regulating VDA transactions, as these platforms operate outside the purview of Indian tax laws. Downloads of foreign exchanges like Binance surged in India, while Indian exchanges saw a significant decline in user activity. This shift has made it difficult for the government to track illegal transactions and enforce tax compliance.
Third, stifling innovation and economic growth. The high tax rates and lack of regulatory clarity have stifled innovation in the VDA sector, discouraging startups and businesses from exploring blockchain technology and other digital asset applications. This could lead to a brain drain, as talented professionals and startups relocate to more crypto-friendly jurisdictions. Over 300 Web3 startups have already moved their operations outside India, according to a NASSCOM report, citing unfavorable tax policies and regulatory uncertainty.
Fourth, it has a negative impact on the ease of doing business. The taxation regime has created a challenging environment for crypto startups and exchanges, increasing compliance costs and reducing profitability. This has put a significant setback to the Ease of Doing Business criterion for crypto startups in the country, derailing the emerging financial ecosystem. Several small-scale exchanges have shut down, while larger exchanges have had to pivot their business models to adapt to reduced profitability.
Changes Required
To ensure a thriving VDA ecosystem in India, several reforms are needed to address the current challenges.
First, replace the flat 30% tax rate with a progressive, slab-based tax system for VDA transactions. For instance, lower tax rates could be applied to smaller retail investors, while higher rates could be levied on large-scale traders or institutional investors. This would reduce the burden on retail participants and encourage broader participation in the crypto market. The revision in the tax regime by reducing TDS from 1% to 0.01% and aligning capital gains tax with the STT or CTT could significantly lower the cost of formal trading while fostering greater compliance. Additionally, allowing the carry-forward of VDA losses would incentivize investors to operate within regulated frameworks rather than seeking alternatives in grey markets.
Second, introduce a distinction between short-term and long-term capital gains for VDAs, similar to equity markets. For example, long-term holdings (assets held for more than 12 months) could be taxed at a lower rate (10-15%), while short-term gains could be taxed at a higher rate. This would incentivize long-term investment and reduce speculative trading. Thirdly, adopt a stratified regulatory model. The MoF notification (07/03/2023) broadly defines VDASPs, imposing uniform compliance on all providers, even low-risk ones. It treats B2B VDA issuers, SaaS entities, and technology providers the same as VDA exchanges, which require stricter oversight. A stratified regulatory model, like Japan’s risk-based approach, is essential to foster diverse intermediaries in the industry. Without it, innovation may suffer, and capital flight could extend beyond VDAs to other tech sectors.
Fourth, leverage blockchain technology for tax tracking. Blockchain enhances transparency, efficiency, and compliance in VDA taxation by providing a decentralized, immutable ledger for real-time transaction tracking. This reduces fraud and tax evasion. By recording transactions on a distributed ledger accessible to authorized parties, blockchain eliminates tampering and provides a reliable audit trail for tax authorities. Countries like Estonia and China have successfully integrated blockchain into tax systems, improving compliance and reducing administrative costs.
Fifth, encourage the formation of self-regulatory organizations (SROs). SROs within the crypto industry can oversee compliance, taxation, and ethical practices while collaborating with the government for balanced regulation. Global models like Japan’s JVCEA highlight their effectiveness in fostering responsible crypto ecosystems.
Conclusion
The introduction of VDA was a crucial step in recognizing VDAs within India's regulatory framework, especially as the country still lacks a comprehensive VDA regulation. However, the current tax regime imposes a significant burden on investors and hinders innovation. The growing shift towards foreign exchanges and grey markets underscores the need for a more balanced and effective approach. Reforms such as reducing the 30% tax rate, lowering TDS, and introducing a progressive tax structure would encourage wider participation and foster long-term investment. Furthermore, integrating blockchain technology for tax tracking, adopting CBDCs, and implementing a tiered regulatory model would increase transparency and control. Such reforms could create a thriving VDA ecosystem and elevate India as a leader in the global digital economy.
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