Rulemaking is an arduous task. Oftentimes, the words in a gazette take a form of their own in the real world, diverging from the intent. This can be particularly challenging in the case of emerging technologies, where change is rapid and constant.
Consider the infamous Red Flag Act the United Kingdom introduced at the advent of motorcars. It mandated that every motorcar had to have three “drivers”: one at the wheel, the second, a fellow passenger, and the third, on foot, holding a red flag to alert oncoming horse-drawn carriages. Ostensibly established in the interest of safety, the Act only ended up strengthening the motorcar industry elsewhere in Europe. It was ultimately repealed in 1896, clearing the path for the golden era of the British motorcar industry and icons such as Rolls-Royce.
The advent of new technologies, in fact, often evokes Red Flag Acts of their own. History is replete with many such laws—from the Internet to mobile phones, innovations were often curtailed. Today, there are calls for the prohibition of artificial intelligence and blockchain technologies.
A Considered Approach
It is, therefore, heartening to see India taking a measured approach to regulating virtual digital assets. A prominent, and far-reaching, update has been India’s recent notification extending the anti-money laundering provisions to virtual digital assets businesses and service providers. On March 7, the Union Finance Ministry, in a gazette notification, extended these activities under the Prevention of Money Laundering Act (PMLA) Act of 2002: exchange between virtual digital assets and fiat currencies; exchange between one or more forms of virtual digital assets; transfer of virtual digital assets; safekeeping or administration of virtual digital assets or instruments enabling control over virtual digital assets; and participation in and provision of financial services related to an issuer’s offer and sale of a virtual digital asset.
This means virtual digital assets platforms carrying out the said activities will now have to register as a reporting entity with the Financial Intelligence Unit-India. The unit is the national agency to strengthen India’s efforts against money laundering and terror financing. Reporting entity platforms such as CoinSwitch are now mandated to implement know your customer, record and monitor all transactions, and report to the Financial Intelligence Unit-India as and when any suspicious activity is detected.
This is a step in the right direction. Such rules are already applicable to banks, financial institutions and certain intermediaries in the securities and real estate markets. Extending them to virtual digital assets provides virtual digital assets platforms with a framework to diligently monitor and take actions against malpractices. A standardization of such norms will go a long way in making the Indian virtual digital assets sector transparent. It will also build confidence and assurance in the ecosystem, and give the government more oversight on virtual digital asset transactions, which will be a win-win for all.
Reconsider Tax Rates
Such risk-mitigation measures are in line with global guidelines put forward by the International Monetary Fund and the Financial Action Task Force (FATF). FATF, in fact, has a comprehensive definition of Virtual Asset Service Providers (VASPs)—an extensive list covering intermediaries, brokers, exchanges, custodians, hedge funds, and even mining pools.
Such guidelines acknowledge the role VASPs play in regulating and monitoring the virtual digital assets ecosystem. VASPs are the most efficient bridges and eyes for regulators to effectively implement Anti-Money Laundering/Countering/Combating the Financing of Terror principles. Through the latest PMLA notification, India too has acknowledged this.
This could also be the basis for India to reconsider its tax treatment of virtual digital assets, which is an outlier, both domestically and internationally. After all, with the PMLA notification now mitigating the most critical money laundering and terror financing risks, there is little reason for the tax rates to be as prohibitively high as they are. Perhaps there is an opportunity to bring virtual digital assets taxes on a par with other asset classes. Reducing the tax arbitrage vis-à-vis other economies will also help stem the flight of capital, consumers, investments, and talent, as well as dent the gray economy for virtual digital assets.
Using the G-20 Platform
This is also significant, given India’s presidency of the G-20. The finance track of the G-20 is spearheading critical discussions on establishing a global regulatory framework for virtual digital assets. India’s leadership and experience is key here. There is also an opportunity to consider the steps taken by other G-20 nations. In Asia, Japan and South Korea have established a framework to licence VASPs, while in Europe, the Markets in Crypto-Assets (MiCA) regulation has been passed by the European Parliament.
Even as India spearheads global coordination, ushering greater oversight on the domestic virtual digital assets ecosystem could provide much-needed assurance to everyday users as well as regulators. Going forward, a progressive regulatory framework will instil the animal spirit in India’s innovation economy and establish India’s virtual digital assets leadership—a lot like how Rolls-Royce rekindled the British manufacturing industry in the early 20th century.
A version of this article was published by The Hindu.