Proposed Amendments - Crypto Assets and International Taxation vide Finance Bill, 2022

Taxation Does Not Confer Legality: The Realization Doctrine

Though the Finance Minister has proposed levy of tax, there is a view that collection of tax on VDA does not automatically make it legal. The levy of income tax knows no boundaries curtailing its levy, and the levy is fully justified by the Courts on income which is earned illegally. The revenue is concerned only with the realization of income and gains, irrespective of whether the underlying transaction is lawful or prohibited by general law:

• Dr. T. A. Quereshi vs CIT (2006) [287 ITR 547 (SC)]: The Hon’ble Apex Court held that the Income-tax Act taxes real income and acknowledges commercial losses even if arising from contraband or unlawful trade, firmly establishing that illegality of business does not insulate gains from income-tax assessment.
• CIT vs K. Thangamani (2009) [309 ITR 15 (Mad)]: The Hon’ble Madras High Court reiterated that tainted or illegally procured gains are fully taxable under the Act.
• Internet and Mobile Association of India (IMAI) vs RBI (SC, Judgement dated 4 March 2020): The Hon’ble Supreme Court set aside the RBI Circular dated 6 April 2018 (which had directed banks not to deal with crypto exchanges), ruling that virtual currencies were not prohibited by parliamentary statute, while recognizing that they are not legal tender.

What is Meant by “Generated Through Cryptographic Means”?

Cryptography is a method of protecting information and communications through the use of codes, so that only those for whom the information is intended can read and process it. In computer science, cryptography refers to secure information and communication techniques derived from mathematical concepts and a set of rule-based calculations called algorithms, to transform messages in ways that are hard to decipher.

These deterministic algorithms are used for cryptographic key generation, digital signing, and verification to protect data privacy, web browsing on the internet, and confidential communications such as credit card transactions and email.

In general, one has to contend that cryptography is in the form of a code/token. Broadly, it can also be understood as an intangible asset like patent, trademark, copyright. However, VDA operates predominantly in the domain of currency and transactional exchange. Furthermore, it is a crucial point to note that not all virtual currencies are anonymous; blockchain distributed ledgers maintain permanent, immutable, and traceable transactional histories.

Core Pillars of Section 115BBH

• Flat 30% Tax Rate: Where the total income of an assessee includes income from transfer of any VDA, the tax payable shall be calculated at the flat rate of 30% (plus applicable surcharge and 4% cess). Other income is charged to tax after reducing VDA income.
• No Deductions Allowed: Absolutely no deduction in respect of any expenditure (such as mining power costs, infrastructure depreciation, interest on borrowed capital, platform trading fees, or transfer commissions) or allowance shall be allowed, except for the direct cost of acquisition.
• No Set-Off of Losses: Loss arising from the transfer of VDA shall not be allowed to be set off against any other income under any head of income (such as salary, house property, business profits, capital gains, or other sources) during the current financial year.
• No Carry-Forward of Losses: Unabsorbed losses from VDA transfers shall not be allowed to be carried forward to subsequent assessment years.

Generally, the Income-tax Act provides that if income is not taxable under the head Profits and Gains from Business and Profession (PGBP), it is taxed as Income from Other Sources (IFOS). For example:

• Interest earned in money-lending business is taxable as PGBP or IFOS depending upon facts;
• Rental income from commercial properties can be taxed under PGBP or House Property based on dominant intent.

Statutory clarity for characterization of income under a specific head brings certainty for taxpayers and prevents endless litigation. By failing to integrate VDA transfers within Section 14 heads, the statute creates an anomalous stand-alone tax silo that overlooks the reality of business operations.

Revisiting the Harsh Disallowance of Losses & The Real Income Theory

It is the cardinal principle of tax jurisprudence that income includes negative income. While claiming set-off of losses, inter-source and inter-head adjustments are universally permissible across ordinary business and capital transactions. It is natural that commercial activities do not always produce profits; despite all precautions, bona fide activities may run into severe losses:

• CIT vs Rajendra Prasad Moody (1978) [115 ITR 519 (SC)]: The Hon’ble Apex Court acknowledged that once an expenditure is incurred, it does not mean that it would necessarily lead to earning profits. Commercial probability of loss is inherent to enterprise.
• Speculative Business Analogy: Even in the case of highly speculative businesses (governed by Section 73), speculative losses are expressly allowed to be set off against speculative profits.

Under Section 115BBH, denying any loss set-off and prohibiting all operational deductions appears excessively harsh. As a taxpayer, if money is lost in a trading cycle, there is no cash flow available for the payment of taxes. This provision therefore demands a relook and should be reconsidered. Virtual currencies must be evaluated qua users, consumers, traders, and long-term investors, allowing real income to be computed in accordance with the established general provisions of the Act.

Statutory Mandate of Section 194S

Any person responsible for paying to a resident any sum by way of consideration for transfer of a Virtual Digital Asset shall, at the time of credit of such sum to the account of the resident or at the time of payment thereof by any mode, whichever is earlier, deduct an amount equal to 1% of such sum as income-tax thereon.

Suspense Account Application: Even if consideration is credited to a “Suspense Account” or any other ledger name, the statutory obligation under Section 194S is triggered immediately.

Crucial Statutory Distinction: The rate of TDS under Section 194S is prescribed at a flat 1% with NO surcharge or health & education cess. In contrast, the final tax liability under Section 115BBH (30%) is subject to mandatory surcharge (up to 37% based on income slab) plus 4% cess. The deductee remains liable for the balance differential tax at the time of filing the return of income.

Under established judicial precedents (such as the Supreme Court ruling in GE India Technology Centre), if there is no chargeable income embedded in a payment, TDS cannot be attracted.

However, where a statutory provision expressly prescribes deduction on the gross “sum” transferred, those judicial precedents are rendered inapplicable. Consequently, even if the transaction results in a loss or zero profit for the seller, TDS under Section 194S will still be attracted on the entire gross transaction consideration!

Section 194S vs Section 194O Tie-Breaker Priority

Where tax is deductible under Section 194O (TDS by e-commerce operators) as well as proposed Section 194S on a digital platform transaction, tax shall be deducted strictly under Section 194S and NOT under Section 194O. Furthermore, once tax is deducted under Section 194S, no other TDS or TCS provisions shall apply to that transaction.

• Enlargement of Definition: The Explanation to clause (vii) of Section 56(2) defines “property”. Finance Bill 2022 amends this Explanation to specifically include Virtual Digital Assets (VDA) within the definition of property.
• Tax Implication: Gifting or transferring crypto assets or NFTs without consideration, or for consideration less than fair market value, will now be treated as taxable deemed income in the hands of the recipient.
• Effective Date: This amendment takes effect from 1st April 2023 and applies in relation to Assessment Year 2023-2024 and subsequent years.

Legislative Evolution & IT Stabilization Rationale

Provisions for notifying faceless schemes under Section 92CA (Faceless Transfer Pricing) and Section 144C (Faceless Dispute Resolution Panel) were introduced via the Taxation and Other Laws (Relaxation and Amendment of Certain Provisions) Act, 2020 (w.e.f. 01 November 2020) and inserted into Finance Act, 2021 (w.e.f. 01 April 2021).

Under the earlier statutory scheme, the date of limitation for notifying directions was 31 March 2022. Developing the requisite secure digital infrastructure, data-flow security, and complex multi-member panel workflows required extensive systemic stabilization. Notifying prematurely would cause technical disruptions. Therefore, Finance Bill 2022 extends the deadline for issuing faceless notifications under Sections 92CA and 144C till 31 March 2024.

The Landmark Ruling: JCB India Ltd vs. PCIT [TS-26-ITAT-2022(DEL)-TP]

Just 3 to 4 days prior to the presentation of Budget 2022, the Hon’ble Delhi ITAT delivered a landmark verdict in JCB India Ltd, holding that:

1. Lack of Administrative Jurisdiction: Due to restrictions imposed under Section 263(1), the learned PCIT (having jurisdiction over the Assessing Officer) had no administrative power or supervisory jurisdiction to revise an order passed by the Transfer Pricing Officer (TPO).
2. Mandatory Effect of “Shall” in Section 92CA: When the AO receives the TPO’s order determining Arm’s Length Price (ALP), Section 92CA(4) mandates that the AO “shall proceed to compute the total income in conformity with the arm’s length price so determined by the Transfer Pricing Officer”. Since the AO is bound by statute and possesses zero discretionary power to modify the TPO’s determination, the AO committed no error in adopting it.
3. Quashing of Revisionary Orders: Relying on Mumbai Tribunal rulings in Essar Steel Limited vs Addl. CIT (2012) [28 taxmann.com 232 (Mum)] and Tata Communications Limited vs DCIT (2014) [41 taxmann.com 486 (Mum)], the Delhi ITAT quashed the Section 263 revisionary order as invalid and restored the original assessment.

Legislative Intervention: Overruling JCB India in Finance Bill 2022

Before the ink of the JCB India ruling could dry, the Finance Bill 2022 proposed targeted amendments to settle this jurisdictional controversy once and for all:

• Amendment to Section 263 (Clause 72): Explicitly provides that the Principal Chief Commissioner, Chief Commissioner, Principal Commissioner, or Commissioner who is assigned jurisdiction of Transfer Pricing may call for and examine the record of any proceeding under this Act. If he considers that any order passed by the TPO working under his jurisdiction is erroneous in so far as it is prejudicial to the interests of revenue, he may pass an order directing revision of the TPO’s order.
• Two-Year Limitation Window: Revisions under Section 263 remain subject to the limitation period of within two years from the end of the financial year in which the order sought to be revised was passed.
• Consequential Amendment to Section 153 (Clause 48): Amends Section 153 to grant an additional two months’ time to the Assessing Officer to give effect to the revised order of the TPO consequent to directions issued in the revision order.

Author’s Appraisal: As the provision is intended to remove acute administrative confusion regarding revisionary powers over transfer pricing determinations, it is a timely and positive legislative amendment that saves protracted litigation on technicalities of jurisdiction.

Finance Bill 2022 marks a transformative milestone in Indian direct tax jurisprudence. By crafting an explicit tax architecture for Virtual Digital Assets through Section 2(47A), Section 115BBH, and Section 194S, the legislature has taken an unambiguous stance: economic value realized from digital assets will be tracked and taxed at a flat 30%, irrespective of regulatory debates surrounding legal tender.

However, the total prohibition on loss set-off, loss carry-forward, and commercial expenditure deductions (aside from acquisition cost) represents an exceptionally punitive policy choice that stands at odds with the fundamental real-income doctrine (*Rajendra Prasad Moody*). The operational complications of deducting 1% TDS on non-cash barter transfers and untraceable P2P transactions pose immense compliance challenges for market participants and enforcement hurdles for tax authorities.

On the international tax front, extending faceless transfer pricing timelines to March 2024 ensures systemic stability, while statutory empowerment of Transfer Pricing Commissioners under Section 263 swiftly nullifies procedural ambiguities highlighted by the Delhi ITAT in *JCB India Ltd*. Chartered Accountants must adapt rapidly to advise clients on VDA reporting, withholding compliances, and evolving transfer pricing audits.