Digital currency or digital money is distinct from physical. Digital currency is a payment method which exists only in electronic form and is not tangible. Digital currency can be transferred between entities or users with the help of technology like computers, smartphones and the internet. It exhibits properties similar to physical currencies, but allows for instant transactions and border less transfers. Like traditional money, these currencies may be used to buy physical goods and services, but may also be restricted to certain communities such as for use inside an on-line games or social network. Digital currency currently has only a limited user base and the regulatory framework as well as tax treatments of digital currencies is still evolving. The infrastructure needed to support digital currency is still being determined and developed. Cryptocurrencies and virtual currencies are categories of digital currencies. As payments are made directly between payers and payees, digital currencies can eliminate intermediaries and their costs too. At present, digital currencies are not accepted by banks, and as a result, interest cannot be earned on them. There are also risks associated with digital currencies such as security, currency volatility etc.
How Digital Currency Works
We take a simplified look at how Digital Currencies like bitcoin work. First, let’s review the basics and essentials of Digital Currency:
Bitcoin was launched in 2009 by a person or a group of people operating under the name Satoshi Nakamoto. Bitcoin was then adopted by a small clutch of enthusiasts. Nakamoto dropped off the map as bitcoin began to attract widespread attention.
Bitcoins are basically lines of computer code that are digitally signed each time they travel from one owner to the other owner. It is a digital currency that is not tied to a bank or government and allows users to spend money. The coins are created by users who “mine” them by lending computing power to verifying other user’s transactions. They receive bitcoins in exchange.
The coins also can be bought and sold on exchanges with U.S. dollars and other currencies. Their value has fluctuated over time. At its height in late 2013, a single bitcoin was valued above $1,100. Bitcoin was the prime currency on Silk Road, which was used to sell illegal goods, including drugs.
Types of Digital Currencies at present in market
There are more than 750 cryptocurrencies at present in market in which we can invest and make more profits. But there are some 6 most important cryptocurrencies other than Bitcoin like Litecoin, Ethereum, Zcash, Dash, Ripple, Monero.
So before we start with digital currencies mining, Mining is the primary method for transaction processing, recording, and security for most digital currencies, as well as the method in which new coins are created. This is not true for every digital currency and now we should have to start with process of digital currency mining and to under this we should know the meaning of how a block is generated, A block is a list of recent transactions that needs to be processed, recorded, and added to the public ledger known as the Block Chain.
Miners are investors who devote computer space and time to sorting through data blocks. When their mining hits upon the right “hash”—a complex mathematical formula puzzle that helps not only verify transactions, but also create new currency—they submit their solution to the currency issuer. When their work and hash are verified, the miners receive a reward of a given number of coins. A portion of the transaction fees linked to the transactions the miners have helped verify also goes to the miners, so there’s a dual-layer system of reward there. This type of mining and its resulting rewards is called a “proof of work” system, a term that’s self-explanatory: you do the work, you get paid for it. Proof of work is used by Bitcoin, Litecoin and most other digital currencies.
Taxation on Digital Currency in India
Before we start with the taxation on digital currency in india we must know that wheather it is legal or not in India, Cryptocurrencies such as bitcoin fall outside of the current regulations governing currencies and legal tender in India. This does not mean that bitcoins are illegal, it just means that they are at this moment unregulated and therefore outside of the definition of currency and therefore the law that governs the use of such currency.
India is not isolated from the rising popularity of bitcoins and other digital currencies.
Rakesh M, a Bengaluru-based techie (identity changed), to make his first investment in bitcoins. He sold his investment during the financial year 2016-17 and earned a profit. How should he treat the income on sale of the bitcoin for I-T purposes? As a salaried employee, he has to file his I-T return by July 31. The Central Board of Direct Taxes has not yet issued any guidance. Tax authorities in many countries, such as the US, treat bitcoins a capital asset in hands of investors, with the sale resulting in a capital gain. Bitcoins in India are unregulated but are not yet illegal. However, the RBI has on occasion cautioned investors of inherent risks. An inter-disciplinary committee set up by the government is examining the framework of virtual currencies. “That said, even if bitcoins were illegal, income earned needs to be declared and tax paid,” says an Income Tax official.
Nishith Desai a founder of an international law firm which is working closely with the bitcoin industry, says, “Given the wide nature of definition of capital assets under Section 2(14) of the Income Tax Act 1961, the purchase of bitcoins, if it has been made for the purpose of investment, should be treated as a capital asset. Thus, any gains arising on transfer (i.e. sale) should be characterised as capital gains.”
Caution point: Short-term capital gains are taxed at the applicable Income Tax slab rate, which for those with a taxable income of more than Rs 10 lakh is 30% plus applicable surcharge and cess.
On the other hand, long-term capital gains attract a tax rate of only 20%. The time period for which an asset is held before its sale determines whether it is a long term asset that is eligible for a lower rate of tax on sale. For equity, the holding period prescribed is just 12 months. “The period of holding of bitcoins should be like any other property. If they are held for three years or more, it should be considered long term and if less than short term,” says Desai.