Cryptocurrency Taxation: Confusion continues due to lack of classification

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Confusion continues to prevail among investors as well as tax authorities in India over the calculation of taxes on gains from cryptocurrency investments, as there are no clear rules or guidelines defining tax liability for cryptocurrencies. The existing legal framework leads to conflict as the tax calculation is being done over the value declared by the assessee in the absence of a defined method to tax the gains from cryptocurrencies.

The biggest confusion is over how gains from the cryptocurrency investments will be calculated for taxation, according to a report in The Times of India. People are seeking clarity on whether the first in first out (FIFO) method will be used, where it is assumed that cryptocurrencies bought first will be sold first, or the last in first out (LIFO) mode, which means the ones bought last will be sold first.

Let us consider a hypothetical situation where an investor purchased a Bitcoin in 2017 for $1,000 and another for $ 13,000 in 2018, and sold one of them in 2020 for $7,000. When it comes to taxation, the question remains: which Bitcoin was sold? The one bought in 2017 or in 2018? The core difference between FIFO and LIFO here is that, if the former is applied, then tax will be levied on the gains of $6,000, and there won’t be any taxes if the latter is applied, TOI reported citing tax experts.

Another tax expert added that tax is always levied on gains, which is the difference between the sale price and cost. However, due to the nature of cryptocurrencies, ascertaining the cost and the gains has become complicated.

Confusion over the classification

The Reserve Bank of India has not yet granted any cryptocurrency the status of legal tender in the country. So clarity on the classification of cryptocurrency gains is needed from the Income Tax department. It is not clear where the return on cryptocurrency investments will be treated as income from business or capital gains for tax calculation.

The key problem for taxation on cryptocurrencies is that there is no clarity on what they actually are— a currency, an asset, a commodity or something totally different. Investors and traders will be able to get a clearer picture of taxation only when this matter is resolved.

The tax rates also could be different based on the classification of cryptocurrencies. The tax rates for an investor and a trader won’t be the same.

“For the purpose of taxation, the FIFO method should be used to account for taxation. But as of today, there is no clarity around this mainly because the asset class is not defined,” TOI reported quoting Amit Maheshwari, Tax Partner, AKM Global.