INDIA’S UNION BUDGET AND NFTS: A COMPARATIVE ANALYSIS

Introduction
With the rise of the phenomenon of the NFTs and NFT Marketplaces, the digital world is on a
never-seen boom, especially in corporate terms. An NFT or a Non-Fungible Token is a “crypto-
asset” or “token” that represents or points to a physical or digital asset such as art, videos, or
even land. These tokens are described as “non-fungible” meaning they are not interchangeable
for other items because they have unique properties as described above While Union Budget
2022 presented a 30% tax slab on gains from ‘blockchain assets’, let’s find out how it affects
while scrutinizing the International regulations on the NFT marketplaces which has been infested
by celebrities, artists and giant corporations of sorts.

Decentralized Nature: A concern?

NFTs and usually every element based on blockchain technology work on a decentralized and
unregulated system where miners across the world use their ‘rigs’ to facilitate or complete a
transaction. The transactions and information related to it are divided and stored in thousands of
databases of different facilitators across the globe. This further alleviates the need for a
regulatory framework on virtual assets as it will be nearly impossible for the government to track
and identify any capital gains that are conceived through such transactions. This increases the
risk of money laundering and fraudulent or illicit transactions as there is no standardized
legislative approach to tackle this situation. Furthermore, as per the budget, Gifts in the form of
virtual digital assets are also to be taxed on the hands of the recipient and there will be a one (1)
percent tax deducted at source (TDS) on the payments made for the transfer of digital assets.
These raises two questions:

a) Will these tax deductions directly or indirectly violate the exemptions mentioned under
the Gifts Tax Act, 1958?
b) If the tax is legally sound, how will be the recipient of such a transaction be identified
given the strongly divided nature of the blockchain information?

To answer both the questions, we should know the innate nature of NFT transactions per se.
Section 5 of the Gift Tax Act specifies how certain ‘gifts’ are exempted from the tax provisions,
which includes gifts that are of movable nature situate outside the said territories. These
exemptions can be used as a tool to help recipients avoid the one percent tax slab as there is no
clear definition of ‘property’ given to any Virtual Digital Asset. Furthermore, when one buys an
NFT, they buy a digital version of it, a copy to be precise, of the original work assisted with a set
of codes, known as metadata. This metadata is saved on the blockchain and contains
information about where the original work is located and who owns that original version of the
work. This information can be easily relied upon to propose the tax eligibility and to avoid the
possibility of economic crimes happening, however there is no strong regulatory channel to
facilitate this process.

Concerns of Money Laundering and Tax Evasion

Currently, the NFT market is seeing a boom of 299% as per NonFungible.com. As such a
tremendous amount of traffic plunges towards the NFT marketplace, there is an exorbitant flow
of money that comes with it. Concerns have been raised about whether these transactions are
being used to circumvent the increasingly robust anti-money laundering regulations being
implemented around the country. NFTs are based on blockchains that provide a perfect
opportunity for maintaining anonymity and privacy for parties to the transactions. Although it
may be possible to trace these parties by contacting the marketplace or crypto wallet and
identifying the IP address, the overall process would be slow and tedious, providing enough
opportunities for such parties to evade the law, or hide from regulatory authorities. Section 3 of
Prevention of Money Laundering Act, 2002 defines Money Laundering as any person who
“directly or indirectly: attempts to indulge in, or knowingly assists in, or knowingly is a party
in, or is actually involved in any process or activity connected with the proceeds of crime
including its concealment, possession, acquisition, or use and projecting or claiming it as
untainted property has committed the offence of money laundering.”

Considering that largely these NFTs are in form of digital art, it paves way for capital gains tax
evasion considering no regulatory provision has been provided for the same. As per the Section 2
(14) of the Income Tax Act, 1961, Capital Gains Tax can be applied on the property of any kind
held by an assessee, whether or not connected with his business or profession but does not
involve drawing, painting or any work of art. None of these laws however directly addresses the
concern of digital assets, and hence needs to be reconceptualized as early as possible.
NFTs in International Jurisdiction
In the UK, NFTs also fall squarely into a tax black hole, with no published HMRC (HM
Revenue and Customs) guidance considering their UK tax treatment, although it is a fairly safe
bet to assume that they would be treated as a taxable asset for capital gains tax and inheritance
tax purposes, as well as taxable in other ways. The existing HMRC guidance is only stated to
apply to exchange tokens such as bitcoin and does not consider how the tax treatment of a
tokenized asset would differ. In the UK, crypto-assets are classified as e-money tokens, security
tokens, and unregulated tokens under the 2019 Guidelines published by the UK Financial
Conduct Authority (FCA). It is likely that the majority of NFTs would be classified as
unregulated tokens on the basis of the current FCA guidelines. Another critical factor is that it
will receive similar treatment like antique piece trading cards or stamps. Hence, we can assume
that the same will apply to NFT digital assets.

Indian stakeholders can similarly create a separate guideline and create a distinction between the
digital assets/currencies. The tax treatment for these assets shall be defined under a separate
legislative authority and nodal offices can be set up under the Ministry of Finance to administer
the taxation process according to such guidelines.

Keeping in view the regulation of NFTs in the global marketplace, it can be argued that NFTs are
here to stay as considering that the current transfer of real estate ownership is labor-intensive and
expensive, it is likely that NFTs will be applied to solve these transfers.

A Way Forward
Although a step to recognize and felicitate virtual assets is a steppingstone for the Indian
Economy and the Fintech Industry, lack of sound regulation upon the same is a concern when
different legislative documents elucidate a contrary notion to what taxable income and gift are
considered. Not only this, the legislative bodies and concerned ministries should take references
from more digitized and advanced countries (in respect to digital currencies/assets) before
implementing such regulating framework while analyzing existing legal provisions revolving
around the same. Most likely, it will take a couple of room-clearing court decisions to help
owners and litigants navigate their waters. Blockchain technology continues to reinvent the way
transactions occur, it is important to remain vigilant and informed as these emerging
technologies can be exploited before they are fully understood and regulated.