Decoding Indian Enforcement Directorate’s stance on cryptocurrency

Ira Purnaik | Money Control

20 July 2021

In a stunning reproach to Indian cryptocurrency exchanges at large, the ED (Enforcement Directorate) issued a notice to WazirX, one of India’s most well-known exchanges, demanding to know why withdrawals from its crypto wallets should not be considered under FEMA (Foreign Exchange Management Act) violations.

While it is unsettling, it also puts to question the fundamental structure of cryptocurrency and the underlying structure of blockchain technology. Since these wallets allow for free, unchecked transfer of coins from one wallet to other wallets in the world, ED’s concerns about ensuring whether the money is illegal or laundered are indeed valid.

Per an ED official, “Since cash has crossed borders, the regulation of the land applies and one must make certain that this cash isn’t low-cost cash (low-interest loan) or soiled cash (employed for unlawful actions)”.

Why the notice?Prior to this, WazirX was already in murky waters after the directorate sought an explanation of transactions worth Rs 2, 700 crores, which were found in violations of rules under FEMA. In response, the company announced its partnership with blockchain intelligence company TRM labs to strengthen its fraud detection capacities.

Consider this. An investor who has a wallet on a platform like WazirX has the freedom to transfer money to other crypto wallets in India and abroad, or make a straight cash transfer to their personal accounts or to that of theirs, whether in India or overseas.

And despite KYC (Know Your Customer) norms, there is little that the exchange can do to ascertain the identity of the transacting entity and the beneficiary, thanks to the anonymous, private and discreet nature of blockchain. The ED also noted that this was not sufficient to confirm that digital foreign money isn’t misused, with instances of bitcoins being used on the darknet for illegal situations.

However, the issue looms large, owing to its pertinence to all such exchanges. This line of thought encompasses different exchanges, which allow for free switches between different wallets. Besides, concerns of money laundering and foreign exchange violations have haunted the cryptocurrency domain for a long, despite exchanges vouching to safeguard and enact regulatory measures for the same for long.

Per Sumit Gupta, Co-founder and CEO, CoinDCX, “We have systems in place to identify and flag suspicious activities and internal processes to evaluate whether activities are instances of money laundering. These systems and processes allow us to take timely and appropriate actions.  We have also partnered with Coinfirm, a globally recognized crypto AML compliance tool, to flag and surface money laundering instances across crypto transactions as well. We are looking at multiple other investments on the compliance side and are building and strengthening our surveillance capabilities gradually.”

FEMA and Cryptocurrency 

In the case of Tata Consultancy Services vs State of Andhra Pradesh, the court ruled that the definition of goods under the Indian constitution is very wide and includes all types of movable properties, irrespective of it being tangible or intangible. And given the nature of cryptocurrency, its store of value, various applications, and their ability to facilitate transactions, transmissions, and transfer, cryptocurrency can be considered close to goods under the law.

And by that logic, any resident Indian transacting with a non-resident or international citizen falls under the purview and the subsequent violation of FEMA rules. Any cryptocurrency transaction can be classified as either a capital account (which alters the overseas assets and liabilities of Indian residents or Indian assets and liabilities of residents outside India) or a current account. In this regard, any cross-border cryptocurrency transactions by Indian residents without any actual currency and verified banking channels call for FEMA violations.

Treating banking and cryptocurrency transactions on the same lines

There are automated cryptocurrency exchanges like Mudrex, which transfer the agency of regulatory disclosures and adherence to other platforms like Binance. According to Mr. Edul Patel, CEO, and Co-founder, Mudrex,  a global algorithm-based crypto trading platform, “Mudrex is not a cryptocurrency exchange. We are a platform that helps users with automating their cryptocurrency trading on an existing exchange. Hence, Mudrex does not interact with any of the users’ funds. The KYC process requires the user to upload a government-issued ID card for validation. Once the KYC validation is complete, only then would a person be allowed to trade. Therefore, even though Mudrex does not interact with the users’ funds, all its users need to complete their KYC procedures with a cryptocurrency exchange.

Cyberlaw expert Virag Gupta highlights the dearth and inefficacy of Indian regulations when it comes to grappling with cryptocurrency, blockchain, money laundering, and foreign exchange regulations in this regard. The entire concept of cryptocurrency is to bypass the traditional banking channels with anonymity, something that is not possible under a conventional financial entity. This is where many experts feel that it is not right to weigh both these asset classes in the same vein, a concept Indian regulations are currently woefully unequipped to deal with.

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