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  • Archita Satish

“X” Marks the Spot: Determining the Situs of Virtual Digital Assets to Tax Non-Residents

[Archita is a student at NALSAR University of Law.]

The addition of Section 115BBH to the Income Tax Act 1961 (ITA), has subjected the transfer of virtual digital assets (VDAs), such as cryptocurrency and non-fungible tokens (NFTs) to a 30% tax. While the amendment has seemingly removed the need to classify to determine the rate of tax applicable on VDA transfers (although income tax returns still allow income from VDAs to be classified as capital gains, business income or special income), its characterisation is still crucial to understand how situs will be determined for non-residents to be taxed in India. This is because the ITA taxes non-residents for income received or which accrues or arises in India during the year, or it is so deemed. With the 2023 Budget failing to provide any clarity, instead imposing a penalty on tax defaulters, this article attempts to analyse the possible implications of characterisation on non-residents for the payment of this tax.

Classification and Implications for Non-Residents: Exploring the Possibilities

Before we analyse the tax, it is imperative to understand the nature of the assets included. First is cryptocurrency, a digital-only currency generated by a cryptographic decentralised network. This system records and verifies transactions as well as manages issuing through ‘mining’, where peers are rewarded with the currency for solving complex problems. Coming to the second asset - NFTs- they use the same underlying technology as cryptocurrency but are non-fungible, in that they represent a unique digital or non-digital asset, such as art work. The Central Government has also been given the power to notify and exclude assets under the definition. Accordingly, the Central Board of Direct Taxes (CBDT) has clarified that VDAs do not include gift cards, mileage or loyalty points, subscriptions or NFT transfers also transferring the underlying tangible asset.

Thereby, with VDAs composing of nothing but a string of numbers or letters[i], the confusion regarding their nature and ‘situs’ for tax purposes is justifiable. One view prior to the amendment, when income from VDAs was nonetheless considered taxable, characterised them as “property”. This would make them capital assets on which capital gains become chargeable. Meanwhile, intraday or high frequency cryptocurrency trading as well as mining would be taxable as business income. Alternatively, they were argued to fall under income from other sources (IOS), especially in gifting transactions. These possibilities are explored below:

Capital gains

The definition of capital assets includes “property of any kind held by an assessee”, in which “property” must be given the widest import to include every possible interest. This arguably includes VDAs, and is buttressed by its inclusion to Section 56. Thus, the principles for capital gains tax (CGT) as under Section 45 could apply where VDAs are held as assets. When it comes to CGT for non-residents, many double taxation avoidance agreements (DTAAs) function on a residence principle, though there are exceptions like the United States and the United Kingdom. Here, CGT is instead taxable as in the domestic country. Thus, if the VDA is situated in India, it becomes taxable.

It is argued that VDAs, lacking a physical form and being non-monetary, are intangible assets. Thus, like trademarks, this would make them taxable in the location or domicile of the owner. However, in cases where the asset is held in a digital wallet with an exchange as a beneficial owner, there is a view that the location of the nominee, who has access to the private key, which authenticates the holding of the VDA, or the exchange, ought to be considered. For this, the manner of storage of private keys in digital ‘wallets’ is determinative. If the wallet is offline or ‘cold’, then it would be stored on a device held by the owner whose location would be akin to moveable property (following mobiliia sequuntur personam). Meanwhile, if it is stored online or ‘hot’, the location of the server would align with the location of the VDA.

This latter proposal though more inclusive, may however prove difficult for assessees to determine to compute their tax liability. One possible solution is to determine the location of servers used by digital wallet services through their IP addresses to see if the same falls within India. Further, since digital wallet services are businesses, the government can regulate their use of virtual private networks (VPNs) to ensure that IP addresses are not masked or morphed. The use of IP addresses may also prove useful to determine the location of the non-resident when undertaking trades since secondary cryptocurrency and NFT markets or exchanges can track and store such information. However, in this case, VPNs may enable hiding such transactions, unless their use is completely prohibited in India, which would have drastic implications for digital privacy in general.

In the case of NFTs, the situation is near identical in the secondary trading market, save that unlike cryptocurrency transactions, existing platforms tend to only allow purchase of NFTs using cryptocurrency. Since India does not recognise cryptocurrency as legal tender, this would be considered an exchange, rather than a sale. This would mean that even non-resident buyers of NFTs, and not just sellers, could be liable to tax based on the criteria described above.

Business income

Non-residents who deal with VDAs by running exchanges, through mining or engaging in the business of their trade would come under this category. Where there is a DTAA, the business must have a “permanent establishment” (PE) in India to be taxed here. A PE is understood as assigning a geographical fixity with the state that seeks to tax income. Thus, it excludes auxiliary or preparatory functions, such as storage of goods. However, for e-commerce, servers are considered PE, being primary and not auxiliary to maintaining the decentralised network. This isn’t unprecedented with the Authority for Advanced Rulings previously affirming the formation of PE through servers. Yet, decentralisation across servers as well as complications related to server size,[ii] may make this a suboptimal standard. One possibility here is to extend the equalisation levy, applicable to e-commerce platforms, to traders, miners and exchanges of VDAs, as was also proposed by the CBDT in November 2022.

In the absence of DTAAs, the standard of “significant economic presence” would be applicable. While both the threshold based on aggregate transaction value and minimum number of users in India could be applied to bring non-resident exchanges to tax, the former alone could be applied to trading and mining businesses. The use of a user-based standard has also been proposed by scholars like Prof. De Wilde, who advocate for a change in the approach to taxing the digital economy from a supply-side perspective, focussed on location of the business, its employees, and resources, to the destination of goods and services instead. This standard is specifically useful to tax VDA exchanges, considering that consumers of such platforms, especially retail traders, are “immobile in the sense that they are unlikely to shift tax jurisdictions to simply evade tax liability. Further, as discussed earlier, traceability to IP addresses of users can help determine whether such quantitative thresholds have been met, making enforceability of such a standard also feasible.

NFT creators can also earn royalties on every sale transaction of their asset. In general, the treatment of such royalties falls under Section 9(1)(vi), where the NFT is for a business purpose carried on in India or transferred to a resident. For instance, an NFT created from the live performance of an artist in India, sold in India would be taxable, but not if sold abroad. Owing to the vast possibilities of assets underlying NFTs, what is crucial is to determine an Indian nexus for income generation.

Income from other sources

VDA transactions, including gifts made to non-residents, can come under IOS, as an alternative to being taxed as capital gains. This is argued based on the similarity of the new taxing provision to what is applicable to gambling and lottery winnings under the ITA. Under DTAAs, residuary incomes are usually taxed based on the residence principle, thereby excluding non-residents, unless by some deeming fiction or in connection with a PE (as discussed earlier under business income).


To recap, treatment as capital gains would make non-residents located in or having digital wallets in India taxable. This determination can be made based on the IP addresses of the wallet or the non-resident in question. Meanwhile, in case of exchanges, miners and traders, their business income from VDAs would be taxable if they have PE or SEP in India, or alternatively be subjected to an equalisation levy. Treatment as IOS would effectively exclude non-residents under DTAAs, unless they have an Indian PE. Therefore, to balance the state’s taxing interest without being too onerous on non-residents, it is suggested that VDA transactions are treated either under capital gains or as business income, as applicable.

[i] Amy Held, Private Key v Blockchains: what is a cryptoasset in law?, 4 J. of Intl Banking and Financial Law 247 (2020). [ii] Isabelle Beschoor Plug, The Direct Taxation of Cryptocurrency Tokens in National and International Situations (2020) (Masters Thesis, University of Amsterdam)

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