March 04, 2020, marked an important day for industry participants dealing in cryptocurrency since the Supreme Court of India (“SC”) in the matter of Internet and Mobile Association of India v. Reserve Bank of India, struck down the prohibition imposed by the Reserve Bank of India (“RBI”) by way of its circular dated April 06, 2018 (“RBI Circular”), on financial institutions dealing with cryptocurrency. Whilst the SC recognized RBI’s powers to inter alia undertake pre-emptive action to protect the Indian financial system, its directions against cryptocurrency (i.e. the RBI Circular) was found to be “disproportionate”.

Whilst the draft 2018 legislation is unavailable in the public domain (and the SC also noting in the aforementioned judgment that its fate is unknown), in July, 2019, the Government (i.e., prior to the pronouncement of the above decision) released the “Banning of Cryptocurrency and Regulation of Official Digital Currency Bill, 2019” (“Draft Legislation”).

Highlights of the Draft Legislation

Presently, the Draft Legislation which is yet to be tabled before the Indian Parliament reflects the Government’s stance vis-a-vis cryptocurrency. In consonance with the then Finance Minister’s Budget Speech in 2018-19, the Draft Legislation proposes a blanket ban on cryptocurrency, i.e., no person will be permitted to “mine, generate, hold, sell, deal in, issue, transfer, dispose or use” cryptocurrency in the territory of India.

Cryptocurrency has been defined to include, “any information, code, number or token generated through cryptographic means or otherwise, that provides a digital representation of value that may be exchanged with or without consideration, with the promise of having inherent value in any business activity and includes the risk of loss or expectation of profits, or functions as a store of value”. Accordingly, all variations of cryptocurrency are proposed to be banned.

The Draft Legislation specifies that the ban extends to the direct or indirect use of cryptocurrency, as inter alia, a payment system, to provide cryptocurrency related services to consumers or investors, as a basis of credit or means to raise funds or investments (such as initial coin offerings).

To ensure compliance with the aforementioned ban, sufficient deterrence has been introduced by way of an imprisonment term that may extend to a maximum of ten years and/ or with a monetary fine (which could extend to higher of three times the loss/ harm caused or three times the gains made).

Similar to other nations, such as Japan, the Draft Legislation envisages the issuance of a national digital currency. In essence, unless a Government backed/ issued ‘Digital Currency’ is introduced in India, no person/ business can deal/ possess cryptocurrency in any form.

However, it is pertinent to note that in line with its previously stated position, the Government has sought to encourage/ promote any innovation pursuant to the use of the underlying technology of cryptocurrency (i.e. blockchain).  This has also been clarified by means of an exception to the proposed ban in the Draft Legislation. Therefore, persons are permitted to use the underlying technology in cryptocurrency for experiment, research or education, provided that cryptocurrency is not used for making or receiving payment in such activity.

Impact of the SC judgment on the Draft Legislation

If the Draft Legislation is enacted in its present form, any person holding cryptocurrency would be required to declare and dispose the same within ninety days of commencement of the Draft Legislation. This uncertainty vis-à-vis the date of commencement has left industry stakeholders with little to cheer for, despite the lifting of ban which had been imposed by the RBI Circular.

In the event that Draft Legislation is enacted in its current form, it may be challenged like the RBI Circular was. In such case, it should be noted that unlike the RBI, the Government has consistently opposed the use of cryptocurrency as legal tender. Since 2013, Government agencies, such as the income tax departments have proceeded against cryptocurrency holders/ traders on the grounds that cryptocurrency has channeled fraudulent activities.

It is pertinent to note that the test of proportionality has been similarly applied by the SC whilst examining regulations/ legislations prohibiting other activities considered ‘harmful’ to society, such as gambling. Per se, it is largely accepted by Indian courts that for larger public interest, fundamental rights, can be diminished. This principle is enshrined under ‘reasonable restrictions’ that are applicable to freedoms set out under Article 19 (1) of the constitution.

To ascertain the reasonableness of a restriction the SC has consistently applied the test of proportionality to the restriction, i.e. whether, the appropriate or least-restrictive choice of measures has been made by the legislature to achieve the object of the legislation. The test requires a proper balance between the adverse effects which the legislation may have on the rights, liberties or interests of persons keeping in mind the purpose which they were intended to serve. While the legislature is given the choice in the manner in which it seeks to introduce a restriction, it is the court’s prerogative to determine whether such restriction is excessive.

Accordingly, if challenged, in order for the SC to uphold the ban as envisaged under the Draft Legislation, the Government would have to illustrate the proportionality of the judgment possibly by providing empirical data of the actual and potential damage they perceive through use of cryptocurrency.

Invariably, post the SC judgment, the industry has made multiple representations to include innovation in cryptocurrency under various regulator sandboxes, immediately resumed their operations and has also witnessed a surge in the value of cryptocurrencies.

In light of the above, it would be interesting to see whether the Government now adopts a more moderate and balanced approach to regulate cryptocurrency such that it addresses the practical concerns of potential financial harm or continues with the complete ban approach thereby bringing the industry to a complete halt.

Authors:
Vipul Jain, Partner
Rachana Rautray, Associate