Virtual Currencies In India: A New Dawn.

On March 4, 2020, the Supreme Court of India (“Court”) in Internet and Mobile Association of India v. Reserve Bank of India[1] (“Judgement”) set aside the circular issued by the Reserve Bank of India (“RBI”) on April 6, 2018 (“Circular”)[2]. This Judgment marks the second occasion, in recent times, when the Supreme Court has reversed a policy decision of the RBI [3]. The Circular had restricted all entities regulated by the RBI, including nationalised banks, scheduled commercial banks, NBFCs, cooperative banks, payment system operators and other intermediaries (“Regulated Entities”) from dealing in or providing services for facilitating ‘any person or entity dealing with, or settling’ virtual currencies.

 

Thus, while the Circular did not expressly proscribe peer-to-peer trading in virtual currencies, it severely restricted the conversion of virtual currency into fiat currencies and impaired the ability of businesses which dealt with virtual currencies to access financial services in India.

 

Further, as examined in our previous articles[4] on the point, the Circular also had an unintended adverse impact on entities which used blockchain or distributed ledger technology. In this article, we examine the Judgement and its impact on entities in the virtual currency space.

 

The petitioners, who included various virtual currency exchanges, associations and individuals, challenged a statement issued by the RBI dated April 5, 2018 (“Statement”)[5] and the Circular on various grounds including ability of the RBI to regulate virtual currencies, to impose a blanket prohibition, and most importantly, the  disproportionate restriction on their fundamental right to practice a profession or carry on trade, occupation or business as embodied under Article 19(1)(g) of the Constitution of India.

 

In its Judgement, the Court noted that while the RBI as the statutory regulator of currency, credit, financial and payment systems in India is empowered to issue the Circular and obligated to address potential risks to such systems, its actions would have to satisfy the test of proportionality.

 

The Court relied on a well-established test for examining whether any action that curtails fundamental rights is proportional[6].

 

The Court tested whether the Circular was issued for a valid purpose which it would rationally fulfill, whether it was the least invasive means for achieving the said purpose, and whether, on balance, the restriction of the right in question was justified by the purpose at hand.

 

In applying the above test, the Court recorded the submission of the RBI that there was no ban on virtual currencies and the objective of the Circular was to ring-fence the Regulated Entities from potential systemic risks, including to reduce or prevent cross-border terror financing and money laundering, and that alternative means would not satisfy the above requirements.

 

The Court noted the absence of any empirical evidence of harm[7] to Regulated Entities on account of providing banking services to entities operating virtual currency exchanges.

 

The RBI’s position was contrasted with a report of the Inter-Ministerial Committee, which held, in the interim[8], that a ban would be an extreme tool whose objectives could be achieved using regulatory measures such as recognising, registering and regulating cryptocurrency exchanges and brokers and maintaining registries of holding and transactions.

 

In absence of any effective ban, or empirical evidence suggesting adverse effects of crypto currency trading and the impact of the Circular on operations of cryptocurrency exchanges, the Supreme Court held that the restriction embodied in the Circular was a disproportionate restriction on the freedom of trade and commerce and set aside the Circular.

 

The Road Ahead

 

As noted by the Supreme Court, since the Circular was issued, a high level inter-ministerial committee has proposed draft legislation for the Banning of Cryptocurrency & Regulation of Official Digital Currency (“Draft Bill”).[9]

 

The Draft Bill defines cryptocurrencies as “any information, code, or token which has a digital representation of value and has utility in a business activity, or acts as a store of value, or a unit of account”.

 

The Draft Bill proposes to ban mining, trading, holding, issuance or disposal of cryptocurrencies in India and imposes monetary as well as penal consequences (imprisonment up to 10 (ten) years) for violation. However, the Draft Bill proposes to exempt technology underlying cryptocurrencies for the purposes of experiment, research or teaching from this restriction.

 

The Draft Bill also proposes to introduce an ‘official digital currency’ wherein RBI may issue the Indian Rupee in a digital format and recognise certain foreign digital currencies as well. While there were indications that the Draft Bill would be introduced during the last year, the Government has not provided a timeline yet for the introduction of the Draft Bill before Parliament.

 

Given that the Court has acknowledged the RBI’S ability to regulate virtual currencies both through preventive as well as curative measures, it will be interesting to note if the RBI and the Government recalibrate their approach towards virtual currencies.

 

It will also be interesting to see if the RBI issues any subsequent notifications proposing enhanced regulatory, verification or reporting measures for persons holding or dealing in virtual currencies.

 

As such, Regulated Entities may take some time to enable transactions for entities dealing in virtual currencies. Their caution may be warranted in view of the risks around money laundering and terror financing asserted by the RBI.

 

A more immediate and welcome impact of the Judgement will be the dilution of the chilling effect on innovation in distributed ledger technology and virtual currency innovation which was an unintended consequence of the Circular.

 

*Authors would like to thank Yash J. Ashar, Partner (Head – Capital Markets) and Rohan Banerjee, Partner for their inputs and Soumita Basu, Consultant and Sameer Avasarala, Associate for assistance.