Given that virtual currencies are fairly novel and still evolving, they don’t have a universal definition yet. The Merriam-Webster dictionary defines virtual currency as, any form of currency that only exists digitally, that usually has no central issuing or regulating authority but instead uses a decentralized system to record transactions and manage the issuance of new units, and that relies on cryptography to prevent counterfeiting and fraudulent transactions. In simple terms, cryptocurrency is a form of digital or virtual currency transacted over the internet and is protected by complex codes.
The status of cryptocurrency has always remained in the dark. Cryptocurrency in India is presently not regulated by any regulatory authority but is merely regulated and controlled by its developers. Hence it does not have any legal recognition. Although with recent developments the government has engaged RBI to discuss cryptocurrency regulation.
The earliest cautionary warning issued by Reserve Bank of India (“RBI”) was through a press release dated 24.12.2013, wherein it cautioned users, holders and traders of virtual currencies about the potential financial, operational, legal and customer protection and security related risks that they are exposing themselves to. It also emphasized that virtual currency is not authorized by any authority and therefore the users would be exposing themselves to various risks. Since then the RBI has repeatedly cautioned users of the dangers of cryptocurrency.
RBI had vide its circular dated 06.04.2018 banned entities regulated by it to deal in cryptocurrencies or provide services for facilitating any person or entity in dealing with or settling cryptocurrencies. The circular did not ban virtual currencies per se but prohibited banking companies in dealing with them. This circular was challenged before the apex body by various crypto trading entities. The Supreme Court in its judgement in Internet and Mobile Association of India v. Reserve Bank of India lifted the ban on cryptocurrency that was placed by the Reserve Bank of India in 2018.
While many industrialists and businessmen applauded this move, the legal complications arising out of the judgement are being overlooked.
One of the key considerations is that on 28th February 2019 the Reserve Bank of India had released a draft bill titled ‘Banning of Cryptocurrency & Regulation of Official Digital Currency Bill, 2019’. This bill has currently been stayed by the government but could move through the parliament in the future.
Despite the judgement, the status of cryptocurrency remains vulnerable. A bare reading of the 180-page judgement rings alarm bells. This article aims to highlight the legal challenges that could still threaten the existence of cryptocurrency.
The Regulatory Authority
The contention raised by petitioners was that the RBI does not have the power to deal with, regulate or ban virtual currencies, as it is only goods and commodities thus falling outside the purview of RBI Act, 1934, Banking Regulation Act, 1949 and Payment and Settlement Systems Act, 2007. Therefore, the circular issued by RBI dated 06.04.2018 is ultra vires.
The apex court ruled that though cryptocurrency is not recognized as a legal tender, it is still capable of functioning as a medium of exchange and performing the functions of real currency. The contention that virtual currencies are just goods/commodities and can never be regarded as real money was dismissed. Further, after analysing that many institutions accept virtual currencies as valid payments for the purchase of goods and services, it was concluded that virtual currencies fall within the purview of the RBI.
Further, the SC held that “the ultra vires argument cannot be accepted when the provision of access to banking services without any interference from the central authority over a long period of time is perceived as a threat to the very existence of the central authority. Hence, we hold that RBI has the requisite power to regulate or prohibit any activity of this nature”. Thus anything that is perceived as a threat to or impact the financial system can be regulated by RBI. Hence the ban imposed by RBI on banks is well within its power and it has the authority to regulate or prohibit virtual currencies. Therefore, it was concluded that the regulatory authority for cryptocurrencies is RBI.
The Supreme Court held that the RBI was well within its rights to issue the circular dated 06.04.2018. It opined that the circular does not prohibit but merely directs the entities regulated by the RBI not to provide banking services to those engaged in the trading or facilitating the trading in virtual currencies. The prohibition is not against virtual currencies but against banking companies. The RBI is well within its power to caution or prohibit banking companies against entering into certain types of transactions or class of transactions.
The next contention was that the circular violates Freedom guaranteed under Article 19 (1) (g) available to all citizens. The Supreme Court classified citizens into three categories — hobbyists, traders in virtual currencies and virtual currency exchanges. The Supreme Court held that hobbyists cannot challenge the circular as there is no motive of profit, besides what is covered under Article 19(1)(g) is only profession, trade or business. The Supreme Court with respect to the second category i.e. traders in VC held that the circular does not prohibit the trade of buying and selling of virtual currencies. The traders are free to trade in crypto-to-crypto pairs or in using the currencies stored in wallets, to make payments for the purchase of goods and services to those who are prepared to accept them, within India or abroad. Therefore as the impugned circular has not paralyzed many other ways the traders could deal with cryptocurrencies, the claim by traders would also fail. Coming to the third category, the Supreme Court viewed that the persons who have suffered a deadly blow from the circular are only the virtual currency exchanges as they do not have any other means of survival if they are disconnected from the banking channels.
Even though the RBI is well within its power to issue the circular, the circular has to pass the test of proportionality, that is to say, that RBI has suffered proportional damage by RBI-regulated entities in dealing with businesses operating in cryptocurrencies. RBI failed to illustrate any damage that it has suffered due to the functioning of these exchanges. Further, RBI did not explore the availability of alternative and less intrusive measures before issuing the circular.
Thus it was concluded that the measure taken by the RBI by banning banks to function in cryptocurrencies fails the test of proportionality and violates Article 19 (1) (g).
Primarily, the entire verdict is founded upon the violation of Article 19 (1) (g), which guarantees the freedom to practice any profession. As RBI detached banks from virtual currency exchanges it left them high and dry thereby violating Article 19 (1) (g). The apex court ruled that for the passing of a test for fundamental right the principle of proportionality must be applied. As the RBI failed to show proportional threat, the verdict concluded that RBI had not substantiated the threat with empirical data nor had it examined alternative measures.
A bill was proposed by the inter-ministerial committee through legislation known as ‘Banning of Cryptocurrency & Regulation of Official Digital Currency Bill, 2019’. The bill proposes a complete ban on the use of cryptocurrency. The bill also contemplates the creation of a digital rupee as a legal tender by the central government in consultation with the RBI and the recognition of any official foreign digital currency as foreign currency in India. However, this bill has not been passed by the parliament yet. If at all this bill would have been passed there would have been an official digital currency.
The situation was such that the virtual currencies were not prohibited but banks were restricted from dealing with them. Virtual currency exchanges cannot deal with cryptocurrency unless interfacing with banks. This virtually makes it impossible for virtual currency exchanges to function thereby violating Article 19 (1) (g).
One of the key observations in the judgement in which the Supreme Court supported the industry was that there was no law banning cryptocurrency and that RBI has been brooding over the issue of cryptocurrency without taking any extreme measure.
The key takeaway in RBI’s favour is that the apex court has successfully ruled that RBI indeed is the regulatory authority. The primary reason that RBI lost the battle was that it failed to show proportional damage or threat, but if in the future credible monetary damage or risk arises, a successive appeal may be filed.
Though the judgement has provided temporary relief, the threat to cryptocurrency still exists in the absence of a definitive legislature. It is unlikely that financial institutions and the banking sector will jump into the virtual currencies market. Further, the possibility of passing the ‘Banning of Cryptocurrency & Regulation of Official Digital Currency Bill, 2019’ makes the future of cryptocurrency vulnerable and uncertain.
Sadia is an alumnus of the Symbiosis Law School, Pune. She is part of the corporate team of Astrea Legal Associates LLP. She can be reached at firstname.lastname@example.orgDisclaimer: The views or opinions expressed are solely of the author.