Why India Brought Crypto Intermediaries Under PMLA? - Understanding the Crucial Move
The rise of cryptocurrencies has disrupted the traditional financial ecosystem and brought about a new era of financial transactions. While the decentralized nature of cryptocurrencies provides several benefits, such as increased privacy and reduced transaction costs, it also brings with it the risk of money laundering.
Money launderers can exploit the anonymity provided by cryptocurrencies to disguise their illicit activities, making it difficult for authorities to track and prevent them. To counter this threat, the Government of India brought crypto intermediaries under the ambit of the Prevention of Money Laundering Act (PMLA). Bringing the crypto intermediaries under PMLA aims to regulate the activities of crypto intermediaries and prevent money laundering through cryptocurrency transactions.
What are crypto intermediaries?
Crypto intermediaries are entities that facilitate cryptocurrency transactions between buyers and sellers. They include cryptocurrency exchanges, wallet providers, and other similar service providers. Unlike traditional financial intermediaries, such as banks and credit card companies, crypto intermediaries do not have a central authority governing their operations. Instead, they rely on decentralized systems, such as blockchain technology, to verify and process transactions.
Crypto intermediaries play a crucial role in the cryptocurrency ecosystem by providing liquidity and enabling the exchange of cryptocurrencies for fiat currencies. They also provide a secure storage solution for cryptocurrencies, which is essential given the risks associated with holding digital assets. Crypto intermediaries are also responsible for ensuring the security of their customers’ funds by implementing measures such as two-factor authentication and cold storage of cryptocurrencies.
Compared to traditional financial intermediaries, crypto intermediaries operate in a relatively unregulated space. This has led to concerns regarding their potential misuse for illegal activities, including money laundering and terrorism financing. The lack of regulations and oversight in the cryptocurrency industry has made it an attractive avenue for money launderers to conduct their illicit activities. The inclusion of crypto intermediaries under PMLA aims to address this issue and ensure that cryptocurrency transactions are not used for illegal purposes.
Recent Government Notification on Crypto Intermediaries
India has acted wisely to protect its revenue interests by initially bringing Voluntary Disclosure Schemes (VDAs) under the purview of the Income-tax Act, 1961, and subsequently addressing the risks of money laundering and other economic offenses by encompassing them within the ambit of PMLA.
On March 7, 2023, the Indian government issued a significant notification that brought several crypto intermediaries under the Prevention of Money Laundering Act, 2002 (PMLA). This decision was made amidst ongoing investigations by the Enforcement Directorate (ED), the enforcing agency of PMLA, into numerous crypto intermediaries. According to news reports, proceeds of crime totaling over Rs 9 billion have already been seized in connection with crypto-related frauds.
The government’s recent notification has outlined that a reporting entity (RE) under the PMLA would encompass individuals who conduct the following activities “for or on behalf of another natural or legal person in the course of business:
- Exchange of virtual digital assets (VDA) and fiat currencies.
- Exchange of one or more forms of VDAs.
- VDAs transfer
Additionally, the notification stipulates that a reporting entity under the PMLA must also include individuals involved in:
- The safekeeping or administration of VDAs or instruments that allow for control over VDAs.
- The provision of financial services linked to an issuer’s offering and sale of a VDA, as well as participation in such services.
The entities that fall under the purview of the PMLA have been borrowed from the definition of Virtual Asset Service Provider (VASP) as outlined in the Financial Action Task Force’s (FATF) ‘Updated Guidance for a Risk-Based Approach to Virtual Assets and Virtual Asset Service Providers’ report, which was published in October 2021. As the government has not provided an exhaustive list of entities that will be covered under the PMLA in the notification, one can refer to the FATF report’s guidance on the VASP definition for further clarity.
The recent amendment under the PMLA aims to tackle money laundering issues associated with cryptocurrencies/VDAs. Due to their inherent technological design, VDAs offer a high degree of anonymity, making it challenging for the government to trace transaction trails within and outside the country. This anonymity poses a risk of VDAs facilitating money laundering and other illegal activities.
Effects of the PMLA amendment
The amendment clarifies the KYC and reporting requirements for crypto exchanges and intermediaries in India. This move has been welcomed by the industry as it will help boost the confidence of retail investors in cryptocurrencies/VDAs.
The inclusion of crypto intermediaries under PMLA means that these entities must now comply with the AML and CTF laws, similar to traditional financial institutions. Crypto intermediaries are required to conduct customer due diligence, maintain records of transactions, and report suspicious activities to the authorities.
KYC Compliance Requirements for Crypto Intermediaries
On March 7, the Finance Ministry announced that entities that handle virtual digital assets (VDAs) will be classified as ‘reporting entities’ under the Prevention of Money Laundering Act (PMLA), necessitating KYC procedures for clients and platform users of crypto exchanges and intermediaries.
For the purpose of the Prevention of Money Laundering Act (PMLA), entities engaged in exchanging VDAs for fiat currencies, transferring VDAs, providing safekeeping and administration of VDAs, and participating in financial services related to the offer and sale of VDAs by an issuer will be classified as ‘reporting entities’. These reporting entities are required to maintain KYC details or records of documents proving the identity of their clients and beneficial owners, as well as account files and business correspondence related to their clients, as per anti-money laundering regulations.
India's position on cryptocurrency regulations
India’s current stance on crypto regulations is still developing and evolving. The recent inclusion of crypto intermediaries under the PMLA is just one component of a larger regulatory framework for virtual asset service providers (VASPs) and cryptocurrencies in India and globally.
While the PMLA regulations mandate AML and CTF compliance for crypto intermediaries, there are other critical aspects that need to be addressed for an effective crypto regulatory regime. These aspects include establishing an overseeing regulatory body, defining corporate governance requirements, and securing consumer and investor protection.
Furthermore, the absence of licensing or registration regimes for crypto intermediaries could make it difficult for the government to effectively monitor and administer the current PMLA regulations.
As such, India’s regulatory landscape for cryptocurrencies remains complex and dynamic, with several challenges that need to be addressed. It is expected that the government will continue to evaluate and refine its approach to regulating cryptocurrencies to ensure the safety and security of digital asset transactions while promoting innovation and growth in the industry.
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