In previous discussions, we delved into the complex architecture of cryptocurrency systems and the unique regulatory challenges they present. Unlike traditional financial systems, cryptocurrency networks consist of diverse technological layers, such as protocol, programmable, tokenization, and interoperability layers, which operate without centralized authorities. This decentralized nature disrupts the conventional regulatory frameworks traditionally reliant on centralized control.
Instead of questioning which layer of the technology should be regulated, a more effective inquiry is identifying the points within the cryptocurrency ecosystem that are most susceptible to regulatory oversight. Given the decentralized nature of these systems, the practical question is where regulatory authority can still exert control. This leads us to the first significant checkpoint: the transition of value between fiat currency and crypto-assets.
The Fiat-Crypto Gateway as a Regulatory Checkpoint
For most users, the conversion between fiat and cryptocurrency serves as the primary gateway into and out of the cryptocurrency ecosystem. This entry point typically involves converting fiat currency into crypto-assets through intermediaries such as centralized exchanges, payment gateways, or peer-to-peer (P2P) platforms. This process, known as “on-ramping,” involves transferring funds from a bank account using conventional payment methods like bank transfers, UPI, or card payments. At this stage, transactions remain within the traditional financial system, subject to know-your-customer (KYC) requirements and financial regulations.
The reverse process, “off-ramping,” occurs when users sell crypto-assets and convert them back into fiat currency within the banking system. Here, transactions re-enter a regulated environment, with banks and payment service providers acting as the final point of settlement. Both entry and exit points involve value passing through identifiable intermediaries, making transactions traceable and subject to regulatory oversight. This makes the fiat-crypto gateway a natural regulatory checkpoint, as transactions leave records in systems already supervised by regulators. In contrast, blockchain transactions can be completed pseudonymously on a public ledger without centralized control.
India’s Regulatory Measures
India regulates the fiat-crypto checkpoint primarily through Anti-Money Laundering/Countering the Financing of Terrorism (AML/CFT) regulations and taxation. These measures target points where crypto activity intersects with the formal legal and financial systems.
The Prevention of Money Laundering Act, 2002 (PMLA), was the initial intervention. A notification dated March 7, 2023, brought activities involving Virtual Digital Assets (VDAs) under the PMLA’s scope, including exchanges between VDAs and fiat currencies. This means businesses facilitating fiat-to-crypto or crypto-to-fiat conversions must comply with PMLA reporting requirements, which include customer identification, record maintenance, transaction monitoring, and reporting suspicious activities.
Taxation is the second regulatory measure. The Finance Act, 2022, introduced a specific tax regime for VDAs, taxing income from VDA transfers at a flat rate of 30% and requiring tax deduction at source on certain transfers. While taxation does not legalize cryptocurrency, it brings VDA transfers within the state’s fiscal purview.
International Approaches
India’s regulatory approach aligns with global practices, as reflected in the Financial Action Task Force (FATF) framework. The FATF requires countries to apply AML/CFT obligations to virtual asset service providers, focusing on points where users access, exchange, transfer, custody, or convert virtual assets through identifiable businesses. The ‘Travel Rule’ also applies, mandating sender and recipient information to accompany certain virtual asset transfers.
In the United Kingdom, crypto-asset businesses must register with the Financial Conduct Authority under AML/CFT regulations. Similarly, in Singapore, digital payment token service providers are subject to the Monetary Authority of Singapore’s AML/CFT requirements.
Limitations of the Checkpoint
While India and other jurisdictions have regulated the on-ramp/off-ramp gateway, it has inherent limitations. Once crypto-assets move on-chain, they often operate beyond the reach of conventional financial regulations.
Self-custodial wallets, where users hold private keys and control assets, complicate traceability. Additionally, P2P platforms like Binance P2P may split transactions, with platforms seeing only the crypto leg and banks seeing only the fiat leg. Mixers, tumblers, and layering techniques further obscure the origin and flow of funds.
Ultimately, the fiat-crypto gateway serves as an initial regulatory checkpoint but is not the complete solution. The effectiveness of this checkpoint relies on the continued need to convert crypto-assets back into fiat currency. As crypto-assets become more integrated into self-contained ecosystems, the need to on-ramp and off-ramp may diminish, challenging the visibility of gateway-focused regulation.
The fiat-crypto gateway should be viewed as the first checkpoint in a broader regulatory strategy. Future discussions will explore additional regulatory opportunities within the cryptocurrency ecosystem.
Anirudh Krishnan, Anuraag Rajagopalan, and Hasthisha S. Desikan are Advocates at the Madras High Court and AK Law Chambers. Athif Ahmed and Reddy Pawan Kumar are Advocates at Hash Legal.
