India's Crypto Dilemma: Will New VDA Rules Protect or Stifle Growth?

India's regulatory review of virtual digital assets (VDAs) could reshape the country's crypto landscape, potentially aligning it with global standards and addressing longstanding gaps in consumer protection and market integrity. With over 100 million crypto users-many young and tech-savvy-India remains a critical market for the sector despite lacking a comprehensive legal framework. The ongoing review, driven by the Central Board of Direct Taxes and informed by the Supreme Court's May 2025 call for clearer laws, seeks to bridge this gap by introducing risk-based oversight and investor-focused safeguards.

Currently, India's VDA regulations are fragmented, focusing primarily on high taxation and basic anti-money laundering (AML) requirements. A 30% tax on crypto profits, combined with a 1% tax deducted at source (TDS), has pushed many users toward unregulated offshore platforms, stifling local innovation. While the Financial Intelligence Unit-India (FIU-IND) mandates AML and KYC compliance for domestic and foreign service providers, there is no unified law governing custody, insolvency, or market conduct. This regulatory vacuum has exacerbated risks such as unregulated stablecoins, decentralized trading, and opaque leverage practices.

The review process, influenced by India's 2023 G20 presidency and global financial stability board recommendations, is examining several key areas. Investor protection tops the agenda, with proposals for clear custody standards, insolvency procedures, and mandatory disclosure norms. Market integrity measures could include licensing requirements for exchanges, custodians, and wallet providers, alongside stricter oversight of leverage and liquidity risks. A separate framework for tokenized real-world assets (RWAs) is also under consideration, as India seeks to position itself as a hub for innovation in this emerging space.

Proposed safeguards include a risk-based classification system for VDAs, such as payment tokens, utility tokens, and asset-referenced tokens, each subject to tailored oversight. Licensing norms may require service providers to meet capital, cybersecurity, and governance standards, while conduct-of-business rules could mandate standardized risk disclosures and asset segregation. For RWAs, regulators are exploring central bank involvement and sandbox testing to balance innovation with systemic risk mitigation.

A well-designed VDA framework could yield significant benefits. By clarifying legal obligations and enhancing transparency, it could deter money laundering and fraud while attracting domestic and foreign investment. Strengthened data and reporting requirements, including real-time transaction monitoring, would enable agencies like the Reserve Bank of India and Securities and Exchange Board of India to coordinate more effectively. Additionally, reducing reliance on offshore platforms could foster local talent and innovation, aligning India's crypto ecosystem with global norms.

The review's success hinges on balancing regulatory rigor with flexibility. Critics warn that overly stringent rules could stifle innovation, while lax enforcement might fail to address systemic risks. However, stakeholders argue that a thoughtful approach-one that mirrors global best practices while adapting to India's unique market dynamics-could position the country as a leader in the next phase of crypto evolution.