India's Crypto Tax Dilemma: Enforcement vs. Innovation in the 2026 Budget

India's cryptocurrency market stands at a crossroads in 2026, grappling with a regulatory framework that prioritizes tax enforcement at the expense of innovation and market growth. The government's 30% flat tax on virtual digital asset (VDA) profits, coupled with a 1% tax deducted at source (TDS) on every transaction, has created a paradox: while it aims to curb tax evasion, it simultaneously drives liquidity and capital offshore, undermining its own objectives. As the 2026 Union Budget approaches, the debate over recalibrating this framework has intensified, with stakeholders urging a balance between compliance and fostering a competitive digital asset ecosystem.

The Enforcement-Driven Tax Regime: A Double-Edged Sword

India's current crypto tax model, introduced in the 2022 budget, imposes a 30% tax on profits from VDA transactions, with no allowance for loss set-offs-even within the same asset class. This asymmetry creates a punitive environment for active traders, particularly those engaged in market-making and arbitrage strategies, which operate on margins as thin as 0.01–0.05% per trade. The 1% TDS, while intended to ensure transparency, has proven counterproductive for these participants. Data from the Times of India indicates that between July 2022 and July 2023, an estimated ₹3.5 lakh crore of trading activity migrated to offshore platforms, where TDS is not enforced. This exodus not only erodes India's tax base but also exposes users to higher risks on unregulated exchanges.

The 2025 budget further escalated enforcement by introducing retrospective audits under Section 158B of the Income-tax Act, allowing the government to scrutinize undisclosed crypto gains up to 48 months retroactively, with penalties of up to 70% for non-compliance. While this measure signals a commitment to accountability, it has deepened uncertainty among investors and operators. The absence of a clear regulatory framework for VDAs-despite the 2023 inclusion of virtual asset service providers (VASPs) under the Prevention of Money Laundering Act (PMLA)-leaves the market in a limbo where compliance costs outweigh incentives for participation.

Economic Implications: Lost Revenue and Stifled Growth

The unintended consequences of India's enforcement-heavy approach are evident in its economic impact. For the 2024–25 fiscal year, crypto transaction values in India exceeded ₹51,000 crore, yet tax collections amounted to just ₹511.8 crore- a stark discrepancy that highlights the inefficacy of the current system. Projections suggest that the 1% TDS could lead to uncollected taxes of up to ₹40,000 crore over the next five years, as traders continue to shift activity abroad. This paradox-where stricter enforcement leads to lower compliance-underscores the need for a recalibration that aligns with market realities.

Globally, India's approach is an outlier. In contrast to the U.S., the European Union, and Singapore, which have adopted structured frameworks that balance innovation with compliance, India's regime is among the most punitive. For instance, the U.S. has introduced the GENIUS Act for stablecoin regulation and issued SEC no-action letters to encourage blockchain innovation. The EU's Markets in Crypto-Assets (MiCA) framework standardizes rules across member states, while Singapore's Monetary Authority of Singapore (MAS) has established reserve and disclosure standards for stablecoins, positioning the country as a hub for regulated digital assets. These examples demonstrate that structured, innovation-friendly regulation can drive market growth without compromising compliance.

The Path Forward: Recalibrating for Balance

The 2026 Union Budget presents a critical opportunity to address these challenges. Industry stakeholders have proposed several reforms, including reducing the TDS rate to 0.01% for small and active traders, allowing intra-asset loss set-offs, and clarifying the tax treatment of non-residents holding VDAs. Such adjustments would alleviate the burden on liquidity providers while maintaining transparency. Additionally, aligning India's crypto tax framework with principles applied to traditional financial assets-such as allowing loss deductions-could restore confidence in domestic platforms and incentivize trading activity to return onshore.

However, any recalibration must be accompanied by a robust regulatory infrastructure. The 2023 PMLA amendments, which introduced KYC and anti-money laundering (AML) norms for VASPs, have already increased compliance costs for platforms. While these measures are necessary to prevent fraud, they risk excluding smaller players and rural users who lack the resources to navigate complex requirements. A tiered compliance approach, tailored to the scale of operations, could mitigate this risk while preserving oversight.

Conclusion: A Delicate Equilibrium

India's crypto tax dilemma encapsulates a broader tension between enforcement and innovation. While the government's focus on compliance is understandable in a market prone to speculative activity, the current framework's rigidity has stifled growth and driven capital away. By learning from global examples and adopting a more nuanced approach-such as the U.S.'s regulatory clarity or Singapore's structured innovation incentives-India can position itself as a leader in the digital asset space. The 2026 budget must strike a balance: enforcing tax discipline without sacrificing the dynamism that fuels market evolution.