Why banks are playing hard to get with crypto exchanges

Over the last few weeks, crypto exchanges have been facing multi-faceted challenges as trading volumes continue to drop and UPI and other major payment methods have been frozen across the top crypto exchanges. In the last few days, banks including Kotak Mahindra have withdrawn support from exchanges in what can be seen as a domino effect after US crypto exchange Coinbase was forced to pause UPI on its platform.

According to industry experts, the very public announcement by Coinbase led to banks becoming more cautious in partnering with crypto exchanges.

An industry executive, who did not wish to be named, says that the key concerns of banks around cryptos is that they still do not fall under the Prevention of Money Laundering Act (PMLA) and the Foreign Exchange Management Act.

"The concerns around money laundering through crypto can be only addressed with regulations and if exchanges start participating in FATF travel rules etc.," he added.

The Financial Action Task Force (FATF) is an inter-governmental policymaking body whose purpose is to establish international standards, and to develop and promote policies both at the national and international levels to combat money laundering and the financing of terrorism.

FATF’s Travel Rule guidelines require all parties in crypto trades, including exchanges, to share information regarding recipients of cryptocurrencies for transactions over USD/EUR 1000.

Keeping a distance

The Reserve Bank of India’s (RBI) staunch view that cryptocurrencies must be banned is well known, and many banks too have kept a distance from exchanges in an environment where cryptos continue to be unregulated in the country.

“The regulators and government don’t want the industry to grow unchecked in a grey area. Hence there has been more caution and more movement on the side of banks in the past few days,” added another industry source.

However, what caused more trouble is Coinbase’s announcement that it was allowing UPI on its platform. The announcement prompted a response from the National Payments Corporation of India (NPCI), which runs UPI, saying that it was “not aware of any crypto exchanges using UPI.”

“NPCI cannot do anything until there is a law in place. All banks and exchanges are transacting based on the Supreme Court judgment. But the government has to bring a law in place and NPCI has not yet been directed to allow crypto on UPI. Hence NPCI wants a concrete decision from the government to continue these payments,” a person directly aware of the matter told Moneycontrol.

“Some banks can take some amount of risk and are also happy to do it. But they don't want to go mainstream and highlight this. When someone like Coinbase makes a public announcement, it makes it mainstream, which gives out a lot of signals. Associating with exchanges is a huge signal and they want to keep away from that,” the industry executive mentioned earlier added.

Moneycontrol reached out to Kotak Mahindra Bank with queries, the bank's response is awaited.

Trading volumes plunge

Moneycontrol had reported that the MobiKwik wallet, one of the most preferred modes of payment to purchase cryptos, withdrew its services across exchanges on April 1. Altogether, these moves have led to a significant drop in trading volumes, which were already declining after the crypto tax of 30 percent came into effect on April 1. In a major setback for crypto exchanges, trading volumes have plunged by 50-70 percent over the last two weeks after the crypto tax was implemented and even further compared to previous months.

For instance, WazirX, one of the top cryptocurrency exchanges in India, clocked a trading volume of $47,836,817 on April 1 while on 17th April, it clocked $10,475,541, according to data from crypto research firm CREBACO.

Meanwhile, exchanges are trying to keep their payment channels afloat by enabling whatever modes are available to them. CoinSwitch currently does not have a mode to purchase crypto, while the bank transfer option on CoinDCX is only available to certain users.

The main reason for CoinSwitch being forced to halt all payment methods is Kotak Mahindra Bank’s decision to withdraw support and distance itself from cryptocurrencies.

Exchanges, including Coinbase, are said to be in talks with NPCI to allow UPI across platforms to purchase cryptocurrencies.

 Can exchanges take legal recourse?

In March 2020, the Supreme Court had quashed the RBI’s decision to ban cryptocurrencies in India. Can exchanges use the verdict to challenge the decision of banks in court?

“Exchanges are not looking at legal recourse. They want to solve this by dialogue or probably by adding additional controls etc. Multiple conversations are on to find a suitable way out for both the exchanges as well as regulators and the government,” the executive cited earlier added.

Even if exchanges were to go to court, legal experts do not believe they can have a strong case.
“Getting a favourable order from a court could prove rather difficult. Given that crypto is accorded an “asset” classification under the income-tax law, one would require specific provisions for crypto transactions under FEMA’s capital account rules. So, it may not be easy to persuade the courts to take a view on permitting these transactions,” says Ritesh Kumar, a tax and regulatory expert.

Kumar adds that unless the government spells out the regulations, crypto exchanges and investors are bound to see such disruptions.

“As of now crypto exchanges have no legal recourse. The only reason you can take banks to court is if you prove that there is a breach of contract. In this case you cannot prove the ‘breach of contract’ because the banks have not gotten into a contract to begin with,” says Rashmi  Despande, Partner at corporate law firm Business Law Chamber.