Trading In Cryptos on International P2P Exchange? You run Your Bank Account being Frozen

Those transacting in cryptocurrencies with unknown entities, particularly on international exchanges facilitating Peer-to-Peer (P2P) transactions, run the risk of their bank account being frozen. This may happen if the funds transferred in the transaction are 'tainted funds', i.e., coming from or going for illegal activities.

For example, if you sell cryptos on an international exchange and receive funds that come from terrorist or money laundering activities then your account may be frozen by the Indian law enforcement agencies. You may face similar consequences, if you buy cryptos on an international exchange and send funds that are used for terrorist funding/ money laundering. This may happen due to various Indian laws such as the Prevention of Money Laundering Act, 2002 (PMLA), etc getting violated.

Unknown entities essentially mean entities where the legitimacy of the funds of the buyer/seller has not been verified either by the exchange or the person itself. In India, laws like the PMLA mandates Virtual Digital Asset (VDA) exchanges including Peer to Peer (P2P) exchanges to ensure that their customers are KYC compliant.

There are many ways to buy or sell VDAs, such as cryptocurrencies, non-fungible tokens (NFTs), etc. One of the methods is directly buying VDAs from the seller, effectively bypassing VDA exchanges. This method is called direct P2P transaction. Another method is where VDA exchanges set-up a P2P marketplace and buyers directly communicate to transact. This is called a facilitated P2P transaction.

However, when dealing on an international P2P facilitating exchange or directly with another individual (direct P2P international or Indian), the onus of such verification is on the Indian individual transacting on the exchange. In such cases if the funds used in the transaction are 'tainted', both the transacting parties could face trouble such as bank accounts getting frozen.

Says Gaurav Mehta, a forensic expert providing consultancy services to the Indian government and founder of Catax, a VDA taxation assistance platform: "In my professional experience I have seen cases where the transacting parties failed to follow Indian laws like KYC or PMLA or others and then Indian authorities with help from international organisations and other forensic experts tracked down the source of the funds routed through crypto and started investigation process against the individuals involved and froze the Indian resident's bank account. Perpetrators primarily prefer to use crypto P2P on international exchanges or decentralised exchanges rather than using Indian P2P exchanges and others."

Here is an example of a direct P2P transaction: Mr. Shyam has 1 Ethereum (ETH), which he wants to sell for Rs 2 lakh. Mr Gopal wants to buy 1 ETH for Rs 2 lakh. So, both of them strike a deal, and Gopal transfers the money to Shyam's bank account. After a successful bank transfer, Shyam transferred 1 ETH to Gopal's VDA wallet. This concludes a direct P2P transfer of VDA.

Read on to know in what kind of situation bank accounts may get frozen due to P2P trades and how to reduce risk in P2P transactions.

What are the situations when bank accounts may get frozen in VDA P2P trades?

Receiving Tainted or Stolen Funds:"If you sell cryptocurrency and the buyer transfers tainted or stolen funds, law enforcement agencies may trace the transaction back to your bank account. Upon investigation, your account could be frozen,

The decision to freeze bank accounts is driven by various government agencies such as the Economic Offences Wing (EOW), Department of Cyber Crime, etc. Such directives are given when there is a suspicion of money laundering or terror financing. If there is a suspicion that a P2P investor is selling cryptos and the proceeds are used to finance any of the illegal activities, then their bank accounts could be frozen.

Third-Party Payments: "If you sold a VDA to 'Name A' but received payment from 'Name B,' this discrepancy could raise red flags. If, on investigation, Indian laws are found to have been violated then it could lead to your bank account being frozen.

Fraudulent Transfers Affecting Both Parties: "If the buyer has received 'tainted' funds and then transfers them to the seller, both parties are at risk. The bank accounts of both the buyer and the seller could be frozen, as they would both appear to be involved in the fraudulent activity.

"Engaging in any type of peer-to-peer (P2P) transactions on international exchanges carries the inherent risk of dealing with unknown individuals. In such cases, it is difficult to ascertain specific details about the person involved, including their background, the source of their acquired cryptocurrency, or the purpose behind their disposal of the cryptocurrency. Engaging in such transactions can unknowingly make you an accomplice to a crime, as being a purchaser of such a cryptocurrency means you may acquire proceeds from illegal activities,"

Will a P2P crypto investor's bank account be frozen if he complies with the Income Tax Act?

There is no guarantee that complying with income tax laws means that the P2P transaction is fine and legal.

"An individual's ITR has no bearing on the method of acquisition of crypto assets. Avoiding income tax on crypto purchases is going against the Income Tax Act, 1961. That said, even being tax compliant doesn't guarantee that an individual is not in violation of the PMLA act. The situation arises if they had purchased/sold crypto from unknown/unverified entities through P2P. This can lead to your bank assets getting frozen,"

How to reduce risk in VDA P2P trades?

In direct P2P transactions, the only way to reduce operational and legal risk is to do the KYC due diligence, on one's own. No exchange or anybody else is going to help in this regard.

In P2P facilitating exchanges, the KYC and funds verification process is a bit different. Some exchanges claim to take responsibility for conducting this process, while some are silent in this regard. While there are also some exchanges that claim to conduct KYC of their customers but do not explicitly make it clear whether Indian KYC laws are adhered to.

It is clear that in every P2P transaction -direct or via exchanges - thorough/foolproof verification of KYC would be difficult for an individual, therefore, these would always be risky.

Experts say that unless the individual is sure of the genuineness of the KYC process undertaken, they should avoid P2P in any form.

"Purchasing crypto through P2P must be avoided. There are crypto gateways that are compliant, do a user's KYC and help them purchase crypto; these are mechanisms that one can use to acquire crypto assets. P2P transactions through non-compliant exchanges can lead to you providing liquidity to bad/unknown actors and can lead to violation of PMLA Act, which could lead to an imprisonment term of 3 years or more and also a freeze on your assets,"

There are multiple foreign centralised VDA exchanges like Binance, KuCoin, OKK, and others and Indian VDA exchanges like WazirX that facilitate P2P trades. There are also several decentralised crypto exchanges, like Uniswap, etc., that also facilitate P2P crypto transactions.

"P2P trading on our exchange happens between two Indian residents. We also verify the KYC details such as Aadhaar, PAN and Bank accounts before allowing them to trade on Binance for P2P transactions,"

The problem is when an individual transacts on a VDA exchange's P2P marketplace, which does not comply with Indian KYC laws. Here, in this case, the risk of non-compliance with various Indian laws exists.