Legal Implications of the Bitcoin Cryptocurrency Boom

 

A Brief Explanation of Cryptocurrencies

Bitcoin, Altcoin, Litecoin, Ripple, Monero, Ethereum, Zcash and Dash… these are just some of the digital currencies that have been igniting investors. Cryptocurrencies are so named because they use cryptography for security. What all cryptocurrencies have in common is that they are decentralized. They are not issued by a government or governed by a bank. They exist in a completely open network where digital transactions occur in the cloud and are recorded in blockchains. It would take a book to explain blockchain technology fully, but according to Don & Alex Tapscott, authors Blockchain Revolution, “The blockchain is an incorruptible digital ledger of economic transactions that can be programmed to record not just financial transactions but virtually everything of value…”

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Some cryptocurrencies are marketed for specific purposes. For example, Ripple was developed as a payments network for banks, digital asset exchanges and other financial institutions. Altcoin claims its “mission is to create a decentralized altcoin exchange built by traders for traders.” Litecoin was developed as a lightweight alternative to Bitcoin. It enabled smaller time intervals between adding new blocks to its blockchain. One answer to this was creating Bitcoin Cash in August 2017.  Bitcoin Cash has larger size blocks than Bitcoin, which allows more transactions to be processed in the same amount of time. But clearly, despite a few recent bumps, Bitcoin remains the leader in the world of cryptocurrencies. There are 1,269 Bitcoin ATMs in the United States alone.

In 2017, investors watched Bitcoin values skyrocket.  Bitcoin started out in 2009 worth nothing at all. Investors were thrilled when it jumped from $997 in January 2017 and then to $7,300 on November 6, 2017. But Bitcoin kept going, reaching a value of $19,783 on Dec. 17 according to the Bitcoin Price Index. Bitcoin dropped briefly to $11,066 on December 22, but recovered quickly to $14,268 on December 23. Clearly, the market is volatile, so it’s impossible to predict the value of Bitcoin when you read this. But even at its December low point, it’s still a remarkable increase in value from just a year ago.

 

Bitcoin and Other Cryptocurrencies: Are They Legal?

It has been hard for a lot of people to wrap their minds around the concept of cryptocurrency. How can it have real value if it is not created by a government? Perhaps the simplest analogy is virtual money used in games. An example is linden currency which is used in the virtual world Second Life.  People have paid their real life mortgages by selling pixelated creations (clothing, houses, etc.) for lindens then converting lindens to dollars. Lindens are not cryptocurrency but are an example of virtual currency, and cryptocurrency is a type of virtual currency.

Cryptocurrencies including bitcoins are legal in the United States as they are in most countries. Cryptocurrencies make the governments of some countries decidedly nervous, and the laws around them are still developing. Countries vary in how they legally classify bitcoins. While the United States considers bitcoins property, the European Union treats them as currency. Other countries ban cryptocurrencies all together. For example, in Indonesia, Bitcoin was very much in the news in December 2017 as the Bank of Indonesia planned to ban all Bitcoin-related activity.

Given the huge increase in value and popularity of cryptocurrencies, it’s a sure bet that governments will increasingly regulate them. Following are some of the cryptocurrency legal issues in the United States.

 

Tax Evasion and Money Laundering

One of the primary reasons that cryptocurrencies such as bitcoins are worrisome to governments is that transactions (depending on the cryptocurrency) are usually either anonymous or difficult to trace. Transactions are recorded in the blockchain using the person’s digital wallet ID instead of their name. This can be a boon to international criminals who want to launder money or evade taxes.

The IRS has responded to this perceived threat by issues broad summonses known as John Doe summonses. The IRS recently tried to get the Coinbase exchange to give information about all its users. Coinbase strongly fought this attempt, and eventually the IRS agreed that Coinbase need only provide information about accounts exceeding $20,000.

 

IRS Classification

Cryptocurrencies are a whole new world, and the government has needed to decide how to classify them in order to know what laws to apply. The IRS has ruled that bitcoins are property, which results in different tax consequences than a currency classification. The IRS treats bitcoin exchanges as stock transactions or barter transactions. On the upside, capital gains rates on property are usually much lower than income tax rates. However, the maximum loss allowed is $3,000 which means in a down market, investors will get little relief for losses. Be aware that when you transfer bitcoins or other cryptocurrency, you may very well trigger a gain or loss that impacts your taxes. You may want to speak with your lawyer or accountant before making a large transfer.

 

Bitcoins and the SEC

The SEC has stated that cryptocurrencies are subject to federal security laws. Cryptocurrency companies that don’t register their Initial Coin Offerings could be violating security laws.

 

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