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  Making Heads or Tails of Bitcoin Virtual Currency Still Volatile, but Gaining Traction
Making Heads or Tails of Bitcoin Virtual Currency Still Volatile, but Gaining Traction

By Steve Viuker

Easy come, easy go. That’s the federal government’s take on the possibility of economic gain in the realm of virtual currency, the most high profile of which is Bitcoin. The currency’s ease of use by those with criminal intent is cited by those in the banking industry who say they wouldn’t finance a Bitcoin startup, or a company that takes payment in bitcoin. (Editor’s note: Bitcoin refers to the payment system itself, while bitcoin pertains to the currency.)
But the ease and low cost of payment processing via Bitcoin has also spurred the Federal Reserve to consider how to improve the payment system most widely used by regulated banks. Most of that payment system dates from the 1970s. In a thin-margin banking system that is now motivated to reduce processing costs, it may be yet another example of the uneasy relationship between the regulated world and the shadow economy, a dynamic which has existed since at least the reform-minded 1930s, when Joseph Kennedy, who built considerable wealth as a result of market opportunities presented by Prohibition and its repeal, became head of the Securities and Exchange Commission.

We know the drill
“Investors looking to get in on the ground floor of a bitcoin-related company should realize that fraudsters may see the latest digital currency trend as a chance to steal their money through old-fashioned fraud,” said Gerri Walsh, senior vice president for investor education at The Financial Industry Regulatory Authority.
That sums up the feelings regarding Bitcoin from the government. And the SEC last summer issued a similar alert to investors after charging a Texas man with running a bitcoin-related Ponzi scheme. Separately, regulators in Texas issued a cease-and-desist order against an oil and gas exploration company that accepts bitcoin from investors, saying it didn’t disclose the risks associated with using the virtual currency to buy a working interest in its wells.

Death and taxes – and now, property
In a major step, the Internal Revenue Service issued a notice providing that virtual currency is treated as property for U.S. federal tax purposes. General tax principles that apply to property transactions apply to transactions using virtual currency.
Among other things, this means that the use of virtual currency in everyday business transactions must be reported to the government. This includes the payment of wages and compensation for independent contractors.
Employee wages paid via virtual currency are taxable to the employee, must be reported by an employer on a Form W-2, and are subject to federal income tax withholding and payroll taxes.
Payments using virtual currency made to independent contractors and other service providers are taxable and self-employment tax rules generally apply, such as the requirement for payers to issue a Form 1099 to their contractors.
The good parts
Then there’s the consideration of economic gain from the use of virtual currency. The character of gain or loss from the sale or exchange of virtual currency depends on whether the virtual currency is a capital asset in the hands of the taxpayer.
A payment made using virtual currency is subject to information reporting to the same extent as any other payment made in property.
So far, the banking industry’s first reaction to Bitcoin is to express reservations about funding bitcoin-based startups – an understandable concern, particularly in a tight regulatory climate. But the system’s real-time settlement, often within 60 minutes, is appreciated by some early-adopting merchants, principally those with a significant online presence. Comparatively low transaction costs and fast confirmation are highly competitive with other payment systems such as wire transfers. The move toward bitcoin-based payment systems may well become merchant-driven in future years as credibility is built – if that happens.
Recently, Ireland saw the country’s first Bitcoin ATM in Dublin. The machine, which converts physical euro cash into the digital currency, is being operated by Bitvendo, a Bitcoin vending business started by a number of Irish and international digital currency enthusiasts. In order to use the desktop device, which is located in mobile phone accessory shop GSM Solutions, users must first download and set up a digital wallet in which to store their bitcoins. The user then scans a digital QR code, generated by their digital wallet, at the vending machine and enters the amount of euro cash they wish to convert into bitcoins. The conversion takes place at an exchange rate dictated by a selection of different bitcoin exchanges, which is updated in real time, and the digital currency is then lodged into the user’s digital wallet. Bitvendo charges a 3 to 5 percent commission on each transaction.
Good luck with that
Mt. Gox, a leading bitcoin exchange, lost investors’ money. On March 7, Mt. Gox CEO Mark Karpeles wrote, the exchange “confirmed that an old format wallet which was used prior to June 2011” held a balance of approximately 200,000 bitcoins. That amounts to a little more than $116 million. Mt. Gox filed for bankruptcy in the United States, shortly after filing for similar protection in Japan. That brought Mt. Gox’s loss down to $650,000, but customers aren’t creditors, and the only way they could seek recompense is to file a lawsuit.
Aside from that, the other big difference between Bitcoin and mainstream bank deposits is the lack of Federal Deposit Insurance Corporation (FDIC) insurance for bitcoin. But for those seeking the potential for better return on their investment than today’s interest rates offer, it may be well worth the risk.
A class-action federal lawsuit against Mt. Gox, filed in Chicago, has been put on hold. A federal judge froze Karpeles’ U.S. assets as part of a customer lawsuit against the defunct bitcoin trading exchange, a result of their inability to withdraw bitcoins and cash from Mt. Gox. U.S. District Judge Gary Feinerman placed a temporary restraining order on Karpeles’ assets, along with a related U.S. company and the Japanese company that operates the bitcoin exchange. The Japanese parent company that runs the exchange was shielded from the order because of ongoing bankruptcy proceedings. Karpeles lives in Japan and has never been to the U.S., according to comments made in court.

Creating a welcoming environment
If banks are hesitant to embrace bitcoin investment, that sentiment doesn’t seem to be shared by Benjamin M. Lawsky, the superintendent of the state’s Department Financial Services.
Lawsky recently issued his first public order on virtual currencies like bitcoin, calling for proposals for creating regulated exchanges. “The companies that are now being asked to comply in this order are going to largely be the companies that say we have the desire, wherewithal and the resources to do this the right way,” Lawsky said. “We are creating a situation where we’ll hopefully be driving consumer confidence in the firms that want to come here now and set up their exchanges with all the appropriate protections in place.”
Recently, a New York ad agency took the bait. DiMassimo Goldstein is the first ad agency network to accept bitcoin from clients. Founded as a hybrid digital and traditional agency in 1996, DiGo became the growth partner for several early iconic Internet businesses in the first dot-com boom. The firm has extensive experience working with and launching campaigns for new and currently leading payment systems, including airline miles, credit cards, payment processing systems such as MasterCard, and innovative, non-traditional platforms like Revolution Money, now owned by American Express.
Josh Metnick, a Chicago-based bitcoin advocate, says the system is evolving.
“There are ongoing connections being made by companies seeking to accept bitcoins as a payment mechanism,” he said. “The ecosystem is highly complex at this point and has grown in many directions in the past year. There are hundreds of software developers. … It’s like Microsoft launching a product and hearing back on how they can improve the functionality. Bitcoin is software that has been out there for over five years. The transaction issue that took down Mt. Gox was a high priority item and, after the breach, patches came out very quickly. All of the exchanges, except for Mt. Gox, were able to survive the transaction issue because they were running [their own version of the bitcoin code, unlike Mt. Gox]. In my mind, that was a fraud. In some ways, it was like the Madoff scam, in which various sets of books were kept. When the software fixes came out, all of the exchanges were able to upgrade their servers and software to repel this attack. I believe bitcoin needs to be regulated and has value as a lower-transaction fee currency.” 


Posted on Thursday, June 05, 2014 (Archive on Wednesday, September 03, 2014)
Posted by Scott  Contributed by Scott
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