Virtual Currency

AN INTRODUCTION INTO VIRTUAL CURRENCY AND ITS LEGAL

ISSUES

LIVIA NGUYEN
UNIVERSITY OF ADVANCING TECHNOLOGY | NETWORK SECURITY AND TECHNOLOGY FORENSICS
LAW370 Virtual Currency

Contents

Abstract ........................................................................................................................................... 2
Introduction ..................................................................................................................................... 4
What is Bitcoin? .......................................................................................................................... 4
Bitcoin Transaction ..................................................................................................................... 5
Bitcoin Timestamp ...................................................................................................................... 5
Bitcoin Security .......................................................................................................................... 5
Virtual Currency Taxation .............................................................................................................. 6
Virtual Currency Mining Method and Hardware............................................................................ 7
Legal Issue ...................................................................................................................................... 7
Conclusion ...................................................................................................................................... 9
Bibliography ................................................................................................................................. 10

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Abstract

Bitcoin, virtual money has become part of our currency system on the internet, however,

people are using it as a way to perform licensing and illegal activities on the Internet. Bitcoin is

a cryptocurrency and digital payment system that allow people to purchased and used it as

currency on the Internet. Currently, people are using bitcoin to exchange for currencies,

products, and services online without having to input their banking information on the

Internet. Securities and Exchange Commission v. Trendon T. Shavers and Bitcoin Savings and

Trust, Civil Action No. Civil Action No. 4:13-CV-416 case shows that people defrauded

investors for the money and obtain it illegally online to make a profit off of it. The U.S. v.

Faiella is the case about bitcoin being sold on Silk Road, a drug trafficking website show that

bitcoin can also be used for illegal transaction online especially drug trafficking. The Wikipedia

website on Bitcoin give accurate information on what bitcoin is, how it functions, and what it

could be used for, but it does not talk about the many legal issues that it has in the country.

Potential legal issues that can be seen with virtual currency is the Unclaimed Property

Laws, which required companies to turning over the unclaimed funds/value to the appropriate

State and filing a report on a specific time frame to the States. Fail to comply to the law will

results in interest and penalties and it is likely to happen because many companies are not aware

of this law. Another legal issue that is illegal in the U.S. is gambling, contests and sweepstakes

over the Internet using virtual currency. Money Transmittal Licensure is important because

people who is using virtual currency in their business required a licensure from the State and

Federal by special registration to agree and comply to the law. Data Privacy and Security are

another big issue with virtual currency because sharing of information between third parties

could result in opt-out and opt-in requirements under the federal, state and international laws.
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Company who have access to such data must compliant with the federal laws and the companys

published privacy policies. Virtual currency can also be protected by Intellectual Property law

under copyright, trademarks, and patents.

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Introduction

Virtual Currency is an electronic currency that people uses physical currency, which

allows people to trade in for the traditional currencies, purchasing good or services

online. Bitcoin is a well-known type of virtual currency, and similar to other types of virtual

currency, it does not operate through a central authority or bank and has no connection with the

Government. The Internal Revenue Service (IRS) considered virtual currency to be a property

and therefore are required to be filing in the U.S. Federal Tax. Virtual currency user is required

to file virtual currency as property transaction in the Federal Tax. Business is required to obtain

a Money Transmittal Licensure to be able to operate in virtual currencies. Each country has their

own rule regarding virtual currency because within the reason years, there have been events

where it was used for criminal or terrorist activities. Physical can be stolen by someone, and

virtual money can be hacked by a cybercriminal, and therefore required a more secure

environment to provide a better security. Even though virtual currency creates a safer and way

of online purchasing, it was being used for illegal reasoning and therefore being watched

properly by the IRS, even though it is a subject that the Government focus on.

Bitcoin

What is Bitcoin?

Bitcoin is a peer-to-peer electronic cash system that was used as transaction online

without having to go through any financial institution, such as the bank. The bitcoin is also

being used by small business because it does not have any banking fees since it operates

separately from any financial institution. People also have the abilities to exchange and transfer

bitcoin from any type of currency electronically. Bitcoin is being stored in a digital wallet that

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acts similar to a bank account, where it holds all your virtual currency in a cloud or

computer. However, because it was not supported by the FDIC, the wallet could be hacked into

and people could lose their money.

Bitcoin Transaction

Bitcoin uses a chain of digital signatures to perform their transaction on the

Internet. Each owner has a public key, which takes the form of a hash value and it will be used

as a digital signature for the transaction. The bitcoin owner also has a private key, which allow

them to sign and for the transaction to happen. The current problem that the payee has is that

they cannot verify whether the owners did not double-spend the coin. They have decided to

count the earliest transaction because the coin cannot be used multiple time.

Bitcoin Timestamp

Bitcoin timestamp server take a hash when a transaction was being made to make sure

that the transaction time is correct. There is a block that contains many items within and a hash

will generate based on the block with a proper timestamp, which forms a chain, that contains all

the time stamp that could be used for legal purposes or log.

Bitcoin Security

Since Bitcoin was designed as a peer-to-peer (P2P) network, it uses randomly selected

nodes to reduce the problem with multiple transactions. That will help stop users from using the

same coin multiple. The node will block any transaction until it verified that the coin is valid

and has not already been used before. For payment verification purposes, a user needs to have a

copy of the block headers of the longest proof-of-work chain, and the timestamp information

without having it running a full network node. The new privacy model for bitcoin allow the

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public to see that someone is sending bitcoin to someone else, but all information linking to the

transaction is private and protected. The concept is similar to how stock exchange work because

people can see when someone is buying and selling stock, but it does not point out exactly who

the person is. For security and privacy purposes, a new key pair will be generated for each

transaction being made.

Virtual Currency Taxation

The Internal Revenue Service (IRS) has released a document regarding virtual currency

tax file. Virtual currency is being treated as property for tax filing purpose and that applied to

virtual currency. Anyone who received virtual currency as a payment for goods or services in

computing gross income and has to include the fair market value of the virtual currency, and

measure it as U.S. dollars instead of virtual currency dollars. IRS Publication 551, Basis of

Assets stated that any taxpayer who received virtual currency payment is required to convert to

U.S. dollars when filing their tax as a fair market value as of the date of the receipt. Fair market

value is when virtual currency must have converted into U.S. dollars for tax purposes.

If the taxpayer who mined virtual currency, then the fair market value of the currency is

includible in gross income. Taxpayer, who was hired by someone to mine virtual currency will

file the traditional tax form while treating any of virtual currency they received for payment as a

property during the period they file taxes. If a taxpayer is mining virtual currency as an

individual without employment by someone they require to file the self-employment

tax. Taxpayer who uses virtual currency will be penalized for not being able to comply to the tax

law of virtual currency. Under section 6721 and 6722, a taxpayer will be penalized for failure to

timely and correctly report virtual currency transaction when we're asking to do so.

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Virtual Currency Mining Method and Hardware

Virtual currency mining is a type of method that transaction processing, recording, and

security of virtual currency as well as the process of creating new coins of virtual

currency. There are many methods of how someone can min virtual currency, such as Bitcoin or

other virtual currency exist on the net. Once the hardware is setup and running, it will

automatically mine and create a new coin that can late be used with proper hardware. Some of

the mining hardware method includes CPU, GPU, FPGA, ASIC and cloud Mining. CPU mining

was used at the beginning of virtual currency mining but later replace by GPU, because it is

faster compared to the CPU mining. There is also FPGA mining, which is a more efficient and

faster way to mined compare to CPU and GPU. There is also an ASIC design specifically for

bitcoin mining released in 2013. They consume a lot of power to run, however, it is faster

compared to any previous hardware that was used for mining. Mining Services, which is also

known as cloud mining is when someone can rent out a specific level and capacity of mining

from the services provider to mine in a "mining contract" rather than create their own mining

environment.

Legal Issue

The Store Value/Unclaimed property laws can be an issue when the virtual currency was

earned or purchased, but not being used by the owner. Most States in the U.S. have laws that

regulate the time of which the owner of virtual currency is allowing to hold onto it. Companies

have to file a report regarding this law annual to make sure that they are not holding onto any

unclaimed property. Once the owner did not use it and the virtual currency has already met the

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time where it is considered to be a Value/Unclaimed property, then they have to be turned over

to the State that the owner is currently resident at.

Online gambling is another issue that was brought up when discussed virtual currency

because it also plays a part in it. In 2006, the United State created the Unlawful Internet

Gambling Enforcement Act of 2006 (UIGEA or Act), 31 USC 5361-5366, which make online

gambling illegal. The Act does state that any type of card system is illegal, and they include

virtual currency. However, there are many people that use virtual currency, like bitcoin as a

money transmit system to gamble.

Money Transmittal Licensure must be obtained in circumstances, special registration, to

engage in any activities that involved the transaction of virtual currency as required by the State

and Federal laws. People will need a license to be able to transfer virtual currency to a third

party, include converting virtual currency to the U.S. standard dollars. Anyone who did not

comply with such law could be charged with civil and criminal penalties.

People who use an electronic wallet that stored value, sold or redeemed currency that is

used to make transferred and payment must have complied with the PATRIOT Act and Bank

Secrecy Act. They must keep a copy of specific information of the transaction and file report

with the Federal and State Governmental Agencies. Businesses must be registered as a money

services business. Companies must maintain an anti-money laundering (AML) that contains a

proper program, policies, procedure, State and Federal regulations to prevent any

money laundering.

Data Privacy and Security is another important part of virtual currency that required the

company to comply with. Some State required for a certain privacy policy to be maintained and

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they might also require the data to be stored with specific security procedures based on the State

that it was issued.

Conclusion

Even though virtual currency usage and mining are legal within the United State, there

are many regulations, State law and Federal law that need to follow that many people do not

know. All the legal issue that was addressed above is right, however, it has not been presented to

many people. Having an expiration date for virtual currency could be difficult to follow for

many people because they are required to use it at a certain time, and that set the difference

between physical and virtual currency. People are not required to use their money and the

money will stay the same unless our countrys currency system change. The biggest question is

whether this type of currency system could bring on a whole new serious discussion in our

country as it is being used more for illegal purposes. The United State has a strict law on online

gambling and if people start to use virtual currency as a way to participate in gambling activities,

will the State or Federal make virtual currency illegal.

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Bibliography

Trendon T. Shavers and Bitcoin Savings and Trust (Release No. LR-23090; September 22,

2014). (2014, September 22). Retrieved October 22, 2017, from

https://www.sec.gov/litigation/litreleases/2014/lr23090.htm

Manhattan U.S. Attorney Announces Charges Against Bitcoin Exchangers, Including Ceo Of

Bitcoin Exchange Company, For Scheme To Sell And Launder Over $1 Million In

Bitcoins Related To Silk Road Drug Trafficking. (2014, January 27). Retrieved October

22, 2017, from https://www.justice.gov/usao-sdny/pr/manhattan-us-attorney-announces-

charges-against-bitcoin-exchangers-including-ceo

Bitcoin. (2017, October 21). Retrieved October 22, 2017, from

https://en.wikipedia.org/wiki/Bitcoin

Overview of Legal Issues with Virtual Currencies. Retrieved November 6, 2017, from

https://www.pillsburylaw.com/images/content/4/5/v2/4525/VirtualCurrency.pdf

Notice 2014-21(2014). Retrieved November 5, 2017, from https://www.irs.gov/pub/irs-drop/n-

14-21.pdf

What are digital currencies and why is Bitcoin mining an easy way to generate passive income?

(2017, August 22). Retrieved November 05, 2017, from https://www.talk-

business.co.uk/2017/04/06/bitcoin-mining-digital-currencies/

Bitcoin Mining Hardware Guide. Retrieved November 05, 2017, from

https://www.bitcoinmining.com/bitcoin-mining-hardware/

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INVESTOR ALERT: BITCOIN AND OTHER VIRTUAL CURRENCY-RELATED

INVESTMENTS. (2014, May 07). Retrieved November 07, 2017, from

https://www.sec.gov/oiea/investor-alerts-bulletins/investoralertsia_bitcoin.html

IRS Virtual Currency Guidance: Virtual Currency Is Treated as Property for U.S. Federal Tax

Purposes; General Rules for Property Transactions Apply. (2014, March 25). Retrieved

November 07, 2017, from https://www.irs.gov/newsroom/irs-virtual-currency-guidance

Unlawful Internet Gambling Enforcement Act of 2006. (2006). Retrieved November 19, 2017,

from https://www.fdic.gov/news/news/financial/2010/fil10035a.pdf

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