August 30, 2014
While Bitcoin gains traction as a burgeoning digital payment system, the concerns regarding its use grow as well. More than 60,000 online retailers now accept the “virtual cash,” and the UK has announced that Britain may start treating Bitcoin as a legitimate currency. But what, exactly, is Bitcoin? And what does a business need to know before accepting it as payment?
Bitcoin is the best-known of a new, digital breed of currency. Bitcoins can be created, or “mined,” only with difficulty by powerful computers, and are therefore available in finite amounts; this artificial scarcity is intended to maintain their value. Bitcoin accounts are completely anonymous, as there is no registry of who owns them or who is involved in Bitcoin transactions.
In March of 2014 the IRS declared that, for tax purposes, bitcoins are considered property and not currency. This ruling could substantially complicate their use, as it subjects bitcoins to capital gains tax based on what the user paid for them—buying a $10 lunch with bitcoins purchased for $7 could trigger $3 in taxable capital gains for the customer. The Kafkaesque hassle of paying capital gains tax on a cup of coffee would itself surely deter many people from trying Bitcoin.
Because Bitcoin is not regulated as a currency, its value can fluctuate wildly. In January of 2013, one bitcoin was valued at around $13; by November of that year that number had increased over 9,000 percent, to more than $1,200. The speculators who rushed to purchase Bitcoin were disappointed, however, as it subsequently lost more than half its value, dropping to its current worth of approximately $588. Clearly, no business with a 3 percent profit margin wants to accept such a volatile form of exchange.
Returns could also present problems for retailers who accept Bitcoin. Imagine an item purchased for one-tenth of a bitcoin, which is returned a few weeks later. The customer expects to receive one-tenth of a bitcoin in return for the item, but the value of one bitcoin has risen from $500 to $700 in the meantime. The customer has, in effect, spent $50 on the item and received $70 in return, leaving the retailer to absorb the $20 difference. In fact, the retailer is in danger of becoming a de facto currency exchange, “lending out” inventory with a fixed dollar value to be returned when the value of bitcoins has changed in the customer’s favor.
There are numerous other legal questions surrounding Bitcoin. Courts have been known to require a litigant or defendant to disclose a Bitcoin password to determine the extent of one’s assets. In addition, the SEC has recently declared that Bitcoin’s legal status as property (instead of currency) means that trading them is akin to trading securities; thus they must be registered as securities and comply with SEC regulations. While this ruling is subject to change, it underscores the current uncertainty about the legal status and future of digital currency.
While Bitcoin may hold promise for streamlining online transactions in the future, it remains for now in the digital Wild West—unregulated, unpredictable and unstable. Risk-averse businesses will most likely want to let things settle for a few years before committing to accepting it as currency.
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