Bitcoins are discovered rather than printed. Computers around the world "mine" for coins by competing with each other.
Last updated: 3rd March 2014
Bitcoin is of interest to law enforcement agencies, tax authorities, and legal regulators, all of which are trying to understand how the cryptocurrency fits into existing frameworks. The legality of your bitcoin activities will depend on who you are, where you live, and what you are doing with it.
Bitcoin has proven to be a contentious issue for regulators and law enforcers, both of which have targeted the digital currency in an attempt to control its use. We are still early on in the game, and many legal authorities are still struggling to understand the cryptocurrency, let alone make laws around it. Amid all this uncertainty, one question stands out: is bitcoin legal?
The answer is, yes, depending on what you’re doing with it.
Read on for our guide to the complex legal landscape surrounding bitcoin. Most of the discussion concerns the US, where many of the legal dramas are currently playing out.
What are the concerns about bitcoin?
Government agencies are increasingly worried about the implications of bitcoin, as it has the ability to be used anonymously, and is therefore a potential instrument for money laundering. In particular, law enforcers seem to be concerned about the decentralized nature of the currency.
As early as April 2012, the FBI published a document highlighting its fears around bitcoin specifically, drawing a distinction between it and centralized digital currencies such as eGold and WebMoney. It voiced concerns that while US-based exchanges are regulated, offshore services may not be, and could be a haven for criminals to use bitcoin for illicit activities without being traced.
Bitcoin was the only form of currency accepted on Silk Road, an anonymous marketplace that was only accessible over the TOR anonymous browsing network, and which was closed by the FBI in October 2013. Silk Road was commonly used to sell goods that are illegal in many countries, including narcotics. This prompted US Senator Charles Schumer to call for the site to be shut down, explicitly linking it to bitcoin, which he called a “surrogate currency”. The US Drug Enforcement Administration seized bitcoins from a US resident for purchasing a controlled substance in June 2013.
Who regulates it?
Regulators will vary on a per-country basis, but you can expect to see national financial regulators interested in bitcoin and other virtual currencies, potentially along with regional regulators at a sub-country level.
In the US, the Financial Crimes Enforcement Network (FinCEN), which is an agency within the US Treasury Department, took the initiative. It published guidelines about the use of virtual currencies. FinCEN’s March 18, 2013 guidance defined the circumstances under which virtual currency users could be categorized as money services businesses (also commonly known as money transmitting businesses or MTBs). MTBs must enforce Anti-Money Laundering (AML) and Know Your Client (KYC) measures, identifying the people that they’re doing business with.
The US Securities and Exchange Commission (SEC) hasn’t issued solid regulations on virtual currencies, but its Office of Investor Education and Advocacy published an investor alert to warn people about fraudulent investment schemes involving bitcoin. In particular, it warned of Ponzi schemes, after charging Texas resident Trendon T Shavers (aka ‘pirateat40’), founder and operator of Bitcoin Savings and Trust, with allegedly raising 700,000 bitcoins by promising investors up to 7% weekly interest.
The SEC case has forced the legislative branch of government to consider bitcoin’s legal status. Shavers had claimed that he could not be prosecuted for securities fraud, as bitcoin wasn’t money. However, Judge Amos Mazzant issued a memorandum arguing that bitcoin can be used as money.
In August 2013, the US Senate wrote to several law enforcement agencies, inquiring about the threats and risks relating to virtual currency. The letters included this one to the Department Of Homeland Security, fretting about the lack of a paper trail for regulators and enforcement agencies to follow for virtual currency transactions. It requested policies and guidance related to the treatment of virtual currencies, and information about any ongoing strategic efforts in the area.
November saw responses from the various agencies. The Department of Homeland Security was the most worried about the criminal threat from illicit use of bitcoin, while the Department of Justice, the Federal Reserve and the Department of Justice all acknowledged the legitimate uses of virtual currencies. The SEC argued that “any interests issued by entities owning virtual currencies or providing returns based on assets such as virtual currencies” were considered securities and thus fell under its remit.
Each US state has their own financial regulators and laws, and each approaches bitcoin differently. California and New York have been particularly aggressive in their pursuit of bitcoin-related organizations, for example, while others, such as New Mexico, South Carolina, and Montana, don’t regulate money transmitting businesses. A list of state approaches to money transmitter laws can be found here.
In May 2013, California’s state financial regulator issued a letter to the Bitcoin Foundation, a nonprofit organization designed to promote bitcoin, warning it that it may be a money transmission business, and threatening people there with potential fines and jail time.
Then, in August 2013, the New York Department of Financial Services issued subpoenas to 22 bitcoin-related companies, although these letters were more conciliatory, asking for a dialogue to develop appropriate regulatory guidelines for the digital currency industry. Since then, New York has proposed issuing ‘BitLicences’ – licences for bitcoin-based businesses – and will be holding hearings on the subject.
Private sector companies (banks)
Several banks have stopped accounts owned by people operating bitcoin exchanges. In at least one case, this was because the bank was unhappy that the company involved did not have a money transmitting business (MTB) account.
The US Senate addressed the issue of banking and federal regulation in a set of hearings held in November. The hearings were exploratory in nature and may not lead to legislation, but feedback from agencies included acknowledgements that there were legitimate uses for the coin.
What this means to you
The legality of bitcoin depends on who you are, and what you’re doing with it.
There are three main categories of bitcoin stakeholder. Someone may fall under more than one of these categories, and each category has its own legal considerations.
These are individuals that obtain bitcoins, and either hoard them or spend them. Under the FinCEN guidance, users who simply exchange bitcoins for goods and services are using it legally.
FinCEN: “A person that creates units of this convertible virtual currency and uses it to purchase real or virtual goods and services is a user of the convertible virtual currency and not subject to regulation as a money transmitter.”
According to the FinCEN guidance, people creating bitcoins and exchanging them for fiat currency are not safe.
FinCEN: “By contrast, a person that creates units of convertible virtual currency and sells those units to another person for real currency or its equivalent is engaged in transmission to another location and is a money transmitter.”
Miners seem to fall into this category, which could theoretically make them liable for MTB classification. This is a bone of contention for bitcoin miners, who have asked for clarification. This issue has not to our knowledge been tested in court.
Exchanges are defined as MTBs.
FinCEN: “In addition, a person is an exchanger and a money transmitter if the person accepts such de-centralized convertible virtual currency from one person and transmits it to another person as part of the acceptance and transfer of currency, funds, or other value that substitutes for currency.”
In 2009, the US Internal Revenue Service (IRS) posted information about the tax applications of using virtual currencies inside virtual economies, arguing that taxpayers can receive income from a virtual economy and could be required to report it as taxable income. However, it based this largely on guidance related to bartering, gambling, business, and hobby income.
However, the IRS has not yet posted guidance on ‘open flow’ virtual currencies that can be used outside of virtual economies. In a 27-page report [PDF] published in May 2013, the US General Accounting Office (GAO) called for more guidance from the IRS on this issue.
The IRS responded that its guidance could now be taken to cover virtual currencies as used outside of virtual economies. It added that it was also looking at the potential tax compliance risks posed by anonymous electronic payment systems, and was working with other federal agencies on the topic.
In June 2013, the director of an IRS unit that investigates cyber threats also told the Financial Times that the use of “cyber-based currency and payment systems” to hide unreported income from the IRS is a threat that it was “vigorously responding to”. And at Senate hearings in November, FinCEN director Jennifer Shasky Calvery confirmed that the IRS would be releasing more guidance on virtual currencies. In short, don’t expect to evade taxes by earning bitcoins instead of fiat currency.
What is the industry doing?
The industry has responded to growing regulator concerns in several ways.
- Several companies created a committee to form a self-regulatory body called DATA, designed to encourage open conversation with regulators.
- The Bitcoin Foundation formed committees to offer legal guidance, steer policy, and liaise with regulators.
- Exchanges have been attempting to secure MTB licenses at the state and federal levels, and some have avoided doing business with US customers until this is resolved.
No government has announced any explicit intention to prevent bitcoin use completely, around the end of 2013 and start of 2014 there were a series of warnings and directives from central banks and regulators to varying degrees of severity. They range from the simple “be careful, bitcoin is neither regulated nor officially a currency”, to blocks on financial institutions and even raids on bitcoin businesses. Many claim to be worried about the effect that large-scale bitcoin adoption might have on the stability of the financial system, especially if prices are volatile.
North America (non-US)
Canada has announced that it will tax bitcoins in two ways. Transactions made for goods or services will be treated under its barter transaction rules, while its “Transactions in Securities” document says that profits made on commodity transactions could be income or capital. It confirmed these rules in November 2013.
The EU’s banking regulator, The European Banking Authority (EBA), issued a warning statement on 13th December 2013 warning of investment risk, but focusing mainly on issues of fraud, tax evasion and other crime connected to virtual currency use. The statement also warned that if news of misuse continued to emerge, it “could lead law enforcement agencies to close exchange platforms at short notice and prevent consumers from accessing or retrieving any funds that the platforms may be holding for them”.
The National Bank of Belgium has no intention of intervening in bitcoin business or regulating it, says the Belgium Bitcoin Association. On 16th January 2014, however, the central bank issued a joint warning with the Belgian Financial Services and Markets Authority (FSMA) that digital currencies are not issued by any central authority, and as such are at risk of volatility, fraud, and business non-acceptance.
Long an offshore financial services hub, Cyprus has entered the bitcoin fray with enthusiasm and aims to be a hub for bitcoin business in the EU and surrounding territories. It is also home to the world’s first brick and mortar bitcoin savings institution, Neo (and its payment processing partner Bee). Still, the Central Bank of Cyprus issued a statement on 7th February 2014 warning about bitcoin’s volatility and reminding citizens it is not recognized as legal tender.
Estonia’s central bank has not issued a formal statement on bitcoin but one of its managers wrote to Bloomberg on 31st January 2014 calling bitcoin a “problematic scheme”, warning investors assumed all risks and reminding people that bitcoin businesses have been known to disappear overnight with customers’ money.
Finland issued a regulatory guide to bitcoin in September 2013, which imposed capital gains tax on bitcoins, and taxes bitcoins produced by mining as earned income.
The French Senate held hearings into bitcoin and digital currencies in mid-January 2014 that were considered mostly investigatory and positive in tone. The focus was mainly on the opportunities presented by the new technology and how existing laws and organizations could be used to catch wrongdoers. Making bitcoin illegal was not an option, according to observers, and France needed to catch up to neighboring countries in its approach.
Germany is perhaps the most advanced country when it comes to regulating bitcoin and virtual currencies. Although some issues remain unresolved, the German government has exempted bitcoin transactions held for over one year from 25% capital gains tax. It also categorized bitcoin as a form of private money. In early January 2014 the Bundesbank repeated a warning that bitcoin was “not an alternative to national currencies”, and values were “highly speculative”.
Greece, quite remarkably, has also taken time out from its years-long government spending-related financial crisis to warn you about the dangers of bitcoin.
Lithuania, wedged between the European Union and its largest trading partner, Russia, issued a warning at the end of January and hinted at a ban on non-government currencies, but later tempered the statement by saying new regulation was “under discussion”.
Slovenia is one of the more permissive governments towards digital currency use, though regulators there issued a statement on 24th December 2013 to remind people that bitcoin is considered neither a currency nor a financial instrument. The country’s Tax Administration and Ministry of Finance also said that bitcoin is subject to income tax like any other non-monetary income, and would be calculated based on the bitcoin-Euro exchange rate at the time of transaction. Selling bitcoin would not be subjected to capital gains tax.
Sweden’s Finansinspektionen financial regulator now considers bitcoin as a means of payment, following guidance issued last year. Exchanges must register with the regulator and meet the requirements faced by other financial institutions.
“The official Russian currency is the ruble. The use of any other monetary instruments or surrogates is forbidden,” announced Russia’s General Prosecutor’s Office in early February 2014. “The anonymous payment systems and crypto-currencies, including bitcoin [...] are monetary surrogates. As such, their use by private citizens or legal entities is not allowed.” So, bitcoin and other digital currencies seemed to have been are banned in Russia to the shock of the bitcoin world.
However, on 6th March, Russia seemed to soften its stance in a letter from the central bank to an individual who had asked for clarification. In it they said that a meeting of top Russian financial authorities in February did not result in a bitcoin ban, but rather was devoted to “combating crimes in the sphere of the economy devoted to the use of anonymous payment systems and cryptocurrencies on the territory of Russia”. Furthermore, the goal of the meeting was also to “develop a unified approach to the determination of the legal status of cryptocurrencies”. If the letter is genuine, the exact status of cryptocurrencies in Russia is still a grey area, but it is likely they will be tolerated until such time as proper legislation is brought in.
Despite the unstable political situation in early 2014, Ukraine’s central bank has still managed to issue statements on digital currencies, saying related businesses “must register with the agency and abide by existing laws related to the management of electronic money”.
Meetings with policymakers in the UK in September suggested that bitcoin-based businesses would not have to register with regulators, at least for the time being, while they consider their regulatory position. The most recent message from the UK suggests that bitcoins won’t be treated as money, but will instead be classified as single-purpose vouchers, which could carry a value-added tax (sales tax) liability on any bitcoins that are sold.
Asia and Middle East
In July 2013, reports suggested that Thailand had banned bitcoin. In fact, as some suggested, some of the exchanges were still trading, and the Bank of Thailand, which was the entity that was supposed to have banned bitcoin, doesn’t have the legal power to do so.
Thailand exchange, Bitcoin Co Ltd, closed down amid the uncertainty, however, until February 2014, when a letter from the BoT seemed to suggest that they could trade lawfully. A further letter, just days later, suggested that they were not correct in their understanding of the letter. For now, though, the exchange is still trading in the hope of regulatory clarification in bitcoin’s favour.
Although the issues mentioned above hinged more around using bitcoin for foreign exchange and related licences, no one can be sure of the legal standing of bitcoin and related companies in Thailand until a clear statement is issued by a government body with the authority to do so.
China: People’s Republic of China
China’s authorities have had arguably the biggest impact on bitcoin adoption and values in the past months. In early December 2013, the People’s Bank of China (PBoC) issued a statement warning of bitcoin risks and banning financial institutions from engaging in bitcoin business themselves or transferring funds to/from bitcoin exchanges. Another statement just days later also blocked third-party payment processors from dealing with exchanges, and the price of bitcoin worldwide crashed from its record high of over $1200 by about 50%. The moves have had a dramatic effect on the market share of large bitcoin exchanges in the country.
In mid-January, a PBoC official claimed there is no move to suppress or discriminate against bitcoin in China, and exchanges have been allowed to remain open for business. There does seem to be an official campaign to limit bitcoin trade to the fringes, however, and China’s state-owned business TV channel broadcasted a documentary the same week full of dire warnings about risks to investors from price volatility.
China: Hong Kong
Hong Kong’s Secretary for Financial Services and the Treasury issued a warning about risks associated with bitcoin on 9th January 2014. The Special Administrative Region (SAR) of China and financial hub has remained otherwise hands-off in its approach to bitcoin, saying it does not pose a risk to the financial system if it is not widely adopted.
Taiwan (Republic of China)
The Financial Supervisory Commission of the Republic of China and the Central Bank of the ROC issued a joint statement at the very beginning of 2014 warning against bitcoin use in Taiwan. Regulators there have also said they will block any attempt to install Robocoin bitcoin ATMs.
Singapore is another major international financial services hub and appears to be one of the world’s most permissive environments for bitcoin. The Monetary Authority of Singapore has stated it “will not interfere” with bitcoin business, despite an earlier warning in September 2013 of the risks. In mid-January 2014 Singapore’s taxation authority, the Inland Revenue Authority of Singapore (IRAS) sent a statement to local brokerage Coin Republic with details on how bitcoin business would be taxed.
Bitcoin will be treated not as a currency, but as either a good or asset, said IRAS. As a good it would be subject to GST (VAT or sales tax) when traded to and from local currency by Singapore-resident businesses and goods purchased with bitcoin would also be subject to sales tax. As an investment asset, bitcoin would not be taxed as Singapore does not have a capital gains tax.
Malaysia’s central bank, Bank Negara Malaysia (BNM), issued one of the shortest statements of its kind on 4th January, cautioning people to be careful when investing in bitcoin but otherwise saying simply ,“The Central Bank does not regulate the operations of bitcoin”.
Indonesia’s central bank, Bank Indonesia, issued a warning on 16th January 2014 that bitcoin was not regarded as a currency and accepting it as payment might even break national currency laws. No subsequent action against exchange businesses has been taken as yet, however.
India’s central bank is said to be “watching” bitcoin. In a series of dramatic moves, the Reserve Bank of India (RBI) issued a warning about bitcoin in late December 2013, which was followed almost immediately by exchanges choosing to suspend operations. One exchange had its premises raided and another was paid a “friendly” visit by tax officials to investigate how digital currencies could be managed and taxed. Some exchanges have since re-opened for business.
The Israeli Tax Authority was said to be considering a tax on bitcoin, but no further statements have been made at the time of writing. The Bank of Israel (BoI) and the Israeli Ministry of Finance issued a joint statement in February 2014 warning of investment risks as well as the dangers digital currencies posed as vehicles for fraud, money laundering and terror financing. However, the Israel Bar Association ruled in August 2013 that bitcoin “is an appropriate form of payment for attorneys” and authorized its members to accept it.
The country’s central bank, the Bank of Lebanon, issued a warning statement on 2nd January 2014 saying that bitcoin did not offer consumer protections, had a volatile price and was often used in criminal transactions. It advised people not to use digital currencies.
The Central Bank of Jordan has also issued a similar warning of digital currencies’ unregulated status in February 2014 and has prohibited banks, financial companies, payment processors and currency exchangers from dealing with them, particularly bitcoin.
Australia and New Zealand
Both the Governor and Assistant Governor at the Reserve Bank of New Zealand (RBNZ) issued personal warnings in mid-December 2013, warning of risks associated with volatility, but also commenting that the technology was “interesting”. In the same week, the Governor of the Reserve Bank of Australia made similar comments in a newspaper interview and warned of “speculative excesses”. Neither country has made any moves to block or otherwise regulate bitcoin businesses, and both are home to a number of smaller exchanges.