Bitcoin: Questions, Answers, and Analysis of
Legal Issues
Craig K. Elwell
Specialist in Macroeconomic Policy
M. Maureen Murphy
Legislative Attorney
Michael V. Seitzinger
Legislative Attorney
January 28, 2015
Congressional Research Service
7-5700
www.crs.gov
R43339
Bitcoin: Questions, Answers, and Analysis of Legal Issues
Summary
Bitcoin first appeared in January 2009, the creation of a computer programmer using the
pseudonym Satoshi Nakamoto. His invention is an open-source (its controlling computer code is
open to public view), peer-to-peer (transactions do not require a third-party intermediary such as
PayPal or Visa) digital currency (being electronic with no physical manifestation). The Bitcoin
system is private, with no traditional financial institutions involved in transactions. Unlike earlier
digital currencies that had some central controlling person or entity, the Bitcoin network is
completely decentralized, with all parts of transactions performed by the users of the system.
With a Bitcoin transaction there is no third-party intermediary. The buyer and seller interact
directly (peer to peer), but their identities are encrypted and no personal information is transferred
from one to the other. However, unlike a fully anonymous transaction, there is a transaction
record. A full transaction record of every Bitcoin and every Bitcoin user’s encrypted identity is
maintained on the public ledger. For this reason, Bitcoin transactions are thought to be
pseudonymous, not anonymous. Although the scale of Bitcoin use has increased substantially, it
still remains small in comparison to traditional electronic payments systems, such as credit cards,
and the use of dollars as a circulating currency.
Congress is interested in Bitcoin because of concerns about its use in illegal money transfers,
concerns about its effect on the ability of the Federal Reserve to meet its objectives (of stable
prices, maximum employment, and financial stability), and concerns about the protection of
consumers and investors who might use Bitcoin.
Bitcoin offers users the advantages of lower transaction costs, increased privacy, and long-term
protection of loss of purchasing power from inflation. However, it also has a number of
disadvantages that could hinder wider use. These include sizable volatility of the price of
Bitcoins, uncertain security from theft and fraud, and a long-term deflationary bias that
encourages the hoarding of Bitcoins.
In addition, Bitcoin raises a number of legal and regulatory concerns, including its potential for
facilitating money laundering, its treatment under federal securities law, and its status in the
regulation of foreign exchange trading.
Congressional Research Service
Bitcoin: Questions, Answers, and Analysis of Legal Issues
Contents
Some Basic Questions ..................................................................................................................... 1
What Is Bitcoin? ....................................................................................................................... 1
How Does the Bitcoin System Work? ....................................................................................... 1
How Are Bitcoins Obtained? ..................................................................................................... 2
Are Bitcoin Transactions Anonymous? ..................................................................................... 3
What Is the Scale of Bitcoin Use? ............................................................................................. 3
Would Bitcoins Affect the Fed’s Conduct of Monetary Policy?................................................ 4
Arguments For and Against Wider Use of Bitcoin .......................................................................... 5
Why Would One Want to Use Bitcoins? .................................................................................... 5
Lower Transaction Costs for Electronic Economic Exchanges .......................................... 5
Increased Privacy ................................................................................................................ 6
No Erosion of Purchasing Power by Inflation ..................................................................... 6
What Factors Might Deter Widespread Bitcoin Use? ................................................................ 6
Not Legal Tender ................................................................................................................. 6
Does Not Enjoy the Dollar’s Network Externalities ........................................................... 7
Price Volatility Discourages Its Use as Medium of Exchange ............................................ 7
The System’s Long-Term Deflationary Bias Will Discourage Its Use as Currency ........... 7
Bitcoin’s Network Security Is Uncertain ............................................................................. 8
Legal and Regulatory Issues ............................................................................................................ 9
Legal Considerations Generally ................................................................................................ 9
Power of Congress under Article I of the U.S. Constitution ..................................................... 9
Recent Activity ........................................................................................................................ 10
Recent Legislative Activity: Congress .............................................................................. 10
Federal Regulatory Activity .............................................................................................. 11
State Regulatory Activity .................................................................................................. 13
Federal Reserve and European Central Bank Studies ....................................................... 15
Applicability of Selected Laws to Digital Currency ...................................................................... 15
Counterfeiting Criminal Statutes ............................................................................................. 15
The Stamp Payments Act of 1862, 18 U.S.C. Section 336 ...................................................... 16
The Electronic Fund Transfer Act, 15 U.S.C. Sections 1693 et seq. ....................................... 16
Federal Tax Law ...................................................................................................................... 17
Federal Anti-Money Laundering Laws .................................................................................... 18
Federal Election Campaign Act ............................................................................................... 20
Federal Trade Commission Act ............................................................................................... 20
Federal Securities Regulation .................................................................................................. 21
Investments Purchased with Bitcoins ................................................................................ 21
Investing in Bitcoins.......................................................................................................... 22
SEC Sanctions for Non-Registration of Bitcoin Venues ................................................... 23
Commodity Futures Trading Commission Regulation ............................................................ 24
International Legal Issues .............................................................................................................. 25
Concern About International Monetary Fund Authority ......................................................... 26
Contacts
Author Contact Information........................................................................................................... 27
Congressional Research Service
Bitcoin: Questions, Answers, and Analysis of Legal Issues
he digital currency called Bitcoin has been in existence since 2009 and for most of that
time it remained little more than a technological curiosity of interest to a small segment of
Tthe population. However, over the last year and a half, Bitcoin use has grown substantially;
attention by the press has surged, and recently Bitcoin caught the attention of Congress, being the
subject of two Senate hearings.1
This report has three major sections. The first section answers some basic questions about Bitcoin
and the operation of the Bitcoin network and its interaction with the current dollar-based
monetary system. The second section summarizes likely reasons for and against widespread
Bitcoin adoption. The third section discusses legal and regulatory matters that have been raised
by Bitcoin and other digital currencies.
Some Basic Questions
What Is Bitcoin? 1
Bitcoin first appeared in January 2009, the creation of a computer programmer using the
pseudonym Satoshi Nakamoto. His invention is an open source (its controlling computer code is
open to public view), peer to peer (transactions do not require a third-party intermediary such as
PayPal or Visa), digital currency (being electronic with no physical manifestation).2
Like the U.S. dollar, the Bitcoin has no intrinsic value in that it is not redeemable for some
amount of another commodity, such as an ounce of gold. Unlike a dollar, a Bitcoin has no
physical form, is not legal tender, and is not backed by any government or any other legal entity,
and its supply is not determined by a central bank. The Bitcoin system is private, but with no
traditional financial institutions involved in transactions. Unlike earlier digital currencies that had
some central controlling person or entity, the Bitcoin network is completely decentralized, with
all parts of transactions performed by the users of the system.
How Does the Bitcoin System Work?
Bitcoin is sometimes referred to as a cryptocurrency because it relies on the principles of
cryptography (communication that is secure from view of third parties) to validate transactions
and govern the production of the currency itself. Each Bitcoin and each user is encrypted with a
unique identity, and each transaction is recorded on a decentralized public ledger (also called a
distributed ledger or a blockchain) that is visible to all computers on the network but does not
reveal any personal information about the involved parties. Cryptographic techniques enable
1 On November 18, 2013, the Senate Committee on Homeland Security and Governmental Affairs held a hearing on:
Beyond Silk Road: Potential Risks, Threats, and Promises, available at http://www.hsgac.senate.gov/hearings/beyond-
silk-road-potential-risks-threats-and-promises-of-virtual-currencies. On November 19, the Senate Committee on
Banking, Housing, and Urban Affairs held a hearing on: The Current and Future Impact of Virtual Currencies,
available at http://www.banking.senate.gov/public/index.cfm?FuseAction=Hearings.Hearing&Hearing_ID=955322cc-
d648-4a00-a41f-c23be8ff4cad.
2 General background discussions about Bitcoin can be found at Bitcoin, available at http://bitcoin.org/en/; Jerry Brito
and Andrea Castillo, Bitcoin: a Primer for Policymakers, Mercatus Center, George Mason University, 2013, available
at http://mercatus.org/publication/bitcoin-primer-policymakers; and Federal Reserve Bank of Chicago, Chicago Fed
Letter, Bitcoin: A Primer, 2013, available at http://www.chicagofed.org/digital_assets/publications/chicago_fed_letter/
2013/cfldecember2013_317.pdf ; and the Bank of England, The Economics of Digital Currencies, Quarterly Bulletin,
Q3 2014, available at http://www.bankofengland.co.uk/publications/Documents/quarterlybulletin/2014/
qb14q3digitalcurrenciesbitcoin2.pdf.
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special users on the bitcoin network, known as miners, to gather together blocks of new
transactions and compete to verify that the transactions are valid—that the buyer has the amount
of Bitcoin being spent and has transferred that amount to the seller’s account. For providing this
service, miners that successfully verify a block of transactions are rewarded by the network’s
controlling computer algorithm with 25 newly created Bitcoins.3
This decentralized management of the public ledger is the distinguishing technological attribute
of Bitcoin (and other decentralized cryptocurrencies) because it solves the so-called double
spending problem (i.e., spending money you do not own by use of forgery or counterfeiting) and
the attendant need for a trusted third party (such as a bank or credit card company) to verify the
integrity of electronic transactions between a buyer and a seller. Public ledger technology could
have implications not just for the traditional payments system but possibly also for a wide
spectrum of transactions (e.g., stocks, bonds, and other financial assets) in which records are
stored digitally.
How Are Bitcoins Obtained?
To interact on the Bitcoin network users first need to download the free and open-source
software. Once connected to the network, there are three ways to obtain Bitcoins. First, a user can
exchange conventional money (e.g., dollars, yen, and euros) for a fee on an online exchange (e.g.,
Okcoin, Coinbase, and Kraken). The exchange fee falls with the size of the transaction, ranging
from 0.5% for small transactions down to 0.2% for large transactions.
The price of Bitcoin relative to other currencies is determined by supply and demand. In mid-
January 2015, a single Bitcoin was valued at around $220. However, the price has been quite
volatile, having been less than $20 in January 2013, above $1,100 in December 2013, and around
$320 as recently as mid-December 2014 (representing more than a 30% fall in value in about one
month).4
Second, a user can obtain Bitcoins in exchange for the sale of goods or services, as when a
merchant accepts Bitcoin from a buyer for the sale of his product.
Third, as discussed earlier, a user can acquire new Bitcoins by serving as miner and applying his
or her computer’s processing power to successfully verify the validity of new network
transactions. The probability of an individual discovering Bitcoins through mining is proportional
to the amount of computer processing power that can be applied. This prospect is likely to be very
small for the typical office or home computer. The difficulty of the verification problem increases
so that Bitcoins will be discovered at a limited and predictable rate system-wide. But the
increased difficulty of verification means that the computational cost of that service also rises.
Therefore, the supply of Bitcoins does not depend on the monetary policy of a virtual central
bank. In this regard, despite being a currency with no intrinsic value, the Bitcoin system’s
operation is similar to the growth of money under a gold standard, although historically the
amount of gold mined was more erratic than the growth of the supply of Bitcoins is purported to
be. Depending on one’s perspective, this attribute of the bitcoin network can be a virtue or a vice.
3 In order to mine and validate a new block of transactions, miners compete to solve a difficult math problem. The
miner that solves the problem first validates the transactions in the block and broadcasts his or her proof-of-work to the
bitcoin network. Other miners in the network check the successful miner’s results. If the miner’s work is found to be
correct, he or she is rewarded by the system with 25 new bitcoins.
4 The current price of a Bitcoin can be obtained from Bitcoin-Charts available at http://bitcoincharts.com/.
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Currently, about 13.7 million Bitcoins are in circulation. However, the total number of Bitcoins
that can be generated is arbitrarily capped at 21 million coins, which is predicted to be reached in
2140. However, because a Bitcoin is divisible to eight decimal places, the maximum amount of
spendable units is more than 2 quadrillion (i.e., 2,000 trillion).5
Purchased or mined Bitcoins are thereafter stored in a digital wallet on the user’s computer or at
an online wallet service.
Are Bitcoin Transactions Anonymous?
Bitcoin transactions are not truly anonymous.6 An example of an anonymous transaction is an
exchange for cash between two strangers. In this case, no personal information need be revealed
nor does there need to be a record of the transaction. At the other extreme a non-anonymous
transaction is a typical online purchase using a credit card. This transaction requires validation by
a third-party intermediary to whom the buyer’s and seller’s identities and pertinent financial
information is known and who maintains a record of the transaction. A Bitcoin transaction falls
between these two extremes.
With a Bitcoin transaction there is no third-party intermediary. The buyer and seller interact
directly (peer to peer), but their identities are encrypted and no personal information is transferred
from one to the other. However, unlike a fully anonymous transaction, there is a transaction
record. A full transaction record of every Bitcoin and every Bitcoin user’s encrypted identity is
maintained on the public ledger. For this reason Bitcoin transactions are thought to be
pseudonymous, not anonymous.
Because of the public ledger, researchers have found that, using sophisticated computer analysis,
transactions involving large quantities of Bitcoin can be tracked and claim that if paired with
current law enforcement tools it would be possible to gain a lot of information on the persons
moving the Bitcoins.7 Also, if Bitcoin exchanges (where large transactions are most likely to
occur) are to be fully compliant with the bank secrecy regulations (i.e., anti-money laundering
laws) required of other financial intermediaries, Bitcoin exchanges will be required to collect
personal data on their customers, limiting further the system’s ability to maintain the user’s
pseudonymity.
What Is the Scale of Bitcoin Use?
Despite significant growth since its inception, Bitcoin’s scale of use remains that of a “niche”
currency. As of mid-January 2015, the total number of Bitcoins in circulation globally was about
13.7 million, up about 1 million coins from a year earlier. With its recent market price of near
$200, Bitcoin’s current market capitalization (price × number of coins in circulation) is about
$2.7 billion. However, large swings in the price of Bitcoin have caused that market capitalization
to exhibit similarly large changes during the year. As recently as December 2013, with Bitcoin
exchanging at near $1,100, the market capitalization was above $140 billion. Although numerous
5 Because the supply of Bitcoins is fixed in the long run, sustaining the payment of Bitcoins to miners for providing
verification services will be impossible. Without that subsidy, the Bitcoin network arguably could face rising
transaction costs and a diminished attractiveness when compared with traditional centralized payment systems.
6 Joshua Brustein, “Bitcoin May Not Be Anonymous After All,” Bloomberg Business Week, August 27, 2013, available
at http://www.businessweek.com/articles/2013-08-27/bitcoin-may-not-be-so-anonymous-after-all.
7 Sarah Meiklejohn et al., “A Fist Full of Bitcoins: Characterizing Payments Among Men with No Name,” University
of California, San Diego, December 2013, available at http://cseweb.ucsd.edu/~smeiklejohn/.
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vendors accept Bitcoin, the volume of transactions remains modest. During 2014, the value of
Bitcoin’s global daily transaction volume fluctuated in a range of between $40 million and $60
million, representing between 50,000 and 90,000 daily transactions.8
For comparison, in June 2014, the U.S. money supply (the sum of currency, demand deposits,
saving deposits including money market saving accounts) was about $11.3 trillion (about 1,000
times larger).9 The credit card company Visa reports that for 2013 its total dollar volume was $6.9
trillion, with an average number of daily individual transactions of near 24 million.10 In 2013,
daily transactions in dollars on global foreign exchange markets averaged over $4 trillion.11
Would Bitcoins Affect the Fed’s Conduct of Monetary Policy?
The Federal Reserve conducts monetary policy to affect the flow of money and credit to the
economy to achieve stable prices, maximum employment, and financial market stability. At
Bitcoin’s current scale of use, it is likely too small to significantly affect the Fed’s ability to
conduct monetary policy and achieve those three goals. However, if the scale of use were to grow
substantially larger, there could be reason for some concern. Conceptually, Bitcoin could have an
impact on the conduct of monetary policy to the extent that it would (1) substantially affect the
quantity of money or (2) influence the velocity (rate of circulation) of money through the
economy by reducing the demand for dollars.
Regarding the money supply, if Bitcoin transactions occur on a pre-paid basis whereby Bitcoins
enter into circulation when dollars are exchanged and then are withdrawn from circulation when
exchanged back to dollars, the net effect on the money supply would be small.
Regarding the velocity of money, if the increase in the use of Bitcoin leads to a decrease in need
for holding dollars, it would increase the dollar’s velocity of circulation and tend to increase the
money supply associated with any given amount of base money (currency in circulation plus bank
reserves held with the Fed). In this case, for the Fed to maintain the same degree of monetary
accommodation, it would need to undertake a compensating tightening of monetary policy. At a
minimum, a substantial use of Bitcoins could make the measurement of velocity more uncertain,
and judging the appropriate stance of monetary policy uncertain.
Also, a substantial decrease in the use of dollars would also tend to reduce the size of the Fed’s
balance sheet and introduce another factor into its consideration of how to affect short-term
interest rates (the instrument for implementing monetary policy). However, the Fed’s ability to
conduct monetary policy rests on its ability to increase or decrease the reserves of the banking
system through open market operations. So long as there is a sizable demand by banks for liquid
dollar-denominated reserves, the Fed would likely continue to be able to influence interest rates
and conduct monetary policy.12 13
8 Bitcoin data from Bitcoin Charts available at http://bitcoincharts.com/.
9 Board of Governors of the Federal Reserve System, Money Stock Measures (H.6), available at
http://www.federalreserve.gov/releases/h6/current/default.htm.
10 Visa, Inc., Fact Sheet, available at http://corporate.visa.com/_media/visa-fact-sheet.pdf.
11 Bank for International Settlements, “Foreign Exchange Turnover in April 2013: Preliminary Global Results,”
Triennial Central Bank Survey, September 2013, at https://www.bis.org/publ/rpfx13fx.pdf.
12 See also European Central Bank, Virtual Currency Schemes, October 2012, pp. 33-39, available at
http://www.ecb.europa.eu/pub/pdf/other/virtualcurrencyschemes201210en.pdf.
13 In a letter to the Senate Committee on Homeland Security and Governmental Affairs, then Fed chairman Bernanke
noted that virtual currencies have the potential to be beneficial, but also carry risks, and while not a direct regulatory
(continued...)
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Again, any sizable effect on the U.S. monetary system is predicated on Bitcoin’s scale of use
becoming substantially greater than it is at present. An important force that is likely to hinder
such growth in Bitcoin use is the strong preference for dollar use generated by what economists
call network externalities (i.e., the value of a product or service is dependent on the number of
others using it). Network externalities create a self-generating demand for a dominant currency.
The more often a currency is used as a medium of exchange, the more liquid it becomes and the
lower are the costs of transacting in it, leading, in turn, to its becoming even more attractive to
new users. Network externalities create a tendency toward having one dominant currency and
confer a substantial incumbency advantage to the dollar in both domestic and international use.
The legal tender status of the dollar, discussed below, reinforces this advantage.14
The U.S. economy reaps considerable benefit from having a single well-defined and stable
monetary unit to work as a medium of exchange, a store of value, and unit of account to facilitate
its vast number of daily economic transactions. If greater use of Bitcoin (and other
cryptocurrencies) leads to multiple monetary units and fragmentation of the economy’s currency
system, these benefits could be threatened. However, Bitcoin does not currently pose a significant
challenge to the dollar as the principal circulating currency. As already discussed, Bitcoin is
currently a minor medium of exchange. Its substantial price volatility makes it a poor store of
value (discussed more fully below), and there is little evidence that it is being used as a unit of
account (e.g., companies pricing products exclusively in Bitcoin).
Arguments For and Against Wider Use of Bitcoin
Why Would One Want to Use Bitcoins?
Bitcoin purportedly offers three potential benefits to users: lower transaction costs, increased
privacy, and no erosion of purchasing power due to inflation.
Lower Transaction Costs for Electronic Economic Exchanges
Because there is no third-party intermediary, Bitcoin transactions are purported to be substantially
less expensive for users than those using traditional payments systems such as Paypal and credit
cards, which charge merchants significant fees for their role as a trusted third-party intermediary
to validate electronic transactions. In addition, Bitcoin sales are nonreversible, which removes the
possibility for misuse of consumer charge-backs, which merchants find costly. Merchants would
presumably pass at least some of these savings on to the customer. There is considerable
anecdotal evidence to support this assumption, but no comprehensive data exist on the size of
Bitcoin’s transaction cost advantage.
Some of the transaction cost advantage could be offset by the slow speed at which Bitcoin
transactions currently occur, which, depending on the size of the transaction, can take a minimum
of 10 minutes or as long as an hour.15
(...continued)
responsibility, are monitored by the Fed. He did not express any concern about virtual currencies hindering the Fed’s
ability to conduct monetary policy. Available at http://online.wsj.com/public/resources/documents/
VCurrenty111813.pdf.
14 Hal R. Varian, Economics of Information Technology, University of California, Berkeley, March 23, 2003, available
at http://www.sims.berkeley.edu/~hal.
15 See Data on transaction times at Blockchain, available at http://blockchain.info/charts/avg-confirmation-time.
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In addition, Bitcoin’s advantage in transaction cost could be offset by the substantial volatility of
Bitcoin’s price. A rising dollar price of Bitcoin is likely to deter potential buyers who would
expect to see their purchasing power be greater in the future. A falling Bitcoin price is likely to
deter potential sellers who would expect to see their potential sales receipts be greater in the
future.
In the long run, the Bitcoin system will stop creating new coins, eliminating the subsidy to miners
to verify transactions. Without that subsidy, the cost of verifying a transaction is likely to
increase.
Increased Privacy
Those who seek a heightened degree of privacy may find more comfort using Bitcoins for their
(legal) commercial and financial transactions. The risk of identity theft may also be less, and
some may find the removal of government from a monetary system attractive. However, as
discussed above, Bitcoin transactions do not have the anonymity afforded by cash transactions, as
there is a permanent and complete historical record of Bitcoin amounts and encrypted identities
for all transactions on the Bitcoin system that are potentially traceable.
No Erosion of Purchasing Power by Inflation
Inflation is defined as a broad increase in the prices of goods and services. This is equivalent to
saying that there is a fall in the value of the circulating currency. That fall in value means that
each unit of the currency is exchangeable for a reduced amount of goods and services. Inflation is
commonly thought to be a monetary phenomenon in which the supply of the currency outpaces
the demand for the currency causing its unit value (in terms of what it can buy) to fall.
Most often governments (or their central bank) regulate the supply of money and credit and most
often some degree of mismanagement of this government function is at the root of a persistent
high inflation problem. In the case of Bitcoin, however, there is no government or central bank
regulating the supply of Bitcoins. The supply of Bitcoins is programmed to grow at a steady rate
regulated by the degree of mining activity (a process likely linked to a growing demand for
Bitcoin) and then is capped at a fixed amount.
Inflation could occur if the demand for Bitcoin decreases relative to the fixed supply. Inflation
could also occur if the Bitcoin network develops fractional reserve banking (i.e., banks that hold
only a fraction of their deposits in reserve and lend out the rest), which would also be a vehicle
that effectively increases the supply of circulating Bitcoins. If these digital banks move to a
situation where held reserves stabilize, this source of inflation would diminish.
What Factors Might Deter Widespread Bitcoin Use?
There are a number of factors that could discourage widespread use of Bitcoin.
Not Legal Tender
The dollar is legal tender and by law can be used to extinguish public or private debts. A creditor
is required to accept legal tender for the settlement of a debt. At a minimum, the payment of taxes
forces U.S. individuals to hold dollars. Arguably, for many, such a government endorsement is
comforting and creates a strong underlying demand for the dollar. By contrast, a currency like
Bitcoin that is linked to a complex computer program that many do not understand and that
operates without accountability to any controlling entity could be an unattractive vehicle for
holding wealth for many people.
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Does Not Enjoy the Dollar’s Network Externalities
As noted above, the attractiveness of using a dollar is dependent on the number of people already
using it. Thus widespread use of the dollar encourages its continued use and is an impediment
(although not an insurmountable barrier) to the use of other currencies, including Bitcoins.
Price Volatility Discourages Its Use as Medium of Exchange
Bitcoin’s price has been volatile since its creation in 2009, subject to sharp appreciations and
precipitous depreciations in value. During March 2013 and April 2013, Bitcoin’s dollar exchange
rate rose from about $50 to $350 and then fell back to near $70. Bitcoin’s price moved up even
more sharply during the fall of 2013, rising from near $50 in September to more than $1,100 by
early December. During 2014, Bitcoin’s price showed large day-to-day variations but generally
trended down. By mid-January 2015, a Bitcoin was priced near $200. This is a price pattern more
typical of a commodity than of a currency to be used as a medium of exchange or a store of value.
The volatile price behavior suggests the market for Bitcoin is currently being driven by
speculative investors, not by a growing demand for Bitcoin due to increased transactions by
traditional merchants and consumers.
One problem with having the Bitcoin network dominated by speculators is that it gives users an
incentive to hoard Bitcoins rather than spend them—just the opposite of what would need to
happen to make a currency a successful medium of exchange such as the dollar.16
Speculation could be more likely to dominate the market for Bitcoins because its value cannot be
anchored to some underlying ‘fundamental’ such as an amount of some physical commodity such
as gold, the value of an earnings stream that undergirds the price of a company’s stock, or the
perceived basic soundness and stability of an economy and its governing institutions (as is,
arguably, true for the dollar).
The System’s Long-Term Deflationary Bias Will Discourage Its Use as
Currency
Because the supply is capped in the long run, widespread use of Bitcoin would mean that the
demand for Bitcoin would likely outstrip supply, causing Bitcoin’s price to steadily increase. The
corollary of that increase is that the Bitcoin price of goods and services would steadily fall
causing deflation. Faced with deflation, there is a strong incentive to hoard Bitcoins and not
spend them, causing the current level of transactions to fall.17
If generalized to an economy-wide phenomenon deflation could cause slower than normal
economic growth and higher than normal unemployment.
This possible outcome highlights the likely importance of the economy’s principal currency being
elastic, its supply increasing and decreasing to meet the changing needs of the economy, and of
the important role of the central bank in implementing such a monetary policy. The perils of an
inelastic currency were evident, for a period from about 1880 to 1914, when the United States
monetary system operated under a gold standard. At this time, the deflationary bias of an inelastic
supply of gold led to elevated real interest rates, caused periodic banking panics, and produced
16 Felix Salmon, “The Bitcoin Bubble and the Future of Currency,” Medium, April 2013, available at
https://medium.com/money-banking/2b5ef79482cb.
17 Dan Kervick, “Bitcoin’s Deflationary Weirdness,” New Economic Perspectives, April 2013, available at
http://neweconomicperspectives.org/2013/04/talking-bitcoin.html.
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increased instability of output. The Federal Reserve was created in 1913 to provide an elastic
currency. In particular, the generally good economic performance of the post-war era speaks to
the benefits of having a central bank to administer an elastic currency, not only to meet the
changing transaction needs of the economy, but also to proactively use monetary policy to
stabilize output and inflation.
Bitcoin’s Network Security Is Uncertain
Although counterfeiting purportedly is not possible, Bitcoin exchanges and wallet services have
at times struggled with security. Cash and traditional electronic payment systems also have
periodic security problems, but a high incidence of security problems on a system trying to
establish itself and gain customer confidence could be more damaging. Some notable examples of
security breaches on the Bitcoin network have included the following:
• In January 2015, Bitstamp, a large European Bitcoin exchange, suspended
services after a security breach involving the loss of 19,000 Bitcoin, valued at
about $5 million.18
• Hackers mounted a massive series of distributed denial-of-service attacks against
the most popular Bitcoin exchange, Mt. Gox, in 2013. About 850,000 Bitcoin
valued at over $400 million were stolen. Mt. Gox subsequently declared
bankruptcy.19
• In late August 2012, an operation titled Bitcoin Savings and Trust was shut down
by the owner, allegedly leaving around $5.6 million in bitcoin-based debts.20
• In September 2012, Bitfloor, a Bitcoin exchange, reported being hacked, with
24,000 Bitcoins (roughly equivalent to $250,000) stolen. As a result, Bitfloor
temporarily suspended operations.21
• On April 3, 2013, Instawallet, a web-based wallet provider, was hacked, resulting
in the theft of over 35,000 Bitcoins. With a price of $129.90 per Bitcoin at the
time, or nearly $4.6 million in total, Instawallet suspended operations.22
• On August 11 2013, the Bitcoin Foundation announced that a bug in the software
within the Android operating system had been exploited to steal from users’
wallets.23
• October 23 and 26, 2013, a Bitcoin bank operated from Australia but stored on
servers in the United States was hacked, with a loss of 4,100 Bitcoins, or over 1
million Australian dollars.24
18 Mariella Moon , “Bitcoin Exchange Loses $5 Million in Security Breach,” Engadget, available at
http://www.engadget.com/2015/01/06/bitstamp-bitcoin-exchange-hack/
19 Mitt Clinch, “Bitcoin Hacked: Price Stumbles After Buying Frenzy,” CNBC, April 4, 2013, available at
http://www.cnbc.com/id/100615508.
20 Adrianne Jeffries, “Suspected Multi-Million Dollar Bitcoin Pyramid Scheme Shuts Down, Investors Revolt,” The
Verge, August 27, 2012, available at http://www.theverge.com/2012/8/27/3271637/bitcoin-savings-trust-pyramid-
scheme-shuts-down.
21 Vitalik Burterin, “Bitfloor Hacked, $250,000 Missing,” Bitcoin Magazine, September 4, 2012, available at
http://bitcoinmagazine.com/2139/bitfloor-hacked-250000-missing/.
22 Joe Weisenthal, “Bitcoin Service Instawallet: We’ve Been Hacked and are Suspending Service Indefinitely,”
Business Insider, April 3, 2013, available at http://www.businessinsider.com/instawallet-suspended-2013-4.
23 Richard Chirgwen, “Android Bug Batters Bitcoin Wallets,” The Register, August 12, 2013, available at
http://www.theregister.co.uk/2013/08/12/android_bug_batters_bitcoin_wallets/.
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Legal and Regulatory Issues
Legal Considerations Generally
In order to provide some information on recent efforts by federal, state, and international
authorities to study, monitor, or regulate digital currencies, this section of the report (1) identifies
the clause in the U.S. Constitution giving power to Congress over money; (2) describes some of
the recent federal, state, and international activities and studies dealing with digital money; and
(3) identifies some of the federal laws that might be implicated or that have been used with
respect to digital money.
In providing this information, we have identified some federal statutes and regulatory regimes
that may have some applicability to digital currency, although none contains explicit language to
that effect or explicitly mentions currency not issued by a government authority. Some federal
statutes, because of their broad coverage, are likely to be held by courts to apply in connection
with digital currency. For example, courts are likely to hold that the federal criminal mail and
wire fraud statutes apply to fraudulent schemes designed to result in monetary losses in
connection with buying, selling, or trading digital currencies.25 Federal statutes providing
consumer protection with respect to consumer financial transactions, however, such as the Truth
in Lending Act26 and the Truth in Savings Act,27 include no language specifically referencing
digital currency transactions.28
Power of Congress under Article I of the U.S. Constitution
One of the direct powers of Congress under the U.S. Constitution, the grant of authority “to coin
Money” and “regulate the Value thereof,”29 appears to provide sufficient authority for extensive
oversight and control of digital money. The Supreme Court has interpreted this clause broadly.
The clause has been upheld to authorize legislation chartering the First Bank of the United States
and giving it power to issue circulating notes.30 Legislation requiring U.S. Treasury notes to be
(...continued)
24 Ben Grubb, “Australian Bitcoin Bank Hacked: $1 Million + Stolen,” Brisbane Times, November 8, 2013, available at
http://www.brisbanetimes.com.au/it-pro/security-it/australian-bitcoin-bank-hacked-1m-stolen-20131108-hv2iv.html.
25 These include 18 U.S.C. §§1341 (mail fraud) and 1343 (wire fraud). The wire fraud statute, for example, applies to
“[w]hoever, having devised or intending to devise any scheme or artifice to defraud, or for obtaining money or property
by means of false or fraudulent pretenses, representations, or promises, transmits or causes to be transmitted by means
of wire, radio, or television communication in interstate or foreign commerce, any writings, signs, signals, pictures, or
sounds for the purpose of executing such scheme or artifice.” Regulation Z, 12 C.F.R. 226, implementing the Truth in
Lending Act (TILA) is premised on credit transactions, interest, and fees in terms of U.S. money. At present it is a
matter of pure speculation as to whether the Consumer Financial Protection Board (CFPB), the agency charged with
implementing TILA, could reasonably interpret the statute, given its language, structure, and legislative history, as a
basis for issuing regulations to cover transactions in digital money.
26 15 U.S.C. §§1601 et seq.
27 12 U.S.C. §§4301-4313. (This applies to deposits held at depository institutions, i.e., banks, thrifts, savings
associations, and credit unions.)
28 A list of the regulations implementing federal laws providing consumer protection for financial transactions can be
found on the Consumer Financial Protection Bureau’s (CFPB’s) website at http://www.consumerfinance.gov/
regulations/#ecfr.
29 U.S. Const., art. I, §8, cl. 5.
30 McCulloch v. Maryland, 17 U.S. (4 Wheat.) 316 (1819); Veazie Bank v. Fenno, 75 U.S. (8 Wall.) 533 (1869).
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treated as legal tender for antecedent debts31 and legislation that abrogated gold clauses in private
contracts32 have also been upheld on the basis of this clause of the Constitution. The breadth of
the power can be discerned from a statement of the Court in the Legal Tender Cases when the
Court opined that “[e]very contract for the payment of money simply is necessarily subject to the
constitutional power of the government over the currency, whatever that power may be, and the
obligation of the parties is therefore assumed with reference to that power.”33
Recent Activity
This section provides a brief survey of some of the concerns and activities of federal, state, and
international governmental entities with respect to the emergence of digital currencies.
Recent Legislative Activity: Congress
In Congress, interest in virtual currencies is at the exploratory stage. The Senate Finance
Committee directed the Government Accountability Office (GAO) to review any tax
requirements and compliance risks implicated and to assess the Internal Revenue Service (IRS)
efforts at informing the public in view of the offshore and Internet sources of these currencies. On
May 13, 2013, GAO released a survey34 describing the types of virtual currencies, the inadequacy
of available data on them, and the extent of IRS efforts. It noted that IRS guidance on virtual
currencies35 concentrates on currencies used in virtual communities, such as Linden Dollars in
Second Life, and overlooks currencies, such as Bitcoin, that can be used in the real economy.
GAO also noted that the tax code lacked clarity about how virtual currency is to be treated for
reporting purposes. Is it property, barter, foreign currency, or a financial instrument?
The Senate Homeland Security and Governmental Affairs Committee has begun to look into how
federal agencies are confronting the rise of virtual currencies. On August 12, 2013, the
committee’s chairman and ranking Member sent letters36 to several federal agencies, including the
Departments of Justice (DOJ), the Treasury, and Homeland Security; the Securities and Exchange
Commission (SEC); the Commodity Futures Trading Commission (CFTC); and the Federal
Reserve, seeking information on their virtual currency policies, initiatives, activities, guidelines,
or plans regarding virtual or digital currency. The committee envisions a government-wide
approach to the threats and promises of digital currency. The committee requested that the GAO
examine possible policy issues related to the emergency of digital currency.
In response to the Senate Homeland Security and Governmental Affairs Committee request, GAO
issued a GAO report in May 2014, Virtual Currencies: Emerging Regulatory, Law Enforcement,
and Consumer Protection Challenges.37 The GAO report details the responsibilities of and efforts
undertaken by various federal financial services regulators and law enforcement agencies to
31 Legal Tender Cases (Knox v. Lee), 79 U.S. (12 Wall.) 457(1871); Juilliard v. Greenman, 110 U.S. 421 (1884).
32 Norman v. Baltimore & Ohio R.R., 294 U.S. 240 (1935).
33 Legal Tender Cases (Knox v. Lee), 79 U.S. (12 Wall.) 457, 549 (1871).
34 U.S. Government Accountability Office, GAO Report GAO-14-496 , “Virtual Economies and Currencies: Additional
IRS Guidance Could Reduce Tax Compliance Risks” (May 2013).
35 Internal Revenue Service, “Tax Consequences of Virtual World Transactions,” at http://www.irs.gov/Businesses/
Small-Businesses-&-Self-Employed/Tax-Consequences-of-Virtual-World-Transactions.
36 See http://www.hsgac.senate.gov/reports/letters.
37 See http://www.gao.gov/products/GAO-14-496.
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address the implications of virtual currency.38 The report includes a chart that lists interagency
working groups along with their participating agencies, missions, and how they are addressing
virtual currencies. GAO’s evaluation of the current responsibilities of the various federal
agencies, the work of the interagency working groups, and the kinds of actions undertaken to date
led it to focus on the lack of efforts to tackle consumer protection issues related to virtual
currencies. The report noted that the federal agency charged with implementing the federal laws
that cover financial services provided to consumers, the Consumer Financial Protection Bureau
(CFPB),39 was not heavily involved in the interagency task forces. The report, therefore,
recommended more attention to consumer protection and increased CFPB participation in
interagency task forces:
recent events suggest that consumer protection is an emerging risk, as evidenced by the
loss or theft of bitcoins from exchanges and virtual wallet providers and consumer
warnings issued by nonfederal and non-U.S. entities. However, federal interagency
working groups addressing virtual currencies have thus far not emphasized consumer-
protection issues, and participation by the federal government’s lead consumer financial
protection agency, CFPB, has been limited.40
The CFPB responded by indicating that, as of the date of the GAO inquiry, all of CFPB’s efforts
to deal with virtual currency had been informal exchanges with federal, state, and international
regulators. It assured GAO that, in the future, it would “identify interagency working groups
addressing virtual currencies where the CFPB’s participation would enhance its own work ... and
... contribute valuable consumer protection expertise to those efforts.”41 Subsequently, on August
11, 2014, the CFPB issued a consumer advisory identifying characteristics of Bitcoin and
describing pitfalls and issues of virtual currency, in general, and Bitcoin, in particular.42
Federal Regulatory Activity
Federal regulators are increasingly scrutinizing the implications of virtual currency and Bitcoin
with respect to their mandates. One agency, the CFPB, may be contemplating further action. In
addition to its consumer advisory on the pitfalls associated with Bitcoin, CFPB has issued a
notice that it has begun accepting consumer complaints on virtual currency and Bitcoin issues.43
Other federal regulatory activity includes guidance44 issued by Treasury’s Financial Crimes
Enforcement Network (FINCEN) and a Winkelvoss Bitcoin Trust registration statement45 filed
38 Agencies included are the Board of Governors of the Federal Reserve System, the CFPB, the Commodity Futures
Trading Commission, the Department of Homeland Security (including the U.S. Immigration and Customs
Enforcement and the U.S. Secret Service), the Department of Justice (including the Federal Bureau of Investigation),
the Department of the Treasury (including the Financial Crimes Enforcement Network and the Office of the
Comptroller of the Currency), the Federal Deposit Insurance Corporation, the National Credit Union Administration,
and the Securities and Exchange Commission.
39 12 U.S.C. §5491(a).
40 GAO-14-496, at 39-40.
41 Ibid., at 49, Letter to Lawrence Evans, Jr., Director Financial Markets and Community Investment, U.S. Government
Accountability Office, from William Wade-Grey, Acting Assistant Director, Card and Payment Markets, CFPB (May
6, 2014).
42 CFPB, “CFPB Warns Consumers About Bitcoin” (August 11, 2014). http://www.consumerfinance.gov/newsroom/
cfpb-warns-consumers-about-bitcoin/.
43 The CFPB has “announced that consumers who encounter a problem with a virtual currency product or service can
now submit a complaint with the Bureau.” See CFPB, “CFPB Warns Consumers About Bitcoin” (August 11, 2014).
http://www.consumerfinance.gov/newsroom/cfpb-warns-consumers-about-bitcoin/.
44 U.S.Department of the Treasury, Financial Crimes Enforcement Network, “Application of FinCEN’s Regulations to
(continued...)
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with the SEC. In addition, the SEC published advisories for investors in 201346 and 201447 on the
threat of virtual currency scams on the Internet; filed a criminal fraud complaint48 charging a
Bitcoin exchange with engaging in a Ponzi scheme; and successfully convinced a federal district
court that Bitcoins are money. The court reasoned that because Bitcoins are used as money to
purchase goods or services and can be exchanged for conventional currencies, they are money,
and, thus, a contract for the investment of Bitcoins is an “investment contract,” and, therefore, a
security under federal securities law.49 In another enforcement action, the Department of
Homeland Security charged Mt. Gox, which is the Japanese-based largest Bitcoin exchange in the
United States, with operating an unlicensed money services business in violation of 18 U.S.C.
Section 1960 and seized its bank account. Subsequently, Mt. Gox filed for bankruptcy in Japan,
and on June 14, 2014, a federal bankruptcy judge approved its petition under Chapter 15 of the
U.S. Bankruptcy Code, allowing the U.S. bankruptcy court to protect its U.S. assets while the
bankruptcy proceedings continue abroad.50
The federal banking regulators have yet to issue guidance or regulations governing how banks are
to deal with Bitcoin, outside of the anti-money laundering framework. Under current law, the
federal banking regulator with the greatest responsibility over the payment system is the Board of
Governors of the Federal Reserve System.51 In February 2014, Federal Reserve Chair Janet
Yellen told the Senate Banking Committee that “Bitcoin is a payment innovation that’s taking
place outside the banking industry. To the best of my knowledge there’s no intersection at all, in
any way, between Bitcoin and banks that the Federal Reserve has the ability to supervise and
regulate.”52 Nonetheless, the Federal Reserve Board, in its May 9, 2014, joint meeting with its
Federal Advisory Council, considered Bitcoin’s potential as “a threat to the banking system,
economic activity, or financial stability” and appears to have adopted a policy that may be
characterized as watchful waiting.53 That policy produced no regulatory issuances in 2014.
(...continued)
Persons Administering, Exchanging, or Using Virtual Currencies,” (March 18, 2013), http://www.fincen.gov/
statutes_regs/guidance/html/FIN-2013-G001.html.
45 Form S-1 Registration Statement, Winkelvoss Bitcoin Trust, http://www.sec.gov/Archives/edgar/data/1579346/
000119312513279830/d562329ds1.htm.
46U.S. Securities and Exchange Commission Office of Investor Education and Advocacy, “Investor Alert: Ponzi
schemes Using virtual Currencies (SEC Pub. No. 153 (7/13)); U.S. Securities and Exchange Commission Press Release
2013-132, “SEC Charges Texas Man with Running Bitcoin-Denominated Ponzi Scheme” (July 23, 2013),
http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370539730583.
47 U.S. Securities and Exchange Commission, “Investor Alert: Bitcoin and Other Virtual Currency-Related
Investments” (May 7, 2014), http://investor.gov/news-alerts/investor-alerts/investor-alert-bitcoin-other-virtual-
currency-related-investments#.U7rMyCgYCZQ.
48 See http://www.sec.gov/litigation/complaints/2013/comp-pr2013-132.pdf.
49 Securities and Exchange Commission v. Shavers, 2013 WL4028182, No. 4:13-CV-416 (E.D. Tex. August 6, 2013).
This appears to be the first ruling addressing the question of whether digital currency issued without the backing of a
government or other official entity is to be legally considered money.
50 Michael Balthon, “Mt. Gox U.S. Bankruptcy Approved to Help Bitcoin Hunt,” Bloomberg News (June 17, 2014),
http://www.bloomberg.com/news/2014-06-17/mt-gox-u-s-bankruptcy-approved-to-help-bitcoin-hunt.html.
51 A section of the U.S. Code is entitled “Regulatory responsibility of Board for payment system,” 12 U.S.C. §4008.
Under that provision, which was enacted as part of the Expedited Funds Availability Act of 1987, Congress has
delegated to the Board of Governors of the Federal Reserve System “responsibility to regulate ... any aspect of the
payment system, including the receipt, payment, collection, or clearing of checks, and any related function of the
payment system with respect to checks.”
52 Senate Committee on Banking, Housing, and Urban Affairs, Semiannual Monetary Policy Report to the Congress,
February 27, 2014, available at http://www.banking.senate.gov/public/index.cfm?FuseAction=Newsroom.Video.
53 Federal Advisory Council and Board of Governors of the Federal Reserve System, Record of Meeting (May 9,
(continued...)
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However, studies of the technical aspects of Bitcoin were featured in three research papers, two
issued by Federal Reserve regional banks54 and one published by the Federal Reserve Board’s
Divisions of Research and Statistics and Monetary Affairs.55
State Regulatory Activity
State authorities moving in the direction of regulating virtual currencies sometimes discover
problems in applying existing laws to technological currencies. Two states—New York and
California—have taken steps to devise a regulatory framework that could usher in increased use
of digital currencies,56 provided adequate consumer protections and regulatory safeguards can be
developed.57 Moreover, the Conference of State Bank Supervisors (CSBS),58 on December 16,
2014, issued and sought comments on a model framework for state regulation of virtual
currencies.
New York State
New York’s Superintendent of Financial Services, Benjamin A. Lawsky, issued subpoenas
seeking information on a raft of virtual currencies,59 held public hearings on the regulation of
virtual currencies on January 28-29, 2014,60 and, on July 17, 2014, issued, for public comment, a
proposal to license and regulate virtual currency businesses operating in New York State.61 On
December 18, 2014, Superintendent Lawsky announced that a revised proposal would be issued
providing more flexibility for start-up virtual currency businesses without compromising the
overall aim of preventing illegal activity.62
(...continued)
2014). http://www.federalreserve.gov/aboutthefed/fac.htm/. The Record of the Meeting at p. 10 includes the following
statement with respect to Bitcoin: “Systemically, Bitcoin’s nascency makes it more curiosity than threat. Its greatest
near-term hazards are its avoidance of consumer protection measures and illicit use, both of which support increased
regulation. Medium- to long-term effects could be more pronounced as the network self-refines and adoption increases,
requiring traditional payment processors to adapt and respond.”
54 François R. Velde, “Bitcoin: A Primer,” Chicago Fed Letter (December 2013); https://www.chicagofed.org/
publications/chicago-fed-letter/2013/december-317, and Stephanie Lo and J. Christina Wang, “Bitcoin as Money,”
Federal Reserve Bank of Boston, Current Policy Perspectives, No. 14-4. http://www.bostonfed.org/economic/current-
policy-perspectives/2014/cpp1404.htm.
55 Anton Badev and Matthew Chen, “Bitcoin: Technical Background and Data Analysis,” Federal Reserve Board,
Divisions of Research & Statistics and Monetary Affairs, Finance and Economics Discussion Series 2014-10 (October
7, 2014). http://www.federalreserve.gov/econresdata/feds/2014/files/2014104pap.pdf.
56 Evan Weinberger, “NY Bitcoin Rules Put Virtual Currency On Path to Legitimacy,” Law 360 (July 17, 2014).
http://www.law360.com/articles/558472?utm_source=rss&utm_medium=rss&utm_campaign=articles_search.
57 Michael Bobelian, “New York’s Financial Regulator, Benjamin Lawsky, Maintains Lead On Bitcoin Regulation,”
Forbes (July 25, 2014). http://www.forbes.com/sites/michaelbobelian/2014/07/25/new-yorks-financial-regulator-
benjamin-lawsky-maintains-lead-on-bitcoin-regulation/.
58 The Conference of State Bank Supervisors is an organization representing state banking regulators. See
http://www.csbs.org/about/what/Pages/default.aspx.
59 New York State, Department of Financial Services, “Notice of Inquiry on Virtual Currencies,” August 12, 2013,
http://www.dfs.ny.gov/about/press2013/memo1308121.pdf.
60 See http://www.dfs.ny.gov/about/hearings/vc_01282014_indx.htm.
61New York State Department of Financial Services, Proposed Regulations Submitted for a 45-Day Notice and
Comment Period to Solicit Public Feedback. http://www.dfs.ny.gov/about/press2014/pr1407171.html.
62 Superintendent Lawsky Remarks on Revised Bitlicense Framework for Virtual Currency Regulation and Trends in
Payments Technology (December 18, 2014). http://www.dfs.ny.gov/about/speeches_testimony/sp1412181.htm.
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The original proposal covers businesses involved in transmitting, storing, buying, selling,
exchanging, issuing, or administering a virtual currency. It requires such businesses to be licensed
by the New York State Department of Financial Services. For each licensee, the New York State
Superintendent of Financial Services is to prescribe minimum capital levels, liquidity, and
leverage ratios needed to maintain financial integrity. The proposal excludes digital currencies
used exclusively in an online gaming environment. Licenses would not be required for persons
using virtual currencies solely to buy and sell goods and services. With approval of the regulator,
state-chartered banks would be permitted to operate as virtual currency exchanges without
securing a virtual currency license. Under the proposal, to apply for a license, a virtual currency
business must submit detailed information on its directors, officers, and stockholders and supply
fingerprints that would be checked against state and federal law enforcement databases. The
proposal also includes ongoing regulation covering such matters as change of control, mergers
and acquisitions, examinations, and financial disclosures. There are also detailed requirements for
anti-money laundering; cyber security programs; and anti-fraud programs. Consumer protection
requirements include an array of requirements that virtual currency businesses provide customers
with specific disclosures as to risks associated with the virtual currency and the virtual currency
business. For example, there are provisions for disclosures covering the risks associated with
virtual currencies; the prospect that potential legislation may adversely impact use of virtual
currency; and characteristics of virtual currency, such as reversibility, volatility, and potential for
fraud. There are also requirements requiring notice to customers of their rights and potential
liabilities regarding such matters as unauthorized transactions; stop payment orders; disclosure of
account information; and change in policy. Under the proposal, each virtual currency business
operating in New York will be required, before each transaction, to disclose specified information
in writing and receive an acknowledgment of that disclosure before the transaction takes place.
A revised proposal, which Superintendent Lawsky expects to be issued early in 2015, responds to
consideration of many of the public comments received regarding the initial proposal. For
example, according to Superintendent Lawsky, the revised proposal will specify that licenses will
not be required for software development, Bitcoin mining, accepting Bitcoins for goods and
services, or investing in Bitcoin. Although the revised proposal is not intended to weaken the
consumer protection and anti-money laundering components of the proposed regulatory scheme,
it will include a transition period to alleviate some of the administrative burdens and capital
requirements for two years for start-up companies. It also will include a mechanism permitting
investors not managing a virtual currency concern to avoid the regulatory requirements designed
for those who control or conduct the affairs of virtual currency businesses.
California
California has enacted legislation opening the way for virtual currency to be used to purchase
goods and services. California Assembly bill no. 129, signed into law by Governor Jerry Brown
on June 29, 2014, repeals a provision of California law that outlawed anything circulating as
money other than the lawful money of the United States.63
Conference of State Bank Supervisors
The CSBS issued its Draft Model Regulatory Framework64 in an attempt to begin a process for
states to develop some level of consistency in their approaches to the regulation of virtual
63 See http://leginfo.legislature.ca.gov/faces/billNavClient.xhtml?bill_id=201320140AB129.
64 Conference of State Bank Supervisors, “State Regulatory Requirements for Virtual Currency Activities; CSBS Draft
(continued...)
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currency businesses while emphasizing the need for flexibility. The release of the draft
framework was accompanied by requests for public comment on 20 questions that attempt to
discern the extent to which regulatory frameworks that cover money services businesses must be
tailored to cover companies handling diverse activities with respect to virtual currencies. Issues
covered in the questions range from the advisability of one-size-fits-all regulation to such matters
as how to denominate capital requirements—dollars or virtual currency. Other questions touch on
the possibility of a state insurance fund akin to deposit insurance; how failing companies are to be
handled; how liability should be assessed with respect to wire transfers involving virtual
currency; how banks should evaluate the risks of providing banking services to virtual currency
businesses; whether virtual currency businesses should be required to carry cyber risk insurance;
how regulators should prepare for assuming responsibility for regulating this new industry; and
how laws and regulations can balance needed flexibility and accountability.
Although the questions the CSBS posed for public comment are extensive, the framework it
offers for states to consider in regulating virtual currency businesses is basic. It outlines the major
ingredients of a licensing and regulatory system similar to that being developed by New York
State. It includes such requirements as credentialing owners of virtual currency companies and
imposing capital standards, investment limitations, and surety bond and disaster preparedness
requirements for such companies. Other sections deal with consumer protection; proper treatment
of assets held in trust; how to handle customer complaints; reactions to cybersecurity events; and
the monitoring of third-party cybersecurity providers. The “Books and Records” and
“Supervision” sections of the framework cover regulatory access, reporting and recordkeeping
requirements, and investigative and enforcement authority.
Federal Reserve and European Central Bank Studies
At least three Federal Reserve economists are studying digital currencies and Bitcoin, in
particular.65 On the international front, the European Central Bank released a study66 of virtual
currencies that assesses both the prospects for growth and some of the potential problems that
might accompany widespread use.
Applicability of Selected Laws to Digital Currency
Counterfeiting Criminal Statutes
The basic governmental interest in enacting laws against counterfeiting obligations of the United
States is protecting the value of the dollar and the monetary system. Under title 18 U.S.C.
Sections 470-477 and 485-489 counterfeiting and forging of U.S. coins, currency, and obligations
(...continued)
Model Regulatory Framework and Request for Public Comment,” December 16, 2014, at http://www.csbs.org/
regulatory/ep/Pages/framework.aspx.
65 François R. Velde, “Bitcoin: A primer,” Chicago Fed Letter (December 2013), http://www.chicagofed.org/
digital_assets/publications/chicago_fed_letter/2013/cfldecember2013_317.pdf; Stephanie Lo and J. Christina Wang,
“Bitcoin as Money,” Federal Reserve Bank of Boston, Current Policy Perspectives, No. 14-4.
http://www.bostonfed.org/economic/current-policy-perspectives/2014/cpp1404.htm.
66 European Central Bank, “Virtual Currency Schemes,” (October 2012). http://www.google.com/url?sa=t&rct=j&q=&
esrc=s&frm=1&source=web&cd=1&ved=0CCsQFjAA&url=
http%3A%2F%2Fwww.ecb.europa.eu%2Fpub%2Fpdf%2Fother%2Fvirtualcurrencyschemes201210en.pdf&ei=Ui-
CUp_HGoqqsQSJ0YCICQ&usg=AFQjCNHPyKEw4gnOcQ27d-znAvyPmONT3g&bvm=bv.56146854,d.cWc.
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is subject to criminal sanctions, and under 18 U.S.C. Sections 478-483, criminal sanctions are
prescribed for counterfeiting foreign coins, currency, and obligations. None of these statutes,
however, applies expressly to a currency that exists only on the Internet and in computers in a
digital form. Although the usual prosecution under these statutes involves attempts to replicate
Federal Reserve notes or coins produced by the U.S. Mint, at least one case involved a conviction
for issuing and circulating Liberty Dollars, designed as similar to but distinguishable from U.S.
dollars and intended to “limit reliance on, and to compete with, United States currency.”67
Whether a digital currency, even if it is designed to attack the value of U.S. legal tender, could be
prosecuted under the current language of these statutes is not clear.68
The Stamp Payments Act of 1862, 18 U.S.C. Section 336
The Stamp Payments Act makes it a crime to issue, circulate, or pay out “any note, check,
memorandum, token or other obligation, for a less sum than $1, intended to circulate as money or
to be received or used in lieu of lawful money of the United States.” This law was enacted in
1862 to protect postage stamps from competition by private tokens. Congress had approved
stamps as currency for fractions of $1 because metal coins were being hoarded and were virtually
out of circulation.69 It does not seem likely that a currency70 that has no physicality would be held
to be covered by this statute even though it circulates on the Internet on a worldwide basis and is
used for some payments of less than $1. The language of the statute, “note, check, memorandum,
token,” seems to contemplate a concrete object rather than a computer file; moreover, a digital
currency such as Bitcoin, without a third-party issuer, cannot be said to be an obligation.
However, there are some arguments that could be made, particularly should a digital currency
become pervasive enough to be considered a possible competitor to U.S. official currency.71
The Electronic Fund Transfer Act, 15 U.S.C. Sections 1693 et seq.
The Electronic Fund Transfer Act (EFTA) establishes a framework for transfers of money
electronically, but its coverage is limited in such a way that it appears not to be applicable to a
digital currency in transactions involving no depository institution. The EFTA specifically applies
to transfers of funds initiated by electronic means from a consumer’s account held at a financial
institution. It covers transfers “initiated through an electronic terminal, telephonic instrument, or
67 Derek A. Dion, “Defendant Convicted of Minting His Own Currency,” Press Release, U.S. Attorney’s Office,
Western District of North Carolina (March 18, 2011), http://www.fbi.gov/charlotte/press-releases/2011/defendant-
convicted-of-minting-his-own-currency.
68 For a discussion, see, “I’ll Gladly Trade You Two Bits on Tuesday for a Byte Today: Bitcoin, Regulating Fraud in
the E-conomy of Hacker Cash,” 2013 University of Illinois Journal of Law, Technology and Policy (Spring 2013).
69 For further exposition of the genesis, legislative history, and analysis of the Stamp Payments Act, including the
possibility that it may apply to electronic currency, see Thomas P. Vartanian, Robert H. Ledig, and Yolanda
Demianczuk, “Echoes of the Past with Implications for the Future: The Stamp Payments Act of 1862 and Electronic
Commerce”, 67 BNA’s Banking Report (September 23, 1996).
70 Virtual currencies, such as Linden Dollars, are not likely to conflict with this statute because they do not appear to
“circulate as money or be received in lieu of lawful money,” within the meaning of the statute. They circulate only in a
limited environment and are redeemable only in virtual goods, and, thus, are similar to the tokens and tickets
redeemable in goods and services on a limited basis that courts have found not to have been issued in violation of the
Stamp Payments Act. United States v. Monongahela Bridge Co., 26 F. Cas. 1292 (W.D. Pa. 1863) (No. 15796); United
States v. Roussopulous, 95 F. 977 (D. Minn. 1899).
71 See Vartanian et al., supra, n. 8, and Reuben Grinberg, “Bitcoin: An Innovative Digital Currency, 5 Hastings Science
& Technology Law Journal 159 (2012).
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computer.”72 Its application is limited to deposit accounts “established primarily for personal,
family, or household purposes,”73 “held by a financial institution,”74 with “financial institution”
limited to banks, thrifts, savings associations, and credit unions.75
Federal Tax Law
Digital currencies have characteristics of traditional tax haven jurisdictions: earnings are not
reported to the IRS and users are provided some level of anonymity. Unlike traditional tax
havens, however, digital currencies are able to operate without involving a financial institution.76
Until March 2014, the IRS provided limited guidance on the tax consequences of activities
involving the virtual world. It cautioned:
[i]n general, you can receive income in the form of money, property, or services. If you
receive more income from the virtual world than you spend, you may be required to
report the gain as taxable income. IRS guidance also applies when you spend more in a
virtual world than you receive, you generally cannot claim a loss on an income tax
return.77
The guidance was limited and did not appear to target a digital currency such as Bitcoin that is
used as a medium of exchange for goods and services in the real world. A GAO report in 2013
had found inadequate IRS efforts to address tax implications of virtual currencies not used within
a virtual economy.78 GAO recommended that IRS take a step to counter misinformation
circulating about virtual currencies in view of the possibility for growth in such currencies.
Rather than recommending a costly rigorous compliance approach, GAO recommended that IRS
“find relatively low-cost ways to provide information to taxpayers, such as the web statement IRS
developed on virtual economies, on the basic tax reporting requirements for transactions using
virtual currencies developed and used outside virtual economies.”79
It appears that the IRS heeded the GAO recommendation. On March 25, 2014, the IRS posted on
its website a notice, IRS Virtual Currency Guidance: Virtual Currency is Treated as Property for
U.S. Federal Tax Purposes; General Rules for Property Transactions Apply.80 The guidance
advises U.S. taxpayers that virtual currency is treated as property for federal tax purposes and
provides answers to 16 Frequently Asked Questions.81 It advises taxpayers on a range of matters
72 15 U.S.C. §1693a(6).
73 15 U.S.C. §1693a(2).
74 15 U.S.C. §1693a(2).
75 15 U.S.C. §1693a(11).
76 For further information see, Marian, Omri, “Are Cryptocurrencies Super Tax Havens?,” 112 Michigan Law Review
First Impressions 38 (2013).
77 Internal Revenue Service, “Tax Consequences of Virtual World Transactions,” http://www.irs.gov/Businesses/Small-
Businesses-&-Self-Employed/Tax-Consequences-of-Virtual-World-Transactions.
78 U.S. Government Accountability Office, “Virtual Economies and Currencies: Additional IRS Guidance Could
Reduce Tax Compliance Risk” (May 2013).
79 U.S. Government Accountability Office, “Virtual Economies and Currencies: Additional IRS Guidance Could
Reduce Tax Compliance Risk,” 17 (May 2013).
80 IRS Notice 2014-36 (March 25, 2014).” IRS Virtual Currency Guidance : Virtual Currency Is Treated as Property for
U.S. Federal Tax Purposes; General Rules for Property Transactions Apply.” http://www.irs.gov/uac/Newsroom/News-
Releases-for-March-2014. Hereinafter, IRS Notice 2014-36.
81IRS Notice 2014-21, at http://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=2&ved=
0CCcQFjAB&url=http%3A%2F%2Fwww.irs.gov%2Fpub%2Firs-drop%2Fn-14-
21.pdf%3Futm_source%3D3.31.2014%2BTax%2BAlert%26utm_campaign%3D3.31.14%2BTax%2BAlert%26utm_m
(continued...)
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such as when to include the fair market value of virtual currency in computing gross income; how
to determine the fair market value of virtual currency; and whether payments made using virtual
currency are subject to backup withholding. According to the IRS, some of the general
implications of the requirement that virtual currency be treated as property for federal tax
purposes are
Wages paid to employees using 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. Normally, payers
must issue Form 1099.
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.82
Federal Anti-Money Laundering Laws
Under the criminal anti-money laundering laws,83 engaging in financial transactions that involve
proceeds of illegal or terrorist activities or that are designed to finance such activities is
prohibited. Money laundering crimes generally involve transactions processed by financial
institutions, which is why the Bank Secrecy Act (BSA) imposes various recordkeeping
requirements on banks and other financial institutions.84 Under the Currency and Foreign
Transaction Reporting Act85 component of the BSA, financial institutions must file reports of cash
transactions exceeding amounts set by the Secretary of the Treasury in regulations, and file
suspicious activity reports (SARs) for transactions meeting a certain monetary threshold or
intended to evade reporting requirements. Financial institutions, as required by the Secretary of
the Treasury, must also develop and follow anti-money laundering programs and customer
identification programs. All of these requirements apply to money services businesses (MSBs), a
category of financial institution that must register with the Department of the Treasury.86 MSBs
include a variety of businesses, including dealers in foreign exchange, check cashers, traveler’s
check issuers, providers of prepaid access cards, and money transmitters.87 These entities must
register with the Department of the Treasury and comply with BSA requirements.
On March 18, 2013, Treasury’s Financial Crimes Enforcement Network (FINCEN) issued
interpretative guidance88 requiring Bitcoin exchanges—individuals and businesses that change
(...continued)
edium%3Demail&ei=SV-9U8rNNq_fsAS53oKIAw&usg=AFQjCNGA0SLTV8u_FVS4mR2drXjThS1BHg&bvm=
bv.70138588,d.cWc.
82 IRS Notice 2014-36.
83 18 U.S.C. §§1956 and 1957.
84 Titles I and II of P.L. 91-508, including 12 U.S.C. §§1829b, and 1951-1959; 31 U.S.C. §§5311 et seq.
85 31 U.S.C. §§5311 et seq.
86 Bank Secrecy Act requirements for money services businesses are listed on the Financial Crimes Enforcement
Network’s website at http://www.fincen.gov/financial_institutions/msb/msbrequirements.html.
87 31 C.F.R. §1010.100(ff).
88 U.S. Department of the Treasury, Financial Crimes Enforcement Network, “Application of FinCEN’s Regulations to
Persons Administering, Exchanging, or Using Virtual Currencies,” (March 18, 2013), http://www.fincen.gov/
(continued...)
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Bitcoins into U.S. or foreign currency—to register as MSBs pursuant to the BSA. Subsequently,
FINCEN issued rulings indicating that (1) individuals or companies that mine Bitcoins, use them,
and convert them into real currency for their own use are not exchanges and do not have to
register as MSBs89 and (2) companies investing in Bitcoins exclusively for their own account are
not exchanges and do not have to register as MSBs.90
On October 27, 2014, FINCEN released two administrative rulings denying exemptions from
MSB regulations for two companies involved in virtual currency activities.91 One ruling applied
to a business proposing to act as an intermediary between credit card holders and hotels dealing
only in Bitcoins; the other proposed to set up a trading platform to match offers to buy and sell
virtual currency for legal tender. In both cases, FINCEN ruled that the companies qualified as
money transmitters under the MSB regulations and did not meet the criteria for exemption as
payment processors.
Specifically, FINCEN ruled that a company that sets up a payment system to facilitate payments
between U.S. credit card holders and certain businesses that deal only in virtual currencies
qualifies as a MSB and must register and be subject to regulation as such. In the first ruling, the
business in question was proposing to offer U.S. credit card holders a means of paying for
reservations in certain Latin American hotels that operate solely on the basis of Bitcoins and do
not accept credit card payments or payments in dollars or other sovereign currencies. According
to the information provided to FINCEN, the company would supply the hotels with software
through which credit card charges would be directed to the company rather than to the hotel. The
company would then pay the hotel in Bitcoins, after deducting a fee, using Bitcoins that it had
purchased from Bitcoin exchanges at wholesale. The company would charge the credit card
holders the dollar equivalent of the hotel charges and bear the risk of exchange rate fluctuation
between the time of the credit card charge and payment to the hotel. The company argued that it
did not meet FINCEN’s definition of virtual currency exchanger and that it was acting as a
payment processor and not a money transmitter. FINCEN ruled that the proposed activities fall
squarely within the regulatory definition of money transmission services92 and, because the
business does not operate through a clearing and settlement system involving only businesses
regulated under the BSA, the company does not qualify for an exception as a payment
processor.93
In the second ruling, FINCEN determined on October 27, 2014, that a company proposing to set
up a virtual currency trading platform would be required to register as an MSB. Under the
proposal, customers would deposit U.S. dollars and virtual currency in accounts that would be
(...continued)
statutes_regs/guidance/html/FIN-2013-G001.html.
89 FIN-2014-R001, “Application of FinCEN’s Regulations to Virtual Currency Mining Operations” (January 30, 2014).
http://www.fincen.gov/news_room/rp/rulings/html/FIN-2014-R001.html.
90 FIN-2014-R002, “Application of FinCEN’s Regulations to Virtual Currency Software Development and Certain
Investment Activity (January 30, 2014). http://www.fincen.gov/news_room/rp/rulings/html/FIN-2014-R002.html.
91FIN-2014-R011, “Request for Administrative Ruling on the Application of FinCEN’s Regulations to a Virtual
Currency Trading Platform, and FIN-2014-R012, “Application for Administrative Ruling on the Application of
FinCEN’s Regulation to a Virtual Currency Payment System,” http://www.fincen.gov/statutes_regs/rulings/.
(Hereinafter FIN 2014-R2011 or FIN-2014-R012.)
92 “The term money transmission services means the acceptance of currency, funds, or other value that substitutes for
currency from one person and the transmission of currency, funds, or other value that substitutes for currency to
another location or person by any means.” 31 C.F.R. §1010.100(ff).
93 31 C.F.R. §1010.100(ff)(5)(ii)(B) and FIN-2013-R2002, “Whether a Company That Offers a Payment Mechanism
Based on Payable-Through Drafts to Its Commercial Customers Is a Money Transmitter (November 13, 2013).
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maintained separately in their names and could be used to execute orders to the company to buy
or sell the currency at a given price. Orders would be executed automatically through the
platform, which would attempt to match buy and sell orders from among the customers
maintaining accounts with the company. If no match was found at the given price, no transaction
would be executed. The company argued for an exemption from the MSB regulations on the
grounds that its operations were similar to those of commodities or securities exchanges and that
it was not transmitting money to counterparties. FINCEN characterized these arguments as
irrelevant. Instead, FINCEN looked to the regulatory definition of money transmitter and found it
to cover the company’s activities. According to FINCEN, “in each trade conducted through the
Platform, two money transmission transactions occur: one between the Company and the
Customer wishing to buy virtual currency, and another between the Company and the Customer
wishing to sell such virtual currency at the same exchange rate.”94
Federal Election Campaign Act
In what the Washington Post characterized as “one of the first rulings by a government agency on
how to treat the virtual currency,”95 the Federal Election Commission (FEC) voted unanimously
to permit a nonconnected political committee to accept Bitcoin contributions and to purchase
Bitcoins as an investment. The FEC released an Advisory Opinion96 on May 13, 2014, that
focuses on the specifics of the particular request that the FEC was approving. Whether the ruling
will be limited with respect to (1) the amounts that may be received from each contributor per
election and (2) the screening procedures specified in the request approved by the FEC appears to
be uncertain. The request came from Make Your Laws PAC, Inc. (MYL), a nonconnected
political action committee (PAC) registered with the FEC. MYL sought and received permission
to accept Bitcoins of up to $100 per contributor per election. MYL proposed to obtain online the
contributor’s name, address, occupation and employer, as well as an affirmation that the donor is
not a foreign national and is the owner of the Bitcoins. These screening procedures satisfied the
FEC as adequate with respect to MYL’s obligation to examine contributions and determine
eligibility of contributors. MYL also received permission to buy Bitcoins and to hold Bitcoins for
sale. Permission was refused with respect to using Bitcoins to pay expenses. Under the ruling the
Bitcoins are to be treated as contributions of “anything of value,”97 as authorized under the
Federal Election Campaign Act.98 They may be held in MYL’s Bitcoin wallet until liquidated,
when they are to be deposited in a campaign depository.
Federal Trade Commission Act
The Federal Trade Commission (FTC) Act99 prohibits “unfair or deceptive acts or practices in or
affecting commerce”100 and authorizes the FTC to enforce those prohibitions. On September 15,
94 FIN-2014-R1011, at 3.
95 “Federal Election Commission approves bitcoin donations to political committees,” Washington Post (May 8,
2014).http://www.washingtonpost.com/blogs/post-politics/wp/2014/05/08/federal-election-commission-approves-
bitcoin-donations-to-political-committees/.
96 FEC AO 2014-02 “Political Committee May Accept Bitcoins as Contributions.” http://www.fec.gov/pages/fecrecord/
2014/june/ao2014-02.shtml.
97 2 U.S.C. §431(8)(A)(i); 11 C.F.R. §§100.52(a) and 100.52(d)(1).
98 2 U.S.C. §431 et seq.
99 15 U.S.C. §§41-58.
100 15 U.S.C. §45.
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2014, the FTC brought a civil action under the FTC Act against Butterfly Lab, a Wyoming
corporation with Kansas and Missouri offices. The suit was filed in the U.S. District Court for the
Western District of Missouri. It charged Butterfly Lab with engaging in deceptive practices in
violation of Section 5(a) of the FTC Act.101 The complaint alleged that Butterfly misled
consumers who prepaid for Bitcoin mining machines and services that the company sold on the
Internet. According to the allegations, encryption machines and services that Butterfly sold from
its website and through Facebook and Twitter were either not delivered as promised or, if
delivered, failed to produce Bitcoins profitably, as advertised. Without hearing from the
defendant, the court, on September 18, 2014, issued a temporary order freezing Butterfly’s assets,
appointing a receiver, and granting the FTC immediate access to the company’s premises and
records.102
The FTC’s allegation charges Butterfly with receiving upfront payments amounting to thousands
of dollars from consumers who responded to false and misleading advertisements claiming that
the machines would conduct complex computations at high speed, using low electrical power.
According to the complaint,103 buyers of these machines were misled by assertions that the
machines would solve the mathematical puzzles involved in mining Bitcoins and that buyers of
the Butterfly machines or services would receive Bitcoins as rewards for solving these puzzles at
a rate to make up for the cost of the initial outlay and, in short order, show a profit. Instead, some
of the machines promised were never delivered; others were not delivered as promised or were
defective when delivered. The result, according to the FTC, was that consumers could not
produce Bitcoins, the company was unjustly enriched, and the court’s intervention was required
to stop a continuing substantial injury to consumers. The court found that the FTC had offered
sufficient evidence for the court to conclude that Butterfly had likely violated and would continue
to violate the FTC Act. The court further concluded that consumers would likely suffer
“immediate and continuing harm” unless the court stopped the Butterfly operation. Because the
court found that irreparable damage to consumers was likely if the defendant were notified of the
case and able to transfer assets, the court found that there was good cause to appoint a receiver
and to allow the FTC immediate access to the company and its records to, among other things,
identify its assets.
Federal Securities Regulation
Securities regulation focuses on two different legal issues involving Bitcoins—investments
purchased with Bitcoins and investing in Bitcoins. The SEC has been active in investigating
issues related to Bitcoins and has published an investor alert on Bitcoin and other virtual
currency-related investments.
Investments Purchased with Bitcoins
The United States District Court for the Eastern District of Texas held in August 2013 that it had
subject matter jurisdiction over possible fraud in investments purchased with Bitcoins because of
its determination that investments purchased with Bitcoins are securities.104 The Securities and
101 15 U.S.C. §45(a).
102 Federal Trade Commission v. BF Labs, Inc., no. 4:14-cv-00815-BCW (W.D. Mo. filed Sept. 18, 2014).
http://www.ftc.gov/enforcement/cases-proceedings/1423058/bf-labs-inc.
103 A Federal Trade Commission webpage contains a link to the complaint. http://www.ftc.gov/enforcement/cases-
proceedings/1423058/bf-labs-inc.
104 Securities and Exchange Commission v. Shavers, No. 4:13-CV-416 (E.D. Tex. August 6, 2013).
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Exchange Commission (SEC) alleged that the defendant had violated provisions of the Securities
Act of 1933105 and the Securities Exchange Act of 1934106 and had conducted a kind of Ponzi
scheme. According to the facts stated by the SEC, the defendant, Trendon T. Shavers, who was
the founder and operator of Bitcoin Savings and Trust (BTCST), had “made a number of
solicitations aimed at enticing lenders to invest in Bitcoin-related investment opportunities.”
Shavers had advertised that he sold Bitcoins and that he would pay an investor up to 1% interest
daily until the investor withdrew the funds or until BTCST could no longer be profitable.
Investors lost a considerable amount of money, and the SEC brought suit. Shavers defended that
the BTCST investments were not securities under federal securities laws because Bitcoins are not
money and are not regulated by the United States. Shavers seemed also to argue that, because the
investments were not securities, the court had no jurisdiction over a lawsuit alleging violations of
the federal securities laws. The SEC argued that the BTCST investments were investment
contracts, thus bringing them within the definition of “securities” and therefore subject to
regulation by the SEC.
The court held that it did have jurisdiction over the case because of its determination that
investments purchased with Bitcoins are securities. 15 U.S.C. Section 77b defines a “security” in
a very broad way as “any note, stock, treasury stock, security future, security-based swap, bond ...
[or] investment contract.” Cases such as SEC v. W.J. Howey & Co107 and Long v. Schultz Cattle
Co.108 have set out a kind of template for an investment contract: An investment contract involves
(1) an investment of money (2) in a common enterprise (3) with the expectation of profits from
the efforts of a promoter or a third party. Thus, according to the court, it had to determine whether
the BTCST investments were an investment of money. The court found that, because Bitcoins can
be used to purchase goods or services and even used to pay for individual living expenses, they
are a “currency or form of money” and that “investors wishing to invest in BTCST provided an
investment of money.” The court also found that there was a common enterprise because the
investors were dependent upon Shavers’s expertise in Bitcoin markets and that Shavers promised
a significant return on their investments. Finally, the Eastern District of Texas found that the third
prong of the investment contract template was met because the BTCST investors had an
expectation of deriving profits from their investments. Because it found that the BTCST
investments satisfied the investment contract definition, the court held that it had subject matter
jurisdiction over possible fraud in investments purchased with Bitcoins.
Investing in Bitcoins
The SEC is conducting investigations into bitcoin investments. For example, in June 2014, the
SEC charged the co-owner of two Bitcoin-related websites with offering publicly traded
securities without registering them.109 An SEC investigation found that a co-owner of the
websites published prospectuses on the Internet and solicited investors to buy shares in
SatoshiDICE and FeedZeBirds. However, the co-owner had not registered the offerings with the
SEC. Investors paid for their shares with Bitcoins. The charges were settled, with disgorgement of
the profits plus a penalty. Andrew J. Ceresney, director of the SEC’s Division of Enforcement,
stated,
105 15 U.S.C. §§77a et seq.
106 15 U.S.C. §§78a et seq.
107 328 U.S. 293 (1946).
108 881 F.2d 129 (5th Cir. 1989).
109 See http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370541972520#.U7r1cii816Y.
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All issuers selling securities to the public must comply with the registration provisions of
the securities laws, including issuers who seek to raise funds using Bitcoin. We will
continue to focus on enforcing our rules and regulations as they apply to digital
currencies.110
The SEC is considering an application filed by Cameron and Tyler Winkelvoss to form a public
exchange-traded fund (ETF) for Bitcoins.111 According to the filings, the ETF will be traded on
the NASDAQ OMX under the symbol “COIN.” The SEC’s website states that an ETF is often
registered as an open-end investment company or unit investment trust under the Investment
Company Act of 1940. The regulatory requirements for ETFs include the following:
As investment companies, ETFs are subject to the regulatory requirements of the federal
securities laws as well as certain exemptions that are necessary for ETFs to operate under
those laws. Together, the federal securities laws and the relevant exemptions apply
requirements that are designed to protect investors from various risks and conflicts
associated with investing in ETFs.
For example, ETFs, like mutual funds, are subject to statutory limitations on their use of
leverage and transactions with affiliates. ETFs also are subject to specific reporting
requirements and disclosure obligations relating to investment objectives, risks, expenses,
and other information in their registration statements and periodic reports.
In addition, ETFs are subject to oversight by boards of directors.112
In May 2014 the SEC’s Office of Investor Education and Advocacy issued an investor alert to
attempt to make investors aware about the potential risks of investments involving Bitcoin and
other forms of virtual currency.113 In the alert, the SEC expressed concern that Bitcoin and other
virtual and digital currencies, as new products or technologies, have the potential to create fraud
and high-risk investment opportunities.
Potential investors can be easily enticed with the promise of high returns in a new
investment space and also may be less skeptical when assessing something novel, new
and cutting-edge.114
SEC Sanctions for Non-Registration of Bitcoin Venues
In December 2014, the SEC issued a release115 in which it announced that it was imposing
sanctions on a computer programmer, Ethan Burnside, for his online operation of two venues that
traded securities using the virtual currencies Bitcoin and Litecoin. According to the SEC, the
sanctions were necessary because Burnside had never registered the venues as stock exchanges or
broker-dealers. In addition, the SEC sanctioned Burnside for conducting unregistered offerings.
The SEC order116 indicates that Burnside cooperated in the agency’s investigation and agreed to
disgorge $68,000, made up of profits, interest, and penalties, and to a bar from participating in the
securities industry.
110 Ibid.
111 See http://www.coindesk.com/winklevoss-bitcoin-etf-trade-nasdaq-coin-symbol.
112 See http://www.sec.gov/investor/alerts/etfs.pdf.
113 See http://www.sec.gov/oiea/investor-alerts-bulletins/investoralertsia_bitcoin.html#.U7sE_Ci816Y.
114 Ibid.
115 http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370543655716#.VKMTKcnivSE.
116 http://www.sec.gov/litigation/admin/2014/33-9685.pdf.
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In the view of the SEC, Burnside’s not registering the virtual currency venues violated several
statutes. Because of the enlistment of securities issuers to offer investments for purchase or sale to
the public, the non-registration is a violation of Section 6 of the Securities Exchange Act.117 This
statute requires that “[a]n exchange shall not be registered as a national securities exchange unless
the Commission determines that” various requirements assuring investor protection and other
criteria are met. Despite making solicitations to the public to open accounts and trade securities,
Burnside did not register the venues as broker-dealers, apparently a violation of Section
202(a)(11) of the Investment Advisers Act.118 The SEC’s order found that Burnside violated other
provisions of the federal securities laws, such as Sections 5(a) and 5(c) of the Securities Act,119
concerning requirements related to securities trading in interstate commerce, and Sections 5120
(transactions on unregistered exchanges) and 15121 (registration and regulation of brokers and
dealers) of the Securities Exchange Act.
In its release announcing the sanctions imposed on Burnside, the SEC emphasized the importance
of investor protection in an area that may be new to the investing public. The agency stated that
Burnside operated two online enterprises that weren’t properly registered to engage in the
securities business they were conducting.... The registration rules are vitally important
investor protection provisions, and no exemption applies simply because an entity is
operating on the Internet or using a virtual currency in securities transactions.
Commodity Futures Trading Commission Regulation
The Commodity Futures Trading Commission (CFTC) has authority to regulate commodities
futures and their markets and certain foreign exchange instruments. It is possible that CFTC could
conclude that a digital currency such as Bitcoins falls within the Commodity Exchange Act’s
(CEA’s) definition of “commodity,” which includes a catch-all phrase—”and all other goods and
articles.”122 There is also the possibility that the CFTC could include such a digital currency
within its foreign exchange regulations because the CEA does not define “foreign currency” or
“foreign exchange,” although it covers and defines “foreign-exchange forwards” and “foreign-
exchange swaps.”123
117 15 U.S.C. §78f.
118 15 U.S.C. §80b-2(a)(11).
119 15 U.S.C. §§77e(a) and 77e(c).
120 15 U.S.C. §78e.
121 15 U.S.C. §78o.
122 7 U.S.C. §1a(9). It reads:
The term commodity means wheat, cotton, rice, corn, oats, barley, rye, flaxseed, grain sorghums, mill feeds, butter,
eggs, Solanum tuberosum (Irish potatoes), wool, wool tops, fats and oils (including lard, tallow, cottonseed oil, peanut
oil, soybean oil, and all other fats and oils), cottonseed meal, cottonseed, peanuts, soybeans, soybean meal, livestock,
livestock products, and frozen concentrated orange juice, and all other goods and articles, except onions (as provided
by section 13–1 of this title) and motion picture box office receipts (or any index, measure, value, or data related to
such receipts), and all services, rights, and interests (except motion picture box office receipts, or any index, measure,
value or data related to such receipts) in which contracts for future delivery are presently or in the future dealt in.
123 7 U.S.C. §§1a(24) and (25).
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International Legal Issues
The United States is not the only nation taking an interest in the potential impact of increased use
of Bitcoin.124 Because digital currency knows no national boundaries, it may require an
international solution and, thus, has drawn the attention of international regulators. Traditional
payment systems which involve monetary systems are set up in statutes and regulations and
overseen by central banks and transactions processed by banks and other authorized or chartered
financial institutions. With virtual currencies, however, no laws and regulations define the duties
and obligations of parties, provide for finality of settlement, resolution of disputes, or supervision
of services provided. An October 2012 study of digital currencies by the European Central Bank
is premised on the possibility that growth of digital currencies will carry with it a need for
international cooperation in developing a regulatory framework.125 According to the report, the
current level of virtual currencies poses little risk to price stability; there are, however, risks to
users and a potential for criminal schemes.126
According to the report, neither the European Monetary Directive nor the European Payment
Services Directive clearly applies to virtual currencies such as Bitcoin.127
In June 2014, the Financial Action Task Force, an inter-governmental organization of which the
United States is a member, released a report assessing the risks that virtual currencies present to
global efforts to combat money laundering and financing of terrorists.128 It provides a glossary of
key definitions, such as digital currency, virtual currency, convertible (or open) currency, and
non-convertible (or closed) currency. It includes sections on legitimate uses of virtual currency
and potential risks of virtual currency. It summarizes three law enforcement actions involving
virtual currency, all spearheaded by the U.S. Department of Justice.129
124 A report by the Law Library of Congress “surveys forty foreign jurisdictions and the European Union, reporting on
any regulations or statements from central banks or government offices on the handling of bitcoins as well as any
significant use of bitcoins in business transactions.” See Law Library of Congress, Global Legal Research Center,
Regulation of Bitcoin in Selected Jurisdictions, January 2014, at http://www.loc.gov/law/help/bitcoin-survey/
regulation-of-bitcoin.pdf.
125 European Central Bank, “Virtual Currency Schemes,” (October 2012), http://www.ecb.europa.eu/pub/pdf/other/
virtualcurrencyschemes201210en.pdf. (Hereinafter, European Central Bank Report.)
126 Ibid.
127 European Central Bank Report, p. 43. The report notes noted that there are attempts in some of the countries
belonging to the European Union to develop a means of regulating such currencies. Apparently courts in France are
looking into whether Bitcoin transactions are subject to electronic money regulations. See
Finextra.http://www.finextra.com/news/fullstory.aspx?newsitemid=22921.
128 Financial Action Task Force, “Virtual Currencies: Key Definitions and Potential AML/CFT Risks” (June 2014),
http://www.fatf-gafi.org/topics/methodsandtrends/documents/virtual-currency-definitions-aml-cft-risk.html.
(Hereinafter, FATF Report.)
129 The three law enforcement actions are (1) the prosecution of Liberty Reserve by the Department of Justice (DOJ)
and its designation by the U.S. Department of the Treasury as a financial institution of primary money laundering
concern, cutting it off from the U.S. banking system; (2) the DOJ’s indictment of the owner of Silk Road and seizure of
its website and more than 600,000 Bitcoins resulting from its sale of drugs and other illegal operations; and (3) the DOJ
and Manhattan District Attorney’s investigation and indictment of felons associated with Western Express
International’s “global identity theft/cyberfraud scheme.” FATF Report, at 10-12/. The U.S. Marshals Service has
conducted two auctions of Bitcoins seized in connection with the Silk Road prosecution and is expected to sell the
remainder. See Sydney Ember, “At an Auction of Bitcoins Seized From Silk Road, One Exchange Wins Big,”
Dealbook, December 10, 2014, p. B3.
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Bitcoin: Questions, Answers, and Analysis of Legal Issues
On July 4, 2014, the European Banking Authority (EBA),130 the European Union authority
charged with monitoring financial activities and making recommendations for regulating banking
concerns for safety and soundness purposes, released recommendations for steps to address the
problems associated with the rise of virtual currencies, “EBA Opinion on ‘virtual currencies.”131
In this document, the EBA identified 70 risks132 associated with virtual currency, multiple
difficulties133 of crafting a regulatory regime addressing those risks, and some interim measures
for the member states of the European Union to institute. As interim measures, the EBA
recommended (1) subjecting virtual currency exchanges to the anti-money laundering and
counter-terrorist financing requirements and (2) discouraging credit institutions, payment
institutions, and e-money institutions from buying, holding, or selling virtual currencies.134
Concern About International Monetary Fund Authority
One issue that has received some attention is the ability of the International Monetary Fund (IMF)
to defend a traditional currency of one of its member countries from a speculative attack
involving a digital currency such as Bitcoin because the IMF’s Articles of Agreement do not
explicitly permit it to acquire a currency not issued by one of its members. At least one
commentary135 examines possible options for amending or reinterpreting the IMF’s authority.
130 The European Banking Authority, established in 2011, is a European Union authority tasked with “creation of a
European Single Rulebook in banking whose objective is to provide the single set of harmonised prudential rules for
financial institutions throughout the EU. The EBA was established on 1 January 2011 as part of the European System
of Financial Supervision (ESFS),” http://www.eba.europa.eu/about-
us;jsessionid=F0A9FFE1AE5B85CF9C57D284FB06BBAC.
131 European Banking Authority. “EBA Opinion on ‘virtual currencies’” (July 4, 2014). Available on European
Banking Authority webpage, under heading “EBA proposes potential regulatory regime for virtual currencies, but also
advises that financial institutions should not buy, hold or sell them whilst no such regime is in place,”
https://www.eba.europa.eu/-/eba-proposes-potential-regulatory-regime-for-virtual-currencies-but-also-advises-that-
financial-institutions-should-not-buy-hold-or-sell-them-whilst-n. (Hereinafter, EBA Opinion.)
132 According to the EBA Opinion, “[t]he risks include the fact that a [virtual currency] ... scheme can be created, and
then its function subsequently changed, by anyone, and in the case of decentralised schemes, such as Bitcoins, by
anyone with a sufficient share of computational power; that payer and payee can remain anonymous; that [virtual
currency] ... schemes do not respect jurisdictional boundaries and may therefore undermine financial sanctions and
seizure of assets; and that market participants lack sound corporate governance arrangements.” EBA Opinion, p. 5.
133 According to the EBA Opinion, “[a] regulatory approach that addresses these drivers comprehensively would
require a substantial body of regulation, some components of which are untested. It would need to comprise, amongst
other elements, governance requirements for several market participants, the segregation of client accounts, capital
requirements and, crucially, the creation of ‘scheme governing authorities’ that are accountable for the integrity of a ..
[virtual currency] scheme and its key components, including its protocol and transaction ledge.” EBA Opinion, p. 5.
134 EBA Opinion, p. 6.
135 Nicholas Plassarus, “Regulating Digital Currencies: Bringing Bitcoin within the Reach of the IMF,” 14 Chicago
Journal of International Law 377 (2013), https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2248419.
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Author Contact Information
Craig K. Elwell
Michael V. Seitzinger
Specialist in Macroeconomic Policy
Legislative Attorney
celwell@crs.loc.gov, 7-7757
mseitzinger@crs.loc.gov, 7-7895
M. Maureen Murphy
Legislative Attorney
mmurphy@crs.loc.gov, 7-6971
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