'Regulating Cryptocurrencies in the United States: Current Issues and Future Directions' by Sarah Jane Hughes and Stephen T. Middlebrook in (2014) 40(813)
William Mitchell Law Review explores
the state of virtual currencies and their regulation in and by the United States and the States. It offers thoughts on which models of regulation might suit virtual currencies best. It also surveys recent enforcement actions brought by the Departments of Treasury, Justice and Homeland Security against providers of virtual currencies or comparable electronic stored value. It concludes that issuers and users of virtual currencies are not being realistic if they think that the United States will not regulate virtual currencies for some purposes.
The authors comment
Since virtual currencies first came into the marketplace in the
1990s, those responsible for monetary policy, federal anti-moneylaundering
and economic sanctions programs, along with federal
and state consumer protection regulators, payment systems
operators, businesses, and consumers have grappled with
understanding how these “currencies” work, whether they should
be deemed “lawful” payment methods in the United States, and, if
so, the manner and extent to which they should be regulated.
Regulatory activity related to offering virtual currencies has come
in fits and starts, with a burst of intensity in 2013 spurred by the
attention to and use of a special form of virtual currency known as
a cryptocurrency.
This article reviews developments in 2013 that pertain to
cryptocurrencies and their transactors and evaluates them against
the backdrop of long-established and more recent federal and state
licensure, payments systems, anti-money laundering, economic
sanctions, and consumer protection regulation. It also touches
upon transactors’ desires for anonymity and security in their
transactions and related information and discusses how the
technologies upon which cryptocurrencies are based may be
adapted to support both other payment methods and electronic
commerce in general.
Part II describes cryptocurrencies in the market in 2013. Part
III reviews the precursors to the current state of regulation in the
United States, particularly the federal government’s prosecution of e-gold, Ltd. In Part IV, we evaluate FinCEN’s initial guidance on
virtual currencies, which it published in March 2013, and discuss
industry reaction to the new rules. In Part V, we review recent
actions by legislators, other federal regulators and some state
actors. Part VI analyzes the federal government’s 2013 enforcement
actions against Mt. Gox Co. Ltd. (“Mt. Gox”), and Liberty Reserve,
which closely followed FinCEN’s March guidance. And, in Part VII,
we ask—and make some modest efforts to answer—the core
question: what does the future hold for cryptocurrency? The brief
conclusion in Part VIII relies in part on the legal history of
concepts of “money” and “legal tender” in the United States since
1862 and concludes that it is unrealistic to imagine that
cryptocurrencies will not face regulation in the United States for
some or all of the purposes mentioned in this article.
They conclude
No cryptocurrency issuer, exchanger, or user should have
expected that the government of the United States—or any other
government for that matter—would allow any significant storage of
value in its “currency” without deciding to regulate the issuer or
central exchange involved in some manner.
Why? Because that is what governments have been doing to
protect both trade and their own seigniorage rights for at least the
past 500 years. By 1605, for example, the English courts were
already convinced of the Crown’s right to control what constituted
“legal tender” and who could issue “legal tender.” The federal
government’s exclusive right to issue “coins” is expressed in the
U.S. Constitution. When Congress enacted the Stamp Payments
Act of 1862, the National Currency Act of 1863, and then the
National Bank Act of 1864, it expressed its conviction that it
alone had authority to declare what qualifies as “legal tender.”
The Supreme Court agreed with Congress in a series of famous
decisions beginning shortly after the National Bank Act was
enacted. In Veazie Bank v. Fenno, the Supreme Court upheld
Congress’s imposition of a tax of ten percent imposed on state and
national banks paying out “notes” of individuals or state banks used
for circulation, likening this tax to the payment of duties. The
Court specifically recited a number of facts about the manner in
which Congress has taken charge of legal tender, including
(1) denying the quality of legal tender to foreign coins,
(2) providing a law against counterfeits and base coin on the
community, (3) restraining the issue of notes not issued under its
own authority, and (4) observing that without the power to control
these aspects of legal tender, Congress’s “attempts to secure a
sound and uniform currency for the country must be futile.”
The Supreme Court was even more forceful in holding the
1860s “legal tender” acts constitutional, both as to contracts
entered into before and after their passage. The Court’s opinion
discussed the powers of the sovereign and noted that the Court
would have to reverse course for its growing body of canons of
statutory construction if it did not uphold Congress’s acts
concerning legal tender.
A government’s interests are no less when one considers the
authority to tax transactions and profits189 and to impose duties
on foreign transactions. Thus, following its announcement that
it would not require Bitcoin exchanges to register as a “money
service” or “money transmitter” in the United Kingdom, Her
Majesty’s representatives still warned Bitcoin users about paying
attention to the tax implications of their Bitcoin transactions.
Those representatives, however, predicted that regulation “will
definitely come into play” and “so it is in the best interests of
businesses that think they are transacting as a money services
business to still keep anti-money laundering and know-your-customer
practices in play so they’re prepared for when HMRC does come knocking.” Soon afterwards, Her Majesty’s
representatives did an about-face and, following a meeting with
Bitcoin U.K. representatives, announced their intention to issue
regulations.
Considering the different possible regulatory paradigms and
the questions we raised in Part VII of this article, we find ample
evidence of governments’ interests in regulating cryptocurrencies
in one fashion or another and of several possible ways to determine
which of the competing federal-versus-state and payments-versus-securities-
versus-commodities paradigms should be considered.
Even among the paradigms that apply to different payments
systems, options abound. The participants in transactions of this
type have long had regulations governing their rights and have
had, in greater and lesser degrees, government regulation of
depositories and exchange/payment systems rules. Some of these
regulations grew out of informal self-regulation, at least as the
subjects suitable for resolution by private law or system rules—as
opposed to public law—are concerned.
The federal government’s action against e-gold and its 2013
regulatory guidance and law enforcement actions against Liberty
Reserve and Mt. Gox persuade us that the government will exercise
regulatory authority over cryptocurrencies and other virtual
currencies to some extent.
Despite the tendency of new Internet-based entrants to
imagine themselves to be entitled to exist and operate without
regulations, a kind of unregulated Wild West attitude, the oldfashioned
notions of why we regulate payments and value-storage
media that we discuss in this article suggest to us that regulation
will happen, and that its challenges will be similar to those faced
since kings and princes first issued coins and then issued other
indicia of stored value such as paper “money” that qualified for use
as “legal tender.”
The idea that governments issue “money” and declare what
qualifies as “legal tender” is an ancient notion. The history of
regulating money and legal tender suggests that it is not likely that
governments will surrender their privileges to regulate
cryptocurrency issuers, exchanges, administrators, or users. The
real questions are which paradigm(s) governments will use, how
much enforcement energy they will spend on regulating
cryptocurrencies, and whether and how they will compete with
each other to offer regulatory schemes that do not send
cryptocurrency entrepreneurs, investors, and users running
offshore.
On 25 March the US Internal Revenue Service in its Notice 2014-21 (Virtual Currency Guidance) indicated [
PDF] that indicated that
In some environments, virtual currency operates like “real” currency - i.e., the coin and paper money of the United States or of any other country that is designated as legal tender, circulates, and is customarily used and accepted as a medium of exchange in the country of issuance -- but it does not have legal tender status in any jurisdiction.
The notice provides that virtual currency is treated as property for U.S. federal tax purposes. General tax principles that apply to property transactions apply to transactions using virtual currency.
Accordingly
- 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.
