Virtual currency

A Snapshot

Definition of virtual currency

Virtual currency is a digital representation of value that can be digitally traded and functions as a medium of exchange; and/or a unit of account; and/or a store of value

but does not

have legal tender status (i.e., when tendered to a creditor, is a valid and legal offer of payment) in any jurisdiction. It is not issued nor guaranteed by any jurisdiction, and fulfils the above functions only by agreement within the community of users of the virtual currency.

It is critical to differentiate between Virtual Currency and E-Money in the light of the above definition.

The crucial difference

• E-money is a digital representation of a fiat currency used to electronically transfer value denominated in fiat currency. E-money is a digital transfer mechanism for fiat currency – i.e it electronically transfers value that has legal tender status.

• Ex. PayPal, CashU, webmoney, Liberty Reserve (Now defunct)

E-money

• Virtual currencies are either driven by Virtual Community operators or by a community of Virtual Currency users and do not involve any fiat currency in the entire transference process.

• Ex. Bitcoin, Litecoin, Namecoin.

Virtual Currency

Types of virtual currency

•Convertible or Open Virtual Currency has an equivalent value in real currency and can be exchanged back and forth for real currency. However, the notion ‘convertible’ does not imply an ex-officio convertibility (e.g in the case of gold standard) but rather a de-facto convertibility (e.g because a market exists)

•Ex. Bitcoin, Linden Dollars, Liberty Reserve,

Convertible

•Non convertible virtual currencies are intended for specific virtual domain or world such as MMORPG and under rules governing its use, cannot be exchanged for fiat currency.

•Ex. Project Entropia Dollars, Qcoins, and World of Warcraft Gold.

Non convertible

Convertible VCs

• Convertible Virtual Currencies can be of two types:

•Centralised

•Decentralised (cryptocurrencies are a

part of decentralised currency)

Characteristics of Non Centralised VCs

1. They have a single administrating authority• i.e a third party that controls the system, establishes

the rules for its use, maintains a central payment ledger and has authority to withdraw the system from the market.

• The exchange rate for a convertible VC can be floating – determined by market supply and demand – or pegged – fixed by the administrator at a set value measured in fiat currency.

Characteristics of decentralised VCs

• Decentralised VCs are:• Distributed, open source, math based peer to peer virtual

currencies that have no central administrating authority and no central monitoring or oversight. (e.g Bitcoin)

• It is protected by cryptography – it relies on public and private keys to transfer value from one person to another.

• The safety, integrity and balance of the currency ledgers is maintained by a network of miners who work in exchange of a randomly distributed fee.

• Bitcoin launched in 2009 was the first decentralised virtual currency to get launched.

The Bitcoin Buzz

• Bitcoins are units of account composed of unique string of numbers and letters that constitute units of currency and have value only because individual users are willing to pay for them.

• Bitcoins are traded between users with a high degree of anonymity and are exchanged for fiat currency as well.

• Online Bitcoin Wallet Services are available as Bitcoin exchanges.

• Anyone can download a free, open source software from a website to send, receive and store bitcoins and monitor bitcoin exchanges.

• Bitcoin transactions (fund flows) are publicly available in a shared transaction website.

• Bitcoin is capped at 21 million bitcoins (expected to be reached by 2140). As of April 2014, there are over 12 and a half million bitcoins with a total value of USD 5.5 billion, based on the average exchange rate as of that date.

Who participates in a convertible vc?

An Administrator – typically a business that establishes a rule for setting up or issuing a centralized virtual currency, establishing rules for its use, maintaining a

central payment ledger, and who has the authority to withdraw it.

An Exchanger– is an entity engaged in the exchange of virtual currency for real currency, funds, precious metals or other forms of virtual currency. Exchangers can

be administrator affiliated, non-affiliated or a third party provider.

An User– is a person who obtains virtual currency and uses it to purchase real or virtual goods or services or send transfers in a personal capacity to another entity,

A Wallet– is a means for holding, storing and transferring virtual currency.

When you develop a virtual

currency

You need to keep in mind all of the four… including the exchange.

Decoding linden lab

• Second Life is an economy, where users (residents) can buy or sell services and virtual goods to one another in a free market. Linden Dollars is the virtual currency employed by Second Life.

• Services include camping, working in stores, custom content creation, and other personal services. Goods include virtual land, real estate, space, in-game animals, etc. To make money in Second Life, one must find customers who are willing to pay for the product or service. Exchanges with virtual goods instead of Linden Dollars is also quite prevelant.

• LindeX is the official exchange service of Second Life, and the exchange rate fluctuates just like a real currency.

• Not all purchases in Linden Labs use Linden Dollars though – land sales and auctions usually require real cash and you need to pay Linden Labs a monthly tax to use it as well. The money is used to buy space on the server.

• Large landowners on Linden Labs get access to a special team of customer relations employees who help resolve issues at a single call.

Gambling on second life

Linden Labs had introduced gambling on its site but banned it in 2007 because all of its servers were based in the US and

the country considered gambling to be an illegal activity.

A large part of the Linden Lab users were outside of the US though and visiting online casinos was a favorite activity on

the site.

Legal Compliances of

Linden $

• Post Bitcoin, there has been a lot of focus on cryptocurrenciesand Linden Labs has also been under attention.

• In 2013, Linden Labs forbid the trading of Linden$ on exchanges other than the official LindeX. The market data is also regularly published on LindeX.

• Linden Lab also had to register with FinCen as a Money Service Business to continue exchanges on LindeX.

Why does linden Lab matter

Linden Lab has been criticised, but never faced legal suits for unlawful transactions by any government agency, even though it has faced

warnings.

On the other hand, Liberty Reserve, which came out of Costa Rica was shut down by the US Govt after allegations of money laundering.

During it’s shutdown, Liberty Reserve had a user base of 1 million.

This brings us to Liberty Reserve

• Liberty Reserve was a centralized digital currency like Linden Labs, that allowed users to register and transfer money to other users with only a name, email address and birth date. Identities were not verified.

• Deposits were converted to Liberty Dollars which were tied to the value of the US Dollar.

• No limits were placed on the transaction size.

• The service made money by charging a small fee of 1% for every transfer. Liberty Reserve also offered shopping cart and other merchant services.

• The fact that the founders of Liberty Reserve, Arthur Budovsky and Vladimir Kats had earlier been indicted and sentenced for 5 years because of a currency exchange called ‘GoldAge’ did not help either.

• Liberty Reserve’s first allegation was that it did not procure a proper license for running a money transmitting service.

• Because of lack of transparency about how the business was funded, Liberty Reserve was denied a license for Money Transmitting and operated through five other shell companies.

What has changed in the present

day?Post Bitcoin, which introduced the idea of a decentralised virtual

currency, the laws across the world have become critical of all forms of virtual currencies and stringencies have come in terms of:

a. Security b. Transparency

c. Legalities

Why does bitcoin matter for us?

Bitcoin is till now the ultimate example of how a peer to peer economy can subvert all national restrictions.

The semi-anonymity of Bitcoin users in terms of a number and a letter, the flouting of all rules by driving a peer to peer currency and making it grow and

keeping it afloat by driving a crowdsourced ledger is an innovation that has clearly been a marvel.

Also, there is no centralised administrator of Bitcoin – so identifying the key perpetrator has been very difficult.

Bitcoin will probably set the bar for a virtual currencies acceptance, recognition and possible threats across multiple geographies.

It is important to understand Bitcoin’s acceptance in detail.

Bitcoin acceptance levels (countrywise)

Country Legality of Bitcoin Feeling

Algeria Yes

Australia Yes Aus Govt is positive about Bitcoin.

Belgium Yes A hands off approach towards the currency and sees no threat.

Bolivia No Does not allow cryptocurrency for tax evasion purposes.

Brazil Yes Bitcoin users are asked to file capital gains in their tax returns.

Bulgaria Yes Is starting to tax Bitcoin users.

Canada Yes Has already applied tax rules to Bitcoin users – is also sceptical of cryptocurrencies being used for terrorism funding.

China & Taiwan (Restricted) Is starting to regulate Bitcoin transactions.

Hong Kong Treats Bitcoin as a virtual commodity, has announced that Bitcoin will not be regulated by HKMA.

(contd.) bitcoinCountry Legality of Bitcoin Feeling

Colombia Yes Does not recognise Bitcoin as a currency, does not regulate and warns people of using it at their own risk.

Denmark Yes Does not regulate it right now but has plans to put in place frameworks for regulation

Ecuador No Has banned crypto currencies

Finland Yes Has imposed regulations on bitcoin treating it as a security.

Germany Yes Calls Bitcoin a ‘unit of account’ and is regulated for the purpose of tax and trading in the country.

Iceland No Does not consider it as a proper currency.

India Restricted In fact, in January, the RBI asked all users to be wary of bitcoins and any other form of virtual currency.

Indonesia Restricted Restricted because the govt sees it as a mechanism of money laundering.

Israel Yes Is planning to put taxes on bitcoins, but not planning to restrict it.

Japan Yes Accepts bitcoin and does not prohibit the use of bitcoins for any bank or any individual

(contd.) BitcoinCountry Legality of Bitcoin Feeling

Jordan Restricted Has clearly warned all potential users of the risks of using bitcoins.

Lebanon Restricted Sees Bitcoin as a threat.

Lithuania Yes Has warned users of risk but does not restrict it at the moment.

Malayasia Yes Has warned users of risk but does not restrict or support it at the moment

Norway Yes Bitcoin falls under sales tax regulation and is seen as an asset.

Phillippines Yes Bitcoin is used, not accepted as a currency and is being monitored for possible money laundering.

Poland Yes Does not consider it illegal but also does not acknowledge it as a legal form of tender.

Russia Yes Even though Bitcoin is not banned, using Bitcoin puts any user under suspicion in Russia.

Slovenia Yes Bitcoin is neither considered money nor asset. However, Bitcoin mining is taxed.

Singapore Yes Treats Bitcoin exchanges as barter exchanges – and does not tax it right now.

(contd.) bitcoin Country Legality of Bitcoin Feeling

Switzerland Yes The country is still evaluating the status on bitcoins with respect to tax, VAT, securities and anti money laundering laws.

Thailand Yes Bitcoin trading is legal as long as it is only converted to and from Thai Baht.

Turkey Yes Does not consider Bitcoin as emoney and is therefore not regulated.

United Kingdom Yes Bitcoin is treated as ‘private money’. When it is exchanged for sterling, no VAT is due, but trading of goods and services in Bitcoins does accrue VAT.

United States Yes Treats Bitcoin as a ‘legal means of exchange’ and is generally positive about Virtual Currencies – as long as they are ‘treated’ as properties and are administered under Money Transmitter License. In US, Bitcoin is accepted in political campaigns as well.

New Zealand Yes NZ operates a middle ground, it calls the ‘virtual currency’ technology as interesting and has also warned the public about possible ‘money laundering’ issues that it can have.

Ireland Yes Ireland has not banned virtual currency but follow the EBA recommendations that national supervisory authorities discourage credit institutions, payment institutions and emoney institutions from buying, holding or selling virtual currencies.

And the grey areas…

• Caymen Islands is a place where bitcoins can be easily converted as there are no rules for or against virtual currency as such.

• The other place, where Virtual Currency is growing is the Isle of Man located near Britain, which recognises that the digital currency market will ‘develop and change rapidly’ so any rules created will be kept under review and updated as soon as and when it is appropriate.

How does the world’s biggies handle

virtual currency

Facebook

Apple

Facebook credits

• Facebook launched credits in 2011 and phased it out 18 months later.

• The logic behind FB Credits was that customers trusted FB with their credit card info rather than unknown players who sold games and apps on the site. So, it was a centralized payment system for all transactions within FB.

• Facebook credits were used exclusively for virtual goods and could not be transferred from user to user – like other virtual currencies (for example – in bitcoin, I can gift you 20 bitcoins if I want, but the same was not possible on FB).

• Also, FB credits could not be transferred back to dollars or pounds by uses – only to developers.

• Most game apps were using their own in-game currency, and using FB credits on top of that seemed like a hassle. Also, FB tried Facebook offers ( a kind of groupon deal strategy) on the basis of FB credits. When FB offers closed down, the credits seemed to go downhill. The 30% commission that FB charged its developers also limited, as a lot of game developers tried selling their apps through other channels.

• FB moved from credits to a normal wallet – where country specific currencies can be used. Thanks to widspread reach of Facebook, having a country specific currency model also makes more sense.

APPLE

• iTunes gift card too started out as a virtual currency.

• However, iTunes gift cards fall under several US State Gift card laws like CCRDA and are not treated as a virtual currency.

• Also, iTunes gift cards are not transferable as virtual currency to any other user.

Thank You