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The Legalities of Bitcoin

The
phenomenon of Bitcoin has taken the
financial world by storm. A form of currency, although it came into existence
only in 2009, it has increased exponentially both in usage and value. It has been
said that
the value of Bitcoin has appreciated by a whopping 5,000% in less
than a year. This form of currency has gained momentum in India as well, as
this report
in the Mint suggests.

US Court Decision: “Securities”

While
the concept of Bitcoin is novel (and I must confess I’m still trying to get to
grips with its foundation, features and implications), it is bound to give rise
to numerous legal and regulatory issues. Before setting out some of the more
general legal issues, it is appropriate to discuss a U.S. court ruling that
considers the issue of whether Bitcoin-related investments constitute
securities. A post
on The Race to the Bottom Blog has a discussion on Securities
and Exchange Commission v. Trendon T. Shavers
.

In that
case, the United States District Court for the Eastern District of Texas was
concerned with the question whether Bitcoin-related investments were “securities”
and hence subject to the jurisdiction of the Securities and Exchange Commission
(SEC). The defendant, Shavers, was the founder and operator of Bitcoin Savings and
Trust (BTCST) and solicited Bitcoin in principal investments from BTCST
investors. The investors suffered losses and hence the SEC brought an action
against Shavers and BTCST on the ground that they have made misrepresentations
regarding the nature of the investments and had defrauded the investors. Shavers
adopted the argument that SEC had no jurisdiction because the investments were
not “securities” because Bitcoin is not money, and is not regulated in the US. He
also argued that no money changed hands. The court did not accept Shavers’
arguments and instead ruled in favour of the SEC.

The
court first set out the principal characteristics of Bitcoin after relying on
prevailing legal academic literature:

Bitcoin is an electronic form of currency
unbacked by any real asset and without specie, such as coin or precious metal.
Derek A. Dion, I’ll Glady Trade You Two
Bits on Tuesday for a Byte Today: Bitcoin, Regulating Fraud in the E-Conomy of
Hacker-Cash
, 2013 U. Ill. J.L. Tech & Pol’y 165, 167 (2013). “It is not
regulated by a central bank or any other form of governmental authority;
instead, the supply of Bitcoins is based on an algorithm which structures
a
decentralized peer-to-peer transaction system.” Id. Bitcoin was designed to reduce transaction costs, and allows
users to work together to validate transactions by creating a public record of
the chain of custody of each Bitcoin. Id.
Bitcoin can be used to purchase items online, and some retail establishments
have begun accepting Bitcoin in exchange for gift cards or other purchases. …

In order
to constitute “security” the court had to first be satisfied that the
investments constitute an investment of money. The court answered in the affirmative:

It is clear that Bitcoin can be used as
money. It can be used to purchase goods or services, and as Shavers stated,
used to pay for individual living expenses. The only limitation of Bitcoin is
that it is limited to those places that accept it as currency. However, it can
also be exchanged for conventional currencies, such as the U.S. dollar, Euro,
Yen, and Yuan. Therefore, Bitcoin is a currency or form of money, and investors
wishing to invest in BTCST provided an investment of money.


The
scope of what amounts to a “security” is quite wide, and it is therefore not
surprising that Bitcoin-related investments are ensnared within its ambit.

Other Legal Issues

At a
more general level, it appears that Bitcoin is yet to be specifically
prohibited or regulated, although there are moves to study the implications of
Bitcoin from a legal and regulatory perspective. Moreover, whether subject to
regulation or not, Bitcoin will likely give rise to implications under several
areas of the law, including taxation, consumer protection, money laundering,
and so on.

It is
not clear if the regulatory authorities in India have begun to consider the
implications of Bitcoin, but that might be required in the near future,
particularly if this form of currency becomes more popular in usage. The Reserve
Bank of India (RBI) will certainly be seized of the issues, given its mandate
to regulate the market for currencies. Going by the US example in the Shavers case, the Securities and
Exchange Board of India (SEBI) will have to consider the implications from an
investment or securities regulation stand-point.

Bitcoin
has already spawned a new genre of academic literature that examines the
financial and legal implications of the concept. The following is a sampling:


4. Is Bitcoin a Real Currency? by David Yermack.
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