There has been much discussion about virtual currency at the federal level. That talk finally turned into official policies and guidance from the agencies that regulate monetary and financial concerns.
The Consumer Fraud Protection Bureau (CFPB) expressed concerns about Bitcoin and other virtual currencies. And as some have predicted, as virtual currency enjoys a wider acceptance by our society, the federal government will come down hard on the unregulated currency. Who controls its supply? Can hackers get at it easily (as they’ve proven to be the case over the past two years)? Who’s policing it? Can you hide assets in Bitcoins during a divorce? These types of concerns and questions are now for the most part unanswered. The CFPB warned that because virtual currency accounts are not insured by the FDIC or the National Credit Union Share Insurance Fund, if a virtual currency company fails, the government won’t cover the loss.
The IRS after repeated calls for clarification on the tax ramifications of virtual currency, released Notice 2014-21 on March 25, 2014. The IRS states that it would treat virtual currencies as property, not currency. As a result, any gains realized on virtual currency transactions could be deemed taxable income. Further, transactions in Bitcoin and other virtual currencies may be subject to information reporting requirements, flying in the face of individuals who want Bitcoin to remain unhindered from government intervention and regulation. Notice 2014-21 stated that it was applicable to all “convertible virtual currencies.” Bitcoin was singled out as one such example.
Along with the Treasury Department and its powerful agencies—the IRS and the CFPB—there is one more watchdog that has immersed itself in the regulation of virtual currency. The Financial Crimes Enforcement Network (FinCEN) is involved based on the ability of virtual currency to be used as a vehicle for money laundering. In recent testimony to the Senate Committee on Banking, Housing, and Urban Affairs, FinCEN Director Jennifer Shasky Calvery noted that criminals might find Bitcoin attractive for the same factors law-abiding citizens would: ease of navigation, little or no transaction fees, basic security, accessibility, and anonymity. In other testimony, Senator Thomas Carper of Delaware, who chaired the hearing, viewed the concern over digital currency’s nefarious uses to the worries about the early Internet in the 1980s. He asked if it could prove to be just as revolutionary and beneficial technology. FinCEN’s Calvery agreed and thought the comparison appropriate. Chairman of the Federal Reserve, Ben Bernanke, also, via an open letter, stated that virtual currencies “may hold long-term promise.”
The Federal Reserve tracks the developments in virtual currencies and payments system innovations, but has no authority to directly supervise or regulate the new currencies, payment systems, and the entities that bring them to the market. The Fed would have authority to regulate a virtual currency product only if it was issued by, or cleared or settled through, a banking organization under its supervision. So far, the Fed has concentrated mainly on a supervised financial institution’s role in the sale and distribution of virtual currency, along with the requirements set out by the Bank Secrecy Act (BSA) and anti-money laundering (AML) regulations.
FinCEN issued guidance in March 2013 to clarify the circumstances in which an administrator or exchanger of virtual currency is typically be deemed to be a money transmitter pursuant to the BSA.
“A user of virtual currency is not an MSB [“Money Services Business”] under FinCEN’s regulations and therefore is not subject to MSB registration, reporting, and recordkeeping regulations. However, an administrator or exchanger is an MSB under FinCEN’s regulations, specifically, a money transmitter, unless a limitation to or exemption from the definition applies to the person. An administrator or exchanger is not a provider or seller of prepaid access, or a dealer in foreign exchange, under FinCEN’s regulations.”
Regulation by States
New Mexico’s Securities Division explained that although Bitcoin has been traded as a currency, its regulation as such may prove to be difficult. The government’s authority to regulate currency , it said, is found in Article I, §8 of the U.S. Constitution, which says that Congress has power to, “…coin money [and] regulate the value thereof.” The Constitution establishes that Congress shall have authority over the country’s money to the exclusion of the states, but not to the exclusion of private issuance, like Bitcoin—despite the fact that Bitcoin really isn’t a “privately issued” currency.
The Director of the New Mexico Securities Division said earlier this year that his staff was “evaluating the developing market for Bitcoin and other forms of virtual currency.” Director Alan Wilson remarked “We are studying how virtual currency is used to pay for products or services and how consumers are invited to invest in virtual currency as a commodity. Both uses have certain attractions, and both have definite risks.”
New York’s Superintendent of the Department of Financial Services (DFS) Benjamin M. Lawsky has been the trendsetter aggressively studying virtual currency payment systems. The DFS recently issued for public comment a proposed “BitLicense” regulatory framework for virtual currency businesses operating in New York. The proposed regulations comes after a 12-month study by the DFS, which included public comment, consumer protection, anti-money laundering compliance, and cyber security rules drafted specifically for virtual currency firms. The new DFS BitLicenses will be required for firms engaged in the following virtual currency businesses:
• Receiving or transmitting virtual currency on behalf of consumers;
• Securing, storing, or maintaining custody or control of such virtual currency on the behalf of customers;
• Performing retail conversion services;
• Buying and selling as a customer business (as distinct from personal use); or
• Controlling, administering, or issuing a Virtual Currency (but does not apply to virtual currency miners.)
A license is not required for those that utilize virtual currency for only the purchase or sale of goods or services, or those firms chartered under state law to conduct exchange services and are approved by DFS to engage in such business activity.
In a somewhat similar fashion, California’s Department of Financial Institutions went after Bitcoin’s top advocacy group, the Bitcoin Foundation, in May 2013 by issuing it a cease-and-desist letter that The Foundation was forbidden from making transactions within California because of the fact that it wasn’t officially licensed to transmit monies.
It appears that California wanted the chance to regulate the currency, as Assembly Bill 129 clarified changes to the then current law so that digital currency and other forms of alternative currency would not violate the law when done for the purchase of goods and services or the transmission of payments.
A federal judge ruled in August 2013 that Bitcoin money should be treated like any other form of currency , and in November 2013, the U.S. Department of Justice recognized Bitcoin as a legal means of exchange.
Texas is the other state that has notably taken a stance with Bitcoin And virtual currency. According to an April 2014 memo from the Texas Department of Banking, the state will not treat Bitcoin and other virtual currencies as legal money. “[C]ryptocurrency like Bitcoin is best viewed like a speculative investment, not as money,” Cooper said. Citing the policy of the IRS, Cooper reasoned that for tax purposes, Bitcoin was property instead of currency in that no government recognizes the virtual currency as legal tender. Pursuant to Texas Finance Code, a Bitcoin business conducting money exchanges subject to state regulation may be asked to meet a minimum net worth requirement of $500,000. Like New York, Texas is out in front in attempting to get its arms around regulating virtual currency.
It doesn’t appear that the acceptance of Bitcoin as a payment of legal services runs aground of the Model Rules, which permit a fee for legal services, provided it is “reasonable”. Numerous authors point out that an attorney can accept Bitcoin just as they could another commodity such as bars of gold or cattle in exchange for legal services. Either way, it’s wise to consult specific jurisdictional rules where an attorney practices law.
Bitcoin has a dollar-value , so an attorney should be able to get an idea as to what his or her services are worth in Bitcoin. As of April of this year, Bloomberg’s Financial data included Bitcoin rates of exchange. One example shows how an attorney is able to accept Bitcoin from clients and then turn it into dollars to comply with the jurisdiction’s rules on professional responsibility. “If you are paying me in Bitcoin today and it’s worth $1,000, I can take your Bitcoin and convert it into $1,000 today. That Bitcoin value goes away. Whether [Bitcoin] drops or increases, $1,000 has been credited into my account. And that would be compatible with the Rules.” When accepting Bitcoin, an attorney should make sure to use the current exchange rate of Bitcoin to USD. “You could make it easy and charge clients, for example, “$1,000 USD or its present Bitcoin equivalent,” one author says. Likewise, another attorney stated that when accepting sums in Bitcoin, he transfers them into dollars to be able to account for them with his accounting software and pay taxes.
Of note is the fact that Bitcoin can only be used to pay bills for earned fees. This is because client funds that are yet to be earned are required to be deposited in an IOLTA account—this special bank trust account for client funds has yet to be created on an equal scale in the world of virtual currency. Another caution is when issuing a refund to a client: these refunds must be processed in dollars, rather than in Bitcoin due to the currency’s volatility. Attorneys typically use the exchange rate for services at the time the Bitcoin payment is applied to the client account.
A 76-attorney New York law firm is partnering with a Bitcoin payment processing company to host the firm’s payment system. According to the firm’s website, the practice was founded in the 19th Century and is “a full service general practice firm serving middle market enterprises, entrepreneurs and prominent individuals.”
Indeed, the tools are ready and the demand is growing. A small or solo law firm can easily make the move to accept Bitcoin and be on the leading edge of technology with one more feature to distinguish his or her legal services from those of the attorney next door.
Nat Wasserstein is the owner of NS Wasserstein & Associates, PLLC, an experienced law firm for today’s entrepreneur.