Bitcoin explained in 4 questions

Illustration nom de domaineWhile the U.S. Congress published in February a report about the lawfulness of Bitcoin, the first electronic money still raises many questions across the world. Its quoted price, which was below $1 until 2011, had risen to more than $1,000 in the previous months and is now quoted between $200 and $400. Judicial, tax and other authorities in all countries are studying this crypto-currency to understand its modus operandi. The ultimate aim is to consider all the ins and outs before introducing appropriate legislation. There are reasons to be concerned but Bitcoin is not elusive as it may sound. Below is an overview of the currency in 4 questions.


How does Bitcoin work?
Bitcoin is a peer-to-peer electronic cash system. It relies on the principles of cryptography to validate transactions and generate currency. In short, Bitcoin is a means of payment and a decentralized currency since it does not rely on any central server. The computers of users help the system run by connecting to the network: some will generate “money”, while others will validate the transactions…

The use of cryptography means that Bitcoin transactions are entirely anonymous. Thus, a transaction between a buyer and seller is not made in the traditional way: the buyer loses Bitcoins, but the same Bitcoins are not credited to the seller. The latter will receive the same amount of Bitcoins lost by the buyer, this being the price of the transaction. There is however no flow of money between the buyer and the seller, which allows for complete anonymity.


What are the concerns raised about this system?
Anonymity is the main concern for the authorities. Money laundering, illegal sales and trafficking of all types are some of the transactions which Bitcoin seems to allow. As soon as April 2012, the FBI published a document expressing its concerns that the system may be used for illegal activities, which are most often untraceable.

For example, on Silk Road, a marketplace accessible only through the anonymity network TOR, all transactions are carried out in Bitcoins. Silk Road is mainly used for the sale of narcotic substances, fake identification documents and counterfeit products. Buying on this site is therefore risky and may even prove to be dangerous for the clients since the site also markets counterfeit medications. The only limit imposed by Silk Road is that it prohibits the sales of weapons and child pornography products.

At the instigation of the U.S Senate, Silk Road was closed down in October 2013 by the FBI before reopening some days later. The platform is still operational and trafficking is still ongoing.


What is the legal status of bitcoin?
Legally speaking, Bitcoin cannot be treated as a lawful currency. The right to issue money is a sovereign power. It is therefore only natural that as of now, no State has recognized the Bitcoin as a currency unit in its legal system.

Bitcoin is also not an electronic money, which is defined in the European Union in a 2009 Directive as: “electronically, including magnetically, stored monetary unit as represented by a claim on the issuer which is issued on receipt of funds for the purpose of making payment transactions (…) and which is accepted by a natural or legal person other than the electronic money issuer”. As Bitcoin transactions are not carried out between two persons, there is no issuer. Besides, Bitcoin is not an electronically stored monetary unit. Hence, the European Directive is not applicable.

Some see Bitcoin as a “parallel” or “anarchistic currency” while others see it as a simple unit of monetary measure. As for U.S. tax agencies, they announced on 25 March that Bitcoin will be treated as an asset rather than a currency. This will allow for the purchases and sales of Bitcoin to be subject to taxes.


Finally, is it legal?
As such, it is difficult to state that the Bitcoin is illegal. It is only the ways in which it is used that may go beyond what is legally permissible and may be characterized as a criminal offense. Whilst Silk Road was used as an example here, various sites use Bitcoin to sell goods and services which are perfectly legal.

In France, the Senate held hearings in January 2014 focussing on the opportunities offered by this technology and on the way the law could evolve to further regulate it. The status of Bitcoin is more advanced in Germany. The German government has set a 25% ceiling for income tax on Bitcoin income and has categorized it as a private currency.

Only Thailand has entirely prohibited the use of Bitcoin in its territory till date.

Established in 2009, Bitcoin is however already outdated from a technical point of view. Having been replaced by technologies that are based on lighter and more secured infrastructure, the Bitcoin is probably dying out. The next issue will be how States can react to these new exchange units.