Why Bitcoin isn’t a security under federal securities law

There are questions as to whether Bitcoin falls under the regulations of federal securities law. Federal securities law is a complex area of law that grants courts and the SEC great leeway in classifying investment products as securities. Nevertheless, a Bitcoin in-and-of-itself is not a security that can be regulated under federal securities la.

NOTE: This is a simplified analysis of complex issues. I welcome any comments or debate. A more detailed analysis of the legalities of Bitcoin is in the works.

Where the term ‘security’ comes from

A security implies an investment method or instrument that is secured against something else. A classic example is a share of stock. Stock is secured against the equity interests of a company. Therefore, by owning a share of stock you own an interest in a company.

Similarly, bonds, notes, and other evidences of indebtedness are securities because the ‘thing’ securing it is the debt instrument itself. This instrument creates an obligation for one entity to pay another entity. For this same reason, currency can be considered a security because a U.S. dollar bill represents a promise of value made by the U.S. government. (It used to be backed by our gold reserves, but this ended during the Nixon administration.)

But if currency can be a security, then Bitcoin is a security because it’s a type of currency, right?

Wrong. Bitcoin is not really a type of currency, at least not of the type recognized as securities. No entity or assets back up Bitcoin value. Bitcoin value is entirely virtual—a Bitcoin is only worth what another person thinks its worth. This is different than currency issued by countries.

A country’s currency is backed by that country’s government. This backing can either be by fiat (government regulation or law) or by commodity (such as the gold standard the U.S. used to use). Some compare Bitcoin’s value to the value of fiat money, because like fiat money it is not backed by a commodity, but this is where the similarities between Bitcoin and fiat money end.

Bitcoin is backed by no entity, no commodity, no organization. Bitcoin value is not based on government regulation or law mandating its use in a country. Similarly, it is not backed by a whole bunch of gold sitting in Fort Knox.

That seems simple, so why is everyone confused?

Because it’s not that simple. I alluded to the complexity of securities law at the beginning of this post. This section will delve into it more in-depth. If you’re not interested in nitty-gritty details, I suggest scrolling down to the conclusions below.

So, what is a security under federal law?

Federal securities law is written to provide the courts and Securities Exchange Commission flexibility to handle a great variety of investment schemes. Think of all the financial alchemy you’ve heard about when it came to the recent housing market crash and the collapse of Lehman Brothers and Bear Stearns. Those collateralized debt obligations, or CDOs, you keep hearing about are securities.

The SEC is concerned with more than financial instruments, however. The SEC seeks to regulate all types of investment schemes.  A leading case on one type of security, investment contracts, illustrates federal law’s flexibility.

The SEC v. W.J. Howey Co. involved the sale of units of a Florida citrus grove coupled with a service contract for farming those units. The U.S. Supreme Court ruled that this arrangement amounted to an investment contract. Investment contracts are included in the definition of securities in both the Securities Act of 19331 and the Securities Exchange Act of 19342 and are therefore subject to SEC regulations. The Court defined an investment contract as:

a contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party, it being immaterial whether the shares in the enterprise are evidenced by formal certificates or by nominal interests in the physical assets employed in the enterprise.3

Some who argue that Bitcoins might be classified as securities point to the broad definition of investment contracts. But, before we delve into a detailed analysis of investment contracts, there is another broad category of securities listed in the securities laws of 1933 and 1934: “in general, any interest or instrument commonly known as a ‘security’.”4

The U.S. District Court of Oregon concluded that pyramid schemes can fall under this general category in the 1972 case SEC v. Glenn W. Turner Enterprises, Inc.5 The defendants in Glenn Turner were selling tapes and lessons on selling . . . something. These contracts were called “Adventures.” The more you paid the more expensive ‘adventures’ you could in turn sell to others. Yet, like a classic pyramid scheme, latecomers would find the market for selling these ‘adventures’ was saturated.

The court in Glenn Turner borrowed a California test for determining whether something classified as a security—the risk capital test. The test looks at whether the investor subjects his money to the risk of an enterprise over which he exercises no managerial control. The idea behind the test is that investments of this type are the basic economic reality of a security transaction.

The test looks at whether the subjection of the investor’s money to the risk of an enterprise over which he exercises no managerial control is the basic economic reality of a security transaction.

So for those keeping score, a number of things can be classified as securities. There are the specifically enumerated types of securities, such as notes and company shares, listed in the 1933 and 1934 securities laws. Those two laws also contain two general, broad categories of securities:

  1. Investment Contracts, and
  2. Anything commonly known as a security.

Both of these general categories share common characteristics:

  1. Investors investing money;
  2. An expectation of profits from the investment;
  3. Substantial third-party control of the enterprise.

An investment scheme possessing some or all of these traits might be deemed a security under U.S. law and, thereby, be subject to federal laws (and state laws) regulating securities.

Bitcoin is not an investment contract

Investment contracts are

contract[s], transaction[s] or scheme[s] whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party, it being immaterial whether the shares in the enterprise are evidenced by formal certificates or by nominal interests in the physical assets employed in the enterprise.6

Bitcoins do not require direct investments of money. It only requires investment of computing power. Further, while it might be said the Bitcoin community is a common enterprise, that enterprise is distributed and not run by a single individual or entity. Profits from Bitcoin cannot be expected from the efforts of a “promoter,” for there is no Bitcoin central entity, nor from third parties.

The Oregon District Court in Glenn Turner makes the point that investment contracts should be flexible in their definition, and the Howey court never intended to create a strict definition for investment contracts. Nevertheless, none of the four characteristics of an investment contract—(1) investment in (2) a common enterprise with (3) the expectation of profits from (4) the efforts of another—really fit Bitcoin’s model. As far as Bitcoins themselves are concerned, they do not meet the definition of investment contracts.

Bitcoin does not possess the general characteristics of a security

A Bitcoin does not exist based off of a monetary investment. It exists based off of a computer processing investment. Further, Bitcoins are not reliant on the managerial control of others. In fact, the Bitcoin network is distributed in a way that prevents one party from exercising managerial control.

Bitcoins fail to meet the basic economic reality of a security transaction under the risk capital test created by California courts and relied on by a number of states and federal courts. A Bitcoin itself should not be considered a security under the general definition of securities in federal security law for this reason.

So Bitcoin isn’t a currency, and it isn’t a security, then what is it?

This is the million-dollar question. Bitcoins are not currency and are not securities. Yet, they have the ability to represent value. In some ways they are pure representations of value—their value is not based on relations to outside elements, such as commodities or government regulations, but their value is rather based on what one person is willing to give another for the Bitcoin transfer.

Bitcoin shares some elements of fiat money in the sense it is not tied to tangible goods, yet it doesn’t share fiat money’s government backing. Bitcoins themselves are simply cryptographic strings that represent transactions; except for the willingness of some people to exchange Bitcoins for real-world money, Bitcoin valuation is incredibly difficult.

So Bitcoin ‘investors’ don’t need to worry about securities regulations or laws?

Bitcoin investors should absolutely worry about securities laws. The securities definitions outlined above might not apply to Bitcoins themselves, but they are flexible enough to apply to Bitcoin exchanges that convert a Bitcoin to real-world currencies. Securities law might even apply to exchanges converting Bitcoin to other virtual currencies such as Lindens.

Is their a common economic scheme where a profit is expected based on the efforts of a third party? Then the transactions occurring on an exchange might constitute an investment contract. Is the Bitcoin investor subjecting his money to an enterprise over which a third party has primary control? Then the Bitcoin transaction itself might be a security under federal security law. Securities law is broad enough to potentially capture any enterprise where investment for profit is involved.

This is why security law is so complex—many types of transactions might fall under securities regulation, even if the objects or subjects of the regulation do not. Therefore, the land purchase and servicing deals in the Howey case, while not securities in their own right, become part of an overall security by being an investment contract. Similarly, the investment rules and requirements of a Bitcoin exchange might convert those Bitcoin transactions into a security, even though Bitcoins themselves are not securities.

  1. Section 2(a)(1) of the Securities Act of 1933. The entire act is codified at 15 U.S.C. § 77a et seq. []
  2. Section 3(2)(10) of the Securities Exchange Act of 1934. The entire act is codified at 15 U.S.C. § 78a et seq. []
  3. SEC v. W.J. Howey Co., 328 U.S. 293, 298-299 (1946). []
  4. See both § 2(a)(1) of the Securities Act of 1933 and § 3(2)(10) of the Securities Exchange Act of 1934. []
  5. SEC v. Glenn Turner Ent., Inc., 348 F. Supp. 767 (D. Or. 1972). []
  6. SEC v. W.J. Howey Co., 328 U.S. 293, 298-299 (1946). []

42 Comments

  • thanks for an interesting article.

    I disagree with your premise though. Bitcoin is currency. Of course it matters in practical terms whether a court/govt agrees with this. But in the longer run, if Bitcoin or a successor to Bitcoin is significantly successful it will be regarded as a currency whether a court/govt recognises it, or not.

  • I think you misunderstand my premise. My premise is not that Bitcoin cannot be considered a currency; that’s an entirely separate legal issue. Rather, my argument is that Bitcoin is not a security.

    Currencies can be considered securities, but it does not follow that all currencies are securities. The reason most currencies are considered securities is that they possess the elements of securities because they are secured either by commodities (commodity money) or by government fiat (fiat money).

    Securities law is not the only area of law that is problematic for Bitcoin, though. Currency laws might come into play. I intend to examine this area of law in the future, and this post is but a gloss of a paper that will hopefully look more in-depth at how Bitcoin can escape the security label, when it can’t, how currency laws come into play, and other legal issues facing Bitcoin.

  • You keep referring to “federal law” (US). That’s a laugh. Don’t you understand that Bitcoins care not at all for geographical political laws? Bitcoins are backed by it’s peer-to-peer network, it needs no government backing up it’s own fiat inflation ponzi scheme designed to enrich the state, the banks and the federal reserves ultimate owners…

  • I understand that Bitcoins themselves are non-geographic and non-political. However, that doesn’t mean that citizens in the U.S. won’t be subject to federal laws when they trade in Bitcoins.

    While public policy arguments in favor of doing away with government and government currency are interesting, the reality is that just because you believe laws shouldn’t apply does not mean the courts and the police powers of a state will agree.

    I’ve chosen to examine the contours of federal laws regarding securities to see how they might apply to Bitcoins because there existence is a reality for U.S. Bitcoin traders.

  • Reuben Grinberg wrote:

    I enjoyed your article. I hope more lawyers start writing about Bitcoin.

    I wonder if you’ve found any case law regarding distributed enterprises not being considered “common” enterprises under the Howey test. Under Revak, a Second Circuit case, it might be enough that there is “horizontal commonality” among the ostensible investors, defined as “the tying of each individual investor’s fortunes to the fortunes of the other investors by the pooling of assets, usually combined with the pro-rata distribution of profits.” (http://scholar.google.com/scholar_case?case=2208670512106548076).

    Under that definition, I argued in a paper I published on SSRN that the common enterprise element might be met: as the value of bitcoins increase, all bitcoin “investors” share proportionately. See http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1817857.

    Furthermore, although it’s true that bitcoins are initially made with a direct investment of computational power, as you point out, the vast majority of people who own bitcoins probably obtained them by buying them on an exchange.

    The “efforts of another” element is also a grey area, but I think there are some arguments that would allow Bitcoin to meet it, although people argued with me vigorously on the bitcoin forums (see http://forum.bitcoin.org/index.php?topic=6247.0).

    I think the other two prongs weigh even more against bitcoin currently. First, I think most people using bitcoins currently probably do so for investment purposes. Second, they do so in expectation of profits. Empirically, I may be wrong, but my sense from looking at the bitcoin forums (and the bitcoin subreddit) is that far more people are currently using bitcoins to speculate than are to buy and sell goods or services (although there is always a possibility that much of the trade is for drugs on Silk Road or elsewhere, which probably wouldn’t be advertised that much in those forums). Even if I am empirically right, one may argue that the empirics aren’t dispositive: that even though _most_ people invest in bitcoin and do so for profits, that is not sufficient for the securities laws (perhaps in the same way that huge volume of “investment” in dollars for profit in the foreign exchange market does not transform the dollar into a security). Nevertheless, it seems the issue is more grey than black and white.

    Your best argument is probably that bitcoin just doesn’t look like a security (i.e., “does not possess the general characteristics of a security”). However, you argue that that is because there is no monetary investment or managerial control. There is monetary investment, as I’ve argued above. And, although many disagree with me, there is some managerial control by whatever group is in charge of mainline bitcoin development (Gavin Andresen and co, at present). Some have argued, as you have, that bitcoin is meant to have no centralized control. However, changes made by the main bitcoin developers have an important and outsized effect on bitcoin, its userbase, and its economy. Just one example: early on, a hacker figured out how to give himself 184 billion bitcoins. The bitcoin developers responded by changing the code and effectively rolling back the block that contained that transaction. (See https://en.bitcoin.it/wiki/Incidents).

    Regarding currency: do you have any references to anything discussing whether currency is a security, ignoring the §3 (a)(3) 1933 Act exemption (for and § 3(a)(10) 1934 Act exclusion? The best I could find was a 1993 law review article stating that “[I]t is generally acknowledged that currency is not a security” and a 1996 district court case from Ohio stating that “foreign currency” isn’t a security within the ’33 and ’34 acts.

    Furthermore, why do you say that Bitcoin isn’t a “currency” just because it has no government backing? I don’t think the colloquial definition is that narrow. Is there a legal definition in some act that requires government backing?

    In any case, great article and contribution to the bitcoin discussion.

  • Good comment. And yes I read your paper. Keep working on it and I’m sure you’ll get something published. (I’ll race you; we can see who gets done first. You definitely have a head start. I began my look because of a client inquiry.)

    I do think Bitcoin could arguably meet the common enterprise elements of a security, but I do not believe it meets the investment elements. My reading of the case law up to this point makes me think this is fatal to classifying Bitcoins as currency.

    While Bitcoin traders might be doing so for investment purposes, Bitcoins themselves do not meet the investment criteria. Rather, I think the greater danger is that exchanges like Mt.Gox could be viewed, as a whole, to be securities. This would be similar to the analysis of the Howey Court and the Glenn Turner court. The elements being traded (land and service contracts in Howey, tapes and classes in Glenn Turner), are not securities per se. Nevertheless, combined with the enterprises of Howey and Glenn Turner, they became securities. Similarly, Mt.Gox investors and MtGox itself might be subject to securities law in a way similar to the participants in Howey and Glenn Turner.

    So, in short, Bitcoins themselves do not require monetary investment, and therefore fail the securities tests, but Bitcoin exchanges do, and they might be classified as securities.

    As for currencies as a securities, state laws and the laws of other nations sometimes view currencies as securities, even though federal law exempts them. The concept and definitions of securities existed before the 1933 and 1934 securities laws, and those laws didn’t include everyone’s definition of security. The exclusion, in fact, had more to do with organizing which departments handled which issues rather than whether currencies are securities.

    As for Bitcoin not being a currency, it’s not a currency in the traditional sense. It’s more of a symbol of value. It’s semantics; you could argue that currencies are just value symbols. Nevertheless, there are two widely accepted types of currencies: fiat and commodity. Bitcoin doesn’t fit either currency definition.

    I’ll leave the philosophizing over what a currency is and the meaning of value more or less up to the economists and philosophers for now, though. I have my own thoughts, but this post focuses on the fiat and commodity currencies—types Bitcoins do not fit.

  • [...] Under Federal Securities Law June 27, 2011By michaelsuedeGeorgia attorney John William Nelson explains why Bitcoins don’t meet the legal definition of a security under federal securities law; [...]

  • Florian wrote:

    It’s quite simple really. Exchanges might be classifiable as a securities broker, but this would give bitcoin tacit recognition of legality of the government.

    A situation the government, and most of all the central banks want to avoid at all costs whatsoever, since by its nature bitcoins are a direct attack on the central-banking system and fiat currency.

    The worst imaginable outcome for central-banks/government would be if SEC regulation would make the bitcoin markets consumer safe and easy to use.

  • Jordan Greenhall wrote:

    Are you aware of which statutes define currency? Its my understanding that the EU doesn’t (yet?) define linden dollars as a currency, and LD are closer to a currency than BTC. But I’d like to look at the law directly.

    With regard to: “Bitcoins themselves do not require monetary investment, and therefore fail the securities tests, but Bitcoin exchanges do, and they might be classified as securities.”

    The fact that bitcoin can be earned without investing money, by itself, isn’t dispositive. Employees of companies routinely are granted stock for their efforts – but the stock is still considered a security.

    I can imagine a scenario where a court determines that miners are earning bitcoin in a manner similar to an employee earning equity in a common enterprise, and it is the exchange of money for bitcoin that determines its character (not mining).

    “Investment contract” is a sticky concept.

    My money is on BTC coming down as a currency. This could be done either by expanding the concept of “fiat” to no longer necessitate a “government” backing the currency (e.g., a corporation or some other backing could be adequate); by expanding the concept of commodity to accept the use value of cryptography as the commodity (i.e., BTC isn’t backed by a commodity, it *is* a commodity); or simply by adding a third category to the concept (badly needed in the case of social and reputational currencies in any event).

    In any case, it will be the political/power analysis that really determines where this hot potato lands: which regulatory agency wants it the most (and can enforce including it in its turf).

  • I haven’t fully explored Bitcoin as a currency. I’m still reading through the laws regarding currencies. I hope to have more on this in the future.

    As for the comparison between stock options and Bitcoin, it doesn’t quite work. A stock option is a clear security and therefore wouldn’t be run through the investment contract and general securities tests. Stock is secured against the equity interests of the company. Further, stock options represent investments of time in lieu of money and are often structured to reflect this for tax purposes.

    As for the SEC regulating Bitcoin exchanges also legitimizing Bitcoin, you might be right. However, it will also create a barrier of entry into Bitcoin trading—securities law is a pain to sort through.

    I could see Bitcoin being viewed as a commodity or currency. I think it’s important to for Bitcoin advocates to get ahead of this as far as legal policy is concerned, though.

    Making compelling arguments that protect Bitcoin offer the best chance Bitcoin can survive in a way that changes the world. Otherwise, it might go the way of the Liberty Dollar. (Reuben Grinberg discusses the Liberty Dollar in his work about Bitcoin; see the comments above.)

  • Anony Mouse wrote:

    Reuben’s argument that the control of Bitcoin exists with the core developers of bitcoin.org’s client.

    Bitcoin is a protocol, and the software put out by Gavin, Jeff, and the others is just one implementation that follows that protocol.

    As an open protocol there is nothing stopping others from building competing clients. In fact, BitcoinJ from a Google engineer is exactly that, as is FreeCoin from another development team.

    The bug that required the fix was a problem with the one implementation that had not followed the protocol properly.

    I’ll agree with Reuben though in that I don’t understand the difference between the “investment” a miner puts into buying GPUs for mining versus an “investment” from a trader who wire USDs to an exchange.

  • The investment a miner makes in buying GPUs is indirect rather than direct. Securities, by federal definition, look to monetary investments. The development of federal security law was the result of fraud in the stock market before the great crash of 1929, and the danger sought to be reduced was the investment of money assets into securities that were fraudulently created.

    In other words, investing in a GPU to mine Bitcoins is an investment, but not of the type contemplated generally by securities law. However, securities law is flexible and courts might be willing to extend their interpretations of securities to include this type of investment. That’s one reason why I think it would be best to find an alternative view of Bitcoins and make strong legal arguments in that other view’s favor. (Grinberg makes the argument that Bitcoins should be viewed as commodities, for example.)

  • [...] William Nelson wrote a great article about Bitcoin and how current federal securities laws do not apply to it. There are questions as to [...]

  • Thank you for the very informative post, I have been wondering about the details of securities law for a while.

    Given the definitions above, I think a bitcoins could be labeled securities.

    Bitcoin was created to have a deflationary model with the express intent of raising the value of bitcoins over time. This fact is advertised, and leads to an expectation of profit from holding bitcoins.

    As for the third-party control and oversite of the enterprise: does the third-party controlling the enterprise have to be a single legal entity? Could the third-party be the collective nodes of the network running together?

  • I think these are good points. The third party controlling the enterprise does not, in my reading of the law, need to be a single legal entity. Therefore the nodes might be viewed as a collective for the third-party analysis. However, as I’ve stated in comments, I think the key is the investment of money. A Bitcoin itself doesn’t meet this investment requirement, although I believe the various Bitcoin exchanges might.

    You raise good points about the deflationary design and its purpose being advertised, though. Courts have shown willingness to use their flexibility in interpreting securities laws by taking stated purposes and advertised ideas and applying them to the intent of the various securities laws. In short, this might be enough for courts to find Bitcoins to be a type of security.

  • You write “No entity or assets back up Bitcoin value. Bitcoin value is entirely virtual—a Bitcoin is only worth what another person thinks its worth.”

    Which leads me to pose this question: How are bitcoins different from Beanie Babies, which happen share similar characteristics such as having a limited supply (albeit artificially imposed), implied value backed neither by fiat nor commodity, and significant trading activities on unregulated exchanges (i.e. eBay)?

  • Bitcoins are not too terribly different from Beanie Babies, especially during their craze. This is the path I see as an argument for Bitcoins as different from securities or currency. There is potentially an argument that Beanie Babies and Bitcoins, working in this way, become commodities. I’ll have to read up more on commodities, however, to fully explore those ideas.

  • Jordan Greenhall wrote:

    John, you raise a key point that bitcoin advocates need to get ahead of the question. So, lets work backwards: which regime (currency, commodity, security) is the most favorable to what bitcoin wants to do? I think I can make a strong legal argument for each of these – and equally strong that it is none of them.

    FWIW – in the model I was swinging at above, I was talking about employees being issued stock – not stock options. Now, while clearly stock is secured against the “equity interests of the company” one can argue pretty persuasively that bitcoin is secured against the “equity interests” of the distributed company – in the sense of having a pro-rata claim on the total value represented by 100% of shares (nee “coin) outstanding. The work is “providing a block hashing and hash confirmation network” for which work miners are given equity in exchange for their work and resources. They can then turn around and sell this equity to investors to convert it into cash.

    There are a number of problems implicit in this knot.

    1. Currencies (of the fiat variety) can be easily construed as securities in a GDP. If this is the case then when one purchases a security, one is exchanging a currency. Both concepts collapse with risk and liquidity being the only variables.

    2. The open and decentralized nature of the network. This removes the “state” behind a fiat currency, but equally can remove the “3rd party control of the enterprise” behind the security.

    3. The virtual nature of the bitcoin themselves. This makes them “feel” more like fiat currencies or contracts (securities), and requires a twist of understanding to see them as commodities.

  • I think these are great points Mr. Greenhall. As I’ve stated, I’m still exploring the contours of Bitcoin legal issues. There are a number—some I might never really touch on. (For example: Tax issues.)

    The discussions are interesting. Most of my work to date has involved ways technology alters, or does not alter, the way we apply laws. I’ve increasingly found economics interesting, and I work a lot with theories about property. You can see my selected works on SSRN here: http://ssrn.com/author=937847

    One of the most intriguing things about Bitcoins, however, is that they do not fit neatly into any of the classical boxes of currency, commodity, or security. They mimic elements of each, but not enough to confidently declare them one type or the other.

    I think this speaks to two things: (1) the uniqueness of the new technology represented by Bitcoin and (2) the arbitrariness of these various types of investment vehicles.

  • Thank you for your detailed examination of Bitcoin. The Bitcoin economy is still in its infancy and is in desperate need of review by seasoned legal professionals.

    The question of whether or not Bitcoin is a currency will be hotly debated in courts across the Globe for years to come. It’s ultimately up to the general public to continue to run the Bitcoin network and that’s what makes it so incredible.

    Bitcoin is the ultimate faith-based currency, based on faith in encryption and mathematics. The more bright and outstanding people examine the system, the better it will be.

  • Thelen wrote:

    You say “However, that doesn’t mean that citizens in the U.S. won’t be subject to federal laws when they trade in Bitcoins.”

    what law is that actually from? What if the bitcoin trading happens outside of the US?

  • One example is tax law. Just because your assets are overseas does not mean you cannot be taxed by the federal government on your realization of income from trades. Sure, there are always ways to try and shield assets from the U.S. government, but ultimately you’re vulnerable if you’re in the U.S.

    Similarly, if an entity outside the U.S. wants to do business in the U.S. then it might subject itself to federal laws and regulations. An example is the release of account information by Swiss banks—something that went against substantial Swiss banking custom and practice. Yet, the banks that did it were forced to by the U.S. government because they had business interests of branches in the U.S.

    Anytime you have assets in a jurisdiction then those assets are vulnerable to that jurisdiction’s laws. Similarly, anytime your actions in one jurisdiction affect assets in another jurisdiction, your actions may be subject to the first jurisdictions laws and the second jurisdictions laws.

    It can get complicated, and the legal thickets built up around international law are nothing to sneeze at. There is a reason why competent international law attorneys make big money.

  • It seems to me that BitCoins are backed by the trust that each transaction will be recorded, validated and be held legitimate. In essence by the understanding that it’s value will be maintained. I don’t think in this respect there is any promise of equivalence. You choose to use BitCoins because their existence will be lasting. I think it’s important that any reference to outside value is merely by later negotiation and not ever implied in the issuance of the BitCoin. In fact, it’s wrong headed that anyone should be buying/selling the coins as investment/speculation, much the same that it’s silly for one to collect Bean Babies as an investment. But people do, and I don’t think the manufacturer is held liable for that. For Bitcoins to be treated as a currency they need to have an independence such that their value is not merely seen as an equivalence to USD (or other currency) much how a nation’s currency has value for it’s citizens regardless of how it trades to another one. For BitCoins this can only be attained by Net Citizens holding some value in trading them without reference to other measures – something at this time very hard to imagine. Under they have proven they have inherent value (the trust of longevity) people are just playing musical chairs.

  • [...] Lex Technologia – Why Bitcoin Isn’t A Security Under Federal Securities Law: [...]

  • From the article: “The court in Glenn Turner borrowed a California test for determining whether something classified as a security—the risk capital test. The test looks at whether the investor subjects his money to the risk of an enterprise over which he exercises no managerial control. The idea behind the test is that investments of this type are the basic economic reality of a security transaction.”

    If I invested in cows by buying some – I have no managerial control over the risk of the cow industry. My investment in the cow is at risk due to the fluctuating free market prices of cows. Is cows a security by this definition?

  • Cows are a commodity. Like coin. For example, pork barrel futures are futures in pig product traded on a commodities market.

  • From the article: “So Bitcoin isn’t a currency, and it isn’t a security, then what is it?
    This is the million-dollar question. Bitcoins are not currency and are not securities. Yet, they have the ability to represent value. In some ways they are pure representations of value—their value is not based on relations to outside elements, such as commodities or government regulations, but their value is rather based on what one person is willing to give another for the Bitcoin transfer.”

    Bitcoin has a trading value correlated to its production value – this fits the definition of a commodity and/or electronic digital good.

  • From the article: “So Bitcoin ‘investors’ don’t need to worry about securities regulations or laws?
    Bitcoin investors should absolutely worry about securities laws. The securities definitions outlined above might not apply to Bitcoins themselves, but they are flexible enough to apply to Bitcoin exchanges that convert a Bitcoin to real-world currencies. Securities law might even apply to exchanges converting Bitcoin to other virtual currencies such as Lindens.”

    Instead of calling a Bitcoin place of trade an exchange it could just as well have been called the Bitcoin Market Square – physical delivery takes place all the time instantaneously, and ownership of electronic goods (Bitcoin) is transferred at this market place. Is a local physical goods flea market subject to securities regulations? Should a digital goods market place of gathering be given equality of market freedom in ownership and transactibility?

  • Bitcoin as a digital good, with unique properties, can be utilized as a currency (medium of exchange) by a certain subgroup (internet/mobile phone users, etc.) – it makes it a commodity currency. It can be compared in the same sense as wheat can be exchanged for a neighbouring farmer’s services and he can exchange it again for another neighbouring farmers sheep. This makes the wheat a commodity currency amongst farmers. Neither wheat or bitcoins would be a script/promissory note currency as it has a trade value roughly equal to its production cost – making it a commodity currency ( / medium of exchange).

    Apart from transactability, bitcoin would have numerous other uses in the cryptographic field of secure internet communication or online identification.

    Identification for example:
    When someone sends a very small amount of bitcoin to a bitcoin address you use to login and claim that you are owning – they can deny you login access until you have spent the balance on the bitcoin address – thus proving ownership of the private key to this address.

    Secure communication for example:
    You may share your wallet.dat file with someone in person. Whenever you spent some bitcoins to any of the shared addresses, the random number of spent bitcoins in combination with the private keys in the shared wallet.dat file can become very secure one-time encryption keys.

  • From the article: “You raise good points about the deflationary design and its purpose being advertised, though. Courts have shown willingness to use their flexibility in interpreting securities laws by taking stated purposes and advertised ideas and applying them to the intent of the various securities laws. In short, this might be enough for courts to find Bitcoins to be a type of security.”

    Bitcoin supply are actually inflated – roughly 50 bitcoins are produced (at a cost) every 10 minutes or so.

    Handbag supplies are inflated – roughly ?? handbags are produced (at a cost) every ?? minutes or so.

    Are handbags and Bitcoins securities / script currencies / contracts?? or commodities produced at a cost in time, human effort and resources. Could a bitcoin act as a commodity currency on the internet? Could a handbag ( / other fashion items) act as a commodity currency in a college fraternity?

    Bitcoins and handbags have production costs and have other uses apart from being used as commodity currency to be traded for other favours/services/goods.

    Bitcoins have cryptographic all sorts of cryptographic applications and handbags have all sorts of fashion (accessory/utility) applications.

  • From the comments: “Bitcoins are not too terribly different from Beanie Babies, especially during their craze. This is the path I see as an argument for Bitcoins as different from securities or currency. There is potentially an argument that Beanie Babies and Bitcoins, working in this way, become commodities. I’ll have to read up more on commodities, however, to fully explore those ideas.”

    Bitcoin has commodity value because each one is unique (and is owned by the holder of the private key) and there is a limited supply of it.

    Take houses for example – what would be the simplest ownership test:

    Houses are built in the public domain space, but has private ownership allocated to them.

    If you walk down the street and see someone entering a locked house without a key – is he the owner of the house? Now if he has the private key to the house – you probably do not first check the deeds registry to establish probable ownership.

    Now if you surf down the net and see someone trying to spent the value attributed to the public address in the bitcoin public blockchain domain without the corresponding private bitcoin key (contained in the owned wallet.dat) – is he the owner of the value attributed securely (by a costly capital intensive network of computers, communication network, and human effort) to the public bitcoin address? Now if he has the private key (bitcoin wallet.dat) for the public bitcoin blockchain address, he probably is the owner of the public bitcoin blockchain address. (That is if he did not commit some crime by stealing it or making an unauthorised copy of it. Because counterfeiting bruteforce attacks on bitcoin is not worthwhile – because costs involved in counterfeiting would equal bitcoin mining – another reason for it to have representative value in its own properties).

    As the bitcoin value adjusts – bitcoin production difficulty (cost of counterfeiting) adjusts as well in a free market system as more miners add costly processing power to produce even more secure bitcoins. So the bitcoin trade value is a valuation of the bitcoin networks security as well as a reflecion of confidence in demand for how goods/services/other are being offered in demand for exchange with bitcoins.

  • From the comments: “I think these are great points Mr. Greenhall. As I’ve stated, I’m still exploring the contours of Bitcoin legal issues. There are a number—some I might never really touch on. (For example: Tax issues.)”

    A press article stated that most Commonwealth countries like Britain and Australia would treat bitcoins exchanged for goods/services/other in the same manner as barter trade is treated. Yes, it gets taxed, probably calculated as a gain in the difference between acquiring and parting values expressed in fiat currency – kind of like capital gains tax it looks like. So if you acquired 1 gallon of gasoline, preserved it, and bartered it for another exact same 1 gallon of gasonline three years later, you will pay tax on the difference (due to inflation) in fiat currency value of the 1 liter of gasoline, calculated. So yes, in barter trade / capital swop transactions you pay tax on the inflation (normally a result of fiat currency monetary base expansion and other factors controlled by authorities) it looks like.

  • Seneca wrote:

    I’d like to reply to Reuben’s most interesting post and, hopefully, make an important point about why the legal status of Bitcoin is more ramified than many people seem to think.

    Consider this thought experiment. Suppose that there is a reputation network that uses a Web of Trust, except that the WOT here isn’t about mapping public keys to identities, but rather about providing a metric of trust in counter-party performance (say, the network is for trading goods between anonymous parties), or cooperative behaviour (say, it’s a virtual community or game). Keys with a valuable property like mean shortest distance (MSD) would be valuable, and one can imagine participants going in and out of the network trading private keys a prices proportional to their MSD.

    The point of this hypothetical example is that a key can have tradable value when it is part of a WOT that is designed for certain purposes.

    Is this network a security? On Reuben’s reasoning of Howey, I see no reason why it would not be so. It is a “common enterprise”. The MSD of a key is analogous to the balance of a Bitcoin account. The ratio of two key’s MSD’s is their relative price, and the $ price of a key is analogous to the USD market value of a Bitcoin account. And it’s not difficult to see the ships of all the network’s participants rising in USD numeraire if the network becomes more popular, just like the owners of Bitcoins.

    The “efforts of another” aspect is there too, of course, as some key programmers behind a source forge project will be implementing the
    most commonly used software for the network’s protocol. And the “invests his money” aspect of Howey is there too, as most new entrants
    of the system will prefer to buy favourable keys with USD (analogue: Bitcoin exchanges) instead of going through the time-consuming process of building a reputation from scratch (analogue: Bitcoin miners).

    So this network is an investment contract, if we go with Reuben’s reasoning.

    PKE combined with certain WOT models make valuable scarcity out of something digital. I think that Bitcoin supporters are making a strategic mistake by enumerating reasons for why Bitcoin is not a security. The brief should instead be: if Bitcoin is a security, so are allot of other things.

    This is not just an argument, it is also a sound conjecture. Areas like securities law that grant allot of prosecutorial power to Federal agencies have, empirically, a tendency to expand their scope. It is only a matter of time that a legal precedent like Bitcoin-is-a-security becomes the thin wedge that opens up regulation of allot of other crypto-based networks.

    So, to repeat, the brief should be: if Bitcoin is a security, so are allot of other things. It is a reductio ad absurdum to a great many people who couldn’t care less about the fate of Bitcoin. So sharpen this argument and make others care. There is allot more at stake here than the future of one crypto currency experiment.

  • [...] quote one blogger, “bitcoin value is entirely virtual—a Bitcoin is only worth what another person thinks its [...]

  • I’m not sure you can say “Bitcoins were intended to increase in value over time” because of the way they were issued.

    It’d be fairer to say Bitcoin was designed to have a stable monetary base, and Satoshi was faced with the problem of how to issue them. At the start of the system they were worth literally ~nothing and success was NOT guaranteed, not even close, in fact for the first two years of operation Bitcoins hardly had any trade or value at all.

    So IMHO issuing coins in a decreasing manner was clearly designed to try and keep the value stable … assuming growth of interest in the system over the years, the way to balance out the value of the new coinage was to reduce it, until there was none left. The chosen algorithm seems like a good way to achieve that given Satoshis inability to see the future.

  • [...] issue was touched on in my first Bitcoin post—a trademark might lend credence to the argument that a Bitcoin is a security because it operates [...]

  • [...] is to answer,” he said. He began to poll the audience. Is Bitcoin a currency? A commodity? A security? Hands went up and down with each term, and the only time the room agreed affirmatively was when [...]

  • [...] soron következ? írásában, a “Bitcoin Isn’t a Security” (= A bitcoin nem értékpapír) kifejti azt is, hogy önmagában a bitcoin nem számít [...]

  • Reuben wrote an interesting part about the Iraqi Swiss Dinar. Here two questions …

    Question 1: US citizen A buys a car from another US citizen B in the US. Since B will move to Italy, they both agree that the price should be 5.000 Euro in Cash. I assume that the transaction is legal. If the answer is yes …

    Question 2: US citizen A bought a car from another US citizen B in the US in 1995. Since B was moving to Iraq, they both agreed that the price should be 50.000 Iraqi Swiss Dinar in Cash. Was that transaction legal too? The currency was not backed by any government during that time.

    (I am only interested in the Federal Security Law aspect and not in any special Gulf war aspect that might have applied during that time)

  • Bitcoin is a security in my opinion, however, I have chosen to attack the lower handing fruit frist, whether the US can regulate bitcoin brokers. I will address whether bitcoin is security in my next post. I welcome your feedback.

    http://blog.bitcointitan.com/post/16271054719/can-the-us-regulate-bitcoin-brokers

  • How the US can regulate bitcoin brokers depends on whether bitcoins are securities. If they are, then the US can regulate under the Securities Act. If not, they must have another avenue to regulate.

    I look forward to reading your analysis of bitcoin as a security. I don’t see it, but I am certainly willing to look at it again.

  • Why do people think Bitcoin is illegal?…

    There are a lot of people who do not like the concept of Bitcoin as it lessens the power of the state.  These same type of people are the majority in the print, online and broadcast media.  The media isn’t going to describe Bitcoin’s strong points (l…

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