Are you familiar with Bitcoin? It’s the oldest and most popular of dozens of digital currencies (called “cryptocurrencies”) now in existence. Created in 2009, bitcoin can be bought and sold as an investment or be used to purchase goods and services worldwide. In fact, one bitcoin directory lists nearly 6,000 merchants that accept bitcoin as payment.
Unlike normal currencies, however, bitcoin is not backed or controlled by any group or government, and it’s almost completely unregulated. It has a number of other interesting characteristics, many of which involve risk: Transactions are irreversible (in other words, no refunds). Its value has fluctuated wildly. It’s vulnerable to accidental deletions, computer crashes and hackers. Once lost or stolen, it’s virtually unrecoverable. (This last fact caused China to ban it as a currency after one of the world’s largest bitcoin exchanges announced the electronic theft of bitcoins valued at over $500 million.)
If bitcoin is that risky, you may wonder, why are millions of merchants, consumers and investors getting involved? (Even PayPal now allows merchants to accept bitcoin as payment.) Simply put, because the benefits outweigh the risks – at least in the eyes of some.
Bitcoin has many appealing features. It’s very easy to open an account and to quickly transfer money, even internationally, without incurring transaction fees. Bitcoin is unaffected by monetary policy and is beyond the reach of governmental seizure. The IRS treats bitcoin as property, rather than currency, which means that bitcoins held for more than a year will receive tax-favored long-term capital gains treatment upon their sale. Further, the charitable contribution of those same bitcoins will result in a long-term capital gains deduction.
Most attractively, perhaps, bitcoin allows transactions to take place anonymously. Buyers and sellers never have to disclose their names or other personal information, and bitcoins are stored in virtual “wallets” that are accessible only by electronic “keys.” (Sadly, this same anonymity has made bitcoin the preferred currency of criminals like drug traffickers, assassins and child pornographers.)
Although still in its infancy, bitcoin is here to stay. What it will look like down the road, however, is anybody’s guess. We can certainly expect more regulation. We can also expect any number of innovations and problems. Some believe that we can even expect cryptocurrency to replace traditional currency. Whatever happens, it’s going to be an interesting ride!