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Alternative Currency; Is Regulation in Store?

Alternative Currency; Is Regulation in Store?

June 18, 2014
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" Alt-coins may appeal to both operators and end users, particularly since other alternative payment systems like PayPal and WePay have turned their back on the adult industry. "

Hardly a day goes by without some headline referring to developments in legal status or use of alternative currency such as bitcoin. At times it seems the virtual currency is nearly taking over the Internet. How, though, will this new trend affect the adult entertainment industry? Although the overall viability of digital currency is, at best, unclear, this hasn’t stopped several large adult website operators from embracing crypto-currency such as bitcoin, and perhaps, in the process, changing the face of online payment processing for the foreseeable future. Naturally, the adult Internet industry has begun to question the legal implications of permitting users to pay for services using alternative currencies.

Bitcoin may be the most well-known alternative currency, but it’s certainly not the only non-traditional currency on the market. The concept of virtual currency is as old as the Internet, itself. However, most efforts to launch a purely digital form of money have failed, including the infamous Beenz.com, which CNET counted as one of the greatest disasters of the dotcom bubble burst. However, since 2009, several “altcoins” or “cryptocurrencies” as they are known, have developed a second wind, and have sprung up across the Internet. In fact, there are websites created specifically to keep track of the market capitalization of the various altcoins, like CoinMarketCap.com. The major players include bitcoin, litecoin, peercoin and dogecoin. The existence of several different forms of alternative currency forces the legal, political and social conversations surrounding altcoins to become more about the overall viability of non-traditional currency, rather than about the likelihood of bitcoin’s survival, specifically.

While bitcoin recently faced some significant head winds, with the closure of the large Mt. Gox exchange, and the initiation of various criminal prosecutions associated with the payment method, the virtual currency concept shows no sign of slowing. The legal concerns surrounding bitcoin have not stopped investment firms from sinking significant dollars into the virtual currency. For example, Fortress Investment Group, a large, publicly traded hedge fund, along with a couple of other private investors, are buying a large stake in Pantara Bitcoin Partners. The partnership is helping push bitcoin into the financial mainstream, as investors still see value in the currency. The same thing is happening across the globe, particularly in places like Hong Kong.

Although altcoins such as bitcoin are presently unregulated by the U.S. government, that status may soon change. One federal court legal decision found that bitcoin was both a form of “money” and a “security”, subject to securities regulations. Notably, at a recent Senate committee hearing, the U.S. Department of Justice determined that bitcoin could be considered a “legal means of exchange.” Although Federal Reserve chairman Ben Bernanke also weighed in, saying the Federal Reserve “does not necessarily have authority to directly supervise or regulate” virtual currencies, legal precedent is still evolving on that issue. While the IRS has taken the position that bitcoin is “property” and not “currency,” thus forcing certain tax reporting obligations, that determination is getting some push back even from Congress, which is considering a bill to reverse the decision. The IRS position has been criticized as a creating a bookkeeping nightmare, and a “fiasco.”

Despite the uncertain status of virtual currency, the adult industry has largely embraced the concept with more sites accepting various altcoins each week. The first major player to announce acceptance of bitcoin was Porn.com, but others soon followed suit like Dominic Ford, Playboy, Chaturbate.com, and the Score Group. Some sites also announced that they would begin accepting other altcoins. Met-Art, for example, now accepts Litecoin, and adult film star Angela White accepts the light-hearted Dogecoin. There’s even a “sex coin” that is accepted on a virtual, 3D adult site. Of course, some have bucked the trend, such as ZTOD.com announcing that it will refuse to accept “make believe money” like bitcoin, due to its volatility. The wisdom of rejecting this increasingly popular form of payment, with little or no transaction fees, remains to be seen. Initial reports suggest that bitcoin transactions can account for a significant percentage of customer payments to adult sites, once permitted. Additionally, altcoins may appeal to both operators and end users, particularly since other alternative payment systems like PayPal and WePay have turned their back on the adult industry.

Unfortunately, bitcoin and other altcoins have one major drawback; their historical association with illegal trade. Part of the negative press around bitcoin since its inception has been its involvement with the underground website Silk Road, a place to buy and sell illegal drugs and other dubious merchandise. Of course, cash has been used to purchase illegal products and services since its creation; however the media has focused on bitcoin as the primary suspect in these recent enterprises, primarily because of its novelty and potential for anonymous transactions. The negative press doesn’t seem to have stopped the forward march of virtual currency however: Very recently, the first bitcoin ATM was unveiled on Capitol Hill.

So, how should adult industry players respond to the proliferation of bitcoin and other alternative currencies? The important first step is to consider the legal implications of accepting such payments. As with any novel financial instrument, legal risks exist until the uncertainties are resolved by regulators and courts.

Adult website operators should consider the following points when evaluating the potential adoption of alternative currency as a recognized payment method:

Age and Identity Verification:

Remember that alternative currency is no substitute for proper “Know Your Customer” (“KYC”) protocols. Altcoins permit anonymous payments. That’s part of the attraction for some, but can cause concerns when the identity of the customer becomes important. When using alternative currencies, a website operator cannot rely on the payment method for verification of age or identity, as some operators have done with credit cards. If accepting altcoins as payment, some other form of KYC procedures should be put in place for these customers to ensure, first of all, that an adult site is dealing with an adult customer, and secondly that the customer has not been banned or is otherwise not eligible to receive the site’s products or services. Some sites prohibit users from certain jurisdictions from accessing their services — enforcement of this sort of exclusion is potentially compromised by acceptance of anonymous payment transactions in the absence of alternate customer registration and verification methods.

Refund Policies:

When accepting altcoins, it is important to implement clear refund policies. Will customers be refunded in altcoins if they pay in altcoins? Will all payments immediately be converted to cash value? Customer disclosure is key as with all issues involving trade practices.

Cashing Out:

This one is simple: Cash out frequently. The volatility of alt-currency can result in spikes; both up and down. The more often a business cashes out altcoin payments for real money, the lower its risk of loss through value fluctuations. Payment services like gocoin.com can facilitate the immediate exchange of altcoins for cash, and mitigate any valuation concerns.

Tax Issues:

Pay all required taxes, and stay current on how altcoins are being treated for accounting purposes. This is all new, and the details are still being sorted out at the state and federal levels. Predictably, the IRS is making use of altcoins complicated, so get professional tax advice on how payments should be treated for accounting purposes. Take a conservative approach, and do not use altcoins to avoid paying taxes that would otherwise be due.

Risk Mitigation:

Recognize that there is some risk involved in any novel business model or payment method. Altcoins are not backed by any government, and could become worthless quickly. But by following basic security standards, and keeping a watchful eye on the value of your accepted payment methods, permitting users to pay for adult content in altcoins opens up an entirely new market that either cannot, or will not, use traditional payment methods to access erotic materials.

No matter how unstable the market, it is clear that bitcoin and other altcoins are here to stay. For adult websites that may wish to capitalize on this trend, it is important to keep abreast of the legal implications regarding the acceptance of virtual currencies as a form of payment. Implementation of some new customer identification, payment, refund and cash-out protocols could mean the difference between an increase in profitability or a legal nightmare.

Lawrence G. Walters heads up Walters Law Group and has advocated for the interests of the adult entertainment industry for more than 20 years. He has particular expertise in the field of virtual currency and has represented bitcoin exchanges and other service providers since the launch of the virtual currency in 2009. Nothing in this article is intended as legal advice. Walters can be reached at (800) 530-8137 or larry@firstamendment.com.


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