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12. Cryptocurrency – Taxation

At the moment Bitcoin may not be on the Tax Office’s radar in your country. Don’t bank on it remaining that way too long. Bitcoin is still experimental and new improvements are happening all the time.

As it increases it’s user base, it’s only a matter of time before all Tax Offices have legislation to enforce taxes of Bitcoin transactions. Remember all transactions are recorded and displayed openly, right back to day one. That could create a hefty tax bill further down the track. I’d think about paying the correct taxes today.

A handy trick for any business is to extract an amount to be withheld for taxes but take 20% of it and invest it in p2p funding finance. By the time the tax is due, half of the funds will be paid back and if the business cannor meet the other 10%, a payment scheme arranged with the Tax office will at worst cost half the persentage return you’ll earn on the crowd funding finance. We’ll be looking more into p2p funding after the crypto-currency topic.

The last time I searched the news, the major Australian banks were looking at adopting Blockchain security and the Commonwealth Bank was reviewing trading in Bitcoin. In Europe, several big banks are currently setting up for Bitcoin trading. It’s important to remember cybercurrencies effective shut the banks out, so the fact that banks are no longer refusing to acknowledge it, means it’s only a matter of time before it is accepted. Once a few major banks accept cybercurrency trading, it will open a floodgate of competition. Even if they try to invent their own altcurrency, it will still have to be compatible with Bitcoin, which is already well established.

Just a question that might be worth looking into; what would happen if you convert crypto-currency into a high value currency (e.g. Sterling or US dollars) then bring it back home to Australia or New Zealand when the exchange rates are favorable? The increase could offset some of the tax, if the transfer fees are not too high.

9. Cryptocurrency – Transactions

It is important to note that Bitcoin transactions are not reversible. A purchase made with Bitcoin is not like one made with PayPal. Make sure you know who you are dealing with. The only way to get your “money” back is if the other party agrees to refund it. There are some safeguards in the Blockchain. It can detect typos and will not let you send Bitcoin to an invalid address. It’s still early days in crypto currency so, it’s highly probable that in the near future, more checks and balances will evolve.

Transactions in Bitcoin don’t start out as irreversible. They generate an identicle code at both the seller and the buyer, using a formula. For the transaction to take place both codes have to be idendtical. A rating is also transmitted that indicates the trustworthiness of the two parties. The codes are then used to log a transaction key which is used to label and store the transaction. As other transactions are processed, they are grouped together to form a block of transactions. This block is added to the ledger, which records every transaction, right back to day 1 when the first Bitcoin was formed. These may take anywhere from a few seconds to 90 minutes. Transactions that are small, are unusual in some way or pay a too low fee, take longer to process. The trust table is shown below with the codes and their meanings.

So you are aware of the risk, a confirmation score is sent back with each transaction. These scores are based on the history of the user you are dealing with, similar to a rating for buyers and sellers on an auction website. Below is the table of confirmations and their translations. They vary somewhat depending on the type of wallet you use.

Confirmations Lightweight wallets Bitcoin Core
0 Only safe if you trust the person paying you
1 Somewhat reliable Mostly reliable
3 Mostly reliable Highly reliable
6 Minimum recommendation for high-value bitcoin transfers
30 Recommendation during emergencies to allow human intervention

 

Bitcoin has a multi signature capability for businesses. In cases where several people need to have access to the business funds, Bitcoin has the ability to allow multiple signatures so the transaction does not validate until say 3 of the 5 trustees have signed.

5. Cryptocurrency – Volatile value

Today, only some companies will accept Bitcoin , usually via a third party, but will then immediately convert it into their own trusted currency. The problem is that the value of Bitcoins is volatile – its price relative to other financial assets varies a lot. So, as an asset, a Bitcoin is risky to hold — without warning, its value might go up, or down.
Based on historical values, Bitcoin has been twice as volatile as gold, and three-to-four times as volatile as the major currencies.
But the brilliant thing about Bitcoin is what underlies it — the block chain, the unchangeable register of every Bitcoin transaction that has ever been carried out, and that anybody can have a copy of.

Chart plotting Bitcoin's value from July 2012 to July 2016
The price of a Bitcoin has varied wildly and is far more volatile than gold or silver.

Initially there were clones of Bitcoin, trying to become the one and only cryptocurrency and this destabilised the market, creating bad press. Hackers managed to steal stashes of Bitcoins from people who had poor digital security. All these things were teething problems as the IT community got their head around the digital currency. The negative press along with public scepticism caused massive fluctuations in Bitcoin values. If there is one certainty in cryptocurrency, it is it will become the way we transact in the future and Bitcoin is looking like the favourite currency.

4. Bitcoins for pizza

Laszlo Hanyecz, a programmer, in Florida USA conducted the first real world Bitcoin transaction. He had mined’ 10,000 Bitcoins and wanted to test their real worth in the real world. He decided to use them to buy a pizza but his local pizza store did not accept Bitcoins. At that time, no commercial institution accepted Bitcoins, they were like Monopoly money.
On the 18th of May, 2010, Laszlo posted a request on the Bitcoin forum asking if anybody could use his 10,000 Bitcoins (then worth about US$41) to buy two large pizzas (then costing about US$25).

A hand holding a piece of pizza pie.
Probably the world’s most expensive pizza now but it verified Bitcoin’s real value for the first time.

As Laszlo said, ” … what I’m aiming for is getting food delivered in exchange for Bitcoins where I don’t have to order or prepare it myself, kind of like ordering a ‘breakfast platter’ at a hotel or something, they just bring you something to eat and you’re happy.”
It was an experiment as Laszlo put it, “I just think it would be interesting if I could say that I paid for a pizza in Bitcoins.”
After a few days, he was contacted by Jeremy Sturdivant, who was then 18 years old, and also living in the USA. After a bit of back-and-forth, the deal was finalised. Laszlo sent the 10,000 Bitcoins to Jeremy, who contacted a pizza store in Jackson, Florida, which delivered the two pizzas.
On May 22, 2010, Laszlo joyfully posted, “I just want to report that I successfully traded 10,000 Bitcoins for pizza.”
By August 4 that year, the value of the Bitcoins had risen to US$600, and by 29 November had reached US$2,600. Laszlo said, “I don’t feel bad about it. The pizza was really good.” By November 2013, those 10,000 Bitcoins were worth US$12.4 million. Lazlo broke two world records; the first Bitcoin trade in the real world and the world’s most expensive pizza.
To commemorate that first commercial Bitcoin transaction, May 22 is now called Bitcoin Pizza Day.

2. Cryptocurrency – a natural evolution

Civilisation has, always run on the Law of Supply and Demand. When we needed some way of storing value in some trasportible form, every culture has used something rare. In ancient Western civilisations it was in the form of metals. In polynesian culture it was rare shells. When nations began to trade with each nations, they faced the problem that rare and precious in one land, was plentiful in another. Because metal was rare, required mining, smelting, and expertise to work it, it was the logical material to represent value. Fashioned into small discs for ease of handling, it became coinage over time. Over time, with attempts at counterfeit and corrosion, gold and silver proved to be the best metals. They were rare, did not corrode, were valuable in every kingdom, and required enough labour and skill to produce coins, that they were difficult to counterfeit. They could easily be worked into intricate designs that were difficult to copy.

However the transport of this precious metal posed a problem. Not only was it heavy and bulky in large quantities, but it was a target for robberies too. Transporting it required guards and specially constructed vehicles, all of which added extra costs. The solution was to write an IOU or a cheque as it eventually became known. Eventually though, the treasure had to be delivered to balance the books.

The cheque system was too cumbersome for traders who had to keep records of who’s cheques cancelled out each other. The whole system relied on the buyer , seller and the trader who transferred the goods all keeping honest matching records.
The solution was fiat money – these were peices of paper , parchment, vellum or silk, that the rulers agreed were equivalent to a certain amount of precious metal. They had to be decorated with designs that were difficult to copy and harsh laws were introduced to punish any who tried. We still use this system today. The English Pound is a relic from the early days of fiat currency. It used to have a sentence in fine print saying “The Royal Treasusry agrees to pay the bearer one pound of gold”, hence the name, “Pound”. Of course as gold prices soared, the English had to replace these notes with others without the promise of gold.

1814 Gloucester Pound Note
An 1814 One Pound note issued by the Gloucester Old Bank
(Photo courtesy of Wikimedia Commons)

Over time as people travelled more, especially with the advent of air travel, it became pointless to ship large quantities of gold around to balance international payments. We accepted digital data recording transactions. this evolved into memory chips in the plastic cards we use today

In each evolution we moved further away from the physical valuable item into an idea, a promise of value. This modern day digital system still requires a value adjustment when the transaction moves from one nation to another, a concept we call foreign exchange. Early in the 20th century some forward thinkers started to question why? If it’s digital information being transferred, it’s the same wherever it goes. Why not use a common currency?

It’s great idea in theory but you are competing with patriotic pride. The USA had always had the benchmark currency because it has the world’s largest stable economy. But China has the most transactions and Russia resents anything American. When it comes to converting their old currencies to the universal one, who decides on the value?

Europe debated it for 100 years and finally came up with the Euro but that’s as far as it went.

Fiat money relies solely on confidence in it’s governments for it’s values. We didn’t realise just how fragile these values were until 2008 when Lehman Brothers, the fourth largest investment bank in the USA, collapsed, sparking the whole infamous global financial crisis. Suddenly we weren’t as confident in the US economy any more. To maintain that level of confidence, the US government poured billions of dollars in, to prop up the confidence in their currency. Huge fees were secretely vanishing into bankers pockets in the form of fake performance bonuses and inflated salaries, that should have been going back to the people depositing their savings.

This created an interest amongst some people, especially in information technology field, who felt it was time for data to become a cryptocurrency, a virtual currency that was beyond the manipulation of the banks and governments. If every transaction was published openly, for all to see, who needed bankers to act as policemen?

1. Cryptocurrency

Crypto-currency, cyber-money or virtual currency is something we all need to get our head around. To many people it’s a Geek thing that they don’t understand and is probably shady, at best one of those grey areas in tax law that will soon be closed and it will all come crashing down.
In fact if you are in business, it’s something you will have to come to terms with eventually, like it or not, because it’s another step in the evolution of finance and sooner or later will be the way you trade.
In the next articles we’ll look at the conceptual formation of crypto-currency, how to use it (both the benefits and the pitfalls) , how to convert it to fiat money (the folding stuff we use today) and how to get it.

Bitcoins
Bitcoin

Because Bitcoin was the original cryptocurrency, we’ll use it as our model but there are other currencies as well.
Until recently it has received a lot of bad press, mainly due to it’s volitility. People who valued it lowly have felt cheated when they got rid of it and then the price soared. Today the price is hovering in the $1,000 range. The fact it is so new is adding to it’s volatility.
To most it’s viewed with scepticism, like some Geeky ponzi scheme. Few people outside the Geek community understand anything about it. It’s seems so strange but in fact it is a natural development and evolution of the old fiat currency system that will eventually render banks redundant and take finances out of the hands of manipulative governments.