Canadian Lawyer

28 J u n e 2 0 1 4 w w w . C A N A D I A N L a w y e r m a g . c o m While the scandals have bruised bitcoin's image and elicited growing calls for government intervention, it has done little to mask the potential of virtual currencies and the promise behind bitcoin's underlying technology. Bitcoin, the most popular among 200 or so other virtual currencies created since 2009, is an ingenious computer code that has monetary value controlled and stored entirely by computers. It is essentially a peer-to-peer cash system, a form of e-money, valued in units of bitcoin divisible much like the Canadian dollar into cents. It is not, however, connected to any physical commodity, state, or central banking authority. But more importantly, bitcoin is also a payment system, a peer-to-peer network that allows for the proof and transfer of ownership without the need of a trusted third party like a bank. The implications are enormous, particularly for the financial sec- tor, with a growing number of observers going as far as describing the technology behind bitcoin as just as disruptive as the personal computer was when it surfaced in 1975 and the Internet in 1993. "This is the true technological innovation behind bitcoin, its abil- ity to cut out the traditional middlemen — including governments by the way — that have traditionally played a role in the payment system by performing such functions as verifying payments, determining money supply, and creating rules of use," noted David Murchison, director of the financial sector division at the Department of Finance Canada, in his March 26 speech before the Standing Senate Committee on Banking Trade and Commerce, which is now examining digital currency and expected to pen a report by June 2015. "These middlemen typically add to the cost of payments, so by eliminating the middlemen, decentralized virtual currencies can lower the payments and their costs." A recent report by investment bank Goldman Sachs predicted bitcoin would force banks and other traditional financial players to compete by lowering their costs and streamlining their systems. "If I were a payment processor like PayPal or Moneris, I would be very worried about the rise of virtual currencies and how they are going to affect my business," says Michael Citrome, a tax litiga- tor with Spiegel Sohmer. "Anybody who transfers money on the Internet for goods or services is likely to be affected by the tech- nologies that virtual currencies rely upon." Others go even further, suggesting it is nearly impossible to even imagine the impact the technology will have. "People know it's huge," says Hoegner. "People know it's going to be very impor- tant but people don't know what it is going to look like yet." It's no wonder, then, developers, entrepreneurs, and investors are flocking to the virtual currency market in droves, with Canada proving to be a choice location. In fact, Canada is currently a hotbed for innovation and growth for virtual currencies, largely because bitcoin enthusiasts mistakenly believe they will have a free pass here because there are no laws and regulations that specifi- cally target virtual currencies. "People think it is a tax-free zone, and a law-free zone where no laws apply," says Christine Duhaime, a partner at Duhaime Law and a certified anti-money laundering specialist. That's about to change. The 2014 budget implementation bill makes it clear the application of Canada's money laundering and terror financing laws will be applied to dealers of virtual curren- cies, and the Department of Finance is now drafting regulations expected to be in force next year. It is an important exercise that will spell out how the federal government views virtual currencies, something nations around the world are now grappling with. Indeed, a recent report by the Law Library of Congress that surveyed 40 jurisdictions and the European Union revealed there does not exist a clear definition or consistent treatment of digital currencies. "The debate over how to deal with this new virtual cur- rency is still in its infancy," notes the report. Defining what virtual currencies like bitcoin are is a crucial first step towards delineating policies, particularly since there are so many conflicting views. Basic fundamental questions such as whether they are money, a currency, or a commodity need to be addressed. As points out Norton Rose Fulbright's John Jason,: "It's hard to regulate that which you can't identify. The first thing that needs to be done is to figure out what it is that you're trying to regulate." Law firms too are finally beginning to take note, often at the behest of clients. "Many of our clients have been asking what virtual currencies are, what are the current rules that apply to it, where do we think it's going, and does it or will it impact their businesses?" says Olivier Fournier, a tax lawyer with Davies Ward Phillips & Vineberg LLP. "This is really the hot topic in the busi- ness world." There's another reason why lawyers should begin pay- ing attention to the world of virtual currencies: the bitcoin protocol may affect the legal profession. T he origins of bitcoin are shrouded in mystery. Born out of a mistrust in the international financial system following the near collapse of the world economy, the new technology emerged in 2008 as a research paper conceived by a programmer or group of programmers under the pseudonym Satoshi Nakamoto. A year later, Nakamoto launched software that created the first bitcoin network and bitcoin unit of cur- rency. The math-based currency was quickly embraced by lib- ertarians seduced by its professed promise as an alternative to fiat currency, by geeks who gleaned the possibilities the technology had to offer, and by cryptographers who marveled at its feat of solving a long-standing conundrum that stumped previous efforts at creating a viable virtual currency — bitcoins prevent users from spending the same unit of digital currency over and over in spite of the absence of government oversight or a central database. Bitcoins are essentially long digital addresses and bal- ances. They are created — or mined in bitcoin parlance — by a global network of computers that have to solve increasingly complex computer algorithms. Each time a miner solves one of these cryptographic puzzles, the miner is rewarded with new bitcoins. Bitcoin's algorithms dictate 25 new bitcoins get added every 10 minutes until a maximum of 21 million bitcoins is reached. About half of that are now in circulation. What's more, every time a transaction is made, it is recorded on a public ledger called a block chain, which is broadcast to anyone running open-source bitcoin software. Miners keep track of all the bitcoin transactions and add them to the block 115792089237316195423570985008687907853269984665640564039457584007913129639936 2373161911579216195423573731619542357098500868790785326998640007913129639936

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