Norm Pattis: Are Bitcoin, the dark web and virtual reality the new state of nature?

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Satoshi Nakamoto.

Remember that name. Whether he actually exists or not is an open question. But there is little doubt Nakamoto’s 2008 paper describing the creation of Bitcoin was one of the most revolutionary acts of the earIy 21st century.

What is Bitcoin?

The governments of the world can’t tell you. They can’t agree. Some define it as property. Some call it currency. Sometimes, it is regarded as both currency and property.

There are millions of Bitcoin in the world, but you’ll never see one. Bitcoin, you see, are digital events, pulses of electricity harnessed and displayed as units on a computer screen.

But for all their intangibility, Bitcoin have the potential to change the way services are purchased, wages are paid, and commerce is conducted.

It works something like this. Two individuals communicate directly with one another via a computer network in what computer-literate folks call a peer-to-peer exchange. Each has a code. They exchange a good or service and the transaction’s value is paid for in Bitcoin. The transaction is electronically recorded.

The next time one of the parties engages in an exchange and uses Bitcoin, they use their code to link to another party, who, in turn, uses his or her code to complete the link. That transaction, too, is recorded as part of a chain of communications.

A block chain defining these unique exchanges is encoded and encrypted on line. These chains are unique to each unit, and are transparent, open to viewing by anyone with the inclination and skill to do so.

What no one ever sees is the identity of the parties who are trucking, bartering and trading in Bitcoin.

In simplified terms, this is Bitcoin, a medium of exchange not created by the government, and, in the United States, largely unregulated. Individuals are free to use Bitcoin as a means of purchasing goods and services, so long as they are able to find a seller willing to accept it.

So is it money?

That is a question easier to pose than to answer.

Bitcoin is not legal tender — a medium of exchange authorized by, and created by, the federal government. The Constitution gives to the federal government the power to mint money; legal tender is always valid to meet a financial obligation. If you owe a creditor $10, he or she must accept legal tender to satisfy the debt. The acceptance of Bitcon, on the other hand, is optional.

Bitcoin as property has a value. It can be purchased. At the close of business on Thursday, one Bitcoin was selling for $596, according to coindesk.com.

Bitcoin, and other virtual currencies, pose a challenge to the government. A secret, unregulated quasi-currency can be used to do all sorts things. One fear is that it can used as a means of money laundering.

Most of us don’t give a second thought to the provenance of the dollars we spend. But state and federal law are strict when it comes to the proceeds of unlawful gain: assets can be forfeited to the government if they are used to commit of facilitate a crime, or if they have their origin in unlawful activity. Money can be “clawed back” in civil and criminal proceedings from the hands of those who knew, or should have known, that the funds were “dirty.”

Lawmen monitor the flow of cash to deter the funding of terrorism and to frustrate those intent on making a living by illegal means.

Lawyers, in particular criminal defense lawyers, walk a tightrope. Unless you are a public defender, you are working for fees. A smart lawyer gets the fee up front.

Suppose your client wants to pay you in cash? What then?

If the sum is less than $10,000, it’s not big deal. But if a client pays $10,000 or more in cash, things get awkward. The law requires the lawyer to review a form of the client’s identification and to report the transaction, and the client’s identity, on a federal form. Failure to do so is a felony.

Can clients avoid these reporting requirements by paying in Bitcoin?

I thought the answer was no. That would make sense, right? If Bitcoin can operate as currency, and it can be used to pay for services, then a client paying $50,000 worth of Bitcoin surely can’t be permitted to do so privately?

Yet, the Internal Revenue Service requires only the reporting of cash. The form is silent about Bitcoin. A separate IRS publication calls Bitcoin property. You needn’t report the identity of a person who gives you property, although you must report the value of the property as income.

This conclusion made no sense to me. None. I didn’t trust my reasoning. How could the law spend so much time trying to deter money laundering but ignore this obvious way to step outside its boundaries?

So I called a federal prosecutor who represents the IRS in criminal prosecutions. He, too, assumed I was wrong.

Two days later, he called back: Bitcoin payments needn’t be reported, he told me.

I was surprised by the answer.

All week long I’ve mulled this strange result. At week’s end, I think I’m more surprised now that I had assumed that all we do is under the legitimate surveillance of the government. It’s reassuring, candidly, that there are ways to exchange goods and services that aren’t on the government’s lawful radar. (I’ll leave it the likes of Edward Snowden to tell me the government is watching Bitcoin, too.)

Are Bitcoin, the dark web and virtual reality the new state of nature?

For the past several centuries, Western political philosophy has had a name for an imagined universe without law, customs or even civil society — the state of nature. This literary device has placed a prominent role in the development of our political ideas and ideals.

We talk of natural rights, of limited power, of retained freedoms largely because we can imagine a world before, and without, government.

Bitcoin suggests that, at least for the time being, the world is more real than I had imagined. It is a world that may, or may not, contain the likes of such shadowy figures as Satoshi Nakamoto.

Norm Pattis, a criminal defense and civil rights lawyer with offices in Bethany and New Haven, blogs at www.pattisblog.com.