One of the most important features of bitcoin is that it allows for completely anonymous transactions. Although there are many people out there who claim that bitcoin is not anonymous because the block chain keeps track of every bitcoin transaction that ever takes place, it is important to remember that the public key for each bitcoin wallet is not necessarily tied to any one individual. In other words, someone can keep their finances and transactions anonymous as long as they do not share their public wallet key with the wrong people. It also needs to be mentioned that bitcoins can be moved around to different wallets after they are received in a wallet that a person has shared with someone else for a specific transaction. Another way to prove the anonymity of bitcoin is to ask why there have been no arrests associated with The Silk Road, the online marketplace where anything from heroin to a fake ID can be bought for bitcoins. When we realize the fact that bitcoins can be completely anonymous, we also have to realize that people will obviously use this anonymity to avoid taxes.

How Would an Economy Based on Bitcoin Affect Current Forms of Taxation?

Although most people think about the income tax when it comes to government taxation, there are definitely a large number of different taxes that are unseen or sometimes looked over when it comes to the common person. For example, there is a roughly $0.50 tax on every gallon of gas that people buy at the pump in the United States. The exact tax in each state depends on the amount of taxation that the particular state decides to use. The good news for the state is that it will still be impossible to keep certain types of taxes after bitcoin becomes the most commonly used currency in the country. In reality, we will probably see an increase in these kinds of taxes and various sales taxes because other types of taxes will be impossible to enforce. The main types of taxes that will no longer be viable are income taxes.

Bitcoin is going to make things very hard for the government when it comes to taxing the self-employed. It will still be relatively easy to keep track of the income of employees who work at physical locations, such as office employees or brick and mortar store employees, but tracking the income of any kind of freelance worker or contractor is going to be pretty difficult. Let’s take a web designer as an example. A web designer can already find work on various bitcoin websites, and the person they work for will actually never know their true identity. Once there are anonymous version of oDesk and Freelancer.com available to everyone on the Internet, a web designer will have an incentive to move to those anonymous job marketplaces because they will be able to avoid all taxation. There are already plenty of people out there who avoid income taxes by getting paid in cash, but bitcoin opens up this anonymous “cash” payment scheme to the entire online freelancer workforce. It also must be mentioned that this kind of workforce is actually growing quite immensely with each passing year. As time goes on, I expect to see more people work for themselves because it is now much easier to find your own clients and customers through the Internet rather than relying on a bigger company to find those clients and customers for you. Instead of a financial adviser joining a firm, he may just simply create his own website and post his track record in a public space to attract new clients. The number of people who will be affected by the income tax will become smaller and smaller over time, and the government will have to search for new sources of revenue.

Where Will Government Turn for Taxation?

There are probably many other possibilities that I am overlooking, but here are the two main sources of taxation that I could think of when it comes to taxation in a bitcoin economy. First, it will be impossible to avoid property taxes. While it will definitely be pretty easy to hide your money in an anonymous bitcoin wallet, it would be pretty difficult for you to hide your house. We will probably see an increase in property taxes to offset the decrease in revenue from income taxes. The only other source of government revenue that comes to mind is a sales tax. This is actually my preferred method of taxation, but I have a feeling that the sales tax will be unbearably high. We could see a national sales tax combined with a prebate (like the prebate in the FairTax plan) that would basically give everyone the chance to pay no taxes up to the poverty level of spending.

An important point to make about the sales tax is that it will eventually apply mainly to raw materials. Everyone is going to have a 3D printer in their home, and people will be sharing printable files of computers and stereos instead of sharing the music, TV shows and movies they share right now. This means that food is actually going to be the commodity that is taxed more than anything else, in addition to the materials that go into the 3D printers. Basically, the sales tax will be enforceable where there is actually a centralized location where the government could come in and arrest people for not following the rules.

I really see the property tax as the main source of income for government in the future because even sales taxes will be hit by black markets. If the sales tax is too high, it will turn into the situation we see currently in New York where people are buying cigarettes on the black market to avoid sales taxes. Going to the doctor could be used as another example of problems for the sales tax. A doctor could setup a practice in his or her own home, and turn a blind eye to the idea of the sales tax. The idea that the government will be able to track down every farmer, doctor, dentist, lawyer and other professional who is boycotting the sales tax would be equally as troublesome as the government tracking down everyone who has downloaded the latest episode of “Game of Thrones” for free. Whether or not the sales tax can be enforced really depends on where it is set. A 30% sales tax would probably not fly because there would be too much of an incentive to basically give customers a 30% discount on goods and services by ignoring the sales tax. A 5% sales tax could work because a business owner would not have as much incentive to break the law and risk going to jail or paying fines.

What is the Impact on Government Spending?

While the government could theoretically take in the same amount of taxes they are taking in right now through property taxes and a small sales tax, it is unlikely that they would be able to do so without tremendous push back from property and business owners. Then again, 3D printing and bitcoin will create a situation where many government institutions are no longer viable. For example, there is no point in having the SEC when everyone can trade and invest anonymously. There is no reason to have the Department of Education when most people are learning a trade for a few hundred bucks per year through the Internet. There is no possibility for military spending to be so high when the government cannot print money to pay for warfare and borrowing the money is less attractive at a higher rate of interest (borrowing from private individuals and groups instead of the Federal Reserve).

Summary

At the end of the day, I am not prepared to predict that bitcoin will lead to the end of all taxation. Property taxes and some sales taxes will still exist, but the main benefit that we can take from the situation is that the income tax will slowly deteriorate and eventually abolish itself. People will be free to do whatever they please with their money, but they will still be forced into taxation if they want to own land or purchase raw materials. What are your thoughts on taxation in a bitcoin economy?