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Bitcoin: Weighing the Risks and Benefits

Before deciding to accept bitcoin as a form of payment, companies should carefully take into account the risks and coverage options, considering that bitcoin is experimental and still in active development. Because bitcoin is a new invention, its future is unpredictable and the use of bitcoin and accepting it as a form of payment should be approached with caution.

Background on Bitcoin

Bitcoin was created in 2009 and is a digital currency that allows transactions to be made without a central bank. The management and issuing of bitcoins is collectively carried out by the network of bitcoin users—not a single entity or central bank like traditional currency.

Bitcoin users start by setting up a “wallet,” using software either on a mobile device, a computer or through a website. Wallets are secured by encryption and are protected by users with a username and password.

Bitcoins can be acquired by accepting them as a form of payment, buying them from someone or buying them directly from an exchange using your bank account. A growing number of businesses around the world accept bitcoins and more are adopting the currency every day.

Using Bitcoin

A big draw of bitcoin is its low transaction fees. The fee on a credit card transaction is about 2 percent of the purchase price, whereas the fee for a bitcoin transaction is one-thousandth of the purchase price. The low cost of transactions can be attractive to businesses that are considering accepting bitcoin.

Another advantage of bitcoin is the speed of payment. International transactions involving traditional currency can take up to three days to clear, but transactions with bitcoin are considered settled after just an hour.

Many companies that accept bitcoins exchange them immediately for traditional currency after a transaction, due to the fact that the value of bitcoin has risen and fallen significantly since its conception. The volatile value of bitcoins makes storage of them quite risky, so exchanging them after transactions protects businesses from potentially dramatic price swings.

Regulatory Risks

A major risk businesses face when choosing to accept bitcoin is that the currency is not regulated by a central entity, such as a bank or federal agency. Because bitcoin is so new, laws and regulations for it are still emerging. Federal and state agencies in the United States disagree on how to classify bitcoin and regulate its use, making it difficult for users to understand the rules.

The IRS, for example, considers bitcoin property, not currency. Therefore, any capital gains and losses must be calculated and reported for tax purposes. Requiring bitcoin users to provide accounting documentation for every purchase complicates everyday use and may render the use of bitcoin more burdensome than traditional currency. Because bitcoin is difficult to regulate, insurers may not feel comfortable offering insurance coverage for it.

Theft and Loss Risks

Theft is another risk for bitcoin users. Bitcoins can be stolen by malware or lost during exchange failures. In early 2014, hackers stole thousands of bitcoins worth millions of dollars by exploiting weaknesses in an exchange’s website and sending many copies of the same bitcoin payment. The hacked exchange websites were unable to return the stolen bitcoins to customers and had to shut down. Bitcoin is not backed by an entity like the one that protects banks (the Federal Deposit Insurance Corporation), so bitcoin users had to take legal action to try and recover the stolen bitcoins.

Bitcoin also has a risk of loss. Just like cash, a lost bitcoin is lost forever. If you forget the password to your bitcoin wallet, the money cannot be recovered.

Besides losing access to your wallet, bitcoins can be lost after transactions. Transactions are not reversible—once a transaction has been confirmed, it cannot be undone, which is seen as a benefit for merchants since they can complete a transaction and not have to produce a good or service in exchange.

However, if a business fulfills an order or performs a service before the bitcoin transaction is confirmed, the business could end up not receiving any money after providing something for a customer. To protect your business, especially when performing large transactions, it is recommended to wait until the transaction is confirmed before fulfilling an order or performing a service.

If you are considering accepting bitcoin at your business, E.B. Cohen can help you understand the potential risks and how to keep your business safe from bitcoin losses. Contact us today at (973) 403-9500 to learn more.


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