There has been no shortage of articles, blogs, interviews and general murmuring about Bitcoin and cryptographic currencies over the last 12 months. Bitcoin itself came into existence in 2008, born out of the global market crash, and has since gone from being worth nothing to being worth £8,395 per coin at the time of writing.
So what is Bitcoin? Is it a product of the Internet’s dark underworld, only used by criminals to launder money or spouses to dispose of assets? Or is it the dawn of a new concept in which currency and technology meet?
It may help us to understand what Bitcoin really is and where it comes from. To do that, we need to explain some of the terminology:
Decentralised applications: These are applications which allow you to offer a service not under the control of a single person, i.e. one with no central control like a Bank. In most cases, this service is the movement of assets, or documents, to another individual and this is done using a ‘Blockchain’. There are various services on offer, but the first was Bitcoin.
Blockchain: This carries whatever a person has sent within a block. It is a process which happens on the internet, and it is completely public. There are some decentralised applications which can send information anonymously (e.g. Monero) but it is likely that future legislation will stop the legitimate use of these and so for the purposes of this article we will assume we are dealing with the more popular coins which are publicly recorded.
Bitcoin: This is a cryptographic currency. It is a reward that individuals receive for helping to carry Bitcoin over this particular decentralised application’s Blockchain. Bitcoin can also be used as a store of value. These coins are held in a wallet that has a private key (like your PIN number) and a public key (like your bank account number). A public key looks like this:
The sender puts Bitcoin into a block (there are other decentralised applications that allow you to put any data in a block such as a smart contract e.g. Ethereum), which is then encrypted by the individuals (known as ‘miners’) and sent to someone’s public key.
Miners are rewarded for transmitting the Bitcoin as the sender incurs a small fee for sending it. The person receiving the Bitcoin can then spend it with their private key (just like you would enter your PIN to use your card at a till). This is the incentive which makes the decentralised application work.
Miners: These are computers being told to encrypt the blocks on the blockchain, for the benefit of the decentralised application and themselves.
Individuals can mine at home using their graphics cards, or big companies can use much more power to mine faster and make more money. Individual miners are not that common today: the amount of computer power required to encrypt blocks increases as the amount of mining power increases.
There is a finite amount of coins per decentralised application (Bitcoin for example will only ever have a total of 21 million). This means that the block reward drops over time and inevitably only becomes a transmission fee. However, the usage of that Blockchain will inevitably increase, which means there are more transactions to mine and so whilst the payout may be less, the income for miners from the transmission fees will increase.
Cryptographic currencies: Since Bitcoin, many other decentralised applications have been created which pay out different currencies, known as ‘altcoins’. They are numerous in number and include Ethereum, Litecoin, even Dogecoin, but they are all an incentive for miners to put their power towards the Blockchain.
All of the above is explained in much more detail in this article.
So Bitcoin is essentially a reward, which can be used as a currency or traded like a share on the stock market, except these markets are for cryptocurrencies. There are various platforms where you can trade Bitcoin and other altcoins.
I have personal experience of Bitcoin. I became involved in 2011 when I started using my computers to mine the cryptocurrency. This has now developed into mining other altcoins, and being active in the crypto community. I recently started helping to test an exchange platform called the London Block Exchange who are hoping to launch their digital wallet app and cryptocurrency exchange very soon.
The key point here is that all of these trades, all of the blocks, are public and traceable if you know the public key of the individual’s wallet. Therefore, if you are concerned that your spouse may be hiding funds in cryptographic currencies, all that is required is that person’s public key in order to see what they have, and what has been happening in that specific wallet. This is no different to requesting bank account details from a spouse so that you can see what has been happening in their accounts.
There is a fear of the great unknown when it comes to cryptographic currencies, because they are decentralised and therefore people think that there is no one making sure everybody behaves themselves. The reality is that the ledger is public and changes cannot be made to a decentralised application without the agreement of all the people using that decentralised application, so it is very difficult to commit fraud using such a decentralised application.
The main risk for people now is whether they will have to pay tax on their sold coins. Theoretically sales should incur capital gains tax, which would apply to the difference between what someone bought the coins for and what they sold them for.
The difficulty here is with people who have been given the coins in exchange for mining, and HMRC guidance on this are very vague. It is possible that selling coins that were not purchased will be seen as “highly speculative”, like gambling. A transaction may be so highly speculative that it is not taxable or any losses relievable. To date HMRC have not updated their guidance since 2014, but they will likely soon do so once they realise just how much tax they could be collecting. People who bought Bitcoin in 2012 for £2.83 are now realising a gain of over £8,000 per coin, which could result in a hefty tax bill if it’s not accepted that it is a highly speculative gain.
If you are considering getting divorced, or you are going through disclosure and realise your spouse has cryptographic currencies, then we can help advise you on how those assets should be treated. Contact us today.