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Europe: Blockchain – The virtual currency Bitcoin

In this series of blog posts, we take a look at the current state of play regarding blockchain technology as well as the legal setting with a European and German focus.

Whoever thinks of blockchain also has inevitably bitcoins in mind. The Internet currency is largely based on the blockchain technology and it is therefore one of the most obvious fields of application for this technology, to which we recently gave an overview (see here).

In the following post, we will take a closer look at what the term “bitcoin” actually means and what legal issues are linked to it. As a virtual payment method, bitcoins are subject to regulatory regulations of the financial sector, but they also raise general questions of contractual law. The latter are particularly interesting in the light of the fact that the European Commission is currently working on a new Strategy for a Digital Single Market to re-regulate the online trade and providing digital content. There are currently two draft directives on the table (COM (2015) 634 final and COM (2015) 635 final).

What are Bitcoins?

Bitcoin is a digital unit of money which was introduced in 2009. It is a decentralized payment system that can be used all over the world, within which monetary values ​​can be transferred without a central issuing authority (central bank) or a settlement agent (main bank). The decentralized database administered by the participants in the bitcoin currency system, in which all transactions are stored in a blockchain, is the underlying basis for the bitcoin system.

By means of a peer-to-peer model, the individual users of the system check the authenticity of the respective transaction as so-called “miners” via their connected computers. In return, they receive a virtual compensation. With the aid of cryptographic techniques, the chain also ensures that transactions with bitcoins can only be carried out by the respective owner and that the same bitcoin can not be issued more than once. Bitcoin is therefore also referred to as cryptographic currency. Transactions in this currency are irrevocable – which is one of the main features of a blockchain.

The payments take place under a pseudonym. The bitcoin blockchain does not allow an immediate identification of the people making transactions. The chain of transactions is, however, freely accessible to all participants.

Proof of solvency is provided by means of a personal digital wallet – the so-called “wallet” – in which the bitcoins that have been acquired so far are located. The conversion rate of bitcoins into other means of payment is determined by supply and demand.

What legal aspects need to be considered?

First, It should be noted that there are no specific legal norms governing the issue and use of bitcoins as virtual means of payment. Transactions are thus subject to the general legal provisions. According to these, bitcoins are not money in legal terms. However, of course one can accept bitcoins as counter-performance in return for goods/services and therefore as payment. That is what the bitcoin system is based upon.

In general, it can be said that contract law is not tailored to transactions within a bitcoin blockchain. The applicable law and the technology “function” correspond to different premises which entails a certain degree of legal uncertainty. This is, however, a phenomenon which all innovative developments have in common. On the level of the fulfilment of a counter-performance obligation, bitcoins qualify very well as a virtual payment. In this function, the trail of exchange can be demonstrated in the chain if required.

Both the German Federal Financial Supervisory Authority (BaFin) and the Federal Ministry of Finance have expressed their opinion on the regulatory assessment of Bitcoins. Both classify bitcoins as “accounting units” and thus as a financial instrument within the meaning of § 1 (11) Nr. 7 KWG. Thus, the regulation of the financial sector is applicable. The authorization requirement for traders according to § 32 KWG is particularly noteworthy here. Transactions involving bitcoins can also meet several KWG statutory exemptions. For example, a financial commission transaction can exist pursuant to § 1 (2) Nr. 4 KWG.

The Bitcoin system also raises questions related to consumer protection and, in particular, data protection law. Its is vital for blockchain that the validation of transactions is based on system-wide transparency. Even if users are acting under a pseudonym, the provisions of data protection law apply since the persons behind a transaction can usually at least be identified, so that they become determinable. From the point of view of consumer protection, certain transactions must be revisable because e.g. they are based on misinformation or even deception of the acquirer. Such aspects, however are not part of the current validation in the chain. These are the challenges that the Bitcon virtual currency must now face.

For more international information, please visit our Blockchain: Linked Ledgers topic center.