The year is 2008, and a pseudonymous individual named Satoshi Nakamoto has just created the world's first cryptocurrency, Bitcoin. He calls it "an electronic, peer-to-peer cash system" designed to allow people exchange value freely without relying on middlemen.
Except for crypto-punks, computer geeks, and random Joes, not many people give this new magic Internet money any attention. That is, until the value of Bitcoin skyrockets, so much that random Joes become millionaires overnight.
Now, it's 2022. Everyone is getting on the crypto bandwagon, and you don't want to miss out. Yes, you missed crypto's initial bull runs—but don't the Chinese say the best time to plant a tree was 20 years ago, and the second best time is now?
However, Bitcoin’s classification is unclear, so you’re unsure if investing in Bitcoin is legal or not.
Are Bitcoin investments legal? What are the legal risks of investing in Bitcoin? What is the current regulatory framework around cryptocurrencies, including Bitcoin?
This article answers these questions and details what you should know before putting your cash in Bitcoin investments.
Analysis of Bitcoin Investment Regulations Around The World
Given its nature as a decentralized digital asset, Bitcoin's legal status was always going to cause major debate. Thirteen years after Bitcoin's arrival, governments and regulators haven't reached a consensus on its classification.
However, as more people continue to buy Bitcoin, governments worldwide are starting to take notice, leading to increased regulation. This next section covers the legal status of Bitcoin in several countries:
Ownership of cryptocurrencies like Bitcoin in the US is growing, with statistics putting American crypto users at 27 million—one of the highest in the world. According to a recent study from Pew Research Center, 16% of Americans say they have invested, traded or used crypto is 16%, up from 1% as found in a 2015 study.
Bitcoin investments are not illegal in the USA, although the regulatory framework is hardly streamlined. Legalese on Bitcoin's status varies among financial regulators in the US, so let's look at some of them.
In 2014, the Internal Revenue Service (IRS) released a notice announcing the classification of Bitcoin as a property. As a result, investors must pay capital gains tax on profits realized from transactions involving Bitcoin. The upside here is that your tax bill will reduce if you sold Bitcoin at a loss.
The IRS has increased regulatory oversight over Bitcoin investments in recent years. For example, it announced in 2020 that individuals would need to disclose Bitcoin-related transactions on Form 1040.
You won't have to pay taxes if you simply buy Bitcoin with fiat and hold it in your wallet. This is known as HODLing in crypto-speak and means leaving your coins to rise in value.
The IRS is only interested in transactions involving your Bitcoin. So if you exchanged crypto for dollars, traded it on an exchange, or paid for goods with Bitcoin, then you need to disclose such activity on your tax form.
The Commodities and Futures Trading Commission (CFTC) classifies Bitcoin as a "commodity," just like gold or crude oil. The CFTC's position on Bitcoin is contained in a 2017 report, where the Commission limits its oversight activities to futures, options, and derivatives involving Bitcoin.
Although CFTC has warned against the risks of investing in cryptocurrencies, it is open to supporting innovation in the sector. The Commission has since said it would promote "responsible innovation in digital assets," while cracking down on "those who break the rules."
True to its word, the CFTC went after BitMex exchange for failing to register its cryptocurrency derivatives trading platform. The result was a court order asking BitMex to pay $100 million in fines.
The BitMex saga is a lesson for any would-be Bitcoin investors in the US. Before you start trading Bitcoin options, futures, and derivatives has CFTC approval to avoid legal exposure.
The Securities and Exchange Commission (SEC) shares the same sentiments with the IRS about Bitcoin, classifying the digital asset as a property. Former SEC Chair Jay Clayton went on record in 2018, saying "Bitcoin is not a security and should not be taxed as such."
However, it is important to note that the SEC considers other cryptocurrencies distributed through an Initial Coin Offering (ICO) as securities. This means you'll have to pay security tax on Ethereum, Ripple, Stellar, Cardano, Polkadot, and other altcoins.
The Financial Industry Regulatory Authority (FINRA) doesn't regulate the investment of Bitcoin and other investments. However, it regulates the activities of brokers handling Bitcoin investments on behalf of investors.
Understanding FINRA's role in Bitcoin investments is crucial for potential investors, especially those who wish to invest using sophisticated financial instruments. Because the agency supervises cryptocurrency brokers, you can file a complaint if you lose money due to your broker's actions or inactions.
FINRA cannot help if your crypto broker isn't adequately registered. It is up to you to confirm if the broker or brokerage firm handling your Bitcoin investments has a FINRA licence.
As with the United States, the United Kingdom has never said buying Bitcoin is illegal. However, UK citizens are liable to pay tax on Bitcoin holdings—this may be income tax or capital gains tax.
The tax you pay depends on what transactions you make with cryptocurrencies. Those considered to be making an income are subject to income tax laws, while anyone making capital gains pay capital gains tax.
For example, you must pay tax when you 'dispose' of Bitcoin, like you would do for any capital asset. This means you are liable to pay capital gains tax when you sell, trade, spend, or gift Bitcoin.
Her Majesty's Revenue and Customs (HMRC) will charge an income tax if you're getting returns from your Bitcoin investment. So, if you're earning dividends from staking, lending, or yield farming, an income tax payment is in order.
UK investors who wish to invest in Bitcoin trading derivatives like their US counterparts are, unfortunately, out of luck. This is because of a Financial Conduct Authority (FCA) ban on the sale of cryptocurrency derivatives to retail investors issued last year.
Citing the complex nature of cryptocurrency derivatives as reason for the ban, the FCA said it was "protecting investors" with the law. However, commentators are concerned the ban will push investors to consider riskier, unregulated alternatives.
Another note for UK Bitcoin investors: check if an exchange has FCA approval before trading on it. The agency has a list of unregistered exchanges and placed restrictions on Binance last year for failing to register properly.
The FCA has said in the past that cryptocurrency investors are unlikely to have access to redress mechanisms if anything happens with their investment. Consider this carefully before you "buy the dip" and load up on Bitcoin.
India has been in a dance of sorts with Bitcoin for a long time. The Reserve Bank of India (RBI) banned the sale, investment, and trading of Bitcoin and other cryptocurrencies in 2018. In a widely circulated announcement, the country's apex banker warned financial institutions against facilitating crypto-related transactions.
Things took a new turn after the Supreme Court of India overturned the ban in 2020, allowing Indians to buy, sell, and hold Bitcoin. However, the RBI hasn't stopped its drive to regulate Bitcoin investments and has drafted a new set of rules to guide the sector.
For instance, it recently announced a 30% income tax on all crypto holdings. Interestingly, the apex bank said the tax doesn’t mean Bitcoin trading is legal in India.
Key people in the RBI have shown marked opposition to Bitcoin and other cryptoassets. This includes the RBI Deputy Director, T. Rabi Sankar, who called cryptocurrencies "a Ponzi scheme" earlier this year and called for a total ban.
As of now, there's no law saying Bitcoin investments are illegal in India. Still, it's better to exercise caution when investing—especially if the RBI continues its dogged opposition to cryptocurrencies. While another outright ban is unlikely, consider withdrawing your money if signs point to another asset freezing attempt.
Much like other regions, the European Union has found it difficult to reach consensus on the nature of Bitcoin investments. The most notable EU legislation on Bitcoin is a 2015 ruling from the European Court of Justice (ECJ) exempting the purchase of cryptocurrencies from Value Added Tax (VAT).
Beyond the ECJ ruling, countries in the EU have different laws regulating investments in Bitcoin and cryptoassets.
In France, cryptocurrency gains are taxed only when converted to fiat money, i.e., "cashing out". This means you don't have to pay taxes on gains from trading Bitcoin for other cryptocurrencies.
In Austria, anyone holding Bitcoin as a non-business asset is required to pay gains tax on profits realized during the one-year "speculative period." Bitcoin investors can avoid paying taxes if they hold their assets for more than a year.
The same law applies in Germany, where capital gains on cryptocurrency are tax-free after a holding period of at least one year.
Things are a bit different in Malta. Here, the government recognizes Bitcoin as "a unit of account, medium of exchange, or a store of value" and exempts long-term holders from capital gains tax or VAT.
Maltese residents must pay taxes on day-to-day cryptocurrency trading, though. Regulators consider crypto trades similar to day trading in stocks, which makes such transactions taxable as business income.
Africa has one of the highest rates of cryptocurrency users in the world, with countries like Nigeria boasting some of the fastest-growing cryptocurrency trading communities in the world. Despite this, regulation has been unclear in many areas.
South Africa is one of the few African countries with clear policy on cryptocurrency-related investments. While Bitcoin isn't considered legal tender in the country, the South African Revenue Service (SARS) treats Bitcoin as an intangible asset and taxes profits realized on acquiring or selling units of Bitcoin.
Nigeria, Africa's most populous country and the world's largest Bitcoin market after the US, restricted banks from processing crypto-related transactions and warned against dealing with financial institutions involved in cryptocurrencies.
However, the move has done little to stop citizens, many of whom have turned to peer-to-peer exchanges to buy, sell, and trade Bitcoins and other altcoins.
Like India, many of Asia's biggest nations have taken a tough stance on cryptocurrencies, including Bitcoin.
China cracked down on crypto last year, banning Bitcoin mining and the trading of digital assets in all its regions. Russia has since copied China's example, proposing to ban cryptocurrency mining and trading in the country.
Ironically, both China and Russia are among countries working on Central Bank Digital Currencies (CBDCs). CBDCs are government-issued cryptocurrencies, backed by a central bank.
As we have seen, investing in Bitcoin is not illegal in most countries. However, investors must understand current regulations to avoid breaking the law, especially concerning paying taxes.
It goes without saying, but don't invest in Bitcoin money you cannot afford to lose. Bitcoin is a volatile asset that rarely promises consistent returns, so be careful to research well before investing.