Virtual currency is internet-based money that is mostly virtual and issued by and usually under the control of its creators and generally used and exchanged among the members of some particular virtual community. In other words, virtual currency is the money that you will see on your MySpace, Facebook, Orkut, YouTube, or any other virtual online community. Virtual currency is usually called 'digital cash' because it operates under a hybrid form of cryptography and the internet. You can send virtual currency from one virtual account to another.
Types of Virtual Currency:
There are two types of virtual currency: central and decentralized. Centralized virtual currency is issued by and managed by a central bank. The money is issued in such a way that its supply is fixed and all transactions are tracked centrally so there is guaranteed delivery and guaranteed payment. The supply is usually controlled by the central government through control of the banks and currency trading platforms. With the use of virtual money, virtual currency is actually a virtual currency that may be traded electronically within the virtual environment. It may also be converted from one virtual currency to another virtual currency at any given time.
Sale, Exchange, or Transfer:
Under most tax laws, a taxpayer receives virtual currency only in connection with a sale, exchange, or transfer of that taxpayer's property. A sale, exchange or transfer is generally defined as any transaction involving property that results in the alienation of a legal obligation or right to enjoy that property interest. In order to qualify for the exemption, the transaction must occur for a taxable estate or gift. Otherwise, the gift or estate is subject to the ordinary tax law and the gain or loss must be computed by using the method of capital gains and the fair market value of the property in the taxable estate. In most cases, if the transaction does not qualify as a sale, exchange, or transfer, then it does not qualify as a gift or estate and the tax is not applicable.
Global Recognition of Virtual Currency:
Several governments across the globe have recognized the potential of virtual currencies. A few of these countries include Thailand, Singapore, and the Cayman Islands. In some instances, virtual currencies are used in their local markets. For instance, a Thai investor would likely convert his Thai Baht into a U.S. dollar or euro on the centralized exchange platform, rather than directly selling the asset. However, most of the time investors who are dealing with these kinds of currencies would be exchanging them for a profit.
Liberty for Taxpayers:
Taxpayers have an opportunity when it comes to virtual currency transactions to take advantage of this benefit. They can seek assistance from exchanges that enable taxpayers to make profits in different exchanges. There are actually exchanges where individuals and companies could take advantage of both the advantages of currencies and profit from them. The most common exchanges among taxpayers include the ones that offer the most benefit to the government such as those in the Cayman Islands, Thailand, and others. However, there are still others that offer varying rates and benefits that are not always fully beneficial to the government.
Using Virtual Currency for Gambling:
The IRS recognizes the use of virtual currency for gambling purposes is against U.S. tax law. The U.S. government considers any wager made using real money as income. One example of this is if a gambler plays with virtual currency and then betrays the same by cashing in on the winnings. Since the wager is not made with U.S. dollars, it does not matter if the taxpayer wins or loses. In this case, the taxpayer will have gained income through tax consequences regardless of whether the wager was made with U.S. dollars.
Consequences That Taxpayers Face
Some other tax consequences that may result from a taxpayer availing of virtual currency-paid transactions are realized capital gains and net losses. Realized capital gains are only available if the taxpayer has sold his property within a certain time before the transaction. Likewise, Net losses occur if the taxpayer receives the funds and then immediately disposes of the same. These consequences are applicable only if the transaction is a taxable one.
IRS Virtual Currency Regulations Act:
If you are a small business owner or an entrepreneur who is planning to start an online business, you must stay well-informed about the tax implications of utilizing virtual currencies. You need to find out more about the different exchanges that are available so as to avoid problems when trading and investing. The IRS is particularly concerned about the activities of people who transact business using these types of currencies. This is why the IRS recently passed the IRS Virtual Currency Regulations Act to bring virtual currencies under control. However, the regulations also covered non-traditional financial instruments such as collectible trades, foreign exchange brokerages, options trading, futures trading, and foreign currency hedging.