Friday, April 29, 2011

Virtual Currency: The Legal Issues Are A Reality

By Theodore J. Kobus, III and Nicolai A. Schurko
Thursday, April 28, 2011

More and more businesses are making virtual currency part of their business model. While the use of virtual currency provides great opportunities, businesses need to be aware of the emerging legal issues before using it as a means to build customer loyalty.

What is virtual currency and why is it used?
Put simply, "virtual currency" is any medium of exchange, other than real currency, used to facilitate online or other electronic transactions. Numerous companies are currently using forms of virtual currency. For example, Apple provides iTunes users the option of buying prepaid iTunes gift cards, which contain credits that can be redeemed for music and movies. Many online games allow players to earn and purchase "points", "tokens", etc. that can be redeemed for virtual and real-world prizes. Facebook recently started a system of "credits" that has a wide variety of applications apart from gaming, such as making charitable donations using a particular charity's Facebook page. Looking into the future, Google has announced that it acquired the start-up company Jambool and its proprietary "Social Gold" virtual currency platform. There is industry speculation that Social Gold will be used to supplement Google's current online payment system, Google Checkout.

The bottom line is the use of virtual currency in e-commerce is on the rise. This trend is due in significant part to the advantages that virtual currency affords to a vendor. Virtual currency platforms allow issuing companies to lower costs by eliminating the need for a third-party company, such as a bank or PayPal, to process each payment transaction. Further, a vendor has significant control over the value of, and authorized uses for, virtual currency. This control enables companies to realize higher revenues, cut costs, and build more-attractive customer loyalty programs.

While virtual currency offers these potential benefits, there are a host of legal issues to consider.

What are the laws and legal issues affecting virtual currency?

Gift card laws:
Both federal and state gift card laws may apply to the electronic value of stored virtual currency. For instance, the federal Credit Card Accountability Responsibility and Disclosure Act of 2009 (CCARDA) contains provisions which prohibit retailers from setting expiration dates less than 5 years after a gift card is purchased. The CCARDA also prohibits retailers from changing dormancy, inactivity, and service fees unless a gift card has not been used for at least 12 months. If fees are charged after this period, the details of such fees must be clearly described on the card, and retailers cannot assess more than one fee per month under any circumstances.

State gift card laws may provide for even stricter requirements and are not preempted by the CCARDA. Thus, state law may further-limit a retailer's ability to penalize a customer for not regularly using a virtual currency account. That said, some state gift card laws provide exemptions for gift certificates or loyalty points that were provided to a customer on a promotional basis without consideration, and these may also apply to virtual currency.

Unclaimed property laws:
Unclaimed property laws may be triggered when virtual currency is earned or purchased but not used by the owner, i.e. "breakage". A typical state law provides that where property has been abandoned or unused for a specified period of time (usually 3-5 years), the property holder must turn over the value of such property to the state of the owner or to the state of domicile of the holder. Failure to comply with this type of law can result in interest and penalties which may exceed the initial amount to be reported.

In the context of virtual currency, unclaimed property laws may force a company to turn over a customer's stored virtual currency if that customer's account has been left with an unused balance for an extended period of time. Such laws may even require the officers of the company that issues virtual currency to attest to the company's compliance with unclaimed property protocol.

Gambling/Sweepstakes laws:
In some cases, companies will offer virtual currency units as a prize in a sweepstakes-type contest or will allow customers to use virtual currency as a wagering device in online games. When considering these applications, it is important to remember that federal law criminalizes most forms of online "gambling", a term which is broadly defined. Many states also regulate gambling, sweepstakes, and contests.

Currency transmittal licensure laws:
Federal and state laws generally require licensure, and sometimes special registration, for an individual or entity to engage in an activity that involves the acceptance and/or transfer of funds to a third party. These laws usually do not have a requirement that actual currency is being transferred and, thus, transfers of virtual currency could be covered. In particular, virtual currency models which allow value to be transferred to third parties, such as redemption of Facebook credits for a participating business partner's products or services, could require currency transmittal licensure. Failure to obtain a required license could result in civil and/or criminal penalties.

Ted Kobus is the Chair of Marshall, Dennehey, Warner, Coleman & Goggin's Technology, Media, and Intellectual Property Practice Group. Nick Schurko is an associate in Ted's group.

For further reading:
"Could virtual currency become king in developing countries?", Brendan Burge, April 14, 2011
"Virtual pigs and chooks see payday for crooks", The Sydney Morning Herald, March 29, 2011
"EVE Online: Its Economist on the Power Virtual Economies", Damon Brown, March 28, 2011
"Virtual Currencies: Real Legal Issues for Interactive Entertainment Companies", J. Dax Hansen, Kirk Soderquist, and Scott Edwards, April 8, 2010

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