In an ongoing lawsuit by the Securities and Exchange Commission (SEC) against a Texas man it has accused of defrauding investors in a Ponzi scheme involving the popular “virtual currency” Bitcoin, Federal Magistrate Judge Amos Mazzant of the Eastern District of Texas re-affirmed in August his earlier denial of the defendants’ motion to dismiss. In his ruling, Judgef Mazzant held that Bitcoin is “money” and that contracts involving the investment of Bitcoin rather than traditional currency are nonetheless subject to federal securities law. In an ironic twist, the ruling lends credibility to Bitcoin as a currency while simultaneously allowing the government to proceed in a case highlighting Bitcoin’s risks and to potentially subject it to closer regulation-certainly an uncomfortable situation for a currency whose entire point is to serve as an alternative to government-sponsored legal tender.
Bitcoin, described by its developers as “open source, peer-to-peer money,” is an online payment system that takes the form of a virtual currency and has been in existence since early 2009. Bitcoins are created by “mining,” where users are rewarded with bitcoins when their computers perform the processing work required to process Bitcoin payments and maintain the public ledger that records Bitcoin transactions and prevents them from being “double spent” or counterfeited. Once “mined,” Bitcoins can be circulated similarly to other currency, being used to pay for goods and services or sold for traditional currency.
Unlike traditional currencies, there is no government, central bank, clearing house, or other authority issuing Bitcoin or ensuring its integrity. Rather, bitcoin is a “cryptocurrency” that depends on cryptography both to prevent counterfeiting and to regulate its creation.
While Bitcoin is a fascinating and innovative experiment in economics and the nature of money itself, it shows few indications of becoming reliable either as a currency or an investment in the near future. Currently, while a number of businesses do accept payment in Bitcoin, the majority of economic activity involving Bitcoin is trading by speculators. This has resulted in a great deal of volatility that has impaired its use as a medium of exchange and a store of value. In the last 12 months, the price of one Bitcoin in US dollars has ranged between $122 and over $1,100.
Then there are fraudsters who use the novelty and excitement surrounding Bitcoin to separate unwitting investors from both their Bitcoins and their real money. In the case pending before Judge Mazzant, the SEC alleges that Trendon Shavers, owner of the Texas-based “Bitcoin Savings & Trust,” is one such con artist. The lawsuit alleges that Shavers promised up to 7% returns to those who deposited their Bitcoins with him.
Rather than a futuristic Bitcoin investment bank, however, the SEC alleges that Bitcoin Savings & Trust was nothing more than an old-fashioned Ponzi scheme. The Bitcoins invested with Shavers were not generating any actual returns. Instead, Shavers used a portion of new investors’ deposits to pay “interest” to his old investors, with the rest of the Bitcoins going into Shavers’ virtual pocket. The SEC alleges that Shavers’ investors lost a total of 263,104 Bitcoin, worth $3 million at the time the Ponzi scheme inevitably collapsed in 2012. Those Bitcoin would be worth over $26 million today.
Shavers does not appear to be disputing that he was operating a Ponzi scheme. Instead, his defense has been that Bitcoin is not real money and is not regulated at all by the U.S. government. His argument was that Bitcoins represent nothing more than abstractions, like points in a video game, and that defrauding people out of them is not a crime. However, as Judge Mazzant pointed out, Bitcoin can certainly be used as money, as Shavers proved by using his stolen Bitcoin to pay for his own living expenses. Bitcoin can also be exchanged for conventional currencies, to the tune of over $470 US per Bitcoin at last count.
There is nothing unique about Bitcoin that allowed it to be used in a Ponzi scheme-luring marks in with arcane, novel, and unusual investment ideas has been a staple of the Ponzi scheme from day one. Charles Ponzi himself told his victims in the 1920s that he was making them money by arbitrage on postal reply coupons.
As innovative and fascinating as Bitcoin is, it is still in its infancy. It is a risky way to make money, and is no more immune to fraud than any other type of investment.
If you or someone you know has been the victim of investment or securities fraud, contact the attorneys at Abraham, Watkins, Nichols, Agosto, Aziz & Stogner by calling (713) 222-7211 or 713-222-7211.