Bitcoin law for developers

James Gatto Marco Santori

We are going to be taking a 15 minute coffee break after our next two speakers. I want to introduce you to James Gatto and Marco Santori with Pilsbury. They will be spending some time talking about Bitcoin law. They have a room this afternoon and they are offering to talk with you one on one. So Marco and James.

You missed the introduction. Was it any good? (laughter)

We are here to talk about legal issues. We are going to try to keep it light and interesting. I am going to talk about patents. And Marc is going to talk about the regulatory issues.

Most people when I talk about patents kind of zone out because lots of people have preconceptions that patents are evil and bad. How many people think that patents are good? A few. How many think that patents are evil? So fair enough. I get that a lot as I travel around in the software and open source world.

I am going to talk not so much about law, but patents and guns. I am going to try to make it more interesting than most patent talks. The significance of this is that guns are not good nor evil, it depends on what someone does with them. I think that patents are the same way. There are good parts of the patent system and some people misuse it. How does that play out here?

When you look at patents, there are different roles they can play. One of the most important, in particular with connection with Bitcoin, if someone gets a patent that covers fundamental aspects of where the development path is going, this can present a problem for everyone. So it's not the ability to get a patent to go sue people, it's the defensive part. Rather than shooting people, it's having a gun to defend yourself.

So the way that the patent system works, it used to be that if you were the first to invent somethin, even if someone filed after you, you could show that you were first to invent. The law was changed about 2 years ago so that it was first to file. So if someone files a patent before you, even if you have the idea before you, they can get a patent. So they can prevent you from doing what you have already done. And that's a bad thing for Bitcoin.

I've represented lots of open source ocmpanies like Novell who have done patent pledges, who claim they will only use the patents defensively. We're not going to go out and start patent wars. I think that in this community, it's similar concepts are relevant here. It's kind of like using a gun to defend yourself instead of shooting people. Patents have a defensive value as long as you can prevent the bad guys from blocking development.

I am not going to go into detail about patent law. I'll tell you this. If you want to think about patents, there's two simple things you should keep in mind. You should talk with a patent attorney to see if what you have is patentable. One is that if you look around and you see what others are doing and you think you are doing something different, and you think it's new technology and new applications, if those two things are true, talk with a patent attorney. You might not file a patent. Just assess. Get proper advice and make an informed business decision. We have a room in the side, we have meetings setup, we're happy to talk during the day, we're happy to have a complementary conversation as a follow-up to this conference.

My name is Marco Santori, I am an attorney. I work with Bitcoin Foundation. I chair the regulatory affairs committee.

First, I want to talk about something you have seen a lot out there. And it's crowdsales and pre-sales. I think a lot of people are wondering how to fund their company. Do I have to go from VC to VC, the silicon valley death march? Give them a powerpoint presentation? Or can I put together a crowdsale or pre-sale? And the answer like a lot of things is it depends. There are ways to do it right, ways to do it wrong.

If you are going to go a non-traditional route, and try to do a kickstarter-esque pre-sale of the product, it will be of great risk. As will anything that pushes the regulatory envelope. So how might we be able to do that?

Well, the sort of traditional method if you could call the last year or so tradition, is by minting a coin, pre-mine the coin and sell the coin. A lot of you have seen this happen. I try not to name names or particular coins if I don't have to. You probably know some of the people who have tried this. Sometimes the coin stands for a share in a company, a share of profits, a share of ownership, a share of decision making ability. Sometimes these coins are fuel for the product, to use the product in the future. Sometimes they are discount coupons. I can use these coupons to get a discount off of a product. Sometimes people just call it a currency and pre-sell. Each of these approaches will come with differnet risks. The trouble here, the key risk is that it could mean selling an unregistered security. This is one of the great bottlenecks in US innovation. US companies can't sell unregistered securities to unaccreddited or unsophisticated individuals. A company traded on NYSE or NASDAQ... they have filed a registration document, a form S1 with the SEC, it says this is my product, this is my company, this is my equity and what it entitles you to as a shareholder, and these are all the risks. One of the great reads in digital currency, the Satoshi Nakamoto whitepaper, and then S1 registration papers, and they list lots of risks that go along with owning and using digital currencies. A great example is the S1 in the Winklevoss ETF registration documents.

You can't sell securities in the US unless you sell them to accreddited and sophisticated investors. The people you are selling to have to be either rich or smart. This is one of the great tragedies of consumer protection is that people who are poor or uneducated can't buy unregistered securities. The upshot is that we have to figure out what is and is not a security. This is not easy to do. We can't even figure out what is and isn't money. There's a test.

It says, look, there are all these factors for figuring out whether this thing I am selling is a security. Someone owned an orange grove, he was going to sell plots out, based on how many oranges they produce I'll pay them back and I'll keep a cut, and the SEC saw this and said it's a security. You can't sell this to unaccreddited investors. The supreme court articulated this test. One thing to remember is that the use, purpose and timing of what you're selling.

What is the first use? What are we using this stuff for? We have to have a non-speculative use. This is the first touchstone question. This thing that we're selling, currency tokens or whatever. If there's some use besides speculation, like buying for $1 in the hopes of selling for $2 one day, then you are working in the right direction. Also the purpose, what is the purpose of this token? This pre-sold item? It should be something beyond investment. So if I own a co-op in New York, it's where I live. I bought a share technically. It wasn't an investment, it's because what comes along with those shares is a home for me and my family. Timing. When do these other benefits other effects of this token kick in? If it's right away, it's better. Farther off, it's worse. SEC is going to want to see immediate non-speculative non-investment uses for whatever you're selling. That's something that separates the pre-sale of a product and a pre-sale of an investment. Has the SEC shown any interest in this? Yes.

There was the Shavers case yesterday. The Bitcoin S&T and this guy was running a ponzi scheme. He found himself on the receiving end of the SEC down in Texas. And his very first argument was that Bitcoin isn't a security, and that it isn't money. So whatever it was doing, even if it was a ponzi scheme, the SEC who usually has jurisdiction over investments.. Judge found against him, he doesn't care what the investment is denominated in, if it's an investment then the SEC has oversight over.

The SEC has a 50 man task force to look into digital currencies and securities and how they might exercise control over this space. This is real. Just a couple of weeks ago we spent 2 hours talking about what their priorities are in this space. I can go in depth into what they are looking for. I don't want to see another Bitcoin S&T thing happen again. I don't want anyone to be on the receiving end of the SEC nastygrams. So that's one thing that is front and center in the digital currency space in terms of regulation.

Another thing that I tlak about a lot is bank secrecy. How many people are fmailiar with how bitcoin is treated with KYC, Bank Secrecy Act, etc.? Okay, so I'll start from the top.

In 2013, FinCEN released guidance and published guidance that called Bitcoin a convertible virtual currency. So they said if you are receiving and transmitting Bitcoin, then you are a money transmitter under the Bank Secrecy Act. So the entire industry said this was crazy, and Patrick Murck said, "this is an overreach". This was very big news. You are going to be regulated just like Moneygram and Western Union and banks. So people developing software turned into financial services company. It's crazy. There's some lessons to tae home from this. Any time you are acting as an intermediary, you are receiving coins and sending coins, there is a good chance that you will face some form of regulation under the Bank Secrecy Act. It may be expensive, but at least you know what to do about it. As the march of progress moves on, it becomes more complex. What does it mean to hold Bitcoin? If there's a single signature on a single .. if you know the private key, you are probably an intermediary. If I have two out of three keys, but you need all three to sign the transaction, is that enough control to make me an intermediary? Well it depends. It depends on the aspects of the business. I wish it was more clear. There would be less time spent paying attorneys.

States are concerned more with consumer protection. They want to make sure that consumers are prudent in trusting you with their money. They want to make sure you are operating safely with money. I keep saying money, but we're talking about Bitcoin.

So that's just some of the things that developers should be looking at when they build their products. We will be over here for the rest of the day. We have some slots open so feel free to pull us aside to talk about things that are important to you. We have some time, so if you want some free and very public legal advice, raise your hands.

Q: Is there a way quick hack for determining.. for example, I have a coin, it's attached to a dividend with my profits, but when you get a coin you can unlock a subscription to a mailing list?

A: So, engineers are very good at thinking at solutions to problems. But you guys suck compared to Wall Street. They have been thinking since the 1930s of weird tweaks to different products to try to bring them outside of consumer protection laws. So SEC looks at function over form. So they want to know what is it really being used for. So if you are selling a coin that is really the purpose is that you want to fund your company, and you want that money to come from someone who has nothing to do with your company, and if the purpose is to sell it later for more, but also you get a subscription to Popular Mechanics, come on that approach wont work. There are ways to build a product that is regulatorily efficient. I think your instinct is right. I think you need to focus on a product that has those useful characteristics besides those long-term speculative uses. There should be immediate real goals and real benefits.

The CFTC has been aggressive. They went after Intrade because of predictions on oil prices and so on. So they went after them on the basis of a similarity to commodities. So they have been aggressive about reaching outside the United States when they want to.

If you are broadcasting prices on which contracts are based, if you are functioning like the Wall Street Journal and just publishing information, generally it creates no liability as long as it is truthful. If you are playing a larger role somehow, then there might be a liability. Who is performing what function? In the traditional world, we knew who the swap execution facility was. So in the blockchain maybe that's not true, maybe the developers will be called into it? We don't know. That's part of the uncertainty that we face in this industry. We need short and straightforward conversations. The law always lags behind business models and innovation. For many of the creative things that will be built, there is no clear law for whether you can do it. You need to sit down with attorneys and go through all the facts. Is there something that makes it clearly illegal? Generally there's a risk profile. What are the factors that agencies will consider? Are you in the light, or dar grey, or dark dark? Also understand how, and this is what we often do, you are proposing you want to do this, if you make some light changes you might be in a much safer legal position. So that's part of the process of figuring out what to launch to minimize the chance of getting shut down by one of the agencies before you get far enough out of the blocks.