Bitcoin as a security

This article was first published on Dr. Craig Wright’s blog, and we republished with permission from the author.

In today’s post, I shall endeavour to explain some of the reasoning behind how I created Bitcoin and why I released it in the manner I did. Unfortunately, innumerable false myths have been created around Bitcoin and blockchain technology. They exist to promote concepts that have nothing to do with the system and that are antithetical to the concepts that I envisioned. For example, few people seem to recognise that even the widely promoted concept of “censorship resistance” was never a component of Bitcoin’s design. Such terminology started in 2011, when a journalist and writer associated with the Electronic Frontier Foundation (EFF) falsely described Bitcoin.

Even the promoted definition of ‘decentralisation’ stands in opposition to what Bitcoin was designed to be. Bitcoin, or any blockchain or distributed ledger technology for that matter, is issued, maintained, and controlled not by distributed parties, but by individuals. In the case of Bitcoin, the issue was completed by myself. Using the same terminology, I said that nodes were given and distribute coins (bitcoin) and not that they issued the coins. The reason for it is that Bitcoin was issued completely—with all 21 million bitcoin being created when it was launched. In other words, in January 2009, I owned every single bitcoin that technically existed.

Technically, every bitcoin that has not been distributed to a miner (aka node) is still my property. Yet, the situation doesn’t matter to me, both from the point of view of tax laws and from the point of view of security laws. The reason is that when I issued Bitcoin, the absolute value of all 21 million tokens I owned was negative. The cost of creating the system exceeded any value made through bitcoin for a long time. But, the only way I could keep any number of bitcoin that I wanted to keep was to follow the system and the rules that I had constructed. When I built Bitcoin, the offer to nodes to validate transactions was made under what law students and lawyers would understand as a unilateral contract.

Since I had constructed Bitcoin with an inbuilt agreement to distribute all of the bitcoin I owned at cost, there was no tax liability. You see, you only pay tax on profit. So if I have expended money building a system and then issue all of the assets I have created as part of the contractual arrangement, there is no direct profit and no tax liability. The unilateral contract that is issued under the rules of Bitcoin binds me. It does so both through a contractual liability and under the financial regulations associated with the issuance of assets.

Because I was setting up Australian companies designed to build solutions on top of Bitcoin, the financial benefits would be indirectly earned—not through the actions of other individuals, but through my own, and through the actions of the companies I was constructing. I set up multiple companies. Yet, the Australian Taxation Office (ATO) and I had many disagreements about the nature of what I was doing. The ATO, or at least a small subset of members in the audit teams, saw the construction of a technology platform that was given away without a direct methodology to earn money as a hobby.

The nature of how I was going to build wealth was not derived from holding bitcoin but rather through the construction of applications that would use Bitcoin, which required the token. The company I set up in January 2009 called Information Defence aided in managing the Bitcoin network by running nodes. The company ran computers in several locations, which acted as the initial Bitcoin nodes from 2009 and until 2010. I never understood that bitcoin or any derivative could be worth the value at which it is now traded, to tell you the truth. Even now, billions of dollars remains a figure that is incomprehensible in many ways.

The difficulty I had from July and August 2009 followed the filing of my tax returns. I claimed the transfer of intellectual property, which included rights to the database and other aspects of Bitcoin, from an overseas company and associated trust to the Australian company. I paid the GST on both sides of the transactions. I valued the intellectual property and database at around US$1.3 million. The amount was transferred to two companies. My accountant applied the required GST amount, with Information Defence having a balanced amount with the registered trust entity. The resulting argument was based on rather obscure laws, concerning transfers between hobbies or organisations that are not designed for profit and ones that are profit-making and hence have to pay GST.

The ATO argued that the wash transaction led to a positive requirement to pay goods and services tax. They argued that the trust could not claim on the intellectual property (Bitcoin), as no methodology existed for the entity to make a profit. The transfer to Information Defence, conversely, involved a profit-making entity, even if it was obscure—the ability to sell bitcoin at the time did not exist. So, when I say “wash transaction”, I’m saying so because the transfer of assets (being the intellectual property that was the construction of Bitcoin) was said to be a hobby.

I can be rather irascible. Consequently, when the ATO effectively said that I owed money for a transaction that led to no taxable outcome, I was rather upset. Unfortunately, I did not handle the situation very well, which caused me many of my ongoing problems. Few people seem to understand that Information Defence and Integyrs each had staff. Contrary to the popular opinion that seems to be foating around, I was not acting alone in 2009. I had people working for me. And no, Dave Kleiman was not one of them. They were paid under audited accounting records, in Australia.

Luckily, through an insane amount of perseverance, and a great amount of personal cost, in 2012, the ATO, under the direction of the Administrative Appeals Tribunal, reversed their earlier decision. In March 2013, I received a judgement in my favour. Unfortunately, the continuous actions and persecution by the same government department destroyed both companies.

The difficulty that occurred was that Andrew Sommer of Clayton Utz and his team needed to be paid. Andrew is a partner in an expensive law firm. Although he is an incredibly good tax lawyer, he is also incredibly expensive. As a consequence, the several million dollars of continued expenditure that had been invested in defeating the tax office (and I did win) would wipe out all the savings that I had available for the companies. One part derived directly from the tactics of the ATO. One of the auditors at the ATO issued a bankruptcy notice against me, and my companies, and investigated my family.

The insolvency proceedings were based upon the false premise that my companies and I owed money to the ATO for the transaction that I had completed and the deductions I had made in 2009. The methodology that was used is quite insidious. Many people may not understand that the ATO can issue bankruptcy notices without the case having been through court, even when it is in dispute. They can request money to be paid even when it is a disputed amount. Thus, there is an additional component. If an individual or company is now bankrupt, the tax office can appoint a receiver, who can cancel the court case. In the same manner, the tax office had hoped to force me into bankruptcy and, from there, to be able to take control of my companies and appoint a receiver of my assets. In doing so, they would have been able to stop the court case I eventually won and, thus, divert the course of justice.

Some people may have sensed my slight, residual hostility towards this branch of the government. I’m working on it.

Having said so, when you win a court case, you don’t get all of your fees back. All of the money that you invest in having accountants and lawyers go through accounts is not part of the fees that you reclaim from the opposition. As a consequence of the action, the court case cost me over $1.7 million, which doesn’t include several other ancillary costs, that come with having to close down businesses or rebuild new companies. I don’t even want to think about the total cost.

I mentioned that I personally could not allocate any of the bitcoin that I had issued. My inability to allocate bitcoin stems not from technical issues, as some people try to claim. It is a legal issue, under the unilateral contract defined through the rules. If I reallocate the amount of bitcoin, or if I change how my system works, then there is the issue of my being liable, and even if I was pseudonymous, which I wasn’t as much as people believed, I could be sued. As some people have recently discovered, pseudonymity is not a protection from lawsuits.

Yet, there was a problem that I had not foreseen. I have rectified it now, and through the creation of overseas companies in trust, I can no longer be targeted as the issuer of Bitcoin. The system is now past any limitations that would cause me any other problems. In 2009, that was not the case. The action between 2010 and 2012 by the ATO in seeking to bankrupt me threatened the very existence of Bitcoin. The rights to the Bitcoin database had been listed in the asset register of an Australian company, at which point the allocation of intellectual property lay with the Australian tax jurisdiction.

In other words, if the ATO had managed to successfully file for my bankruptcy, the assets I personally held in trust would have been available for redistribution. It would have provided ownership of the intellectual property forming the basis of Bitcoin to the Australian government. But, luckily for everyone, in several industries, the plan by the ATO failed dismally. As a result, the insolvency proceedings were dismissed, and I won the main tax case with the Administrative Appeals Tribunal.

Between January 2011 and September 2012, I was incredibly focused on the various actions taken against me by the ATO. People don’t understand how much work can go into a tax case. In total, we had to put together around 11,000 pages of documents. There were electronic copies and paper copies, although I don’t have any of them now. In hindsight, I should have kept them, but the reality is that after years of dealing with lawyers and accountants and the tribunal in court, I wanted nothing to do with any of it.

Silk Road made my life a complete hell. You see, I had been pushing for the development of commercial applications to ensure that Bitcoin would grow. Yet, the first real application people started using stemmed from the stupidest concept imaginable: a drug market on a completely and utterly traceable system. Other idiots started talking about assassination markets. When it all came together by the end of 2010, I had already been spending a year fighting auditors who didn’t understand anything I was doing regarding Bitcoin, or any of the related components that I was building.

I could have managed things better had I talked to people. In my defence, I have Asperger’s, but that should not be an excuse.

I had told the government about Bitcoin, and tried to demonstrate that it was a viable system, one that would help encourage and enforce regulations and rules across the internet. Unfortunately, concurrently, the first use of my publicly and widely available system was associated with the sale of illegal weapons, illegal drugs, and worse. You can guess that such use did not endear me to any of the individuals in the government, but I was dealing with it. I have been working on my Asperger’s, but I don’t deal with people who are not exactly what you would call smart very well. I made everything worse. I got into an argument with several people from different branches of the tax office, and to say that I called them idiots would be an understatement. I regret it in many ways, because it made my life far more difficult than it should have been.

I was a lay pastor at this point in my life, and I was also a trustee of the Uniting Church Organisations (Uniting Financial Services). I’m not a good chaplain or pastor, and before Mark, who ran the various churches in the Central Coast where I was, retired, he had managed to keep me in check. Mark was the chaplain for the police and military in the region, and three churches in Tumbi Umbi and Ourimbah. I led ‘Coffee Church’, and I was involved with a few other activities in the region.

I have been involved with the Burnside charity and group from Uniting Church for many years. I was associated primarily with the people in Port Macquarie, helping them gain experience and putting them through some vocational and college courses. The other aspect of what the group did, outside of the primary work of helping single-parent families to cope, was drug rehabilitation. There were many families affected by drug abuse—in both of the regions where I was involved.

The launch of Silk Road threw me. I had delivered courses for the New South Wales Police Academy, been contracted and helped in numerous forensic cases in Australia, and helped train the Australian Federal Police. I was also involved with the drug rehabilitation programmes, that helped people in my community, as part of the pastoral duties I tried to perform. I left the church in 2011. I didn’t say goodbye, and I didn’t make sure that the roles I had been assigned to were taken care of. I didn’t resign my position in the Uniting Financial Services trust; I just walked off. I am ashamed of doing so. I owed a duty, and I abandoned it, I abandoned people who needed me.

Mark had cancer of some type; I didn’t follow up. That was cruel. I had had cancer in my 20s, and although Mark was way older than that, I knew he needed support. So at a time when people needed me, I abandoned everything. Having created Bitcoin and hence the system (Bitcoin) used to build the payment system for Silk Road, I blamed myself for everything that happened. Between the stress resulting from trying to keep my companies alive, my failing marriage that fell apart, and the guilt I felt about building a system used to sell drugs to teenagers, I failed many people. I don’t even know if they understand, because I never spoke to them again. I didn’t talk to any of the people in my parish who had been friends for years. I didn’t talk to the people of Burnside who had been helping for years. I didn’t help any of the communities or talk to them before leaving; I moved house, and I started again.

Yes, it is true, I worked with internet casinos, and developed security solutions and software for them. Yet, all the operations that I was associated with were legally licensed and managed, and they monitored the activities of individuals who might have been addicted to gambling. I still don’t see it as a problem. The real issue comes with illegal operations—acting outside of the law. One reason why I created Bitcoin is directly linked to the nature of payments and the fact that the traditional internet payment mechanisms using credit cards didn’t work for small-value transactions. Whilst large-value transactions in Bitcoin, and any related system, can be reversed, it is economically and computationally unfeasible to do so with small transactions.

I never envisioned billion-dollar transactions as the use case of Bitcoin, for which it is a rather terrible system by itself. Instead, I saw the use of micropayments as small as a fraction of a cent and the ability to create small casual payments for systems such as online-gaming platforms. Such a methodology had value then, and it has value now. The arguments about reversing transactions that are commonly made are utterly false. Bitcoin is not encrypted at any point. Hence, the only protection against a court order forcing the reallocation of bitcoin relates directly to the economic cost of doing such a transaction. Nobody in their right mind is going to spend hundreds of thousands of dollars fighting a $100 transaction involving a casino, or any other site for that matter.

As explained, if the ATO had won and forced me into bankruptcy between 2011 and 2012, they would have taken over control of the Bitcoin blockchain. I still don’t think they understand the details of it, but all they would have done is close it. Governments are not good at understanding or aiding the development of innovation and new technology. To say that a government is conservative is an understatement. Governments move at the speed of cold tar.

The Plan as it was originally envisioned

Bitcoin was never as “super secret” as people like to think. I talked about what I’d been building with people I knew, and filed claims on my work for years. I started working on the basis of what I saw as the Metanet or Blacknet and the required token system in 1999. At the time, it was a complete and utter mess, that wasted lots of money. But I am a tenacious individual, and I don’t believe in pivoting.

By the time I had launched Bitcoin, I’d studied financial services law and international commercial law for several years. I obtained my master’s degree in Law in 2008, before the launch of Bitcoin, and my dissertation was based on the system that I had been building. Bitcoin was always designed to be, first and foremost, a micropayment system that could be extended beyond digital cash to the operation of other digital assets. Bitcoin was not designed as a “store of value”, and it was not a built-in response to the global financial crisis. If somebody says it is, they are either an idiot/moron, a conman, or both. Given the state of the “cryptocurrency industry”, both are the likely outcome.

When I say “cryptocurrency” concerning any blockchain-based system, I am doing so in quotation marks because Bitcoin and any derivative system are in no way cryptocurrency. Whilst it is commonly misreported and factually misrepresented, there is no encryption used in Bitcoin. Bitcoin transactions are transacted, sent, created, and signed without encryption at any point. Bitcoin is anti-encryption. The public nature of the blockchain precludes any encryption. If you truly understand how my system works, you will come to understand that it differs significantly from all the previous attempts to make a digital cash system. In the past, eCash and related money-transfer systems were all based on a model of anonymity, aiming to make it private through encryption.

I completely turned the model on its head, by not using encryption at any point within Bitcoin. In some of my early posts, you will note that I talk about building Bitcoin from source code without the encryption components of OpenSSL.

Why open source?

The idea of developing Bitcoin using open source is important and even necessary. Yet, it does not mean that there are no rights associated with it, and it is important to note that Bitcoin was not released under a GNU General Public License. The MIT License is incredibly patent-friendly, and it doesn’t cover any of the associated files such as images or white papers. To cover such files, it would be necessary to use the Creative Commons license in association with the MIT License, which was never done with Bitcoin.

Bitcoin is a critical system, and it is a security platform. When software is created that needs to be resilient to attacks, it also needs to be widely tested and verified. Whilst some people can do static testing and black-box testing and conduct tests based on reverse-engineering the code, none of them are ever as effective as a complete walk-through using the open protocol. At the same time, Bitcoin is a protocol. To be utilised, it needs to be treated like TCP/IP for the internet. In other words, it needs to be publicly available. When I created Bitcoin, I had no idea that it would be worth so much money now. In addition, I constructed it in such a way that allowed no direct method for me to exploit the amount I owned without actively mining to regain the bitcoin I had created. Under the terms of the rules and the associated contracts with the node operators and the people using the system, I was bound to distribute all of the bitcoin I had issued. The amounts that I was allowed to distribute at any time were all preset, and there was no money for me to make.

For some reason, Ethereum supporters believe that they need to pre-mine. You don’t. Bitcoin, any system for that matter, including Ethereum, could have been designed to allocate a set amount of coins and distribute them to anyone they want at any point, including before creating the genesis block (which is not mined, and if you understand Bitcoin at all, you will understand that you cannot mine the genesis block of a blockchain).

The initial database and the formulation of the database are covered under the sui generis rules, which exist in a sensible country such as the UK. Simply put, many databases are offered under open-source agreements. For example, Oracle releases MySQL under such an agreement, and the code is provided freely under open-source arrangements. Yet, anybody who uses MySQL and creates a database does not lose the right to own the database. Rather, the database rights under copyright and the associated intellectual property rights are all maintained by the owner, unless otherwise assigned. The rights to the intellectual property of Bitcoin have never been assigned outside my control.

Why Bitcoin is not a security

The test by the U.S. Securities and Exchange Commission (SEC) that most people rely on is known as the Howey test (SEC v. W. J. Howey Co.), which follows the outcome of prior litigation. It is not the extent of the law, but it is used as a test because regulators know how the courts will rule. If you find an instance where a breach seems to match the existing organisation that you are investigating, you do not need to worry about understanding the complex securities law applying to the company that you are investigating, but rather, you can follow the preset example. The truth is that any complete application of the Securities Act of 1933 extends far beyond the existing test. Still, regulators are reluctant to take on cases they may lose, and the legislation is complex.

When I launched Bitcoin, the protocol was set. The way I put it was that the protocol was “set in stone”. Consequently, there was no requirement for other people to improve or change or modify or update or screw up the protocol whatsoever. Rather, the intention was that nobody would ever change the protocol. Not now, not in 2140 when the block subsidy ends, and if it is still going, not in 2222 or beyond. The continuing distribution was based on a pre-existing issue.

So, in the simple Howey test, Bitcoin fails because I set the protocol such that it did not need to be changed, and the development and maintenance should have gone to a nonprofit organisation. The Bitcoin Foundation was formed in 2010, while I was still acting as Satoshi. Most people don’t realise it occurred while I was there. Then again, many of the current Core developers have different views than I do, and want to create a system that is friendly to things like Silk Road, as they want to create a system that aids money laundering, so they will happily lie. Luckily, everything I’m saying can be tested.

So, Bitcoin is not a security because it is firstly a commodity system—defined without an account—and acts, even though digitally, as a fixed, static standard commodity offer. Ethereum is not. Ethereum is an account-based system and not a token-based system. Next, there is no requirement to invest money in a common enterprise, because Bitcoin nodes act competitively. The bitcoin I issued is distributed following my issue in 2009, under a set agreement where no profit ensues. Here, in part, lies one of the major reasons I did not keep any bitcoin or pre-mine. If I had done so, the result would have been a system where I would have profited from the efforts of a promoter or third party. Remember, before the launch of Bitcoin, I had studied international commercial law, specialising in international financial law, and completed my Master of Laws (LL.M.). I knew what the obligations were. I had also been working as a director at the audit firm BDO, giving presentations on the very same topic.

As such, bitcoin is a commodity that is exchanged under standard contractual trade conditions. Of course, as it is also used as money, it can come with different legal protections, but that’s a different issue, for a different post.

The issue of digital assets is NOT decentralised

The only consensus mechanism within Bitcoin exists between the nodes. It is conducted through the distribution of blocks. When a node finds a valid block and proof-of-work solution, the block is published and becomes valid when other nodes build upon it, reaching maturity through the addition of 100 further blocks.

Next, software groups and even the internet are not politically decentralised, as people keep making out, in the sense of the rather socialist mantra of everybody having complete equality. Bitcoin is not aligned with such an ideology. And yet, people such as the Core developers want to lie to you and falsely tell you that Bitcoin is politically decentralised. They do so as they are in control of the BTC code.

The primary difference between users and nodes in the network is that while users can retain privacy and be pseudonymous, nodes cannot. The proof-of-work mechanism in Bitcoin corresponds to a deanonymisation strategy. Nodes can’t hide. In the entire Bitcoin network and all the derivative networks, including the BTC network, there are only around thirty nodes, only four of which matter. So when you look at all the claims made about decentralised finance (DeFi), about the democratisation of finance and all the claims that DeFi operates without human intervention, you need to start thinking and not just trust the individuals making such claims.

There is no such thing as a decentralised finance token built upon Bitcoin. Every token has an issuer. They are not computers, and they are not anonymous groups. They do not act outside the control of the government. Remember, as I’ve said, Bitcoin is at no point encrypted. Whilst I may get fed up with government officials from time to time, because of the actions of individuals in the government, I’m not an anarchist, and I don’t believe that a world can survive and grow and flourish without an effective government. When you come to understand Bitcoin, or any blockchain for that matter, you will start to understand that they are aligned to my mindset. Thus, they will not, in the long term, be used outside government control.

Just as bitcoin has an issuer in me, every other digital asset has an issuer. And, the requirement for assets not to be encrypted removes the ability for nefarious actors to create systems that are outside the reach of government control.

Footnotes

[1] United States Supreme Court SEC v. W. J. Howey Co. (1946), No. 843 Argued: May 2, 1946; Decided: May 27, 1946