I. Introduction

American playwright John Guare once said, “Does art have any practical value? People love to talk about how expensive a painting is. That’s the only way we talk about paintings in this century.”

The topic of this paper is Bitcoin, and much like art, it is often the subject of artificial discussion. That is, people often jump to theorizing about Bitcoin before truly understanding what it is.1 This includes policymakers, regulators, and judiciaries—collectively, those who define the constructs of society.2 As a result, the laws governing Bitcoin ultimately frustrate its intended purpose and potential utility. This paper will focus on the significance of Bitcoin under Article 9 of the Uniform Commercial Code. However, before evaluating and attempting to redefine the theoretical boundaries of secured lending laws as applied Bitcoin, I find Guare’s quote appropriate as a prefatory note. That is, a fundamental understanding of Bitcoin’s enabling technology and its practical value are necessary before “pricing the art,” so to speak.

To the layman, bitcoins are simply a digital form of payment: conceptually, electronic coins and dollars. This understanding, albeit simplified, is mostly correct. However, one matter must be clarified. The definition for “Bitcoin” is actually two-fold. Consider the following definition provided by François R. Velde, senior economist at the Chicago Federal Reserve:

“Bitcoin is a system for securely and verifiably transferring bitcoins.”3

This definition sounds redundant; and yet, it is entirely accurate. The term “bitcoin” is used to describe both the token of cryptocurrency and the network protocol that facilitates the transfer of such tokens.4 Today, over 100,000 merchants worldwide accept bitcoin in exchange for goods or

1 In the words of Brock Pierce, Managing Partner of Blockchain Capital: “[Bitcoin is] just one of those things where it takes time to understand it, and once you get it, you got it.” See Kyle Torpey, Brock Pierce: Consumers Don’t Care About Bitcoin, They Care About Faster and Better, Blockchain Agenda Newsletter, Nov. 16, 2015, http://bit.ly/1SpcpGp (alteration added).2 See, e.g., infra Part II (C) (discussing the 2016 HashFast decision, which involved a bankruptcy judgment concerning bitcoins character as property or money). 3 See François R. Velde, Bitcoin: A Primer, Essays on the Issues, No. 317, THE FEDERAL RESERVE BANK OF CHICAGO (December 2013).4 Id. For the purposes of this paper, I will use the term “bitcoin” (note: the lowercase “b”) to refer to the transferrable units of bitcoin and “Bitcoin” (note: the uppercase “B”) to refer to its peer-to-peer network.

services.5 For example, a buyer can use bitcoins to pay for a hotel room online through Expedia.com or purchase a Ford F-150 in person from Sam Pack’s Five Star Ford in Dallas, Texas. Bitcoin was even used recently to purchase a home.6 The point being that Bitcoin’s role in modern commerce is not only plausible, but it is also somewhat prevalent. This prevalence arguably speaks to the platform’s future stability; although, not everyone agrees. Across industries, Bitcoin has attracted fervent debate as to the payment system’s longevity. Whereas some reserve no doubt,7 others are skeptical, and some even critical. This latter group includes the “Oracle of Omaha” himself, Warren Buffet, who has said, “Stay away from [Bitcoin]. It’s a mirage, basically.”8 These discussions circling the topic Bitcoin’s are virtually endless. However, one thing is for certain. If Bitcoin is to have any true role in commerce, it must find a functional role within the realm of secured lending.9

Given Bitcoin’s predominant function as an online payment system, one would be fair to assume bitcoins are treated like cash for secured lending purposes. However, under the current reading of Article 9, bitcoins do not fall within the Code’s definition of “money.”10 Rather, bitcoins are deemed “general intangibles”—a form of personal property. This categorization presents immediate concerns for Bitcoin’s future as an alternative payment system. First, unlike money (i.e., cash), a security interest in general intangibles can continue notwithstanding its disposition. This means that unless the secured party consents to the transfer free of its security interest, or the underlying obligation is otherwise terminated, the security interest will carry forward with the collateral to the transferee. Furthermore, bitcoins are, by their very nature, infinitely traceable. Thus, not only 5 Anthony Cuthbertson, Bitcoin Now Accepted by 100,000 Merchants Worldwide (February 4, 2015), http://bit.ly/1SsRnH5.6 Elliot Maras, Miner Buys House With Bitcoin Using Coinify (March 14, 2016), http://bit.ly/1SIzXWq.7 For example, John McAfee, known best as the world’s first commercial anti-virus computer software, recently said, “Electronic currency is inevitable.” See Jamie Redman, John McAfee: ‘There Are Tremendous Technology Problems With Bitcoin (March 18, 2016), http://bit.ly/1SrcKaz.8 See Rob Wile, Warren Buffet: ‘Stay Away from Bitcoin: It’s a Mirage’, BUSINESS INSIDER (March 14, 2014), http://www.businessinsider.com/warren-buffett-bitcoin-is-a-mirage-2014-3.9 Lenders often secure obligations as a somewhat imperfect alternative to high monitoring costs. Putting aside the debate surrounding its true economic efficiency, for the purposes of this paper, it suffices to say that that secured credit plays a pivotal role in U.S. commerce. See generally Alan Schwartz, The Continuing Puzzle of Secured Debt, 37 Vand. L. Rev. 1051 (1984).10 See infra part III(A).

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will a secured party will be able to locate a third party who is paid with encumbered bitcoins, but the secured party will also have a superior claim to the bitcoins over the third party payee. In the context of bitcoin transactions, this has been referred to as the “non-fungibility problem,” or the “nemo dat problem” (i.e., no one can give what he does not have).11 This issue becomes especially problematic with respect to issues of “blanket liens,” under which the transferor (the original debtor) may not realize his or her bitcoins are encumbered.

This paper’s analysis explores the Article 9 problem in-depth, including how Article 9 hinders bitcoins’ adoption in mainstream commerce. It proceeds in three parts. In Part I, I provide an explanation of bitcoins’ enabling technology—i.e., the blockchain. Part II includes overview of a bitcoin’s categorization under Article 9, including the gap in Article 9 that effectively forces bitcoin into the definition of general intangibles. Finally, in Part III, I conclude by proposing reasons for why the American Law Institute (ALI) should amend Article 9 to include a new category of collateral: “cryptocurrency.” This new category borrows from existing rules and features found in Article 9, which should influence the Article 9’s policy regarding “cryptocurrency” if we wish to see it used to its full commercial potential.

II. What is Bitcoin?

Policymakers have yet to reach a true consensus on how to categorize a bitcoin. Some consider it a form of digital currency, whereas others view it as an intangible commodity or a form of investment property.12 In short, there is no one true category: its technology can be used for many things. This diverse functionality is what makes a bitcoin a double-edged sword for the purposes of Article 9 analysis. On the one hand, its potential utility value in secured transactions is seemingly limitless.13 On the other hand, bitcoins’ amorphous character cautions against a singular definition. However, before attempting to find the “correct” definition, a person must truly understand what it is.

A. The Enabling Technology

11 Peter Van Valkenburgh, What Last Week’s European VAT Ruling Means for Bitcoin Fungibility, COIN CENTER, http://bit.ly/1qKzuMq (last visited April 20, 2016). The “nemo dat” problem borrows from the latin phrase “nemo dat qui non habet,” which translates to “He who hath cannot give.” See BLACK’S LAW DICTIONARY (5th Ed.) at 935.12 See infra Part III (B).13 See generally Bill Conerly, Should Businesses Accept Bitcoin?, FORBES MAGAZINE, (February 24, 2015), available at http://onforb.es/1XQVq3o.

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Bitcoin is an open source, peer-to-peer, decentralized software protocol. While the protocol can serve many purposes, it is primarily used as an online payment system. Technically speaking, a bitcoin is a form of “cryptocurrency,” which means it is an electronic currency exchanged on a open network that uses algorithms to encrypt the transactions.14 The encryption camouflages the details of underlying transactions while also maintaining an electronic money trail so that all transactions can be verified between users. Bitcoin is often referred to as the world’s first “cryptocurrency,” although, to be fair, this is technically incorrect as cryptocurrency systems existed long before Bitoin’s inception.15 Rather, what makes Bitcoin unique is that it is the world’s first decentralized cryptocurrency.16 That is, prior to its creation in 2008 by an anonymous programmer operating as “Satoshi Nakamoto,” online transactions required the involvement of trusted third-party intermediaries (e.g., banks, brokers, or credit card companies). If, for example, Hillary wanted to buy a red rally hat from Donald over the Internet, she would rely on a bank or a third-party service provider (e.g., PayPay or Mastercard) to facilitate the transfer. In this traditional payment system, the intermediary maintains a ledger of the Hilllary’s account balance. When Hillary consummates her purchase, the intermediary deducts the corresponding amount from the Hillary’s account and transfers it to Donald’s.

The role of the intermediary was (and, in most payment systems, still is) necessary because, without it, there would be no way to guard against the risks of overspending or double-spending. An intermediary allows the payment to operate on a closed-loop, much like a checks-and-balances system, the necessity of which is most evident when considering the prospect of an electronic payment system without one. Consider a world where people are unlimited in what they could purchase. With paper money, a checks-and-balances system is implied in its form: a purchaser can only spend the amount in his or her physical possession. By comparison, non-paper currencies are not self-limiting in form. Without the credit card company or bank to monitor 14 “Crytography,” in computer science parlance, is the practice of securing information through the use hash algorithms that make the information secured practically impossible to corrupt without the use of advanced computer hardware. See Jenny Q. Ta, Bitcoin, Digital and Virtual Currency: What’s the Difference?, 22 Westlaw Journal Bank & Lender Liability 1, 3 (March 24, 2015). In layman’s terms, access to most electronically stored information can be “reverse-engineered.” Cryptography virtually guarantees the opposite.15 Bitcoin is but one of hundreds of other types of cryptocurrency. See id. at *1-3 (distinguishing between “virtual currency,” digital currency,” and Bitcoin [i.e., a “cryptocurrency”]).16 Jerry Brito and Andrea Castillo, Bitcoin: A Primer for Policymakers, at *4-5, MERCATUS CENTER, GEORGE MASON UNIVERSITY (August 19, 2013) available at http://bit.ly/1yhJVUf.

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spending, there would be no way to prevent an account holder from spending more than he or she has, or spending the same amount twice.17 Prior to Bitcoin, the only viable solution to the overspending and double-spending dilemma was through the use of a trusted third-party intermediary. However, the innovation of Bitcoin offered a new solution. It ushered in a new checks-and-balances system for online transactions: one that operated without a third-party intermediary and allowed buyer and seller to transact directly.18

i. The Blockchain

Bitcoin is capable of providing the protection of a checks-and-balances system without the use of an intermediary by maintaining a collective bookkeeping among its users. This bookkeeping is available in a single, online ledger called the blockchain.19 The blockchain operates on a peer-to-peer network. This means that everyone who uses bitcoins comprises a small fraction of what would otherwise be thought of conceptually as the “bank of bitcoin.” As one author has 17 The difference between overspending and double-spending may not be self-evident. The following analogy may help clarify. An electronic currency in an electronic payment system is a digital record. Conceptually, it is very similar to a digital word document or mp3. An electronic payment is a transfer of a digital record, just like a word document is transferred by way of e-mail attachment. However, in the context of an e-mail attachment, the sending of an e-mail does not erase the word document from the sender’s computer. The user retains the original copy. There is a similar risk in the context of electronic currency that an account holder who pays with a specified denomination of digital currency will “retain a copy” and spend that same currency in a second, totally separate transaction. This would be double-spending. See Rick Falkvinge, Why I’m Putting All My Savings Into Bitcoin, FALKVING.NET (May 29, 2011), http://bit.ly/1VSSZzt.18 In fact, this was one of the primary motivations for its creation. Nakamoto expressly described bitcoin as an “electronic cash” that would avoid market inflation and other theoretical risks of “fiat currencies” (non-commodity-backed currencies) through decentralization. See Satoshi Nakamoto, Bitcoin: A Peer-to-Peer Electronic Cash System, (2008), http://bitcoin.org/bitcoin.pdf. It was his (or her or their) opinion that “the root problem with conventional currency is all the trust that's required to make it work. The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust.”; see also Natoshi Nakamoto, Bitcoin open source implementation of P2P currency, P2P FOUNDATION (February 11, 2009), http://bit.ly/1cClKfb. Bitcoin is an intentional departure from the former “trust system,” which Bitcoin replaces as its technology enables self-verifiable transactions. See also Alan Feuer, The Bitcoin Ideology, THE NEW YORK TIMES (Dec. 13, 2014) (quoting Elizabeth Ploshay, writer for Bitcoin Magazine) (“[T]he goal is to unleash repressed economies, to take down global banking or to wage war against the Federal Reserve.”).19 See Lisa Chang, An Introduction to the Bitcoin Blockchain, WIRED MAGAZINE INSIGHTS, (January 6, 2015), http://bit.ly/1rbjOCt (“The Blockchain is where a network of computers unknown to each other are distributed and synchronously maintain a copy of all Bitcoin transactions confirmed in the network.”).

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explained the concept, “[J]ust as paper money is hand-to-hand, bitcoin is peer-to-peer.”20 Much like you would hand someone a five-dollar bill, bitcoins can be transferred directly between two persons without the mediation of a third-party. However, unlike paper money, a bitcoin is intangible and therefore must possess some other self-limiting property. This is accomplished through “timestamp[ing] transactions by hashing them into an ongoing chain of hash-based proof-of-work, forming a record that cannot be changed without redoing the proof-of-work.”21 This concept may be foreign to the reader. Consider the following explanation.

Within the blockchain, all transactions for a given period are compiled into a single “block,” which operates like a file folder. Each transaction within a given block includes information like the time, date, transferor, transferee, and amount of bitcoins exchanged.22 Using what is called a “hash function,” the network takes an input (here, the block’s bitcoin transactions) and runs it through an algorithm. This algorithm cryptographically encodes the transactions, and produces a seemingly random, alphanumeric sequence known as a “hash value.”23 It is the hash value that ultimately becomes visible on the public ledger. It is stored along with the block, and placed at the end of the blockchain for that point in time.

In generating a hash value, the hash function uses not only the block’s transactions, but other input data as well. The other input data includes, namely, the hash value of the preceding block stored on the blockchain.24 By integrating its preceding block’s hash value into the new block’s hash value, “the links of the chain” are bound together: one block’s hash value is contingent on the former block’s hash value. A change in former will correspond with a change in the latter. These transactions are recorded on the blockchain indefinitely. So, as new blocks are added, the length and complexity of the blockchain 20 Yves Smith, Is U.C.C. 9 Going to Kill the Use of Bitcoin by US Businesses?, NAKED CAPITALISM BLOG, http://bit.ly/1RuLjAF (last visited Jan. 20, 2016).21 Satoshi Nakamoto, Bitcoin: A Peer-to-Peer Electronic Cash System, at *1-2 (2008), http://bit.ly/LjkXCv.22 COINDESK, How Bitcoin Mining Works (December 22, 2014), http://bit.ly/1JUq4nA.23 A user has no control over what hash value a hash function will generate. Though the hash value’s alphanumeric sequence may at least appear random, the sequence is very much deterministic. It is purposefully proprietary: it is the secretive nature of Bitcoin’s hash function that assures the network’s security. Once a hash value is generated, it becomes like a one-way mirror: it is representative of its input data (and the Bitcoin network recognizes it as such), but the hash value itself is practically impossible to reverse-engineer.24 See Nakamoto, supra note 21 at 2.

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increases and the Bitcoin network grows larger. Despite its size, however, each hash value remains highly sensitive to change. If a user changes just a single character within a single block’s input data (e.g., the amount of bitcoins or the destinations in a transaction), the block’s hash value will change completely, which in turn changes the hash values in other blocks. Thus, even a subtle change will make a conspicuous impact. This concept is fundamental to how Bitcoin protects against double-spending and overspending without the monitoring of a trusted third party. By tying the hash value of each transaction to other hash values in the blockchain, the network forms a closed loop. Other users can locate where any unauthorized change occurs and “vote” on whether or not the change is valid.25

Theoretically, this sounds problematic. If every user were required to vote on every transaction in order to maintain the system’s integrity, oversight would be completely impractical, if not impossible. Fortunately, Nakamoto recognized this, and designed a way for users to reach a consensus without requiring individual participation by all Bitcoin members. The solution is a “consensus algorithm.” Despite what its name implies, consensus among users is not achieved using votes are cast from individual computers. As Nakamoto explains, “If the majority were based on one-IP-address-one-vote,26 [Bitcoin] could be subverted by anyone able to allocate many IPs. Proof-of-work is essentially one-CPU-one-vote.27 The majority decision is represented by the longest chain, which has the greatest proof-of-work effort invested in it.”28

ii. Bitcoin mining

The greatest “proof-of-work” generated through the consensus algorithm is produced by the central processing units with the greatest computing power. Bitcoin users called “miners” are the ones who take on this task. The miners ensure that there is continuity among all the

25 See Nikolei M. Kaplanov, Nerdy Money: Bitcoin, the Private Digital Currency, and the Case against Its Regulation, 10 Temple L. Rev. 1, 5 (March 31, 2012). 26 An “internet protocol (IP) address” is the method or protocol by which data is sent from one computer to another on the Internet. Each computer (known as a host) on the Internet has at least one IP address that uniquely identifies it from all other computers on the Internet. See Margaret Rouse, What is Internet Service Protocol?, TECHTARGET, http://bit.ly/1T7VSXa.27 A “central processing unit (CPU)” refers to the “brains” of the computer where most calculations take place. Computing power turns on the hardware circuitry a CPU employs. A CPU can be a single computer or group of computers. Blockchain processing requires it is the latter.28 Nakamoto, supra note 20 at 3.

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links and nodes of the blockchain by solving complex mathematical problems generated by the consensus algorithm. However, these math problems are not solved with paper and pen. They are extremely complex problems that require advanced mining software running on application-specific integrated circuit (ASIC) computer chips, designed specifically for bitcoin mining.29

In exchange for managing an up-to-date and accurate ledger, the miners are rewarded with newly “mined” bitcoins. If there is any attempt to fabricate or otherwise corrupt a transaction, the proof-of-work will not arrive at a consensus, and the miners will refuse to incorporate the transaction into the ledger. This means that every time a transaction occurs between its members, it must be verified and validated by miners.30

The role of a bitcoin miner necessarily requires a massive amount of computing power, which itself requires expensive hardware. For many miners, however, the incentive is well worth the investment.31 But not all miners who attempt to solve the consensus algorithm’s problems are rewarded. Only those who solve them first will receive the newly mined bitcoins. The network protocol follows a predetermined distribution schedule that is gradually approaching a final number of just under twenty-one million.32 This limit is "hard-wired" into the protocol. There will never be more than 21 million bitcoins in circulation.

Bitcoin’s system of distribution relies on an equilibrium created by the realities of the bitcoin mining process. The algorithm’s problems necessarily require a massive amount of computing power to solve, and only by participating in the mining process will users have a chance at earning newly mined coins. On the other hand, as the algorithms become more complex, the fewer miners there are who are capable of the task. The protocol automatically adjusts the difficulty of the algorithms over time in response to demand. This game-theoretical distribution system serves two hallmark functions for Bitcoin as a currency: (1) it provides an incentive for users to self-maintain the

29 See Kariappa Bheemaiah, Block Chain 2.0: The Renaissance of Money, WIRED MAGAZINE, http://bit.ly/1VEPurU (last visited April 12, 2016).30 See id.31 As of April 22, 2016, one bitcoin was worth 447.37 U.S. dollars. See Bitcoin Price Index Chart (USD), COINDESK, http://bit.ly/1fM5pPv (last visited April 22, 2016).32 This cap on bitcoins is expected to be reached by 2140. See Velde, supra note 3 at 2.

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ledger’s integrity and (2) it facilitates a system less susceptible to the risks of inflation.33

33 Bitcoin is a “fiat” currency—i.e., its value is not backed by gold or any other physical asset. Rather, it derives its value from the value people assign to it. Nevertheless, Satoshi Nakamoto designed bitcoin to replicate many of the advantages of a gold-backed currency. See Nakamoto, supra note 20 at 3-4. The assumption of a gold-backed currency (or any asset-backed, non-fiat currency) is that there is a limited amount of gold in the world. Thus, a gold-backed currency effectively limits a government’s ability to unilaterally cause inflation by printing new money.

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iii. Bitcoin Wallets

To possess bitcoin, a user must have a “bitcoin wallet.”34 To transfer bitcoin from one’s digital wallet, the owner must enter an account number, known as a “public key,” which operates much like a username, as well as a “private key,” which operates much like a password.35 Though a user’s true identity can be kept private, the public key linked to the transaction—represented by a series of digits—is available on the public ledger and remains there indefinitely.36 In this respect, bitcoins are not like paper money, or even electronic money for that matter, because they are infinitely traceable. III. Bitcoin under the Uniform Commercial Code

A. Bitcoins Are Not Money Under Article 9.

Bitcoins primarily serve as an electronic currency. The logical extension of this is that it belongs within the U.C.C.’s definition of “money.” However, despite bitcoin enthusiasts’ best efforts for mainstream adoption, bitcoins do not qualify as money, at least under the present reading of Article 9. The U.C.C. defines “money” in §1-201(b)(24) as “[a] medium of exchange currently authorized or adopted by a domestic or foreign government” including “a monetary unit of account established by an intergovernmental organization or by agreement between two or more countries.” At first blush, the only limitation of §1-201(b)(24)’s language preventing bitcoins from being treated as money is that they has not been endorsed by a central government or per the terms of a transnational agreement. If this were the case, bitcoins would be able to shoehorn their way into the definition of money simply by finding a nominal country to endorse its legitimacy (e.g., Panama, perhaps).

Beyond the definitional limits of 1-201(b)(24), the U.C.C.’s intention to limit money to only its paper forms appears to manifest itself throughout the Code. For example, this can be implied from the fact that Article 9 distinguishes money from other forms of currency. The primary distinction is between “money” and “deposit accounts,” 34 See Craig K. Elwell, Maureen Murphy, Michel V. Seitzinger, Bitcoin: Questions Answers, and Analysis of Legal Issues, Congressional Research Service Report No. 43339 (Dec. 20, 2013). 35 See id.; see also William Swanson, Creating Bitcoin Private Keys with Dice, Swanson Technologies, www.swansontec.com/bitcoin-dice.html (last visited April 21, 2016).36 See id.

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despite the fact that the two serve the same fundamental purpose. A deposit account is defined in Section 9-102(a)(29) as “a demand, time, savings, passbook, or similar account maintained with a bank.”37 Like the blockchain, the deposit account serves as a digital ledger that must be monitored and adjusted in response to transfers. Thus, Article 9 appears to intentionally include only physical, paper currency in its definition of money at the exclusion of electronic money in the form digital ledgers.

Furthermore, even if we were to ignore the definitional issue, treating bitcoins as money would be problematic because it would render a security interest in bitcoins impossible to perfect. §9-310 provides that the filing of a financing statement is a generally permissible method for perfecting a security interest in collateral, “[e]xcept as otherwise provided in . . . 9-312(b).” Under Section 9-312(b)(3), a non-proceeds “security interest in money may be perfected only by the secured party’s taking possession.”38 The Code does not define the term “possession,”39 but courts appear to equate it with actual possession.40 Thus, if bitcoin were categorized as money, it would be impossible for a creditor to create a first-generation security interest in it because it lacks the tangible properties necessary for the only perfection method available. Some scholars have argued for the reinterpretation of possession in the case of bitcoin. As one professor has argued, the U.C.C. incorrectly “conflates the fact of possession with the legal right of possession—the supposedly naïve view that we try to wean out students from in the first year of law school.”41 However, as I propose in later parts of this paper, this interpretive problem will be inconsequential if the ALI amends Article 9 to include a new category for “cryptocurrencies” that can be perfected by a method of “direct control.”42

B. Bitcoin Wallets Are Not Deposit Accounts

37 U.C.C. § 9-102(a)(29).38 U.C.C. §9-312(b)(3) (emphasis added).39 U.C.C. §9-312 Official Comment 3 (“This section does not define ‘ possession’ . . . in determining whether a person has possession, the principles of agency apply.”).40 See U.C.C. §9-313 Official Comment 2; Transport Equipment Co. v. Guaranty State Bank, 518 F.2d 377, 378 (10th Cir. 1975).41 Jeanne L. Schroeder, Bitcoin and the Uniform Commercial Code, Faculty Research Paper No. 458, at *19-20, Benjamin N. Cardozo School of Law (Aug. 2015).42 See infra Part III(C).

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Like deposit accounts, bitcoin wallets are intangible property interests used to store electronic currency. However, bitcoin wallets cannot be deposit accounts by definition, simply because they are not maintained with a bank.43 Unlike deposit accounts, bitcoins maintained in a bitcoin wallet can be exchanged directly between two persons—like paper money—without third party oversight. Only if bank account balances were monitored by other bank account holders would the analogy between bitcoin wallets and deposit accounts be accurate.

Furthermore, like security interests in money, security interests in deposit accounts are subject to an exclusive method of perfection: that is, perfection by way of control, which is governed by §9-104. However, of the three methods of control provided in §9-104(a), none applies in the situation of bitcoin wallets. Like the definition of a deposit account, all three methods require some form of involvement with a bank; and Bitcoin, by design, is a decentralized system. As one attorney has aptly put it, “[bitcoin wallets] are more akin to transmitters of money than they are to banks, thus would almost certainly not be considered ‘banks.’”44

C. Bitcoin’s Treatment Outside of Article 9

Outside the purview of Article 9, regulators expressly intend to treat bitcoin as an intangible commodity (i.e., personal property) rather than as money. For example, the Internal Revenue Service (IRS) treats bitcoin as property for the purposes of income tax computation.45 More germane to the purposes of Article 9 is a bitcoin’s treatment in bankruptcy law proceedings.

In a recent case heard in the Northern District of California, HashFast Technologies LLC v. Marc A. Lowe,46 the court ruled that bitcoins were not money. HashFast involved a bitcoin mining company that had paid the opposing party 3,000 bitcoins for his promotion of

43 See U.C.C. §9-102(a)(29) (defining a deposit account, in part, as a “demand, time, savings, passbook, or similar account maintained with a bank.”) (emphasis added).44 Jeffrey I. Snyder, Secured Lender Protection Limited When Bitcoin is Collateral, The National L. Rev., July 17, 2014, http://bit.ly/1SDRnpO.45 Thus, bitcoin is taxable under the gain and loss mechanisms of §§ 1001 and 1221 (if a capital asset in the hands of the taxpayer) of the Internal Revenue Code. See Internal Revenue Service, IRS Virtual Currency Guidance: Virtual Currency Is Treated as Property for U.S. Federal Tax Purposes; General Rules for Property Transactions Apply, IR-2014-36, March 25, 2014, available at https://www.irs.gov/uac/Newsroom/IRS-Virtual-Currency-Guidance.46 Adversary Proceeding No. 15-3011DM, Case No. 14-03725DM (Bankr. N.D. Cal. Feb. 19, 2016).

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mining hardware. At that time, the payment was worth approximately $360,000 in U.S. dollars.47 However, when the company filed for bankruptcy a few years later, those same bitcoins had appreciated to a value to over $1.25 million. The bankruptcy trustee claimed that the opposing party had been overpaid in what amounted to a fraudulent transfer and demanded the return of the 3000 bitcoins (or their market value equivalent). In response, the payee argued that the bitcoins were money. After all, he had been compensated in bitcoin throughout the entire course of the parties’ dealing. Judge Dennis Montali’s response to the payee’s argument was to the point: “that doesn’t make them dollars.”48 The difference in categorization translated to a difference in over one million dollars. However, Judge Montali did not definitely rule on bitcoin’s categorization. The only clarification the judge made in his final Order was conveyed in the negative:

The court does not need to decide whether bitcoin are currency or commodities for purposes of the fraudulent transfer provisions of the Bankruptcy Code. Rather, it is sufficient to determine that . . . bitcoins are not United States dollars.49

Judge Montali’s decision is still fairly limited. It is important to

note that he expressly reserved his interpretation to the context of fraudulent transfers under the Bankruptcy Code. Furthermore, he did not decide what bitcoins were; he merely clarified what they were not. Moreover, this bankruptcy court’s interpretation should not permeate to all areas of commercial law. As held by the Supreme Court in Stern v. Marshall, bankruptcy courts, as Art. I courts, do not have the authority to enter final judgment on “non-core matters” that are beyond the scope of their legislative purpose.50 In sum, the HashFast decision is inconsequential. It merely reemphasizes the confusion created by the “bitcoin gaps” in Article 9 and the Bankrupcty Code.

Although there may be a colorable argument for bitcoins as commodities, they are not securities. Bitcoins are not expressly enumerated as a type of security under the Securities Act of 1933. Thus, a bitcoin can only be a “security” under that Act if it qualifies as an “investment contract.” An investment contract is a “contract, 47 See Scott Riddle, Bitcoin–Currency or Commodity For Purposes of §550 And Avoidance Actions? What About Claims?, GEORGIA BANKR. BLOG (February 28, 2016), http://bit.ly/24elzNq,.48 See id.49 Order on Motion for Partial Summary Judgment, HashFast Technologies LLC v. Marc A. Lowe, Case No. 14-03725DM (N.D. Cal. Feb. 19, 2016).50 See Stern v. Marshall, 131 S. Ct. 2594, 2613, 180 L. Ed. 2d 475 (2011).

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transaction, or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from efforts of promoter or a third party.”51 However, when a person purchases bitcoins, the success of their purchase (i.e., bitcoin’s value) depends on the supply and demand of bitcoin, not their entrusting of control to another. To the contrary, as discussed, a hallmark virtue of Bitcoin is its decentralization. This counsels against bitcoins’ treatment as securities and for their treatment as money: a characterization consistent with past opinions expressed by the U.S. Securities and Exchange Commission.52

If not a security, a bitcoin can only qualify as “investment property” under Article 9 if it involves a “commodity contract” or “commodity account.”53 However, commodities themselves are distinguishable from commodity contracts, which Article 9 defines as a “commodity futures contract, an option on a commodity futures contract, a commodity option” or other contract of option tradable on a market pursuant to federal commodities laws.54 In 2015, the U.S. Commodity and Futures Trading Commission (CFTC) declared that bitcoin and other “digital currencies” are commodities (not commodity contracts) under the Commodity Exchange Act (CEA).55 Therefore, only such things as Bitcoin futures or swaps would qualify as “investment property” under Article 9. In sum, despite its specualtive value, bitcoins are not investment property.

D. Bitcoin’s Place in Article 9

Though bitcoins share definitive properties of both money and a deposit account, neither category applies. Rather, a bitcoin’s categorization exists somewhere in regulatory limbo. If not a deposit

51 See S.E.C. v. W.J. Howey Co., 328 U.S. 293, 298, 66 S. Ct. 1100, 1102, 90 L. Ed. 1244 (1946).52 See, e.g., S.E.C. v. Shavers, No. 2013 WL 4028182, at *2 (E.D.Tex. Aug. 6, 2013) (“It is clear that Bitcoin can be used as money. It can be used to purchase goods or services, and … to pay for individual living expenses.”).53 See U.C.C. §9-102(a)(48) ("Investment property" means a security, whether certificated or uncertificated, security entitlement, securities account, commodity contract, or commodity account). Under this section, the question of whether bitcoin wallets qualify as a commodity account turns on whether a bitcoin (as a unit of tender) qualifies as a commodity contract.54 See U.C.C. §9-102(a)(15). 55 U.S. Commodity and Futures Trading Commission, CFTC Orders Bitcoin Options Trading Platform Operator and its CEO to Cease Illegally Offering Bitcoin Options and to Cease Operating a Facility for Trading or Processing of Swaps without Registering, Rel. No. PR7231-15, September 17 2015, available at http://1.usa.gov/1VThjRM.

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account, money, or investment property, then by statutory process of elimination, a unit of bitcoin necessarily falls within the Code’s catchall category of “general intangibles.”56 However, this categorization stands to hinder mainstream adoption of Bitcoin as a viable form of payment, primarily because of how the Code treats general intangibles.57 The most critical consequence of this categorization is that bitcoins become far less negotiable. 58

i. The Need for Negotiability, Generally

There are two competing tensions under Article 9: (1) rights of ownership and (2) rights of transferability. However, both of these competing values are indispensible to an efficient market economy.59 On the one hand, a creditor who takes a security interest in collateral must be confident in his right to repossession of the collateral should the debtor defaults. Otherwise, he is not truly secure. On the other hand, markets cannot function efficiently unless buyers and merchants can rest assured that they are acquiring title to goods free and clear of preexisting interests.

The compromise between the two competing tensions appears to favor rights of ownership. In what Professors James White and Robert Summers call the “Golden Rule” of secured lending, §9-201 states that

56 “General intangibles, as defined in U.C.C. § 9-102(a)(42), means “any personal property, including things in action, other than accounts, chattel paper, commercial tort claims, deposit accounts, documents, goods, instruments, investment property, letter-of-credit rights, letters of credit, money, and oil, gas, or other minerals before extraction. The term includes payment intangibles and software.” Within the category of general intangibles is a subcategory for “payment intangibles,” which is defined in § 9-102(a)(61). Contrary to the appropriateness that the words “payment intangible” may suggest for categorizing Bitcoin as such, Bitcoin does not fall within the subcategory because the holder of Bitcoins is not an “account debtor” as defined in §9-102(a)(3).57 See generally Yves Smith, Is U.C.C. 9 Going to Kill the Use of Bitcoin by US Businesses?, Naked Capitalism Blog, http://bit.ly/1RuLjAF.58 “Negotiability” refers to “[property’s] legal capability of being transferred by endorsement or delivery.” See BLACK’S LAW DICTIONARY (5th Ed.) at 933. This concept was developed in response to the need for a substitute for money that would be readily acceptable in trading. See generally Ronald J. Mann, Searching for Negotiability in Payment and Credit Systems, 44 UCLA L. Rev. 951, 952 (1997). A related concept—“transferability”—is a term used in a quasi sense, to indicate that the character of assignability or negotiatability attaches to the particular instrument, or that it may pass from hand to hand, carrying all the rights of the original holder. See id. at 1342. It allows the passing of its ownership from one party (the transferor) to another (the transferee) by sale, endorsement, delivery, or other disposition. 59 See generally Linda J. Rusch, Uniform Commercial Code Article 2 and Article 7: Intersection with Bankruptcy, 28 Okla. City U. L. Rev. 543 (2003).

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“except as otherwise provided in the [U.C.C.], a security agreement is effective according to its terms between the parties, against purchasers of the collateral, and against [other] creditors as to rights in the collateral.”60 However, there is a notable departure from the Golden Rule with respect to forms of currency (i.e., money and a deposit account’s funds). In this situation, Article 9 presumptively favors transferees’ interests over those of earlier-in-time claimants. As provided in §9-332, a transferee of “money” or “funds from a deposit account” take such interests “free of a security interest unless the transferee acts in collusion with the debtor in violating the rights of the secured party.”61 This departure from the Golden Rule is premised on a policy of protecting the free flow of funds.62 Rules concerning recovery of payment traditionally have placed a high value on finality.63 We may refer to §9-322 one of several “transferee-protection” rules.64

Because of the transferee-protection rules, money and deposit account funds are quintessentially negotiable forms of property. By comparison, other forms of collateral—namely, general intangibles—do not enjoy protections facilitating their free flow. An third party transferee may unknowingly accept property subject to a preexisting security interest, and if that property is a general intangible, and unless the rules provide otherwise, the security interest carries with the property. Pursuant to §9-315(a)(1), which governs a secured party’s rights upon disposition of collateral, once a secured interest is perfected in a general intangible, it will “continu[e] in collateral notwithstanding the . . . disposition thereof unless the security party authorized the disposition free of the security interest.”65 In fact, based on the priority rules provided in §9-325(a), if no transferee-protection rules apply, the security interest survives even multiple transfers of the

60 See U.C.C. §9-201 and Official Comment 1; see also James White and Robert Summers, The Uniform Commercial Code, §24-12 (6th ed. 2010-date). 61 See U.C.C. §9-322(a)-(b); see also U.C.C. § 9-332, Official Comment 2 (the term “transferee” is not defined under the Code; the official comments only clarify that the debtor himself cannot be a transferee for the purposes of §9-332).62 Id. Official Comment 3 (Policy).63 Id.64 Other “transferee-protection” rules relevant to the “excepts as otherwise provided” language of §9-201 include the following: §9-320(a) (for the “buyer in the ordinary course of business); §9-320(b) )(for sales of consumer goods by a consumer to a consumer—i.e., the “garage sale” situation); §9-317(b) (listing the buyers who win out over the unperfected secured party in some circumstance); § 9-330 (priority for purchaser of chattel paper or instrument). However, none of these rules are applicable to the benefit of bitcoin transferees.65 See U.C.C. §9-102(a)(64); §9-315(a)(1).

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collateral because Hillary was the first to file .66 If Bitcoin wishes to eventually achieve mainstream adoption in commercial markets, bitcoins must function like “money” or the “the funds of a deposit account.” This will require a new transferee-protection rule applicable to cryptocurrencies.67 Under their present categorization, general intangibles, bitcoins cannot serve as a viable alternative to traditional currencies because purchases made through Bitcoin would lack finality. For a straightforward application of how problematic this categorization can be in practice, consider the following hypothetical.

Donald has a very small wall-construction business, operating on very thin amount of capital. He is a rather simple businessman and his company has but only a few assets: (1) construction equipment, (2) several boxes of red hats used as his employees’ uniforms, and (3) the Bitcoins in his company’s bitcoin wallet. Through shrewd deal making, Donald is commissioned a once-in-a-lifetime project: to build a wall across the southern border of Texas. Donald does not have nearly enough capital to work with so he goes to borrow money from his friend Hillary, who is known in the community for her wealth and Wall Street ties. Hillary is skeptical of his business, but is nonethless impressed by the project’s profit potential. So, she agrees to loan Donald the money on the condition that she receives a blanket lien on all of his business’s assets in exchange.68 Donald agrees; the two enter a valid security agreement; and Hillary files a financing statement naming all of the covered assets in the proper place. A few months later, Donald uses some of his bitcoins to pay a third party, Bernie, for Bernie’s help on a project. Bernie has no idea that the bitcoins are subject to a security interest. Bernie then subsequently uses those same bitcoins to pay Ted for career advice.

Under the facts above, if Donald defaults on his loan from Hillary and is unable to pay the remaining balance, Hillary will have the right to repossess Donald’s business assets encumbered by the blanket lien, which includes the bitcoins now held by Ted.69 This would not be the

66 See U.C.C. §9-325(a) (providing requirements for priority of security interests in subsequent transfers of collateral). §9-325(a) is limited to situations where Hillary would otherwise have priority against the transferee under §9-322(a)(1). This fact pattern assumes none of the “transferee-protection” rules apply. 67 See infra Part III (B).68 This is accomplished by reasonably identifying the collateral by type and not item in the security agreement. Hillary may also create a floating lien over 69 See U.C.C. §9-315(a) (the security interest continues upon disposition); §9-507(a) (a filed financing statement remains effective with respect to collateral that is otherwise disposed of even if the secured party knows or consents to the disposition); §9-325(a) These facts assume that all exchanges involved occurred within the span of a year.

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case if the bitcoins were money or the funds of a deposit account due to §9-332. However, the rules are different with respect to general intangibles. Neither Bernie nor Ted is protected by the transferee protection rules of §§9-320, 9-317, 9-331, or 9-332. It is inconsequential that neither Bernie nor Ted knew of the preexisting security interest; nor does it matter that both gave value in exchange for the bitcoins. Both will become “new debtors” with respect to the bitcoins.70 While the hypothetical is itself fictional, the reality of the situation it illustrates is not. Small business credit is generally hard to come by and blanket liens often provide the cheapest route to short-term financing.71

Article 9 adds another layer of complexity when the transferee is located in another state. Building upon the previous example, suppose Bernie lives in Vermont and Hillary’s original financing statement had been filed in New York. Assuming the security interest remained with the bitcoins, it is unclear whether Article 9 requires Hillary to “reperfect” her security interest in the bitcoins with respect to Bernie as the “new debtor”), and if so, how she must go about doing so. In this situation, Article 9 appears to require that Hillary reperfect within the earlier of (1) one year after Bernie receives the bitcoins or (2) the time that perfection would have otherwise ceased under the laws of New York.72 It does not matter that Bernie was not the primary obligor under the original security agreement. Bernie becomes the “new debtor” merely by virtue of the bitcoins’ transfer to another jurisdiction.73 If Hillary does not reperfect, her security interest in the bitcoins becomes “[u]nperfected and is deemed never to have been perfected as against a purchaser of the collateral for value.”74 Assuming she must reperfect, the question of how she reperfects presents the more difficult question. Presumably, she would reperfect by filing—the same way she perfected in New York. However, Vermont may require a different method of perfection for the bitcoins.75 This reperfection requirement might be bitcoin transferees’ last saving grace. 70 See U.C.C. §9-315(a)(1); §9-316(a)(1), (3).71 See Ami Kassar, In Small-Business Lending, the Devil Is Often in the Lien, NEW YORK TIMES (Oct. 21, 2013); see also Gabrielle Karol, Small Business Owners Say Bitcoins Better Than Credit Cards, FOX BUSINESS, SMALL BUSINESS CENTER (April 12, 2013), http://bit.ly/1SYKhcD.72 See U.C.C. §9-316(a)(1), (3).73 See also U.C.C. § 9-102(a)(28)(A) (“‘Debtor’ means: . . . a person having an interest, other than a security interest or other lien, in the collateral, whether or not the person is an obligor.”) (emphasis added).74 See U.C.C. §9-316(b); see also §1-201(b)(29)-(30) (“purchaser” includes secured parties).

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Before proceeding, one point is worth mentioning. Many may dismiss the bitcoin gap in the U.C.C. as a nonissue based on a misconception of Bitcoin’s perceived anonymity. Though often praised as one of its defining hallmarks, Bitcoin transactions are not actually “anonymous” in the strictest sense. It is true that the details of the underlying block’s transactions remain private. However, the public key connected with the transaction is still registered on the blockchain. In fact, bitcoins are more traceable than traditional forms of payment because bitcoin transactions remain on the blockchain’s public ledger indefinitely. The only upside for the innocent third party transferee will be if he or she is located in a state other than the state where the initial financing statement encumbering the bitcoins was first filed. In that situation, the creditor will be forced to reperfect its interest within one year, at most, of the transferee receiving the bitcoin.76

ii. Bitcoin as Proceeds

Any creditor who securely lends to businesses that accept bitcoins as a form of payment should have at least a baseline familiarity with Bitcoin if only for the fact that he or she may one day acquire an interest in bitcoins by way of proceeds. “Proceeds” are defined in part as “whatever is acquired upon the sale, lease, license, exchange, or other disposition of collateral.”77 The following hypothetical illustrates the significance of bitcoins as proceeds.

Donald wants to start a business selling red rally hats. He is low on capital so he goes to Hillary for a loan. The hat’s design is minimalistic, but it has a subtle appeal that Hillary believes will prove marketable. Hillary loans the money to Donald taking a security interest in his inventory of red hats, filing a financing statement accordingly. Donald’s business accepts all forms of payment (except for the Chinese Yuan because China devalues their currencies). One day, Bernie comes by Donald’s store and purchases several red rally hats using bitcoins. Here, Bernie will probably take the red rally hats free and clear of Hillary’s preexisting security interest in them because he will likely qualify as a “buyer in the ordinary course” of Donald’s

75 We can assume based on the U.C.C.’s choice of law rules for security interests in deposit accounts [§9-304] and the choice of law rules for security interests in investment property [§9-305] that the laws governing the reperfection of the bitcoins will be those of the “new debtor’s” location—e.g., Vermont.76 See U.C.C. § 9-316(a)(3) (providing that perfection expires one year “after a transfer of collateral to a person that thereby becomes a [new] debtor and is located in another jurisdiction.”).77 U.C.C. §9-102(a)(64).

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business.”78 However, Hillary will still have a perfected security interest in the bitcoins under §9-315, as the bitcoins are “proceeds” of her original security interest in the hats.79 If Donald or a later secured party then argues that the proceeds are “commingled” with the other bitcoins in his bitcoin wallet, this argument will fall on deaf ears because bitcoins are, by their very nature, infinitely traceable.80

However, unless the bitcoins can be perfected by filing in the same office in which she filed the financing statement covering the hats,81 or unless the bitcoins qualify as “cash proceeds,”82 Hillary’s security interest in the bitcoins will be only temporary—i.e., her interest in the bitcoins will become unperfected on the twenty-first day after Bernie pays Donald.83 If this is the case, Hillary will need to perfect within the twenty day grace period to retain her perfected interest in the coins. The method of perfection necessary for Hillary to perfect her interest in this situation is unclear stemming from the fact that bitcoin’s characterization is unclear. Presumptively, a security interest in bitcoins is perfected by filing, so the “same office” rule will

78 See U.C.C. §9-320(a). 79 See U.C.C. §9-315(a)(2), (c).80 A point to remember is that the public key registered on a single bitcoin transaction remains on the blockchain’s public ledger indefinitely. This public key makes each bitcoin and all of its subsequent transfers traceable. Under §9-315(b)(2), “proceeds that are commingled with other property are identifiable proceeds . . . if the proceeds are not goods, to the extent that the secured party identifies the proceeds by a method of tracing, including application of equitable principles, that is permitted under law other than this article with respect to commingled property of the type involved.” Most jurisdictions will probably adopt tracing rules that allow the secured party to trace transactions on the blockchain by matching public keys to individual identities. 81 See U.C.C. §9-315(d)(1)(B) (requirement for continuation of perfection in proceeds); §9-310 (filing permitted for general intangibles); § 9-501(a)(2) (mandating that the jurisdiction of a debtor’s location dictates the applicable filing requirements); § 9-507(a) (“a filed statement remains effective with respect to collateral that is sold . . . or otherwise disposed of and in which a security interest . . . continues, even if the secured party knows of or consents to the disposition.”).82 "Cash proceeds" are defined in U.C.C. § 9-102(a)(9) to mean “proceeds that are money, checks, deposit accounts, or the like.” Bitcoins as proceeds will not likely qualify as “cash proceeds” for the same reasons that bitcoins do not qualify as money or fund from deposit accounts.83 U.C.C. § 9-315(d) states, “A perfected security interest in proceeds becomes unperfected on the 21st day after the security interest attaches to the proceeds unless [a series of conditions in subsection (d)(1) are met] or “the proceeds are not acquired with cash proceeds [see subsection (d)(2)]” or “the security interest in the proceeds is perfected other than under subsection (c) when the security interest attaches to the proceeds or within 20 days thereafter [see subsection (d)(3)].”

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likely apply. Nevertheless, the risk is one worth consideration by lenders because the safe office rule is not absolute. For example, if Donald used the bitcoins to pay someone in another state, or, alternatively, if he used the proceeds to pay for a new type of collateral that could not be perfected by filing, the same office rule will not apply.84

The realities of Bitcoin economics add yet another layer of complexity to the bitcoin dilemma. In the real world, merchants that “accept bitcoins” usually only hold them temporarily.85 Wide fluctuations in a bitcoin’s value caution against keeping it. It is common practice for these companies to partner with an bitcoin exchange platform—generally either Coinbase or BitPay—who takes a customer’s bitcoin, immediately converts them into cash, and then deposits the cash in the company’s bank account..86 Of course, this situation raises new questions with respect to bitcoins subject to a preexisting security interests. The bitcoins’ chain of transfers in this situation—beginning with the purchaser using the secured bitcoins; proceeding with a transfer of the bitcoins to a merchant-intermediary; and ending with the merchant’s final disposition of the bitcoins to the Bitcoin exchange platform—complicates matters of categorization. Specifically, it is unclear what ownership rights that the Bitcoin exchange has with respect to the bitcoins. Carrying over from the previous illustration, suppose that the bitcoins transferred by Bernie to pay Donald were already subject to a preexisting interest held by John. If immediately upon payment Donald “cashed out” by transferring the bitcoins for U.S. dollars to Coinbase (a Bitcoin exchange), what are each party’s rights respectively?

Under §9-315(a), John’s security interest continues in the bitcoins unless he “consents to the transfer or an exception otherwise applies.”87 Unfortunately for Coinbase, there are no transferee

84 See U.C.C. §9-315(d)(1) and (e).85 See Jacob Davidson, No, Big Companies Aren’t Really Accepting Bitcoin, MONEY MAGAZINE, January 9, 2015, available at http://ti.me/1VN4mJP (“Make no mistake, just because Dell and the like are letting their customers pay in bitcoin doesn’t mean they believe in the currency. It’s just that intermediary services have made it possible to accept bitcoin without really accepting it.”); e.g., id. (Overstock.com only retains 10% of its bitcoin transaction revenues; it cashes out the other 90% through Coinbase).86 See Prableen Bajpai, CFA (ICFAI), A Look at the Most Popular Bitcoin Exchanges, INVESTOPEDIA (Nov. 19, 2014), http://bit.ly/1c23E6d,87 The attachment of a security interest in collateral gives the secured party the rights to proceeds and is also attachment of a security interest in a supporting obligation for the collateral. See U.C.C. § 9-315(a); see also U.C.C. § 9-203(f) (providing for automatic attachment of proceeds); cf. §2-403(2) (providing an

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protection rules for general intangibles applicable here.88 Even worse, the security interest will continue in the bitcoins if the Coinbase transfers the bitcoins to any other user on transacting with the exchange. Again, the commingling of bitcoins with other bitcoins on the exchange are of no concern here because bitcoins are highly traceable.

III. Solutions to the Bitcoin Gap

There is clearly a gap in Article 9 where bitcoins should be able to fall, and yet have no place to land. Only Oklahoma appears to have made any headway in addressing the categorization issue. In a non-binding interpretation found in the Official Comments of Oklahoma Commercial Code, §9-332, policymakers have stated the following:

As of 2015, the use of so called “bitcoins” and the like have gained traction as a form of “currency,” i.e., as a payment method. Some sellers of goods or services are willing and able to accept bitcoins in payment. If that payment instead were made in cash, or by a check or other transfer out of a deposit account, any security interest in that, e.g., as proceeds of the deposit account based on the claim of a secured party that has a security interest in inventory, would not impair the payment to the seller or other transfers to a third party. See section 1-9-332 and section 1-9-315(a)(2), (c) and (d). This is a consistent policy under UCC Article 9 – see, for example, sections 1-9-320 and section 1-9-321, and is particularly strong with respect to “currency.” However, section 1-9-332 cannot be construed to protect the receiver of bitcoins. Whether the policy mentioned

exception for an “entrustment,” which is inapplicable). 88 The transferee-protections afforded to buyers in §9-320 are limited to goods, which, for reasons previously discussed, require the collateral to be tangible, moveable property. Furthermore, to dispel any argument to the contrary, Coinbase will not qualify as a licensee. As explained by Professor Schroeder [see supra note 39 at 25], this argument might be attempted because Article 9 affords protections §9-321(b) to a “licensee [of general intangibles] in the ordinary course of business” just as the Code affords “buyer protection” rules to purchasers of goods in the ordinary course of the seller’s business in § 9-320(a). Bitcoin does not qualify under §9-321 because it is not a “nonexclusive license.” A “nonexclusive license” is essentially the selling of less than 100% of the underlying general intangible. See id. Professor Schroeder provides, as examples of nonexclusive licenses, the use of word-processing software or a smartphone application. See id. By comparison, Coinbase (and all Bitcoin exchanges for that matter) are receiving 100% of the interest in the bitcoins exchanged. Thus, §9-321 does not apply.

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above should allow a court to reach the same result remains an unanswered question.89

Oklahoma has made its position on the issue clear: bitcoin transferees are not to be afforded the same protections as those afforded to the transferees of money and deposit accounts under §9-332. As a result, merchants in Oklahoma have no real incentive in accepting bitcoins as a form of payment. However, this paper counsel against other jurisdictions going the way of Oklahoma policymakers. Oklahoma’s treatment arguably dooms a bitcoin’s utility before such utility can be fully realized. Of course, the question becomes: how do we reconcile Article 9 in a way that encourages the use of bitcoin?

Due to the fact that bitcoins appear transcend the definitional bounds of the Article 9’s existing categories, there is but only one solution that can ensure Bitcoin’s viability as a future alternative payment sustem: an amendment to Article 9. Of course, for as many reasons that one can find for amending Article 9, there are equally as many if not more for leaving it as is. The solutions proffered below are only theoretical, and whether or not the ALI should pursue such an amendment turns on the future prevalence of Bitcoin and other cryptocurrencies. These recommendations amount to an imperfect solution at best.

A. A Definition for “Cryptocurrencies” and “Cryptocurrency Systems”

First, the drafters must add a new category of property that incorporates cryptocurrency, while also distinguishing its dual capacity as both a monetary unit (e.g., bitcoin) and as a payment system (e.g., Bitcoin). Furthermore, a distinction must be made between a cryptocurrency account (e.g., bitcoin wallets) and the cryptocurrency units held therein. I suspect that distinguishing the three can be accomplished by giving them three names. For example, defining bitcoin as a unit of electronic tender as a “cryptocurrency”; Bitcoin as a payment system (or any cryptocurrency that uses blockchain technology to facilitate transactions) as a “cryptocurrency payment system” or “cryptocurrency system”; and bitcoin wallets as “cryptocurrency accounts.” One thing is for certain. The drafters should not make the same mistake made by the Bitcoin community, which distinguishes Bitcoin (the system protocol) from bitcoin (the electronic coins) merely by letter casing.

89 12A Okl. St. Ann. § 1-9-332 (emphasis added).

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The definition of “cryptocurrency” will require precision by drafters because the blockchain has numerous capabilities. Bitcoins, for example, do not necessarily have to be used as currencies. Every bitcoin and its fractional interests are programmable.90 Beyond a unit of tender, a bitcoin can represent a share in a company, a barrel of oil, or even a digital certificate of ownership.91 This programmability may give policymakers reason to hesitate before defining bitcoins under Article 9. It may be argued that when a bitcoin is preprogrammed—for example, to represent a single commodity—the coin loses the fungibility of a currency. However, the definition and rules proposed in this paper would be limited to bitcoins’ use as a property-neutral cryptocurrency (like a blank check). In the event it was anything else, it simply would not qualify as a cryptocurrency.

This concept of defining property by its specific use is not a novel one to Article 9. Contextual analysis is truly the spirit of Article 9. That the categorization of a given piece of property can change based on its use in the hands of the debtor is a time-tested hallmark of secured lending.92 Moreover, the programmability could actually enhance a bitcoin’s value in secured transactions by making the currency “smarter.” For example, bitcoins subject to security interests may be programmed as transfer-restrictive for a predetermined period (e.g., a maturity date) or to rescind back to the true holder upon termination of the obligation.93 With its authorized purpose programmed into the money, the compliancy concerns found with traditional collateral are absorbed by the bitcoin.94 This could potentially lower both the transaction costs of the debtor and the monitoring costs of the creditor.

B. Negotiability and Seller Protection

90 Bitcoins are much more divisible than most traditional currencies. Smaller bitcoin denominations—called “bits” and “satoshi”—represent fractional interests in a single bitcoin unit. One (1) bitcoin = one million (1,000,000.00) bits = one hundred million (100,000,000) satoshi These fractions are not only individually identifiable as units on their own, but they are also individually programmable.91 See generally George Selgin, Synthetic Commodity Money, THE CATO INSTITUTE, UNIV. OF GEORGIA (April 10, 2013).92 See U.C.C. §9-102 Official Comment 2(a).93 See Kaplanov, supra note 25 at 3-4.94 See id. at 5 (“Faking Bitcoin’s public record would be very difficult as it requires more computing power than the rest of the Bitcoin network combined—a nearly impossible feature that ensures the currency’s security.”).

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Second, though cryptocurrency cannot be categorized as “money,” many of the new rules for cryptocurrency should borrow from the transferee-protection rules applied to paper money transactions. Specifically, cryptocurrencies need the negotiability of paper money or funds from a deposit account.95 The major resistance to its treatment as money will probably come from its perceived lack of price stability.96 However, if bitcoins survive this argument, and are then accorded with the negotiability of money, creditors will still need a method of perfection analogous to the role possession plays in perfecting paper money security interests or that control plays in perfecting deposit accounts.

C. Perfection by Direct Control

As previously discussed, bitcoins are a transitive form of collateral sharing characteristics with both money and deposit accounts, and yet does not qualify as either. Thus, the perfection of bitcoins will require a method as conceptually novel as the definition for cryptocurrencies. This paper suggests that an adequate method may be formulated using a cross between perfection by possession and perfection by control: i.e., “direct control” or control without the involvement of a third party. This method will necessarily require sellers to have their own bitcoin wallet in order to perfect interests in bitcoins. As such, a transfer of bitcoins to the secured party’s bitcoin wallet will serve as the intangible cryptocurrency’s equivalent to possession of paper money. Assuming the need arises for the ALI to amend the U.C.C., bitcoin wallets will have already become common industry practice. This paper assumes the creation of a bitcoin wallet will be not an unreasonable imposition for creditors who wish to secure their claims.

Alternatively, the ALI may consider offering secured parties a second method of perfecting security interests in bitcoins: one that

95 In her article [see supra note 41 at 10], Professor Schroeder advocates the adoption of a new subsection (c) to §9-332, which could read as follows:

(c) [Transfer of Cryptocurrency]. A transferee of cryptocurrency takes the cryptocurrency free of a security interest unless the transferee acts in collusion with the debtor in violating the rights of the secured party.

96 Critics of “bitcoin as money” will predictably argue that a bitcoin more closely resembles a highly speculative commodity or equity than a relatively stable currency. From 2013 to 2016, it went from $13.50 a coin to over $1000 a coin. See Bitcoin Price Index Chart (USD), COINDESK, http://bit.ly/1fM5pPv (last visited April 22, 2016). Such wild swings in value make bitcoins difficult to appropriately value. In turn, lenders must be wary of Bitcoin's value as collateral. Moreover, Bitcoin pricing has historically proven to be highly sensitive to news developments concerning the payment system.

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does not require creditors to maintain their own bitcoin wallet. This may be accomplished by allowing the creditor to perfect by becoming a co-holder of the debtor’s bitcoin wallet. The control of bitcoins could be achieved through a process similar to the method of control provided in §7-106 for control of an electronic document of title. This will essentially require the debtor to give secured lender access to the bitcoin wallet for the length of the obligation secured. However, direct control may not necessarily require the secured party to become the “only authoritative holder” of the wallet in order to ensure control.97 Whether or not the secured party needs exclusive access to the bitcoins to perfect an interest is debatable. This decision will turn on the future popularity of bitcoins as a form of payment.98

Other than their obvious differences in procedure, there is another substantial difference between perfection by possession of money and perfection by “direct control” of bitcoins. In the traditional situation involving the possession of money, a creditor bears only a slight risk that the collateral will devalue due to market inflation. By contrast, the value of bitcoin is far less stable.99 This can cut both ways for the creditor, depending on whether the bitcoins’ value has spiked or plummeted at the time of default. If its value has increased, a creditor may opt to strictly foreclose on the underlying obligation by keeping the collateral in full or partial satisfaction of the secured obligation, thus profiting off of the venture.100 By contrast, if the value has plummeted at the time of default, the creditor may be left with a large deficiency upon sale of the bitcoins—leaving most of the original

97 The concept of “control,” as referred to in §8-106 (control of investment property) and in §9-104 (control of deposit accounts), effectively means the power to dispose of. If more than one party has access to the bitcoin wallet—i.e., there is more than one authoritative holder—then there is an argument that the secured party does not maintain control. However, unlike electronic chattel paper or electronic documents of title, control of bitcoins may be maintained even if more than one person has the power to transfer bitcoins from the bitcoin wallet. For example, a secured party may have control over a deposit account even if he or she is only jointly named as a customer on the account with the debtor or another secured party, including the bank itself. This does not defeat control, but merely implicates the priority rules of §9-327. “Direct control” of bitcoin wallets should offer the same flexibility, allowing the secured party to satisfy its requirements by only becoming a co-holder.98 The ALI has responded to industry practice in the past. When the need arose, the ALI amended control methods for both “electronic documents of title” and “electronic chattel paper. See generally Thomas E. Plank, Evolution of Chattel Paper: From Possession to Control, 46 U.C.C. L. J. 1 (2014). Whether or not it will do the same will turn on Bitcoin’s utility in the future. 99 See generally Davidson, supra note 85. 100 This assumes the requirements of U.C.C. §§9-620, 9-621, and 9-622 are all met (collectively, the requirements for strict foreclosure or the “620 deal.”).

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security interest unsecured. These concerns will need to be taken into consideration when drafting the security agreement. In drafting security agreements securing bitcoins as collateral, the risk analysis necessary for calculating an appropriate interest rate will be require acumen in market speculation, which may be a novel concept to many creditors.

IV. Conclusion

If Bitcoin proves to be, as Warren Buffet suggests, nothing more than a temporary “mirage,” then there will be no real incentive to amend Article 9. This paper concedes that only a true need for adaptation can catalyze adaptation. Therefore, until it becomes common industry practice for merchants to accept bitcoins as payment, the proposals in this paper maintain only a minor significance across the wide span of commercial law. Nevertheless, I do hope the reader takes more from this paper than merely a matter of artificial discussion.

Consider the possibility that the bitcoin gap in Article 9 may not be the result of perceived insignificance, but, to the contrary, that Article 9 may actually be responsible for hindering the use of bitcoins and frustrating their potential. This theme has been purposefully repeated throughout the paper. Many of us may mistakenly assume that the ALI will recognize and encourage opportunity in contemporary industry practices by making timely amendments to the U.C.C. However, history has shown that the drafters can be slow to adapt to change. In fact, deposit accounts were expressly excluded from the scope of Article 9 until the 1999 revision. For this reason, industry participants should not wait for the drafters to amend. Rather, participants should begin to structure transactions secured by bitcoins in a way that mirrors how the drafters should eventually draft the proposed amendments. In this way, educated practitioners and bitcoin enthusiasts will be the ones shaping the bitcoin landscape rather than uninformed policymakers who only wish to speculate as to the cryptocurrency’s value.

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