Virtual currency 101

By:
On:
With: 3 Comments

If you are a grid owner, you’ve probably already considered creating a virtual currency for your residents. Virtual currencies make it easier to have an in-game economy, have lower transaction costs than PayPal or credit card payments for small payments, and can bring in additional revenues for the grid operators.

Virtual currencies also carry significant risks, both for grid owners and residents. The least risky are the purely fictional currencies.

Closed loop currencies — which are non-redeemable — have regulatory, tax and fraud implications. And redeemable open loop currencies are even more complicated from a legal perspective.

Fictional currencies

If you’ve ever played a single-player video game or a family board game, you’ve come across fully fictional currencies. These are the gold coins you earn by slaying monsters or by collecting rent from other players who land on your properties. These currencies have no value outside the game and can’t be bought or sold.

Well, you can go to a store and buy Monopoly money refills, poker chips, and play coins for your toy lemonade stand, but nobody is going to confuse this for real money.

Advantages:

  • There’s no limit on how much of this money your players can have. They can be virtual billionaires in the game or trillionaires — it doesn’t matter.
  • There are no legal implications to fully fictional currencies. The issuer doesn’t need a banking license, there’s no risk of fraud or money laundering, no chance of embezzlement.
  • If the players lose all their money, they can’t complain. If, say, another player or character in the game steals all their money, or their character dies, they’re not going to sue the game company to get their money back.
Disadvantages:
  • A fully fictional currency isn’t going to make any impact on the company’s bottom line.
  • Players may be less invested in a game if the currency is completely imaginary.

Closed loop currencies

If you’ve been playing Farmville lately or many other smartphone or Facebook games, you might have noticed a trend — the game companies try to sell you their virtual currencies so you can advance in the game faster.

Many games, in fact, have both fictional currencies and closed loop currencies in the same game. When you play FarmVille, for example, the FarmVille Coins are fictional — you can only get them by planting and harvesting crops and doing other in-game tasks. FarmVille Bucks, on the other hand, can be bought for real money.

Closed loop currencies fall under the most of the same regulations as closed loop payment cards — these are the prepaid cards you get from, say, your favorite restaurant or retail chain that can only be redeemed at that chain.

In fact, a lot of things are, in effect, closed loop virtual currencies, such as video arcade tokens, airline miles and prepaid phone minutes.

Closed loop currencies are not redeemable. Like those prepaid cards, you must spend them at the company that issued them. Some people do sell those cards on eBay, however, and this is similar to the way that Second Life’s Linden Dollars are traded between players on exchanges.

Advantages:

  • The company issuing the currency gets to sell it to its users for real money — and then keep the money. Since players can only spend the money in-world and can’t redeem it, currency sales are pure profit.
  • By putting real money on the line, players can get much more deeply invested in a game.
  • If players can trade with one another, a secondary market for the currency can allow some players to actually make money from playing a game, which can provide additional motivation to become deeper engaged, or to create in-world content and activities. This is, in fact, what happens in Second Life.
Disadvantages:
  • A game’s dynamics can be adversely affected when players can buy special skills or tools instead of earning them in the game.
  • If an individual player has more than $2,000 worth of money in the virtual currency account then the currency issuer must comply with US anti-money laundering regulations. Other countries have their own laws, as well, and the issuer needs to be in compliance with the laws in the countries where the customers are located.
  • If the players buying the currency are located in different countries, then the issuing grid may also have complex international tax liabilities.
  • If players lose money because of in-game theft, software bugs, account termination, or any other reason they will get upset and blame the issuing company, no matter what the terms of service may say. After all, if the virtual currency can be traded for cold hard cash on a secondary market, then the player is losing something of real value. And, if there’s enough money involved, there will be lawsuits.
  • If the virtual currency falls under a state’s prepaid card laws, and the balance falls below $5 or $10 then, in some states, the customers must be allowed to get a cash refund of the balance. This is the only exception to the “not redeemable” feature of closed loop currencies.
  • If a customer buys virtual currency fraudulently — say, with a stolen credit card — the grid operator will have to refund the money to the credit card company, close the fraudster’s user account, and track whether the virtual currency was sold to another player for real money.

Open loop currencies

An open loop currency can be used in multiple locations, and can be redeemed for cash.

The OMC currency from Virwox, for example, can currently be used on more than 30 different OpenSim grids, and can also be redeemed for cash or traded for other virtual currencies, including the Linden Dollar.

Advantages:

  • If your grid is issuing its own redeemable, open loop currency, then the grid owners get to collect money from residents in return for currency purchases, and collect interest on the money until the currency is redeemed.
  • If your grid is using a third-party currency like the OMC from Virwox, then Virwox is responsible for all legal issues, redemptions, taxes, and regulatory compliance. In addition, if your grid closes, or players lose their accounts, they can still cash out their currency holdings from Virwox, or spend them on other grids.
  • By putting real money on the line, players can get much more deeply invested in a game.
  • As with currencies that can be sold to other players, users can make real money from their in-world activities.
Disadvantages:
  • If an individual player has more than $1,000 worth of money in the virtual currency account then the currency issuer must comply with US anti-money laundering regulations. The limit is lower than the $2,000 limit for closed loop currencies.
  • Depending on how the currency is structured, and where the customers are located, the issuing company may also be required to get a banking or money trasmitter license. PayPal, for example, is regulated as a money transmitter in the United States, and as a bank in Europe. Each country has its own rules and, in the U.S., each state has its own rules as well — PayPal has to get a separate license everywhere it does business.
  • If players lose money because of in-game theft, software bugs, account termination, or any other reason they will almost definitely get upset and sue.
  • Issuers have to be extremely careful about potential fraud such as purchases made with stolen credit cards. This was recently a problem on the InWorldz grid.

Disclaimer

The information for this article, in addition to the sources already cited, comes from an interview with Deborah S. Thoren-Peden, a partner at Pillsbury Winthrop Shaw Pittman LLP.

This article is not intended to provide legal advice. If you do want legal advice, talk to Thoren-Peden or another attorney on Pillsbury’s virtual worlds law team, or check out their Virtual World Law Blog.

You can also contact Sheppard Mullin Richter & Hampton LLP, where partner Sheppard Mullin has a nice overview about virtual currency law.

J. Dax Hansen, a partner in the law firm of Perkins Coie LLP, has a detailed article about applicable state laws here.

Perkins Coie, Sheppard Mullin Richter & Hampton, and Pillsbury Winthrop Shaw Pittman were named the top three law firms for game law by Interactive Age last year, but there are also a number of smaller firms and individual attorneys with expertise in this area.

There are also consulting companies, like Glenbrook Partners, a virtual payments consulting firm, which has a nice presentation about virtual currencies that provides a broad overview beyond virtual worlds.

Maria Korolov
Latest posts by Maria Korolov (see all)