Bitcoin's Potential: A Look At What Could Have Been

Bitcoin is a highly volatile cryptocurrency, making it a risky investment. Its value has seen wild price swings over its short existence, and it is treated the same way that investors treat other investments. If you had invested $1,000 in bitcoin one year ago, it would have grown by 133% and be worth around $2,331 as of February 14, 2024. On the other hand, if you had bought $1,000 worth of bitcoin 10 years ago, it would have grown by 7,644% and be worth around $77,443 as of February 14, 2024.

Bitcoin's value comes from its store of value and payment system, as well as its finite supply. It can be purchased on several exchanges, such as Coinbase, Kraken, Gemini, and Binance. Before investing in bitcoin, it is important to consider the legal, regulatory, and tax status of purchasing it in your country or state.

Bitcoin's value and volatility

Bitcoin is considered a volatile financial asset. Its value is influenced by supply and demand, investor and user sentiments, government regulations, and media hype.

Bitcoin's price is dependent on how many coins are in circulation and how much people are willing to pay. The cryptocurrency is limited to 21 million coins, and as the circulating supply gets closer to this limit, prices are likely to climb higher.

The actions of investors also influence Bitcoin's volatility. For example, if "Bitcoin whales"—investors with large holdings—were to suddenly liquidate their Bitcoin, it would cause a panic among other investors, leading to a rapid drop in prices.

Media outlets, influencers, and industry moguls can also create investor concerns, leading to price fluctuations. For instance, when Proshare introduced its Bitcoin Strategy ETF in October 2021, Bitcoin's price skyrocketed, but when investors realized the ETF was linked to Bitcoin through futures contracts, prices dropped back down.

Government regulations and actions can also impact Bitcoin's price. For instance, in 2021, China's government and central bank announced that all cryptocurrency transactions were illegal, leading to a shutdown of crypto mining farms in the country and a drop in Bitcoin's price.

Bitcoin's value is also derived from its decentralized network. There is no central authority that can intervene in the market, which means that no central bank or government can step in to support or prop up the market and subdue volatility.

The path to price discovery for Bitcoin is often filled with seismic price swings, and it is challenging to predict what will happen to prices when the 21 million coin limit is reached.

Bitcoin's volatility can be a double-edged sword. While it presents enormous opportunities for fund managers, it also means that the asset is risky to hold, and investors may want to limit their exposure to it.

How to buy and store Bitcoin

There are several ways to buy Bitcoin, including through a crypto exchange, a trading app, an online broker, or even a traditional stockbroker. Here is a step-by-step guide to buying and storing Bitcoin:

Step 1: Choose a crypto trading platform

The easiest way to buy Bitcoin is through a crypto exchange such as Kraken, Binance.US, or Coinbase. Online stockbrokers like Robinhood also offer Bitcoin trading. Remember that you will need a crypto wallet to store your coins, and a cold wallet is generally more secure than an exchange account.

Step 2: Set up an account

Most crypto exchanges will require you to authenticate your identity and register a payment method. This typically includes providing a government-issued ID, Social Security number, proof-of-address documents, and sometimes an ID photo or video confirmation.

Step 3: Place an order

When you're ready to buy, you can place a market order, limit order, or stop-limit order. With a market order, you receive the next available price after your trade is placed. A limit order lets you set a specified price, and a stop-limit order becomes a market order once your desired price is met.

Step 4: Store your crypto

You can store your Bitcoin in a hot wallet or a cold wallet. A hot wallet is an online wallet or exchange account that is convenient and easily accessible. However, it is more vulnerable to hacks and cyberattacks. A cold wallet is a small, encrypted portable device, similar to a USB drive, that is considered more secure because it is offline and cannot be hacked through traditional means.

Step 5: Consider safety precautions

To keep your Bitcoin secure, it's important to back up your wallet early and often. Use strong passwords, enable two-factor authentication, and regularly update your software and operating system. Additionally, consider using a multi-signature or seed phrase for added security.

Risks of investing in Bitcoin

Investing in Bitcoin and other cryptocurrencies comes with a unique set of risks that investors should be aware of. Here are some of the key risks associated with investing in Bitcoin:

Volatility and Fluctuating Market

The Bitcoin market is known for its high volatility and constant fluctuations. The price of Bitcoin can change drastically in a short period, making it challenging for investors to predict returns on their investments. This volatility is driven by various factors, including sentiment, speculation, and market manipulation. As a result, investors, especially retail investors, may struggle to build confidence and secure gains.

Cyber-Security Risks and Hacking

Bitcoin is a technology-dependent investment, making it vulnerable to cyber-attacks and hacking. The lack of a central authority means that if investors lose their private keys or have their Bitcoins stolen, there is often no way to retrieve their investments. Additionally, trading platforms and third-party service providers have been targets of hacking and phishing attacks, resulting in significant financial losses for investors.

Fraud and Lack of Regulation

The Bitcoin market has a fair amount of fraud, with fake exchanges and fraudulent transactions duping unsuspecting investors out of their Bitcoins. The lack of clear regulations and the anonymous nature of digital asset markets further contribute to the uncertainty. The absence of major regulations also means that investors may face future restrictions or even a ban on cryptocurrencies, significantly impacting their investments.

Loss of Confidence in Digital Currencies

Bitcoin and other cryptocurrencies are part of a new and rapidly evolving industry. Most cryptocurrencies are not backed by central banks or international organizations, and their value is solely determined by market participants. As a result, a loss of confidence in digital currencies could lead to a collapse in trading activities and a sharp drop in value.

Taxation and Regulatory Uncertainty

There is significant uncertainty regarding the tax treatment of investments in digital currencies. The legal standing of cryptocurrencies varies across jurisdictions, with some considering them assets while others treat them as currency. This inconsistency can make it challenging for investors to navigate their tax obligations, and the lack of regulatory clarity may deter potential investors.

In conclusion, while Bitcoin and other cryptocurrencies offer exciting investment opportunities, it is crucial for investors to approach them with caution. The risks outlined above highlight the volatile and complex nature of the cryptocurrency market. Investors should conduct thorough research, make informed decisions, and be prepared for potential losses or gains.

Taxes on Bitcoin profits

The IRS treats cryptocurrencies like Bitcoin as property for tax purposes. This means that any profits or income from your cryptocurrency are taxable. However, the tax you pay depends on the circumstances in which you acquired and used your Bitcoin, your income, and your tax status.

If you sell your Bitcoin for a profit, you're taxed on the difference between your purchase price and the sale proceeds. This includes not just selling Bitcoin for cash but also exchanging it for another cryptocurrency, or using Bitcoin to pay for goods and services.

If you acquired your Bitcoin through mining or as payment for goods or services, that value is immediately taxable as earned income.

If you dispose of or use Bitcoin by cashing it in on an exchange, buying goods or services, or trading it for another cryptocurrency, you will owe taxes if the realised value is greater than the price at which you acquired the crypto. You may have a capital gain that's taxable at either short-term or long-term rates.

The tax rate you pay depends on two factors: how long you owned the Bitcoin before selling, and your total income for the year. If you owned the Bitcoin for one year or less before selling, you'll face higher tax rates of between 10% and 37%. If you owned it for more than a year, your rates will be between 0% and 20%. The highest tax rates apply to those with the largest incomes.

You'll need to keep records of the fair market value of your Bitcoin when you mined or bought it, as well as records of its fair market value when you used or sold it.

If you sell Bitcoin for less than you bought it for, the amount of the loss can offset the profit from other sales.

Examples of Taxable Events

• Sale of a digital asset for fiat currency
• Using cryptocurrency to purchase goods or services
• Trading one type of cryptocurrency for another

These are only taxable events if the value of your crypto has increased.

Reporting Crypto Taxes

Crypto gains and losses are reported on Form 8949. To fill out this form, you need to provide the name of the cryptocurrency, the dates you acquired and sold/traded/disposed of it, and the proceeds or sales price.

Crypto Income

Crypto income is taxed as ordinary income at its fair market value on the date the taxpayer receives it. Examples of crypto income include receiving crypto as payment for providing a service, mining crypto and earning rewards, staking crypto and earning rewards, and lending crypto and receiving interest payments.

Bitcoin as a medium of exchange

Bitcoin is a peer-to-peer electronic cash system, designed to be a medium of exchange. It has many of the properties of a money-like good: it is portable, durable, divisible, recognisable, fungible, scarce, and hard to counterfeit. It can be used to buy and sell almost anywhere in the world, especially in the developed world, and can be spent wherever regular debit cards are accepted.

However, Bitcoin's value can be volatile, and there is little mechanism for encouraging stability or avoiding bubbles. This means that commerce is often denominated in a more stable currency, such as the US dollar, and only settled in Bitcoin.

Bitcoin also has properties that make it a low-trust medium of exchange. It is censorship-resistant, permissionless, unfreezable, irreversible, ID-less, hard to counterfeit, worldwide/borderless, anonymous, accountable, has good uptime, has a quick setup, is a push system, programmable, fast, and has low fees.

Despite its high volatility, Bitcoin may be used as a medium of exchange by buying the required amount of coins and then immediately spending them.

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