Virtual Economies, Real Bureaucracy

Posted on October 16, 2006 by Scott Jennings| 24 Comments

Scientific American weighs in with this month’s “OMG THE IRS WILL FIND OUT ABOUT MY EPICS” story, this as much other mainstream media interest apparently driven by Second Life’s relentless publicity machine. (The story refers to Second Life and World of Warcraft consistently in that order, for example.) This one is different in that instead of just dipping into the Terra Nova rolodex, the reporter interviewed Sam Lewis, an MMO designer who used to be an actual economist.

The rapid emergence of virtual economies has outstripped current tax law in many areas, but there are some clear-cut guidelines that already apply. For example, people who cash out of virtual economies by converting their assets into real-world currencies are required to report their incomes to the U.S. Internal Revenue Service or the tax authority where they live in the real world.

It is less clear how to deal with income and capital gains that never leave the virtual economy, income and capital gains that in the real world would be subject to taxes.

“Let’s say the IRS decides they want a valuation of your assets. We don’t have a stock market where we can as of the 31st of December, these assets went up, these went down,” Lewis said.

Later in the story, the real horror:

“I found that talking about this issue with some of the other economists on the committee, they are not really familiar with what a virtual economy is. The idea of Second Life or World of Warcraft or some of these other synthetic universes, they have trouble wrapping their head around it,” [Dan Miller, senior economist for the Joint Economic Committee of the U.S. Congress] said.

However, there are probably some on Capitol Hill who won’t require much explanation. “I can almost guarantee that there are some members of Congress spending time in Second Life or World of Warcraft,” he said.

Well, where ELSE are they going to keep track of their pages?

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  • TPRJones

    Right now it’s mostly a non-issue. Since the companies “own” all the digital property, then there is nothing that the players hold title to to value for taxation (except when they convert something to US $, at which point it becomes reportable). This is based on pretty much every TOS, which haven’t been tested in courts yet.

    If the day ever comes when someone successfully sues one of these MMOG companies for “ownership” of their character’s stuff, that’s when this will become a real issue. Until then debate is somewhat meaningless based on current statutes and precidents.

  • Aufero

    \’e2\’80\’9cI can almost guarantee that there are some members of Congress spending time in Second Life or World of Warcraft,\’e2\’80\’9d he said.

    This explains some of the “A/S/L??” whispers I get playing gnomes in WoW.

  • Saben

    “It is less clear how to deal with income and capital gains that never leave the virtual economy, income and capital gains that in the real world would be subject to taxes.”

    Next up, monopoly money, worth real money or not?

  • http://www.projectparadox.com/ Stephen W.

    I daresay the first Senator to properly utilize new campaign platforms like MySpace and Second Life could win out a state on the youth vote alone.

  • Brask Mumei

    I think you contradict yourself, TPRJones. If you have the ability to “cash out”, you have the very ownership right that the IRS is interested in.

    While subscribed, I “own” the right to transfer my characters items. The thing I sell when I engage in RMT isn’t the actual item. The item, as everyone is quick to point out, stays on the server. The thing I sell is the in-game transfer of the item from my account to theirs. It isn’t the *item*s value that the IRS wants to tax. It is the option to trade that item for real world cash.

    World of Warcraft attempts contractually to make this sort of contract illegal. Thus, players of said game have some defence of pointing out that they don’t actually have the option to sell the item, so thus there isn’t valuation. (Those that break their contract and sell anyways must, of course, still file taxes as one is expected to file taxes from illegal sources, IIRC) Please note again this isn’t because Blizzard owns the item. It is because the contract with Blizzard has prohibitted certain types of contracts being formed and those are the contracts required to cash out.

    So, in the final analysis, in games where RMT are prohibitted by EULA, one may safely ignore filing taxes until (and if) you cash out.

  • Freakazoid

    “Next up, monopoly money, worth real money or not?”

    Value is something that everyone has to agree on. To that end, I imagine that if monopoly were a permanent, world-wide encompassing game, with at least 50,000 regular players at any given time, monopoly money would be seen to have some real world value, illegal or not.

  • Riprend

    See this at the end of the article?

    http://secondlife.reuters.com

    Gee willikers.

  • blachawk

    “I daresay the first Senator to properly utilize new campaign platforms like MySpace and Second Life could win out a state on the youth vote alone.”

    Except that there is no youth vote. Spending a lot of time reaching out on myspace and computer games would alienate many older voters.

  • Dave Meyer

    I just don’t understand Second Life. Why spend money there? It’s essentially a 3D, massively laggy version of the world wide web masquerading as a virtual world.

    It boggles my mind that people would pay real dollars for Linden dollars.

    PT Barnam would love it.

    I guess the lesson to be learned for mmorpg companies is…there’s no need to turn your games into virtual treadmills to keep players hooked. Just let them buy all the pixels they want and you’ll make a fortune.

  • http://www.corpnews.com Andrew Crystall

    TPRJones, then selling virtual property you don’t own (i.e. ebaying WoW gold) is theft and can be presecuted as such.

    Are you aware of the number of players who engage in RMT?

    On a similar note, do you support the RIAA? Are you aware of the number of people who illegally trade music?

  • http://vengeance.parryfive.com Axecleaver

    Not everyone has to agree about the value of a virtual item. Only two parties must agree: the buyer and the seller. If money changes hands, it is trade and it is taxable. Until you trade it, the virtual item has no value. This seems fairly easy to tax.

    What would be really interesting is seeing a government make a case for levying property taxes on virtual assets. In Virginia, we have personal property taxes on cars and boats (goes to the county), and property taxes on our houses (county, again, which goes mostly to schools). Is it unreasonable to tax someone on the value of their virtual holdings under such a system?

  • TPRJones

    TPRJones, then selling virtual property you don\’e2\’80\’99t own (i.e. ebaying WoW gold) is theft and can be presecuted as such.

    Not exactly, because the person you sell it to doesn’t own it anymore than you origianlly did. You aren’t removing anything from the actual owner (Blizzard, Sony, etc). All you are “selling” is access to use the item owned by the third party, which according to the TOS you can’t do anyway but the IRS will still tax that transfer of US $$$ even if it is an illegitimate transaction.

    In game transfers of goods have no meaning for tax purposes because ownership of those items is not changing hands, only access to their use is being transfered. The monopoly money is a reasonably good comparison: players are gaining and loosing money in the game, but all those bills still belong to whomever brought the game to the party. At the end of the day, they still all belong to the same person that owns the game no matter whom is holding them at any given point in time during play.

    If/when the time comes that real ownership is vested in the players of their digital goods, then there will be issues to deal with, this I will admit. In the meantime, players own nothing at all. Even with illegitimate RMT going on, at the end of the day everything still belongs to Blizzard, Sony, etc.

  • TPRJones

    On a similar note, do you support the RIAA? Are you aware of the number of people who illegally trade music?

    No, I think they are – at best – thugs who can’t accept that modern digital media requires that copyright laws written over 100 years ago need to be changed. They are doomed to failure and are going to hurt as many people on the way down as they can. Not that I think theft of music is a good thing, per se.

    RMT is indeed similar in that game companies are fighting a loosing battle. RMT will not be stopped by just a TOS. You have to design your game so that RMT is either non-harmful to it or unprofitable for the farmers.

    What I don’t see is what all this has to do with the IRS and taxing virtual goods that players don’t own?

  • http://www.corpnews.com Andrew Crystall

    TRPJones, so what? In a “normal” theft, neither the person stealing or the person recieving stolen goods *own* the items. And you can certainly steal data, even if you leave a copy behind.

    And you are STILL making the assumption what a untested EULA has more legal standing than tissue paper. You can assert anything in an agreement, y’know.

    There is a very bad inconsistancy in your position. You’re arguing for two things at once: that the RIAA’s position (control should be held by the “owner” of the bytes) is bad, and that the Gamw Owners position (control should be held by the “owner” of the bytes) is good.

    I agree on the soloution, but the logical disconnect when it comes to the positions.. well, heh.

  • TPRJones

    First, on the nature of theft: in a “normal” theft someone takes something away from someone else who owns it, which is in no way similar to RMTs because no one is loosing anything (the company still has ownership of the data both before and after the transaction). And yes you can steal data by copying it, but there you are talking about duping not RMTs – when I sell you 1 million gold for US $s I don’t make you a copy and keep the original gold. Neither “normal” theft nor duping are similar in any way to RMTs.

    And you are STILL making the assumption what a untested EULA has more legal standing than tissue paper. You can assert anything in an agreement, y\’e2\’80\’99know.

    No, I’m asserting that an untested EULA is still untested. I am specifically pointing out that until it IS tested, it remains UNtested and in force, and thus players do not own their stuff. Following from that, in game item transfers that do not intesect with real-world transfers (non-RMT transfers) are non-taxable, because the company owns it all and is neither loosing nor gaining from anything players are doing in the virtual economy. If and when the EULA is tested and it fails and players then own stuff, then at that time we have a whole other kettle of fish. Until that time, however, there are no taxable transactions occuring in the virtual realm (excepting RMTs, of course, which by their nature aren’t 100% virtual).

    You\’e2\’80\’99re arguing for two things at once: that the RIAA\’e2\’80\’99s position (control should be held by the \’e2\’80\’9cowner\’e2\’80\’9d of the bytes) is bad, and that the Gamw Owners position (control should be held by the \’e2\’80\’9cowner\’e2\’80\’9d of the bytes) is good.

    I have never said anything about anyone’s position being bad OR good in any way. And in fact I drew a direct parellel between the two cases that is completely contrary to your statement here.

    I’m saying that both the RIAA and the developers fighting against RMTs are – given the situation and their goals and tactics – fighting a battle that they can not win. In the case of the RIAA I will go further and state that they are using thugish tactics I find distasteful.

    However, I do think that in both cases the owners should indeed be allowed to control their bytes and do with them as they see fit. If they want to fight loosing battles, so be it.

  • Cillasi

    The status of online game accounts, and especially transferring elements of intellectual property associated with an account, is likely to stymie the IRS for many years. While gaming software licenses are similar to other intellectual property licenses, unlike most other licenses, users can directly affect the value of their individual licenses.

    Thus, if the license (account) is transferable, it’s quite possible to make a profit by selling it.

    However, just like a gambler can offset verifiable losses against winnings to defray taxes (but cannot simply deduct losses if he hasn’t won, unless he’s a professional gambler), so should Joe Gamer be able to deduct his “losses” – the cost of the software, the monthly subscription fees and other costs associated with developing the account (i.e., time played), from his “winnings” – the sales price – in order to defray the tax liability arising from the “legitimate” transfer of his license. This is a relative no-brainer for most of us, and except in the most extreme cases (i.e., one or more characters with everything imaginable), the costs of developing the account should easily equal if not surpass the amount for which Joe Gamer can sell his account.

    Transferring individual items from an account for monetary compensation (RMTs) presents a fuzzier problem. According to most software licenses, such transfers may represent “illegal conversions.” “Pixel property” is part of the intellectual property of the game owner, not the licensee, and the licensee has no right to sell or otherwise transfer any portion of the intellectual property, regardless that you “worked” for it.

    However, consider that if I design a template to be used with a software program, I can market that template to others for a profit without transferring my license to the software. Can this be equated to a gamer who utilizes the software to obtain (develop) “The Ultimate Sword of Doom” and markets it to another licensee for a profit? And, if so, what “development costs” should be deductible from the sales price?

    Will games be forced to make more and more items non-transferable – maybe even limit in-game money transfers – in order to control such “illegal conversions”? It seems to me the onus is on the game owner, not the players. What effect would it have on RMTs (and the game itself) if a character could only receive a small amount of in game currency within a certain time period? Or if most valuable items were “bonded” to the original owner?

    No doubt we will eventually be taxed on the money we receive from these types of sales, whether they are deemed legal or not. What gamers have to concentrate their efforts on is insuring that if they are deemed legal, we have the right to defray taxes by deducting our costs and expenses, which means we have to win the case that such sales are legal.

    Like I said – years and years.

  • http://www.corpnews.com Andrew Crystall

    Cillasi, sure. The thing is, the more limits you put on a player the less likely he is to play the game. And it does also heavily depend on the gameplay

    Imagine, say, Eve Online with binding equipment and limited transfers – but binding works in WoW. (The nicer the stuff, the more restrictive the binding)

  • http://www.whatwouldmattdo.com Matthew

    The Second Life publicity MUST be huge since they have what, 10 subscribers and get mentioned in most “mainstream” press articles?

  • Turlow

    Cillasi, if you limit in game money trasfers and bind most items, the RMT sellers will sell accounts not items.

    Axeclever, where is the switch that can be thrown that will cause your house, car, boat, the state of Virginia and the whole planet to blink out of existence? Game companies can turn off their servers whenever they like and the virtual property ceases to be. I don’t see how real and virtual property can be treated the same since the very existence of the virtual property is left to the whim of a 3rd party.

  • http://vektor.blogdns.com Barry Kearns

    Some time ago, I worked up the basics of a position paper designed to show that it is possible to retain a great deal of the “fun” in current MMO games, while still making them strongly resistant to RMT.

    This is part of a multi-tiered strategy, where the goal is to offer segregated servers where those who don’t like RMT can play, and have the code enforce it rather than relying on the obvious non-starter of EULAs and Codes of Conduct.

    In effect, the design tries to treat pro-RMT and anti-RMT in much the same what that many of today’s games treat PVP… with segregated servers that have different rulesets, preventing the pro-PVP folks from ganking people who prefer PvE instead.

    I’ve recovered the articles and the commentary streams from this, and recently reposted them at my reconstituted blog. Commentary and suggestions are welcome.

    http://vektor.blogdns.com

  • http://www.corpnews.com Andrew Crystall

    Turlow, with DRM’ed music, they can throw a software switch and kill all your music. Not to mention the MP3 subcription services. The virtual property exists at the whim of a third party.

    Ditto things saved on IMAP mail servers. And, and,and.

  • TPRJones

    Correct. And you don’t own any of that music you “bought” anyway. Just as with virtual property in games, all you paid for was a limited liscense to use the data. The company still owns it.

  • Neep

    “Axeclever, where is the switch that can be thrown that will cause your house, car, boat, the state of Virginia and the whole planet to blink out of existence?”

    I think it’s somewhere next to the red phone on the president’s desk

  • Turlow

    Andrew, no one is talking about charging me income tax for buying a song or receiving an email.