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What Is Cryptocurrency?

A cryptocurrency is a medium of exchange like normal currencies such as USD, but designed for the purpose of exchanging digital information through a process made possible by certain principles of cryptography. Cryptography is used to secure the transactions and to control the creation of new coins. The first cryptocurrency to be created was Bitcoin back in 2009. Today there are hundreds of other cryptocurrencies, often referred to as Altcoins.

To put it another way, cryptocurrency is electricity converted into lines of code with monetary value. In the simplest of forms, cryptocurrency is digital currency.

Unlike centralized banking, like the Federal Reserve System, where governments control the value of a currency like USD through the process of printing fiat money, government has no control over cryptocurrencies as they are fully decentralized.

Most cryptocurrencies are designed to decrease in production over time like Bitcoin, which creates a market cap on them. That's different from fiat currencies where financial institutions can always create more, hence inflation. Bitcoin will never have more than 21 million coins in circulation. The technical system on which all cryptocurrencies are based on was created by Satoshi Nakamoto.

While hundreds of different cryptocurrency specifications exist, most are derived from one of two protocols; Proof-of-work or Proof-of-stake. All cryptocurrencies are maintained by a community of cryptocurrencyminers who are members of the general public that have set up their computers or ASIC machines to participate in the validation and processing of transactions.

 

History of Cryptocurrency

Bitcoinstack banner

The first cryptocurrency was Bitcoin. Bitcoin was created in 2009 by a pseudonymous developer named Satoshi Nakamoto. Bitcoin uses SHA-256, which is a set of cryptographic hash functions designed by the U.S National Security Agency. Bitcoin is a cryptocurrency that is based on the proof-of-work system.

 

In April 2011, Namecoin, the first altcoin, was created to form a decentralized DNS to make internet censorship more difficult. In October 2011, Litecoin was released and became the first successful cryptocurrency to use scrypt as its hash function rather than SHA-256. This gave the general public the ability to mine for litecoins without the purchase of specific hardware such as the ASIC machines used to mine Bitcoin.

 

Litecoin began receiving media attention in late 2013 - reaching a market cap of $1 billion. Ripplecoin, created in 2011, was built on the same protocol as Bitcoin but services as  a payment system - think of it like a Paypal for cryptocurrencies that supports any fiat currency, cryptocurrency, commodity or even frequent flier miles.

 

Cryptocurrencies & Market Capitalization

Bitcoin is the largest cryptocurrency in both market capitalization, volume, acceptance and notoriety, but it's not the most valuable coin. NEMstake, while only having a market cap of $1,116,720, trades at $1,117 a coin. Looking at the market cap, Litecoin takes second place after Bitcoin with Ripple close behind.

One coin that you are more than likely familiar with is Dogecoin. Dogecoin ranks, on average, thirds in trading volume, but has a relatively low market cap - ranking number six in the largest cryptocurrency.

 

What is a Bitcoin Fork?

There has been significant news coverage and developments in recent weeks about changes to digital currency networks. These are sometimes called "forks". We wanted to provide a simple, non-technical explanation to add context to recent discussions (previous blog posts here and here).

What is a "fork"?

A "fork" is a change to the software of the digital currency that creates two separate versions of the blockchain with a shared history.

Forks can be temporary, lasting for a few minutes, or can be a permanent split in the network creating two separate versions of the blockchain. When this happens, two different digital currencies are also created.

Why are changes made to digital currency protocols like Bitcoin and Ethereum?

Coinbase currently supports 3 digital currencies - Bitcoin, Ethereum and Litecoin. Each of these digital currencies use open-source software protocols with independent development teams responsible for changes and improvements to the network, much in the same way that changes to internet protocols allow web browsing to become better over time.

Our mission is to create an open financial system for the world and we believe digital currencies will be fundamental in achieving this mission. However, many of these digital currencies are still in early development. Making improvements to the software - such as the number of transactions the network can support - is crucial to creating finance 2.0.

Why do forks happen?

There are a few reasons why a fork can happen. For example, when a change is proposed to a digital currency protocol, users need to show their support for the new version and upgrade - in a similar way to people regularly update applications on their computer. In order for these changes to get approved many people need to agree, just as changes to cell phone networks require many phone companies to agree.

What does this mean if I have digital currency stored on Coinbase?

Coinbase actively monitors protocol developments and works hard to ensure customer funds are safe in these events. Our policy is to support only one version of a digital currency. In order to determine which fork to support we look at factors such as size of the network, market value and customer demand. We make this decision carefully because safely supporting a new digital currency requires significant work for many teams.

We will keep you informed about these events through our blogCryptocurrency pagetwitter and supported assets page.

 

What is a Cryptocurrency Hash?

Cryptocurrency mining power is rated on a scale of hashes per seconds. A rig with a computing power of 1kH/s is mining at a rate of 1,000 hashes a second, 1MH/s is a million hashes per second and a GH/s is one billion hashes per second. Every time a miner successfully solves a block, a new hash is created. A hash algorithm turns this large amount of data into a fixed-length hash. Like a code if you know the algorithm you can solve a hash and get the original data out, but to the ordinary eye it's just a bunch of numbers crammed together and remains practically impossible to get the original data out of.

 

SHA vs. Scrypt

While Bitcoin and a several other coins are mined using SHA-256, Litecoin and many other coins, use Scrypt. This are the two major hashing functions, but several different kinds exists and are used by other cryptpcurrencies such as scrypt-N and x11. The different hashing functions were adopted to answer concerns with the SHA-256. Before, individuals were able to mine Bitcoin with their GPU's, which require a large amount of energy. But as Bitcoin grew in popularity, ASIC SHA-256 machine were built which  made GPU mining obsolete.

 

To give you an idea of just how powerful these machines are, a mining rig running 4 GPU's would get a hash rate of around 3.4 MH/s and consume 3600kW/h while an ASIC machine can mine 6 TH/s and consume 2200kW/h. This effectively killed GPU mining and left many individuals worried about the security of the network. With less individuals being able to profitably mine from their home computer, the network become less decentralized. Scrypt mining was implemented with the promise of being ASIC resistant due to the memory problem it introduced.

 

Scrypt hashes require lots of memory, which GPU's are already designed to handle and ASIC machines were not. However, Scrypt mining require a lot of energy and eventually scrypt-ASIC machineswere designed to address this problem. At this point Litecoin considered changing their proof-of-work function to avoid ASIC mining. Scrypt also taut that their proof-of-work is much more energy efficient than SHA-256. Bitcoin blocks are solved at a rate of 1 per 10 minutes while Litecoin blocks are solver at a rate of 1 per 2.5 minutes.

cryptosecurity bannerCryptocurrency Security

The security of cryptocurrencies is two part. The first part comes from the difficulty in finding hash set intersections, a task done by miners. The second and more likely of the two cases is a "51%" attack". In this scenario, a miner who has the mining power of more than 51% of the network, can take control of the global blockchain ledger and generate an alternative block-chain. Even at this point the attacker is limited to what he can do. The attacker could reverse his own transactions or block other transactions.

 

Cryptocurrencies are also less susceptible to seizure by law enforcement or having transaction holds placed on them from acquirers such as Paypal. All cryptocurrencies are pseudo-anonymous, and some coins have added features to create true anonymity.

 

Cryptocurrency Legality & Taxes

Bitcoin Taxation chart

Bitcoin Taxation

While cryptocurrencies are legal in most countries, Iceland and Vietnam being an exception - Iceland mainly due to their freeze on foreign exchange, they are not free from regulations and restrictions. China has banned financial institutions from handling bitcoins and Russia, while saying cryptocurrency is legal, has made it illegal to purchase goods with any currency other than Russian rubles.

 

In the U.S., the IRS has ruled that Bitcoin is to be treated as property for tax purposes, making Bitcoin subject to capital gains tax. The Financial Crimes Enforcement Network (FinCEN) has issued guidelines for cryptocurrencies. The issued guidelines contain an important caveat for Bitcoin miners: it warns that anyone creating bitcoins and exchanging them for fiat currency are not necessarily beyond the reach of the law. It states: "A person that creates units of convertible virtual currency and sells those units to another person for real currency or its equivalent is engaged in transmission to another location and is a money transmitter."

 

Miners seem to fall into this category, which could theoretically make them liable for MTB classification. This is a bone of contention for bitcoin miners, who have asked for clarification. This issue has not been publicly addressed in a court of law to date.

Cryptocurrency Services

There are a host of services offering information and monitoring of cryptocurrencies. CoinMarketcap is an excellent way check on the market cap, price, available supply and volume of crypto currencies. Reddit is a great way to stay in touch with the community and follow trends and CryptoCoinCharts is full of information ranging from a list of crytocoins, exchanges, information on arbitrage opportunities and more. Our very own site offers a list of crypto currencies and their change in value in the last 24hrs, week or month.

 

Liteshack allows visitors to view the network hash rate of many different coins across six different hashing algorithms. They even provided a graph of the networks hash rate so you can detect trends or signs that the general public is either gaining or losing interest in a particular coin.

 

A hand website for miner is CoinWarz. This site can help miners determine which coin is most profitable to mine given their hash rate, power consumption, and the going rate of the coins when sold for bitcoins. You can even view each coins current and past difficulty.


How Can I Buy Bitcoins?

OK, so you've learned the basics about bitcoin, the next step is to get some bitcoins. But how? This guide will tell you what you need to know.

 

You can buy bitcoins from either exchanges, or directly from other people via marketplaces.

 

You can pay for them in a variety of ways, ranging from hard cash to credit and debit cards to wire transfers, or even with other cryptocurrencies, depending on who you are buying them from and where you live.

Surprisingly, it's still not easy to buy bitcoins with your credit card or PayPal, depending on your jurisdiction.

 

This is because such transactions can easily be reversed with a phone call to the card company (ie 'chargebacks'). Since it's hard to prove any goods changed hands in a transfer of bitcoins, exchanges avoid this payment method and so do most private sellers.

 

However, the options have recently grown for consumers in some countries.

 

In the US, Coinbase, and Circle offer purchases with credit cards. Bittylicious, CoinCorner and Coinbase offer this service in the UK, accepting 3D Secure-enabled credit and debit cards on the Visa and MasterCard networks.

Underbanked consumers in the US can turn to expresscoin, which recently launched to serve this market, accepting money orders, personal checks and wire transfers.

 

First, get yourself a bitcoin wallet

 

Next, you will need a place to store your new bitcoins. In the bitcoin world, they're called a 'wallet' but it might be best to think of them as a kind of bank account.

Depending on the security levels you want, different wallets will provide different levels of security. Some act like everyday spending accounts and are comparable to a traditional leather wallet, while others tout military-grade protections.

The main options are: (1) a software wallet stored on the hard drive of your computer, (2) an online, web-based service or (3) a 'vault' service that keeps your bitcoins protected offline or multisig wallet that uses a number of keys to protect the account.

Most have their vulnerabilities: if you store bitcoins locally on your computer, make sure you back up your wallet regularly in case the drive becomes corrupted; and online web wallets employ varying degrees of security against hackers, from quite good (multi-factor authentication) to quite poor (ID and password).

For more on storing bitcoins, see our guide on the subject.

 

Exchanges and Online Wallets

 

Bitcoin newcomers will find a variety of exchanges and wallets competing for their business.

Some are full-blown exchanges for institutional traders, while others are simpler wallet services with a more limited buying and selling capabilities.

Most exchanges and wallets will store amounts of digital and/or fiat currency for you, much like a regular bank account.

Exchanges and wallets are the best option if you want to engage in regular trading and speculation, don't need total anonymity and don't mind lengthy bureaucratic setup procedures that usually involve proof of identity and supplying detailed contact information.

This is the law in most countries and no regulated exchange can get around it, as any company interfacing with the current financial system must meet 'know your customer' (KYC) and anti-money laundering (AML) requirements.

The best exchange option also depends where you're located.

For more information, you can check out this list of major bitcoin exchanges/wallets around the world, and the payment options they allow.

At this time, the largest full trading exchanges by volume are Bitfinex (Hong Kong), Bitstamp (US), BTC-e (unknown), Kraken (US), Huobi (China and Hong Kong), OKCoin (China) and BTCC (China).

Coinbase is a popular wallet and exchange service that will also trade US dollars and euros for bitcoins. The company has web and mobile apps. Originally a US-only service, Coinbase has recently opened up to a large number of European countries.

Circle offers users worldwide the chance to store, send, receive and exchange bitcoins. Currently only US citizens are able to link bank accounts to deposit funds, but credit and debit cards are also an option. Apps for iOS and Android are now available.

Wallet and bitcoin debit card provider Xapo has also recently entered the fray, offering deposits in fiat currency that are converted to bitcoin in your account.

Coinjar, an exchange and wallet provider, is the market leader in Australia. The Melbourne-based startup raised $500k AUD in venture funding and won an award at Finovate Europe 2015 for their user experience. The company released a debit card service, 'Coinjar Swipe' in February 2015.

Coinjar banner

The 'Coinjar Swipe' allows Australians to spend from Coinjar bitcoin accounts.

Unocoin is an exchange aimed at the Indian market, allowing users to buy, sell and store bitcoin. Deposits can be made via any national online bank or through NEFT/RTGS. Registration with a PAN card is necessary to use the site's services.

 

Once you've set up your account, you'll probably need to link an existing bank account and arrange to move funds between it and your new exchange account via wire transfer. This usually entails a fee. Some exchanges allow you to make a deposit in person to their bank account (that is, via a human teller, not an ATM).

 

While people in most countries can transfer money to overseas accounts, fees are much higher and you may face more long delays changing your bitcoins back into fiat currency (should you still wish to do that).

If you are required to link a bank account to use the exchange, it may only admit banks from that country.

 

Exchange About Based  
Coinbase operates one of the most popular wallets and is an simple way to buy bitcoin. $5 bonus on sign up. USA BUY BITCOIN
LocalBitcoins matches buyers and sellers online and in-person, locally worldwide. Finland BUY BITCOIN
BitQuick claims to be one of the fastest ways you can buy bitcoin. USA BUY BITCOIN
BitBargain has a vast range of different payment options for UK buyers. UK BUY BITCOIN
CoinCorner logo CoinCorner allow purchases with credit and debit cards for verified users. Isle of Man BUY BITCOIN
Bittylicious logo A peer-to-peer platform for individuals to buy, sell or trade bitcoin and altcoins UK BUY BITCOIN
Bitfinex logo Bitfinex is a trading platform for Bitcoin, Litecoin. It allows margin trading and margin funding. USA  

SIGN UP

xapo logo Xapo is Known for it's ease of use and bitcoin cold-storage vault. USA BUY BITCOIN
BTCProMiner BTCProMiner is an industry leading Bitcoin mining pool with an affiliate program. USA  

SIGN UP

Poloniex logo Based in the United States, Poloniex is a leading digital asset exchange offering a wide variety of digital assets. USA  

SIGN UP

The table above is an advertising unit

 

Warnings about exchanges, wallets and banks

Despite the proof of identity requirements, remember exchanges and wallets don't provide the same protections banks do.

For example, there is often no or limited insurance for your account if the exchange goes out of business or is robbed by hackers, such as was the case with the infamous failed exchange Mt Gox.

 

Bitcoin does not have legal status as a currency in most of the world, and authorities usually do not know how best to approach thefts. Some larger exchanges have replaced customer funds after a theft from the exchange itself, but at this stage they are not legally obliged to do so.

Further, if a theft from your personal wallet occurs due to a security or password lapse on your part, you do not have any guaranteed way to recover your funds.

 

Some existing banks see digital currency refuse to work with funds that were the result of digital currency transactions, citing regulatory uncertainty.

 

Check your bank first to see if they have taken action against users in the past, and for your protection, open an account with a bank known to be more bitcoin-friendly.

 

Personal Hardware Wallets to Store Your Bitcoin Offline

The above tables are advertising units.

Face-to-face, or 'over-the-counter' (OTC) trades

If you live in a city, prefer anonymity or don't want bank hassles, the easiest option to acquire bitcoin is to make a face-to-face trade with a local seller.

 

LocalBitcoins is the primary site where such transactions are arranged and prices negotiated. The site also provides an escrow service as an added layer of protection for both parties.

 

There are security considerations for both buyers and sellers, especially if the trade is a sizeable one. Always meet in a busy public place, don't meet in private homes and take all the precautions you'd usually taken when walking around with large amounts of cash.

Remember, if you're meeting face-to-face somewhere, you'll need to have access to your bitcoin wallet. Whether it's a smartphone, tablet or laptop, you'll also need live Internet access to confirm the transaction.

 

If one-on-one trades aren't your thing, check out Meetup.com to see if your area has a bitcoin meet up group, where you can do it all in a group setting and learn a lot from the other members in the process.

Satoshi banner

London held its first Satoshi Square event on Saturday 18th January 2014

Depending on the seller, you may pay a premium of around 5-10% over the exchange price for a face-to-face trade, for convenience and privacy. A reputable trader will negotiate the price before a meeting, but many won't want to wait too long in case bitcoin's value takes a dramatic shift.

Some sellers may let you use a PayPal account to pay, though most prefer non-reversible cash for the reasons described earlier.

It's also wise to check first if such trades are legal in your local area. There is also a slight danger you'll arouse police suspicion by exchanging cash in a public place, if they think you're trading something more illicit.

 

A word or two about 'mining'

What about this mining thing? I've heard you can make your own bitcoins.

You might've heard about 'mining' your own bitcoins with your PC or a powerful graphics card. That was possible until not so long ago, but time and the increasing popularity of bitcoin have brought more and more powerful, mining-specific devices (called ASICs) onto the network, increasing the difficulty and energy required to mine worthwhile amounts of bitcoin.

Added to that, the number of bitcoins remaining to be mined diminishes sharply as time progresses. All this means mining as an individual isn't as cost-effective as it was just a year ago. Many end up paying more for hardware and electricity than they ever make back in bitcoin.

Most mining these days is the domain of large mining groups called 'pools', and companies set up specifically to mine. You may choose to buy shares in such a pool or company, but mining is definitely not the hobbyist pursuit it once was.

Anyone who claims you can mine bitcoins with an ordinary PC or even a graphics card array in 2014 either has out-of-date information, or may be trying to sell you outdated equipment. Beware.

Another relatively new option is 'cloud mining', where to mine bitcoins without investing in expensive and fast-dating equipment, a person pays to use a company's data centres to mine on their behalf.

An investment trust

If you don't like the idea of having to buy and safely store a large quantity of bitcoins, you can turn to an investment trust, such as the Bitcoin Investment Trust (BIT) or The Winklevoss ETF.

This trust invests exclusively in bitcoins and uses a state-of-the-art protocol to store them safely on behalf of its shareholders. So far, the fund has been exclusively for serious (i.e.: very rich) investors, but is to open to all, hopefully by the fourth quarter of 2014.

The Bitcoin Superfund is a new option soon to launch in the UK.

Bitcoin ATMs

Though a relatively new concept, bitcoin ATMs are growing in number.

 

More are on the way, from a number of different vendors including BitAccess, CoinOutlet, Genesis Coin, Lamassu and Robocoin.

 

Like a face-to-face exchange but with a machine, you insert your cash and either scan your mobile wallet QR code or receive a paper receipt with the codes necessary to load the bitcoins onto your wallet.

 

Exchange rates vary, and may be anything from 3% to 8% on top of a standard exchange price.

 

Keep up with the latest bitcoin ATM news and also view the locations worldwide on our bitcoin ATM map.

Conclusion

Buying bitcoins is not always as easy as newcomers expect. The good news is the number of options is increasing, and it is getting easier all the time.

 

Some may not even necessarily require a wallet or Internet access. Other ideas have included bitcoin debit cards, physical bitcoin 'coins' with a wallet value pre-loaded, and stored-value cards.

BITCOIN CALCULATOR

The CoinDesk Bitcoin Calculator tool allows you to convert any amount to and from bitcoin (up to six decimal places) and your preferred world currencies, with conversion rates based on the live CoinDesk Bitcoin Price Index.



 

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