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MS Candidate University of South Australia May 22, 2008
This paper analyzes the issue of earning real world money from virtual world and the role of taxation on that income. Many virtual worlds have their own internal trade based economy similar to real world economy with its own currency acting as a medium of exchange. A huge virtual money flow in MMOG, so a virtual economic flow can be exist which can effect the real world economy in terms of tax pay. And the gamer integrate real cash into the virtual world through an internal currency exchange system. It illustrate the issues of taxes in virtual games recognizing income could be established by regulators at the point when in-game transaction occurs and at the time of converting game assets into real world money. The tax in MMOG is calculated from gross income of gamers when they receive anything of economic value, whether in the form of cash, property or services. MMOG tax can be collected by voluntary reporting and Internal Revenue Services (IRS) initiative and participating from different nation belongs to their country’s tax rules and regulation.
Keyword: MMOEG, MMORPG, real money trade (RMT), virtual world, multi-user, linden dollar, internal revenue service (IRS), second life, linden lab, virtual economy, taxation, Terms of Service ( TOS )
Social network collaborate a group of people to form virtual community which trends to virtual world other than real world where members are sharing resources, skills, profile, contacts, fun and doing business to achieve its mission goal in virtual networks. Online virtual games are one of the most interesting innovations in the area of social network. These games are based on multi-user domains (MUDs) and they have utilized the internet as a new gaming forum that allows people to link up and play together. In Massively Multiplayer Online Economic Game (MMOEG) or Missilery Online Role Playing Game (MMORPG), players from different sites can easily participate and obtain items that can have significant world value to other players. And Second life is one of the good examples of Massively Multiplayer Economic Game where people can trade huge money by selling and buying virtual property. And the virtual world is not isolated from the real world as the exchange of virtual goods and services for real life money has become a fundamental part of the virtual world experience.
Virtual World & Ownership
considerable number of people which is not a game rather then collaboration, community development and innovation inside the enterprise. According to the Prentice (2007) virtual worlds are neither games nor a parallel universe and every avatar acts as a real person. However, virtual world includes MMORPG such as World of Warcraft and on the other hand Second Life is one of the most popular MMOEG which was released by Linden Lab, a private company based in San Francisco, California in 2003. It’s a three dimensional forum that enables users to interact with each other through motional avatars.
Figure 1. Virtual demo
Virtual world is a computer simulated environment in which social network users interact with each other via graphical representation. Virtual worlds have captured the imagination of a
This platform creates a sophisticated level of social network interactivities combined with general aspects of virtual reality. And there is no
fee to join in Second Life but it takes money for Linden dollars from participants which can be exchanged for real money rate of approximately 300 Linden dollars to one US dollar. However, according to Erriksson and Grill (2005) the participants can create avatars and may own property and game money but at the end of the day when the game is over, the property and the money itself is returned to the owner of the board game. As a result the values and ownership is based on the time it takes to acquire buying and selling. On the other hand, Herman, Coombe and Kaye (2006) acknowledge that the user have their own rights to create and sell the virtual property in virtual currency to other users which can be converted into real life currency at a fixed exchange rate.
Economic Flow in MMOG
raked in $292 million in subscription fees in 2005. On the other hand, Julian Dibbel as a retailer in massively multiplayer game Utima online sold ingame items, currency and real estate on eBay and earned almost $4000 per month which is $36000 a year. Surprisingly, some people make six figures in a year.
Read Trade Money (RMT) and Effect
In MMOG the economy works differently since it is so tied to real life money where it is replaced with buying of virtual currency with real life currency and the drain is taxes on land ownership. As there is a huge virtual money flow in MMOG, so a virtual economic flow can exist which can affect the real world economy in terms of tax pay. The basic difference in between these two terms is that in real world economy there is a channel where the government is getting a part of once gross income but on the other hand in virtual economy the agent collects Linden dollars as virtual tax when two parties are involved in buying and selling their goods or properties and at end of the year the entrepreneur of virtual game pays real tax against its entire revenue. However, the stakeholders of MMOG try to prevent the players paying with real currency to gain items or in-game currency from other participant instead from them. Jordan describes that Blizzard who run European online game World of Warcraft banned over 800 accounts because the players were involved in selling ingame currency. In contrast, in 2005 Sony who runs Everquest allowed players to sell virtual goods for real currency and they also received a percentage from each transaction. Moreover, Fairfield (2005) acknowledges that real world system of trade such as eBay and PayPall allow virtual-world users to auction/sell virtual goods for real world currency. A number of web sites, such as MMOMarkets.com and the Internet Gold Exchange, actively track the trading rate of online currency in many games. Holland and Ewalt (2006) acknowledge that MMOGchart.com put total number of MMORPG subscriptions at over 13 million and NPD estimates that game developers
Real money trade is the act of exchanging real life money for virtual world goods and services. In fact, this is almost similar to the Casio trading where people buy coins against money and gets the money by exchanging this at the end of the day. The only difference between virtual game and casino is the gamer in casino cannot trade with the other participants. But in MMOG people trade themselves which is hidden from the company and sometimes they trade real world assets with the virtual items and it impacts real world economy which is never counted as taxable.
Figure 2. Real & Virtual Money
Real money trade has many effects on both the virtual worlds and their social networks and real world through various means. Castronova (2006) describes that on the beginning of 2005 real money trading exceeded 100 million US dollars and may actually be over 1 billion annually. It will not be a problem if the scope of trade limits inside the contour of virtual game but when it penetrates into the real world then the question raised is whether that portion of this huge amount of money is legal or not, in the sense of taxation nowadays. There are other motivations such as second life where the trade is legal and the RMT is a part of the game as the in game currency can be freely converted back and forth between virtual and real money. Although virtual currency in some cases has a better exchange rate into US dollars than some smaller countries. Wong (2007) acknowledges that recently the magnitude of sales in virtual worlds is creating real life profit for users. In America, the Internal Revenue Service (IRS) has been looking at taxing the sales of virtual items and gold.
In two alternative ways the MMOG tax can be collected such as voluntary reporting and Internal Revenue Services (IRS) initiative. According to the report provided by Julien Dibbel (2004), his earned income selling goods and services in MMOGS was more than his general income profession as a writer which is no more surprising for a second life participant. The most interesting thing is that he has to pay tax for his professional income but he can refuse to pay tax for the income what he has earned from MMOG, unless voluntarily announced. Similarly, Anshe Chnag who is another second life player has recently reported voluntarily of her worth exceeding million dollar mark. So, IRS has been undergoing self reported taxation method for MMOGs player on their earned income ever since the game has started from its journey.
Pros & Cons in Tax Compliance
there are no such measurements for net income unless gross income is measured. And later taxation of Second Life implied on cashing out and accessions the wealth. In virtual game the company provides the basic stipend but they encourage gamer to develop content and later sell to others. This income, in turn, enables you to develop more land which provides the revenue base for Linden lab because the more land you own, the more ‘taxes’ you pay ( Grimmelmann 2003). The gamers’ income could be recognized when “in-game” transaction occurs or when the conversion from “in-game” to real world currency occurs. Perhaps, substantial risk of forfeiture could take place which invalidates the point of income recognition during the “in-game transaction”. If a person runs the risk of forfeiture, he may not be liable for tax. The participant can ignore the Linden dollar when it will lose its value leading to barter transaction as well as exceeding the threshold currency conversion set by Linden lab. Surprisingly, the gamer has a tendency of not to pay tax which leads the RMT transaction to form a gigantic gray market. According to the Yoon (2004), currently gray market has no tax assessed to earnings from game item transactions by unlawful activities. He also describes that it can be tackled at the government level in the context of overall policy dealing with gray markets. Their principle roles include mediating disputes between players and collecting information on game bugs which they forward to the development team. Finally, imputed income and loot is applied to MMOG taxation. Haskell and Kauffman (1964) acknowledge that the special feature of imputed income is that it arises outside the normal process of the market. Similarly, loot arises when a gamer wins property in battle of MMOG. The property right of copying items is not clearly mentioned in Terms of Services (TOS) in Second Life. Lederman (2007) clarifies that if any participant creates any copy one of its game items; it would be taxable if he wants to sell it to other participants. As when a gamer creates a copy, it is just a replicated copy of the Linden server.
The advantages of IRS initiative are • Increases tax payer’s compliance • Easier for tax payer to keep the record • Game operator may incur some charge, technically efficient. Disadvantages of IRS are • Players may grow with some regressive behaviour • Players might change the medium transaction – barter transaction. • Devaluation of Linden leading to the collapse of game economy. On the other hand, although voluntarily reporting is less expensive and • Few players comply with self-reporting • Players, sometimes, are not even aware of the fact that their income is taxable. • Neither tax policy provided by IRS nor any guidelines provided by game operator which is a concern!
Tax in MMOG
The tax in MMOG is calculated from gross income of gamers as taxpayers have gross income when they receive anything of economic value, whether in the form of cash, property or services (Camp, 2007). But Miano (n.d.) describes IRS code 1001 that provides the tax payers should subtract their basis from the sum of cash receive plus the fair market value of any property received. So, in Second Life to reach basis one must establish the proper measure of virtual income. Surprisingly,
Mennecke (2007) acknowledges that there are two alternative ways IRS initiated to recognize income could established for taxation by regulating the point when in-game transaction occurs and
converts game assets into real currency. And he also suggests that IRS established the specific rules where the game operator like Linden lab is required to track all economic records of in-game transactions as a part of official documentation for taxation. And the participant would be issued a 1099 form during any real world values that is earned in exchange of virtual world object or currency for the record purposes. This system expected to increase user compliance for tax even though have some pitfalls. If anyone tries to do transactions with web portal, peer-to-peer or real world, it could be detected by IRS.
Different Tax Policy in Different Countries
authority and game operator sides; participants are not aware of the liabilities of paying tax. The analysis makes an analogy between the transfer of goods and real money trades where the transfer is not a purchase of an item. As many people are earning unrealistic real money through virtual world activities, the governments are looking into whether virtual world transactions are subjected to real taxes even if the participant does not convert his virtual income into cash out. However, the US law has led to unclear and sometimes conflicting interpretations.
According to the Gartner analyst, approximately 80 percent of internet users all around the world participate in “Second Life”. (Garter, 2007). Apart from Second Life there is also some virtual games which deal with in game currency. This massive population of MMOG is from different nations participating in virtual game via internet. As a result, this huge population belongs to their country’s tax rules and regulations. In this case, the transaction flow would be Linden dollar to US dollar and US dollar would be exchanged with other country’s currency followed by the currency rate which implies penetration of illegal money into the local economy. Chung (2008) describes that these latter currencies act as foreign currencies and should be taxed under the foreign currency rules of Internal Revenue Code (IRC). In order to avoid this charge, the gamer voluntarily declares to make the money white. However, the gamer plays another trick to avoid tax by exchanging real world goods with virtual property and later buyer can auction real world goods to get real money. Davidson (2008) acknowledges that Linden lab that they begin to collect value added tax from residents of European Union which will apply to premium registration fees, purchases from the land store, private region fees and auctions but would not apply to transactions in Second Life currency between individual residents.
Discussion & Conclusion
Is being a big challenge to calculate and thus collect tax from the gamer in massively multiplayer online game nowadays. Moreover,
IRS initiated tax method could make the game currency weak which may lead to the fall of game economy. However, due to the lack of specific policies, regulations and guidelines from both tax
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