The Second Life Tax Debate
Posted by Kristin Edelhauser at 3/6/2007
Entrepreneur Daily blog

Second Life may be a virtual reality world, but there's nothing virtual about the money being made off of the web community. In fact, according to an article on CNNMoney.com, one user claims [that she has become a real-life millionaire from] the site. In the last 24 hours alone, users have put about $1.6 million into the Second Life world.

In this 3-D virtual world, users create their own Second Life persona and have the chance to buy and sell goods using Linden dollars, the currency of the website. The money made in this virtual world can then be converted into real U.S. dollars.

Because of the success of websites like Second Life, tax authorities will be re-evaluating how online earnings are reported. For example, can a transaction that takes place in Linden dollars become taxable? [...]

What’s the IRS have to say about it? "Any time someone wins a tangible prize or award, the value is reportable as taxable income. An accumulation of 'points' would not result in tax consequences, but redeeming or selling them for money, goods, or services would," says an IRS spokesperson.

Analysts predict that taxes on virtual-only transactions may start appearing in the next three to four years.

BACKROUND:

Starting a Second Life Business
By Laura Tiffany
January 09, 2007
Entrepreneur.com

A million dollars of virtual loot. It's a concept that's difficult to wrap your head around, but in November, that's exactly what virtual real-estate developer Anshe Chung accomplished in the 3D virtual world Second Life, in which users live "second" lives as avatars. When her entrepreneurial success story hit the press, it spread like wildfire, leading many to ask: What exactly are the business opportunities available in Second Life? Are people really turning their love for Second Life into a full-time business?

Marketers have already been exploring the world, with big-name businesses like American Apparel, Starwood Hotels, Scion and Cisco setting up virtual areas for their products--a store for American Apparel, a hotel for Starwood--in Second Life. Even Reuters has assigned a bureau chief specifically to the site.

If you've never visited Second Life--or even heard of it—here's a quick look at it. Second Life is a 3D virtual world where people use avatars to explore and commune with other people. It's often lumped in with such online games as World of Warcraft or Star Wars Galaxies (which insiders refer to as "massively multiplayer online role playing games" or MMORPGs), but it's a different beast. There's no slaying of dragons to level up a character or collecting weapons to prepare for battle, but you can buy and develop online real estate, import images to craft your own in-world creations, or attend a drum circle with avatars created by users from all over the world. Based on the futuristic Metaverse from Neal Stephenson's seminal sci-fi novel Snow Crash, [A novel which is highly recommended by AOG/Susan's Hubby], Second Life aims to truly be a second life for users, with opportunities for both work and play.

It's the work element--the embrace of entrepreneurship--that's perhaps most unique to Second Life. Linden Labs, the creator of Second Life, has welcomed the entrepreneurial inclinations of its community in two important ways. First, Linden dollars, the in-world currency, are easily traded for U.S. dollars at an official currency site. Second, Linden has taken the remarkable step of allowing players to retain the copyright for their in-game creations. [...]

Julian Dibbel, an MMORPG expert who chronicled the year he spend trying to earn an income in Ultima Online in his book Play Money, says Second Life--and not MMORPGs--is the place to look if you want to make a virtual living online. [...]

[A] major issue with multiplayer game money-making, as opposed to Second Life, is that many foreign businesses have cornered the market on entrepreneurial opportunities using inexpensive labor and cheap overhead. Dibbel says this isn't yet an issue in Second Life. "What's not so easily off-shored is the really creative and culturally specific stuff, and that's what you see in Second Life."

What's also interesting about Second Life, says Dibbel, is that while you can be wildly creative, you don't have to be. The aforementioned Anshe Chung (real name: Ailin Graef), who was the first Second Life entrepreneur with a net worth of more than $1 million, made her cash through virtual real-estate dealings. The German resident has even gone real-world with her talents, starting Anshe Chung Studios, a 3D environment developer with offices in Wuhan, China. [...]

In December, Linden Labs reported there were more than 2.3 million Second Life "residents" (avatars that people have created), and that number seems likely to continue to rise. Some have criticized this population figure as not being representative of the true user base because it includes people who visited Second Life only once and never returned, as well as users who have more than one avatar. Regardless, there's no doubting that Second Life's popularity is growing...

Unreal World
The creator of today’s hottest virtual land offers a glimpse into his reality.
By Sara Wilson
Entrepreneur Magazine - March 2007

Everything in Second Life was created by its residents--from houses to clothes to the background music. But this is no game. While they operate under their own economy and use Linden dollars, Second Life businesses are earning real U.S. dollars as well--$15 million worth of goods and services are sold per month.

How I Did It: Philip Rosedale, CEO, Linden Lab
By: Michael Fitzgerald
Inc.com

Second Life seems like an overnight sensation--it drew almost a million new residents in the last two months of 2006, doubling its population. In fact, it began in 1999, when Philip Rosedale quit his job as chief technology officer at RealNetworks to realize his lifelong dream of building a virtual-reality environment. Most people he knew thought he was quixotic and certain to fail. He almost did. No wonder the 38-year-old Rosedale...

[Sez Rosedale]: "An enormous amount of intellectual energy is going to move into [Second Life], and some of what we are doing in the real world will therefore be displaced. You can imagine New York City being kind of like a museum. Still an incredibly cool place to go, but with no one working in those towers because work, creative work, where you are engaging with other people face-to-face, you are going to do in a virtual world. It's going to leave these cities [gestures toward downtown San Francisco] and move into digital worlds. It is easier to do things there."