Crypto payment

Crypto payment is a financial transaction that is conducted in cryptocurrencies, such as Bitcoin, Ethereum, XRT, stablecoins, and others. Crypto payment operates on blockchain systems, which enable individuals and companies to move value across borders in minutes.^[1] A sender initiates a transfer with their digital wallet to a wallet address of the recipient, and every transaction is verified and confirmed by the blockchain network.

Crypto payments are particularly popular in e-commerce, retail stores, and peer-to-peer transactions as an alternative to the traditional payment options, including wire transfers, card payments, and online payment services.

Cryptocurrency payments started with the first cryptocurrency, Bitcoin, which was introduced in 2009.^[2] Bitcoin was created as a peer-to-peer electronic cash system that enables online payments between parties without the involvement of financial intermediaries. In its early years, users predominantly performed person-to-person and experimental transactions, including the well-known purchase of two pizzas for 10,000 bitcoins in 2010.^[3]

By 2015, over 20 additional cryptocurrencies had entered the market with different features: Litecoin offered faster transaction processing;^[4] Ripple helped financial institutions make transactions across borders in real time;^[5] and Ethereum provided smart contract capability.^[6] In the 2020s, an increasing number of merchants began accepting cryptocurrency as payment for goods and services, enabling broader commercial use.^[7]

The growth in cryptocurrency payment popularity required infrastructural support. Crypto wallets were among the first tools to emerge. They began as simple software applications but evolved into more complex online systems that enable users to store and manage digital assets.^[8]

Later, cryptocurrency exchanges began to provide merchant services with withdrawal options and payment conversion tools. A further development was the emergence of payment processors and payment gateways that simplified the process of accepting cryptocurrencies on the merchant side. These services offered APIs, e-commerce integrations, dashboards, invoicing, and point-of-sale services for both online and brick-and-mortar stores. They reduced technical barriers and supported the expansion of commercial crypto payment use.^[9]

Cryptocurrency payment is founded on blockchain technology, a type of decentralized ledger for recording transactions. All blockchains consist of a sequence of blocks that have transaction data and are cryptographically linked with the previous blocks. It creates an unchangeable record across a network of computers called nodes.^[10]

Blockchain lacks a central authority, and thus the participants must validate a transaction mutually, without knowing each other, which is known as a consensus. Consensus mechanisms are protocols through which the participants of a network can agree on the state of transactions and blockchain.^[11] Proof of Work (PoW) requires participants to solve computational problems in order to authenticate the transactions,^[12] and Proof of Stake (PoS) chooses the validators according to the amount of investment they have in the cryptocurrency under consideration.^[13] These protocols make it impossible to change transactions of the past and guarantee that digital properties cannot be copied and used more than once.

Verification of the transaction is done through checking the adequacy of the funds that the sender has, whether the transaction is well-structured and with a valid digital signature. After being verified, the transactions are put together into blocks which are bundled into the blockchain thereby creating an unalterable record that is accessible to everyone in the network.^[14]

The crypto payments are conducted through digital wallets containing cryptographic keys, which are utilized to access and control digital assets. Wallets themselves don't store currency, but rather they offer private keys that identify ownership, and authorization to transact, and public keys which serve as addresses, by which other people may send money.^[15] Merchants also have an opportunity to show wallet addresses in the form of a QR code for quick customer payments. New-generation wallets are compatible with a variety of cryptocurrencies and have sophisticated functionalities, including transaction history, address management, and support of payment services.^[16]

Companies receive crypto payments via special purpose merchant applications such as payment gateways. The key gateways include 0xProcessing, BitPay, Coinbase Commerce, CoinGate, and NOWPayments, all of which support multi-currencies and provide different settlement options.

The APIs and plugins help integrate crypto payment functionality into e-commerce platforms and other custom applications. The tools handle the technicalities of creating payment addresses, tracking blockchain networks on transactions, and issuing confirmation messages.^[17]

Crypto payments can also be made in the physical retail through tablets, terminals or mobile using point-of-sale systems. Merchants generate payment requests that are represented by QR code and customers scan those using their wallet apps.

A cryptopayment is triggered when a customer sends a transaction request either by manually entering or scanning the wallet address of a merchant. The wallet software will build a transaction message containing the recipient address, amount and transaction fee and will sign the message with the customer's private key that will authenticate the payment.

The message is sent to the network and enters a queue of unconfirmed transactions. Network validators take a collection of pending transactions and add them to the new blocks in the blockchain. Confirmation time is determined by network conditions and the amount of fee charged.^[18]

Once the transaction is included in a block and added to the blockchain, it gets its first confirmation. The merchants might also insist on several confirmations, and more blocks constructed over it before the payment is completed. This method offers more security against blockchain reorganizations.^[19]

There are always multiple settlement options for every transaction. In crypto-to-crypto settlement, for example, the merchant keeps the cryptocurrency received without its conversion.^[20] It is a common approach among businesses that already hold digital assets or operate entirely within the cryptocurrency ecosystem.

Crypto-to-fiat conversion entails automatically converting the received cryptocurrencies into traditional currencies like the US dollar and euro. Many payment processors support this feature so that merchants avoid price volatility while still accepting crypto payments. The conversion happens at market rates shortly after confirmation.^[21]

As a middle option, merchants can choose to receive stablecoins-specialized cryptocurrencies maintaining stable value relative to fiat currencies, usually the US dollar. Settlement in stable coins offers fast processing while minimizing exposure to price fluctuations.^[22]

Network participants should pay the transaction cost, sometimes called gas fees, to compensate for the processing and validation of transactions. The fee itself highly depends on network congestion, the complexity of a transaction, and the priority with which it is being processed. During periods of high network activity, transactions with lower fees may experience significant delays.^[23]

Confirmation times also differ across blockchain networks. For example, Bitcoin transactions require about 10 minutes or more for initial confirmation,^[24] and Litecoin networks offer confirmation times of a few minutes.

The regulation of cryptocurrency payments is very varied among jurisdictions. While some countries have established a framework that allows them to be considered a form of legitimate payment or assets subject to specific regulations, other countries have restricted or banned their use.^[25]

The EU has formulated Markets in Crypto-Assets Regulation that will help establish a common set of rules among crypto service providers.^[26] In the United States, the use of cryptocurrency payments falls within both federal and state jurisdictions, guided by the Financial Crimes Enforcement Network and the Securities and Exchange Commission for regulation.^[27]

Japan and Switzerland recognize cryptocurrencies for purposes of payments, but require service providers to be licensed.^[28] China has banned cryptocurrency transactions and mining.^[29] Many jurisdictions fall somewhere in the middle of these different approaches, permitting crypto payments in general, but regulating them and imposing variable reporting requirements.

In order to avoid the use of cryptocurrency payments for money laundering, terrorist financing, and sanctions evasion, regulators often require anti-money-laundering (AML) and know-your-customer (KYC) measures by payment processors. The extent of AML/KYC requirements depends on jurisdiction, service type, and transaction volumes.^[30] Businesses operating as money transmitters or payment processors are typically required to implement customer identification programs, monitor transactions for suspicious activity, and report them to authorities. The compliance requirements for exchanges and payment processors converting between crypto and fiat currencies would be much more extensive.^[31]

In most jurisdictions, tax authorities treat cryptocurrency payments as taxable events, subject to either capital gains, income tax, or value-added tax, depending on local laws.^[32] Thus, merchants accepting crypto payments must report the fair market value of received cryptocurrencies as income.

Tax reporting requirements may include documentation of transaction dates, amounts, and values in the applicable fiat currency. Some jurisdictions impose value-added tax or sales tax on crypto payment transactions similar to conventional payments.^[33]

Nowadays, merchants are able to accept payments in cryptocurrency using a variety of tools. The services can differ in features, prices, and complexity of integration.

Crypto payment gateways allow merchants to accept, convert, and settle digital assets. The most widely used examples include:

• 0xProcessing offers cryptocurrency payment processing solutions with automated volatility protection.^[34]
• BitPay was one of the longest-established providers, founded in 2011, offering services for Bitcoin and other cryptocurrencies with options for fiat settlement.^[35]
• Coinbase Commerce provides merchant services integrated with the Coinbase ecosystem, supporting multiple cryptocurrencies.^[36]
• CoinGate serves merchants, mostly in Europe.^[37]
• BTCPay Server provides merchants with full control over their payment infrastructure.^[38]

Some cryptocurrency wallets have expanded their services to include merchant payment acceptance features. They allow businesses to receive payments directly to wallet addresses without intermediary services:

• MetaMask
• Trust Wallet
• Exodus
• Ledger Wallet
• Trezor

Crypto wallet platforms rely on direct wallet-to-wallet transfers but may lack automated accounting or settlement tools.^[39]

• Cryptocurrency exchange
• Cryptocurrency and security