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Real law in a virtual world

March 5, 2009 | Posts

When you hear “virtual worlds” you probably envision a teenager concentrating intently on a computer screen, his nose just inches from the animated characters he is directing. Or you may think of some online land filled with Star Trek fanatics satisfying a science-fiction craving.

Well, think again.

irtual worlds have emerged as societies that breed entrepreneurs, as forums that advance real-world business, and as stepping stones to an Internet platform that we all may welcome someday. To not appreciate the growing popularity of such online “worlds” could cause you to overlook the potential of these budding, three-dimensional universes. You’ll likely also overlook the dozens – probably hundreds – of legal questions that are destined to arise. You may ignore that the American Bar Association created the Committee on Computer Games and Virtual Worlds.

If you’re not interested, your clients probably are. If they’re not, they probably should be.

What are Virtual Worlds?

In order to truly grasp where the Internet is headed it makes sense to understand its genesis. Although the groundwork for creating the Internet started much earlier, the forum that we know and use today made its first real public impact in the early 1990s. Web sites then were archaic in comparison to today’s dynamic and interactive forums. Visitors couldn’t buy anything on these one-dimensional sites, exchange voice or video, or interact, but they could gather information in a then-unprecedented ease.

“When you think about the Internet in the early 1990s you think of a one-dimensional Internet,” said Steve Mortinger ’89, vice president and associate general counsel of IBM’s Systems & Technology Group. “You would go to the web to check information. It was like an encyclopedia. There was little interaction or exchange.”

Then came what is commonly referred to as “Web 2.0.” Although definitions vary of what is actually included in the Internet’s second phase, its overwhelming theme is the ability for users to interact with one another. Think online chat and social networking sites like MySpace, Facebook, and Linkedin. Other popular examples include web sites such as Wikipedia (an online encyclopedia) and e-Bay (an online auction house and store). Internet users are now corresponding with people around the globe in real time, buying and selling goods, creating their own, step-by-step, satellite picture directions, and posting their own encyclopedic entries.

But experts who study the Internet say that interface, now used by roughly 1.5 billion people worldwide, is possibly in the infancy of its next major transformation. That transformation primarily includes the shift to the Internet in 3-D. Envision an Internet interface where instead of jumping from web site to web site, users would move a virtual representation of themselves (called an “avatar”) through online locations much like they would real-life ones.

For instance, if people wanted to go to a library’s web site they would take their avatars and locate the library’s “island” in the 3-D space. That island would likely include a virtual representation of a library (possibly replicating the real-world infrastructure), including buildings, trees, and people. Once there, they would likely be greeted by another avatar who is employed by the library (likely an automation, but possibly a real online librarian). That person answers questions and points guests in the right direction. If the library was having a real-world presentation, they may post a live-link or video in their virtual library. In fact, these types of interactions are already occurring on an Internet program called Second Life, the most popular virtual world to date.

What if users, instead of flipping through web pages of TVs on Best Buy’s web site, could enter a virtual Best Buy and chat with a virtual salesman. The customer could tell the salesman he wanted to see a certain size TV and that salesman could answer questions, point out different models and features, and complete the sale.

“It’s more appealing for us to interact in a virtual world,” Mortinger said. “This adds that third dimension to the Internet.”

Experts say they believe that the Internet is likely headed this direction for many reasons, primarily the growing popularity of worlds like Second Life.

In April 2007, Gartner, Inc., a leading information technology research and advisory company, estimated that 80 percent of online users would have a presence in a virtual world by 2011. A May 2008 release by the same company estimated that 70 percent of companies will have their own, virtual “web place” by 2012. These web places may or may not be in separate 3-D areas created by companies or in virtual worlds already created.

According to the Second Life web site, its virtual world is approaching 17 million “residents.” In January 2009, some 1.5 million residents had logged into the virtual place in the last 60 days. The number of people who log into some virtual place will continue to grow, said Benjamin Duranske, a California attorney and author of Virtual Law: Navigating the Legal Landscape of Virtual Worlds.

“The reason for that is that interfaces converge toward reality, and they always have,” Duranske said. “We had originally interacted with computers using punch cards. We then progressed to operating systems that modeled real-life areas. They included hierarchal file structures and rudimentary graphic features like a trash can. The terminology here is derived from reality. We had the capability to make computers and interfaces look more and more like reality. Computer processing power and bandwidth is now large enough that we are able to display interfaces in three dimensions.”

What’s Possible in Virtual Worlds?

Opportunities for firms, companies, or clients are infinite. Even government and nonprofit organizations have begun to create virtual places. For instance, the Arlington County, Va., Economic Development Office has a replica of its building in Second Life. There visitors can chat with development officials about the benefit of moving their companies to the county, see promotional materials, and watch slide presentations about its government. College and universities, the U.S. Capitol, and museums have also emerged on Second Life.

Mortinger said that at IBM his colleagues around the world often hold meetings in Second Life by directing their avatars to an IBM-owned space within the virtual world. The idea is similar to videoconferencing, but lacks sometimes technical and costly attributes. Attendees in Second Life can speak to one another, view the same presentations, watch live video, etc. “If we’re doing a training session we may have people meet there so that they can simultaneously watch a PowerPoint presentation,” he said. “There are plenty of opportunities.”

Entire economies have been created in these worlds. For instance, nearly 63,000 Second Life users in December 2008 made a profit, according to Linden Lab, the program’s California-based creator. That money, called “Lindens” in Second Life, can be exchanged for U.S. dollars (the exchange rate – which changes daily – is roughly $1 for 260 Lindens).

All sorts of virtual products are being sold within Second Life, residents can seemingly buy anything: cars, jewelry, clothing, or even a virtual home for their avatars.

Ability to purchase and develop online spaces has led to lucrative business opportunities. A 2006 BusinessWeek cover story detailed the virtual life of Anshe Chung (known as “Ailin Graef” in Second Life). In 2006, Chung was widely reported as the first person to earn $1 million in Second Life. Anshe opened a Second Life account for just $10 and was able to buy and develop virtual real estate using Lindens. She started with small-scale purchases and then “subdivided and developed with landscaping and themed architectural builds for rental and resale,” according to her web site. Chung, in just 30 months, managed to begin buying and creating virtual real estate for real-world corporations. She also made successful investments in a virtual stock market operating within the world. Chung now operates a multimillion dollar company.

Most profits are miniscule in comparison. During December 2008, just 205 people made more than $5,000 and more than 58 percent of those people making money made less than $10.

Why Attorneys Should Care

Although many attorneys may not be interested in logging into a virtual world, there’s a chance that they may represent a client who would like to start a virtual presence. All types of business – from fashion designers to car dealerships – governments, and nonprofits have begun to appear in virtual worlds.

Even if their clients are not interested in entering such a forum, their clients’ products, ideas, or names could already be under siege virtually. Intellectual property concerns are some of the leading issues among a sea of legal questions that all attorneys should think about, experts agreed. What about income taxes? What if a client hires someone as a virtual employee? How about trademark dilution? Privacy concerns? Copyright infringement? Just as the opportunities in these worlds are infinite, so are the possible legal problems. We’ve pared them down to four main issues: intellectual property, tax, privacy, and employment law.

Intellectual Property concerns

Because nearly anything can be created (or replicated easily) in virtual worlds, intellectual property issues are probably the most immediate concern for attorneys. So what should attorneys know if they are representing a client whose copyright, trademark, or patent rights have been infringed upon in a virtual world? First, the rights of participants in these worlds are largely set forth in the worlds’ terms of service agreements. Because there are so many different worlds and so many different rules, it’s important take a close look at these agreements, which oftentimes are simply “clicked through” when opening an account.

Before the release of Second Life in 2003, virtual lands – most of which then were centered on gaming – did not allow users to retain copyright for items created within the world. But Second Life changed that trend and is currently one of the only virtual worlds that allows users to retain copyright of items created within its forum.

Reporting violations of copyright infringement is oftentimes easier than enforcing violations of trademark and patent infringements. The Digital Millennium Copyright Act’s (DMCA) takedown guidelines pertain to copyrighted items found within virtual worlds. The Act provides a safe harbor from copyright liability for online service providers if those providers follow a prescribed rule of taking down items that are in violation of someone’s copyright.

“One of the nice things about these spaces is that they are quite searchable,” Duranske said. “If I am trying to do a search for all the knock-off Gucci bags in the San Francisco Bay Area, it’s nearly impossible. But in a virtual world I have a much better chance of tracking these violations down.”

Linden Labs provides addresses on its web site where written notice of copyright infringements must be sent in order to begin its takedown procedure. Its web site reads: “If a DMCA notice is filed, and it meets the standard for a complete claim, Linden Lab will then expeditiously remove the indicated materials in-world. Repeated copyright or trademark violations by a resident can result in their account being placed on probation or permanently banned.”

And further litigation may continue to arise regarding the DMCA. Some feel the Act sometimes encourages companies, like Linden Lab, to simply take down the material without determining if the material was truly a copyright violation.

Trademark infringements are reportedly rampant within virtual worlds. “It is critical that brands start paying attention to what is happening to their trademarks in virtual space,” Duranske said.

Mortinger said that a prime example is the use of Rolex watches. Most “virtual” watches purchased in Second Life, according to the two attorneys, are Rolex. But none are trademarked. Just think of a popular car, jewelry, or clothing accessory there’s a fairly decent chance it could be victim of a trademark violation somewhere in a virtual world. “Brands can be considerably tarnished in these environments,” Duranske said. “And the longer that these trademarks are abandoned the harder it is going to be for them to prove that a violation is occurring.”

In his book, Duranske estimates that $3.5 million in counterfeit goods are exchanged each year in Second Life. And some of the best ways around such problems is for these companies to begin creating such materials for sale in virtual worlds.

Trademarks aren’t covered by the DMCA and therefore there isn’t an enforcement mechanism that is as cut and dry. “One of the difficulties in enforcement is because virtual worlds provide pseudo anonymity,” Duranske said. “Once you track down the avatar who is ripping off the brand, then you have to find that user and contact him. If he doesn’t respond to communication, you’re basically left with filing a John Doe lawsuit.”

Patents are treated differently depending on which virtual world is being used. But at least some of these virtual worlds have detrimental effects on users who introduce patents into the space. In Second Life’s terms of service it says that by logging in residents grant “to Linden Lab and to all other users of the service a non-exclusive, worldwide, fully paid-up, transferable, irrevocable, royalty-free and perpetual license, under any and all patent rights you may have or obtain …” Mortinger said that because submitting a patent within the virtual world could render the patent valueless in that virtual world, it’s important for attorneys to understand for what purpose their client plans to use the space.

“Sometimes we have to remind people that if you create a business enterprise through Second Life, and you put a patent there, you grant Linden Lab and all other users access to that patent,” Mortinger said. “It would make that patent worth nothing in Second Life.”

Tax law concerns

With an ever-increasing number of online transactions and income accumulation, tax questions were certain to arise. In its Dec. 31, 2008 Annual Report to Congress, the Taxpayer Advocate Service recommended that the Internal Revenue Service begin to “proactively address” tax issues emerging in virtual worlds. The Service suggested that the IRS work with the Office of the Chief Counsel and the Treasury Department to issue direction on how taxpayers should report economic activity in virtual worlds.

The group, which is intended to support taxpayers’ beliefs within the IRS, said that many tax-related questions have gone unanswered and unenforced. The report specifically mentioned such questions: Is a person subject to tax each time he or she acquires virtual property? How about when the person exchanges one virtual property for another, or for virtual currency? Or when the user sells the virtual property or his or her account (and avatar) for real money? What, if any, information reporting, withholding, backup withholding, and recordkeeping requirements apply to these transactions?

There was no question over the economic pertinence of the emerging virtual world trend. The IRS says that as early as 2001 the gross national product within virtual worlds was equivalent to about $135 million. That GNP per user was roughly equal to the per-capita GNP of Russia and higher than in many developing countries. Economists estimate that the worlds generated about $3.42 an hour, a wage that has caused people in developing countries to spend long hours seeking entrepreneurial success in virtual lands.

Most experts agree that a resident of a virtual world should be required to pay income tax if he or she makes a profit within the virtual world. According to the IRS report, “by participating in these worlds, a significant number of people are creating real economic income. Where there is economic income, there is likely to be tax due from someone.”

But when that person should be taxed – when the wealth is cashed into “real” money or when a profitable exchange is created within the virtual world – is the primary question. In the report, the Taxpayer Advocate Network gives several different classifications that transactions made exclusively in virtual worlds could be labeled for taxing purposes and reasons why those classifications could be rejected.

Moritz Professor Donald B. Tobin, an expert in tax law, said that he believes the answer is quite simple. Transactions that occur within the virtual world should not matter to the IRS until that transaction is converted into “real” money. That income would then be taxable.

“It’s imputed income,” Tobin said. “If you decide to build yourself a chair, that chair is not taxed as something of value. It’s self-created property. But once you go and sell that chair, that income would then be taxable. This is the same thing.”

The Taxpayer Advocate Service called upon the IRS to provide some guidance to taxpayers, even if it is simply clarifying that transactions within virtual worlds are not taxable. IRS officials responding to tax questions have offered varied responses as to whether taxpayers should pay taxes on virtual income. Those differing responses were presented in a few books published that document taxpayers’ quest to pay taxes on the income.

“The IRS should consider doing more to help taxpayers comply with their tax obligations by quickly issuing guidance addressing how to report economic activities in virtual worlds, as well as in inter emerging areas of economic activity,” the report states.

Employment law concerns

Employment law concerns – from hiring avatars in a virtual world to what guidelines should be developed for employees who are interacting in such worlds during work – are also relevant. Mortinger said that latter spurred IBM to create its own user guidelines for employees who are using virtual spaces during work time. IBM has purchased “private” land within Second Life that allows its company’s employees to meet while restricting access to other non-IBM-employed visitors. But, Mortinger said, because avatars can be designed or dressed in any imaginable way, it was important to set guideline on what was appropriate. “I always tell people that virtual worlds are like New York City,” Mortinger said. “You can do plenty of appropriate things like go to a play, museums, or business meetings in New York. But there are also much seedier sides of the city. Second Life is the same way.”

Secondly, as businesses begin to open virtual world shops, some businesses have begun to hire avatars as greeters, although many companies use an automated system to greet other avatars. These greeters are normally paid very little (sometimes roughly $.50-$1 an hour). A glimpse through the Second Life classified ads shows advertisements for dozens of such greeters, and other jobs like editors of virtual newspapers, hotel clerks, etc.

Experts say that sometimes these people are being hired exclusively through Second Life with no knowledge of the avatars true identity. “A business has to ask itself whether they are complying with child labor laws and guidelines concerning the reporting of income,” Duranske said. “Do you really know who you are hiring?”  Likewise, noted Mortinger, “an avatar can be operated by multiple people in some instances so even if you know the identity of one of the people you are hiring, there may be more than one persona to an avatar.”

And other questions are on the horizon. For instance, should employers face the same minimum wage regulations as if they were hiring a real person? And, if so, what about rules involving benefits?

“There are obviously still plenty of unanswered questions,” Mortinger said.

Privacy issues

If companies or organizations would like to create a virtual presence in a world like Second Life, they should first have a strong grasp on the technology, Duranske said. For instance, Second Life has the ability to “listen in” on any conversation within the virtual space.

“Say, for instance, you are a big clothing manufacturer and you set up a virtual space in Second Life,” he said. “You set up a spot that has info about existing products and you use the space for virtual meetings. You have to understand that the information (what was discussed, etc.) is being stored and where it is being stored.”

Second Life’s terms of service agreement specifically states that it will not disclose any information that pertains to an “individual,” such as a person’s real first and last name, their home address, phone number, etc. But, according to Duranske’s book on virtual law, the provision does not prevent Linden Lab from dispersing information about a particular avatar’s data, including “information regarding items purchased, social interactions, the amount of money in users’ accounts, and more.” That information could prove valuable to companies wishing to market directly to avatars.

Mortinger said that despite having purchased the private virtual property, IBM still holds its confidential conversations outside of Second Life because of Linden Lab’s ability to monitor the conversations.

That’s probably the safest route, recommended Peter Swire, the C. William O’Neill Professor at Moritz and an expert in the fields of privacy, computer security, and the law of cyberspace. “Once you write it you don’t know who will forward it and whether those records will appear later in a trial or elsewhere,” Swire said.

Swire said that it’s important to remember that rules in virtual worlds are written exclusively by the company that is running that world. “If the owner likes surveillance then you will likely be living in a virtual society with heavy surveillance,” he said. “Users should not forget that when they are looking into different virtual worlds. They should remember to check the privacy policies.”

Other technologies reportedly have emerged in virtual worlds that allow some users to “listen in” to online chats between other users or spy on those users’ movements via “virtual cameras.” It’s unclear how detrimental such technology could be, but understanding such technology could prove valuable.

Unchartered Waters

If one thing is certain regarding virtual worlds, many legal questions remain unanswered or even more have yet to be raised. Mortinger said that it is important that our lawmakers refrain from proactively creating new laws specifically for use within virtual worlds. “We already have a very good set of laws in place that, with minor adjustments from time to time, can cover virtual world issues when they come up,” he said. “Why should we screw things up that are probably OK. Right now we can only try to anticipate what problems will occur and be prepared to handle them.”

But as many people and businesses begin to move toward a three-dimensional presence, the legal molding of such worlds has yet to be solidified. A few lawsuits have emerged. The most talked about lawsuit – which was settled in 2007 – was filed by a Pennsylvania attorney who said that Linden Lab improperly confiscated thousands of dollars in property within Second Life. Linden Lab said that Bragg had found a way that would automatically purchase mispriced virtual land.

Prof. Swire said the legal atmosphere is analogous to the early 1990s.

“This reminds me of the Internet about 1993,” Swire said. “People were spotting possible legal issues but they hadn’t gotten to court yet. Fifteen years later we have had so many lawsuits that involve the Internet. Fifteen years from now we’ll probably have a lot of experience with lawsuits for virtual worlds as well.”