Bitcoin Regulation Imminent in Response to Money Laundering Crimes

On November 19, 2013, Director Jennifer Calvery of the Financial Crimes Enforcement Network of the U.S. Treasury (FinCEN) offered a statement detailing the dangers that virtual currencies pose to the legitimacy of the United States financial system. According to Director Calvery, virtual currencies such as Bitcoin may be classified as either centralized or decentralized virtual currency. [1]. Calvery cited Liberty Reserve, an institution which participated in various fraud and money laundering schemes, as an example of a centralized virtual currency. [id.]. Bitcoin, however, follows the decentralized model, as users interact only with each other, and the currency is not moderated by any centralized administrator. [id.]. The government’s interest in regulating virtual currency stems from its initiative to deter fraud and money laundering, as well as from its desire to prevent discreet funding of terrorist operations. [id.].

Decentralized virtual currency systems, such as Bitcoin, are commonly viewed as opportune mediums through which users can pay each other for goods or services without regulation or scrutiny. Many users remain unaware, however, that every bitcoin transaction is recorded in a ledger called a block chain. [2]. This block chain makes it possible for IRS investigators, tasked with the burden of uncovering tax fraud and tax evasion, to track users who transmit virtual currency. “The IRS knows that to use bitcoins, one needs a virtual wallet along with private keys and public addresses… While the public address itself does not identify the user, the IRS has been very clever in associating the public address with the identity of the Bitcoin user.” [id.]. Apprehension toward virtual currency is fueled by situations in which bitcoins were used illicitly, to effect gun-for-hire solicitation, or help tech-savvy drug dealers launder over one million dollars. [3,4].

The potential for criminal abuse is enhanced by the utilization of bitcoins as a method of payment on the former “illicit Silk Road website”, which—with the aid of BitInstant—transmitted nominal payments to drug dealers. BitInstant, a bitcoin exchange, is no longer up-and-running after its operator, Charlie Shrem, pled guilty to helping drug dealers launder over one million dollars using bitcoins. [3]. In that case, judge Katherine Forrest “found [that] federal money-laundering statutes ‘encompass use of Bitcoin’ — and that ‘any other reading’ of the law would be ‘nonsensical.’” [4]. Judge Forrest explained, “There is no doubt that if a narcotics transaction was paid for in cash, which was later exchanged for gold, and then convert[ed] back to cash, that would constitute a money-laundering transaction. One can money launder using Bitcoin…”. [id.].

Practical dangers of using bitcoins are far less criminally implicating, but nonetheless problematic. Because the Bitcoin exchange is peer to peer, decentralized, and “at a crossroads between a lightly regulated industry–software and technology–and a heavily regulated one, which is banking,” users transmit bitcoins without any guarantee of value in their currency. [5]. “Bitcoin, which isn’t backed by any country and doesn’t have an interest rate, has been one of the most volatile currencies in the world this year, falling more than 45 percent to about $407.23 [in just one day].” [6]. Because of the large amount of transactions processed through Bitcoin, an estimated $8 billion between October 2012 and October 2013 alone, federal agencies like FinCEN and state officials like Benjamin Lawskey (NY) are trying to implement regulatory measures to curtail both criminal involvement and consumer deceit in the Bitcoin exchange. [1, 7].

Lawskey, Superintendent of the New York Department of Financial Services began his plight against Bitcoin perhaps too aggressively, proposing registration requirements that would stifle the efficiency and convenience of the system. [7]. After having been met with much resistance from the public, namely Bitcoin users, Lawskey dialed it back and proposed new regulations that would take place in New York next year in 2015. [id.]. Under Lawskey’s proposal, banks attempting to take part in the trade and transmission of virtual currencies would be required to apply for a special banking license, a BitLicense, designed to regulate virtual currencies. [id.]. Some of Lawskey’s revisions, however, resulted in the exemptions of software developers, bitcoin miners, and individual users who take advantage of the bitcoin service but otherwise do not offer any financial service to the general public. [id.].

New York is one of the first states to recognize the need for bitcoin and virtual currency regulation in order to protect consumers. Additionally, FinCEN has dedicated significant resources to combat the crime in the virtual currency context. Because of the vast array of retailers and large-scale corporations now accepting Bitcoin as a legitimate method of payment (PayPal, Expedia, Dell, to name a few), the collapse of the noninsured virtual currency exchange could further complicate matters. [8]. Complications from non-regulation could result in not only consumer mistrust, but perhaps an entanglement of large, do-right corporations, with illegitimate criminal enterprises.

If anyone would like to reference the federal money laundering statute, please take a look at 18 U.S.C. § 1956. You may also view a link to the Bank Secrecy Act (BSA) here:












~ by chriscroce on October 20, 2014.

2 Responses to “Bitcoin Regulation Imminent in Response to Money Laundering Crimes”

  1. Very good post. Interestingly, the government doesn’t seem too find of virtual currencies at all. Bitcoin is decentralized. Back in the 90s, a centralized virtual currency, eGold, was shut down due to money laundering concerns. Then again, it is unsurprising that the government, which has always had a monopoly on money, would want to find any way possible to prevent the rise of alternative currencies.

  2. Interesting post Chris. Running bitcoin business seems just about as risky as running an online gambling website. Yet, It appears that the Bitcoin companies are getting the message as the threat of pending litigation looms heavy in the minds of these companies executives. Two of the larger bit coin companies hired an ex-SEC chairman to advise them on the legal and regulatory issues they are currently facing just a few days ago. (See Varum and Bitpay hire ex SEC chairman Arthur Levit. It will be interesting to what types of regulatory schemes state and federal legislatures will devise in the future and, in addition how the bitcoin companies (with the help of high-paid advisors) will be able to get out in front of the anticipated future regulations.

    In 20 years, will bit coin be a well-regarded and generally accepted form of currency or will be it relocated to the proverbial technology graveyard.

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