June 30, 2015

DOJ official says compliance and cooperation key to ensuring viability of virtual currencies

While there are lots of good things happening in the virtual currency landscape, the still-evolving world of cryptocurrencies also attracts what law enforcement officials call “bad actors” and criminal activity.

Leslie R. Caldwell

Leslie R. Caldwell

While there are lots of good things happening in the virtual currency landscape, the still-evolving world of cryptocurrencies also attracts what law enforcement officials call “bad actors” and criminal activity.

Bitcoin and other virtual currencies are fueling a revolution in global payment systems and in the coming years they may well transform the way business is conducted. But the technology is so new —Bitcoin software was released in 2009 — that many business and financial institutions are taking a wait-and-see approach while the digital currency space is shaped by regulatory and enforcement actions.

The ABA Criminal Justice Section held its inaugural National Institute on Bitcoin and Other Digital Currencies on June 26 in Washington, D.C. The daylong conference focused on the emerging issues in regulation and enforcement and attracted some of the leading experts in the digital currency field. Speakers included Assistant Attorney General Leslie R. Caldwell, who heads the criminal division at the U.S. Department of Justice, and Jamal El-Hindi, deputy director of the Financial Crimes Enforcement Network (FinCEN).

The conference included panels on:

  • Bitcoin: A Primer
  • Regulatory Framework, Legal Status, Government Scrutiny
  • Enforcement Today – Case Examples
  • Practical Guidance for Everyday Use and the Threat Landscape: Looking Forward

Caldwell said DOJ is aware of the many legitimate and potential uses of virtual currency, but “we also have seen that criminals have been among the first to enthusiastically embrace the use of virtual currency, primarily in crime involving the Internet.” She said criminals are attracted to the virtual currency systems because of their ability to conduct transfers quickly, securely and with a perceived level of anonymity.

“For others, the irreversibility of payments made in virtual currency and lack of oversight by a central financial authority is appealing,’’ Caldwell said, adding that, “the ability to conduct international peer-to-peer transactions that lack immediately available personally identifying information has made decentralized virtual currency attractive to those who wish to cover their money trail.”

Much of the criminal activity involving virtual currency occurs through online black markets such as the now-defunct Silk Road and other digital currency services like E-Gold and Liberty Reserve, which both came under DOJ scrutiny and were shut down. The criminal activity includes traditional crimes such as narcotics trafficking, stolen credit card information, fraud and money laundering. But, according to Caldwell, there have also been cases of Bitcoin being utilized to fund child exploitation, buying and selling of lethal toxins over the Internet and as a payment method for virtual kidnapping and extortion.

Caldwell noted that before the government shut down Liberty Reserve in 2013 it had accumulated more than one million users worldwide, including more than 200,000 in the U.S., who conducted approximately 55 million transactions through its system, totaling more than $6 billion in funds. 

“Despite the significant challenges in investigating, much less prosecuting, this activity, the department already has a strong record of bringing cases in which virtual currencies were used to facilitate criminal conduct,” Caldwell said of DOJ. “While the burgeoning assortment of online exchanges, virtual currencies and virtual marketplaces has created a complex and evolving environment or ‘ecosystem,’ we too are keeping pace and will pursue those who exploit vulnerabilities in that ecosystem for illegal gain.”

On the regulatory side, FinCEN is doing its part to rein in the virtual currency ecosystem. It began seven years ago revising regulations for money services under the Bank Secrecy Act and in 2011 tweaked its definition of money transmission to include “the acceptance and movement of currency, funds or other value that substitutes for currency.”

“I can’t underestimate the importance of us making that change in our regulations," El-Hindi said. “That change enabled us, unlike other jurisdictions around the world and some of the states that are currently working to address this, to work within the scope of our regulations virtual currency and the actors in the virtual currency space.” In 2013, FinCEN released new guidelines for Bitcoin exchanges and payment processors to say that such companies are considered to be money services businesses and must register and comply with BSA rules the same as other money transmitters such as Western Union and MoneyGram.

States are now starting to develop regulations as well. Earlier this month, New York became the first state to formally regulate and oversee money services businesses that engage in digital currency transactions. New York’s “BitLicense” requires all Bitcoin firms to complete a 31-page application form and pay a nonrefundable $5,000 application fee in order to operate in the state. The license imposes numerous antifraud and money laundering requirements on the firms. California and North Carolina are also close to announcing regulations.

Companies want clarity on the regulations, as many of the panelists expressed, but feel that too much can be stifling. And, for many, the cost and bureaucracy of compliance can be too high and onerous.

Caldwell said that companies and individuals operating in the virtual currency ecosystems are at a crossroads and that they have an opportunity to help virtual currency emerge from its association with criminal activities. Just last month one such company, Ripple Labs, which sold a virtual currency called “XRP” but failed to register with FinCEN as a money service business and to maintain appropriate anti-money laundering protections, agreed to a record $700,000 settlement with DOJ that included cooperating in other ongoing investigations, a change in business model and oversight by independent auditors.

“We expect virtual currency businesses to take compliance risk as seriously as they take any other business risk.” Caldwell said. “We recognize that new entrants in emerging fields may find that compliance requires a significant expenditure of resources . . . But a real commitment to compliance is a must, particularly given the significant risks in the virtual currency market.  In the long run, investment in effective compliance programs will be well worth it.

“It also will help to ensure the continued viability of virtual currency systems in the future.”