DOJ Provides Framework For Cryptocurrency Enforcement – Technology



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On October 8, 2020, the Department of Justice released
“Cryptocurrency: An Enforcement Framework” (the
“Framework”), setting out risks and enforcement
initiatives related to cryptocurrency-related crime. The Framework
is the second report1 published by the
Cyber-Digital Task Force (the “Task Force”),
established by former Attorney General Jeff Sessions in February
2018 to analyze the “many ways that the Department is
combatting the global cyber threat, and… to identify how
federal law enforcement can more effectively accomplish its mission
in this vital and evolving area.”

In the publication press release, Attorney General Barr
remarked, “Cryptocurrency is a technology that could
fundamentally transform how human beings interact, and how we
organize society. Ensuring that use of this technology is safe, and
does not imperil our public safety or our national security, is
vitally important to America and its allies.” Through the
Framework, the DOJ seeks to ensure safe usage of cryptocurrencies
and related technology by acknowledging and highlighting their
unique potential as a threat to public safety or national security.
To that end, the Framework highlights the threats and illicit
opportunities that the increasing use of cryptocurrencies might
create.

Illicit Uses of Cryptocurrencies

Part I of the Framework first describes the fundamental
attributes of cryptocurrencies and their legitimate uses, before
introducing the potential illicit uses. According to the Task
Force, illicit uses of cryptocurrencies generally fall into three
categories:

  1. Using cryptocurrency to engage in criminal activity through
    financial transactions. Examples include financing terrorism, sales
    of illegal substances, and extortion.

  2. Using cryptocurrency to conceal criminal financial activity.
    This includes money laundering, tax evasion, and avoidance of other
    legal reporting requirements.

  3. Committing crimes against the cryptocurrency marketplace
    itself, such as hacking, theft, phishing, fraud, etc., to obtain
    cryptocurrency illegally from victims.

Legal and Regulatory Framework

Part II of the Framework details the legal and regulatory
framework that has evolved in response to the growth of
cryptocurrency use, and the enforcement tools available to the DOJ
and other regulators. Across both criminal and regulatory
enforcement, government regulators have sought to bring action for
fraud, firearm, and child exploitation-related offenses as well as
regulatory breaches of Anti-Money Laundering and Combating the
Financing of Terrorism (AML/CFT), sanctions, and securities
laws.

1. Criminal Enforcement

Cryptocurrency is described in the Framework as an increasingly
preferred payment method for distributing contraband and other
illegal goods or services. As a result, enforcement agencies have
been able to bring a wide variety of charges related to the misuse
of cryptocurrency, including wire fraud, mail fraud, securities
fraud, identity theft/fraud, computer fraud, illegal sale and
possession of firearms, possession and distribution of counterfeit
items, child exploitation crimes, and money laundering, among other
criminal violations. The wide variety of cryptocurrency-related
criminal charges that a prosecutor could pursue demonstrates how
cryptocurrency has proliferated as a tool for criminal actors.

2. Regulatory Enforcement

Several U.S. government agencies and entities are involved in
the growing regulation of cryptocurrency. In addition to the
Department of the Treasury’s Financial Crimes Enforcement
Network (“FinCEN”), the Securities and Exchange
Commission (“SEC”), the Commodity Futures Trading
Commission (CFTC), the Internal Revenue Service
(“IRS”), and state attorneys general have acted in
recent years through increased enforcement and regulation to
respond to the risks posed by the rapid development of
cryptocurrency technology.

a. Anti-Money Laundering/Counter-Terrorist
Financing

AML/CFT standards under the Bank Secrecy Act (“BSA”)
have been a critical tool to address cryptocurrency-related risks.
Financial institutions will be familiar with these requirements,
but the definition of money services businesses
(“MSBs”) now includes those that conduct business in
virtual currency. MSBs are defined by regulation as individuals or
entities who act as currency dealers or exchangers, check cashers,
money transmitters, or issuers, sellers, or redeemers of
traveler’s checks, money orders, or stored value. The BSA,
administered by FinCEN, requires MSBs to register with FinCEN,
establish an AML program reasonably designed to prevent money
laundering and terrorist financing, including monitoring
transactions for suspicious activity and reporting suspicious
transactions to relevant regulators through suspicious activity
reports (“SARs”).

Examples of MSBs in the cryptocurrency space include
cryptocurrency exchanges (e.g., Coinbase) and kiosks, as
well as certain issuers, exchangers, and brokers of virtual assets
such as Stellar and Abra. According to recent FinCEN
guidance,2 exchangers and administrators of virtual
currencies qualify as money transmitters under the BSA and are
considered MSBs (and therefore subject to the above AML/CFT
requirements) to the extent they accept or transmit convertible
virtual currency (“CVC,” or any virtual currency that
has an equivalent value as currency or acts as a substitute for
currency).

FinCEN’s requirements apply equally to domestic and
foreign-based MSBs, even if the foreign-located MSB does not have a
physical presence in the United States. The MSB need only do
business in whole or substantial part in the United
States.3

Traditional financial institutions can also face enforcement
risk when doing business with customers who operate virtual
currency money services businesses. In 2020, the Office of the
Comptroller of the Currency (“OCC”) entered into a
cease-and-desist consent order with M.Y. Safra Bank after alleging
that the bank (1) violated BSA requirements for establishing an
adequate AML program; and (2) failed to investigate suspicious
transactions and timely file SARs when opening accounts for such
customers.

b. Securities Fraud

U.S. regulators have also pursued enforcement actions related to
fraud, for example, in “initial coin offerings”
(“ICOs”) (a cryptocurrency capital-raising equivalent
to an IPO). In 2017, the SEC cautioned that such ICOs may be
subject to the requirements of the federal securities laws and
warned investors about potential scams involving companies claiming
to be related to, or asserting they are engaging in,
ICOs.4 The SEC has brought several ICO-related
civil enforcement actions against individuals violating securities
laws or engaging in fraudulent schemes, and has additionally issued
guidance for analyzing whether a digital asset qualifies as a
security.

While it has attempted to provide clarity to the industry, there
is still scope for interpretation as to whether certain offerings
will be considered securities. According to the SEC,
“[w]hether a particular investment transaction involves the
offer or sale of a security—regardless of the terminology or
technology used—will depend on the facts and circumstances,
including the economic realities of the
transaction.”5 In October 2019, the SEC
obtained a temporary restraining order against two offshore
entities conducting an unregistered digital token offering both
within the United States and overseas that had raised more than USD
1.7 billion of investor funds while allegedly failing to meet the
registration provisions of the Securities Act of
1933.6 A few months later, the court approved a
settlement agreement that saw the entities, Telegram Group Inc. and
its subsidiary TON Issuer Inc., disgorge USD 1.224 billion from the
sale of its tokens as well as pay a civil penalty of USD 18.5
million.7

c. Economic Sanctions

The Framework also discusses how the Office of Foreign Assets
Control (“OFAC”) plays a role in regulating
cryptocurrency use. Because of the decentralized nature of
cryptocurrency and its potential to bypass traditional sanctions
controls, cryptocurrency can be an attractive means for sanctioned
persons to access or raise capital. In November 2018, OFAC took its
first virtual-asset-related action, designating two Iran-based
individuals who helped exchange Bitcoin ransom payments into
Iranian currency on behalf of Iranian cyber actors involved in a
computer ransomware scheme.8 Similar ransomware
attacks targeting U.S. companies have surged in recent years, and
on October 1, 2020, OFAC issued a separate Advisory to clarify the
risks of ransomware from a sanctions
perspective.9 OFAC has additionally designated
Chinese nationals and organizations involved in illicit fentanyl
manufacturing and trafficking,10 and Russian
nationals who acted or purported to act for, or on behalf of, the
Internet Research Agency (“IRA”), an entity designated
for its involvement in election interference
activities.11 The Chinese and Russian organizations
both used cryptocurrency addresses to fund their activities.

Business Obligations as to Cryptocurrency Abuse

Part III of the Framework outlines the obligations of certain
businesses that are susceptible to abuse in the cryptocurrency
space and the DOJ’s ongoing strategies for addressing
emerging threats to the legal operation of the cryptocurrency
marketplace.

Business Models that May Facilitate Criminal Activity and
Regulatory Liability

The Framework identifies several business models at higher risk
of misuse, but which continue to fall short of implementing
regulatory requirements designed to mitigate these risks.
Cryptocurrency exchanges—even those that do not accept fiat
currency and operate only within cryptocurrency—are one such
example. Exchanges are required to follow FinCEN recordkeeping and
reporting requirements but often fail to, and may therefore miss
signs of suspicious activity. Peer-to-peer exchangers, which seek
to buy or sell cryptocurrency outside of registered or licensed
exchanges and financial institutions, are also considered MSBs for
the purposes of AML/CFT requirements. In practice, most
peer-to-peer exchangers fail to register with FinCEN, and therefore
similarly may not implement necessary controls to mitigate
facilitating criminal activity. Cryptocurrency kiosk
operators—also considered MSBs in the United
States—often do not comply with regulations requiring the
implementation of AML/CFT programs, including identification and
reporting of suspicious transactions, despite the fact that such
kiosks have been linked to illicit use by drug dealers, credit card
fraud schemers, prostitution rings, and unlicensed virtual asset
exchangers. Regulators have therefore been seeking to enforce
regulatory breaches to encourage higher-risk businesses to
implement controls to mitigate misuse.

In a recent example, on October 1, 2020, the founders and
executives of a cryptocurrency derivatives exchange, the Bitcoin
Mercantile Exchange (“BitMEX”), were indicted for
violating the BSA and conspiring to violate the BSA by willfully
failing to establish, implement, and maintain an adequate AML
program. The DOJ characterized the indictment as another push
“to bring platforms for money laundering into the
light.” Other emerging business models, such as virtual
currency casinos, anonymity-enhanced cryptocurrencies, and entities
that obfuscate the source or owner of units of cryptocurrency by
mixing the currencies of several users prior to
delivery—known as “mixers” or
“tumblers”—all face similar risks and should
implement appropriate AML/CFT controls to mitigate risk of criminal
misuse and regulatory enforcement.

DOJ Outlook Going Forward

The DOJ stresses in the Framework that it will continue to
engage with its regulatory partners in FinCEN, OFAC, the SEC, the
CFTC, and the IRS to address the misuse and abuse of
cryptocurrencies. The DOJ will continue to prosecute entities and
individuals who violate U.S. law, even when they are not located
inside the United States, due to the DOJ’s jurisdiction over
virtual asset transactions that touch financial, data storage, or
other computer systems within the United States.

The Framework also underscores the increasing amount of
resources set aside for cryptocurrency enforcement that are
necessary to develop and maintain the knowledge and skills
necessary to identify evolving threats. The Task Force additionally
states that it will continue to foster cooperation with state and
international authorities to counteract the global nature of the
cryptocurrency industry and adopt consistent regulations across
jurisdictions.

Key Takeaways

  1. Cryptocurrency-related activity is increasingly subject
    to a greater number of criminal laws and regulatory
    requirements.

    1. FinCEN and other agencies like the OCC have made clear that the
      requirements of the BSA, particularly those related to AML/CFT,
      apply to cryptocurrency exchanges, issuers, exchangers, and
      brokers, even when they are based in foreign jurisdictions, so long
      as they do business in whole, or substantial part, in the United
      States.

    2. The SEC continues to actively monitor and take action against
      digital token offerings suspected of violating the Securities Act,
      such as the 2019 Telegram offering, to ensure that issuers cannot
      avoid federal securities laws by labeling offerings
      cryptocurrency.

    3. As criminal actors use cryptocurrency in new and creative ways
      to facilitate criminal acts such as ransomware, drug trafficking,
      and child exploitation-related offenses, state and federal
      prosecutors have responded with a variety of potential
      charges.


  2. Cryptocurrency-related businesses should design and
    maintain compliance programs to mitigate the risks identified by
    DOJ, or they may face criminal or regulatory enforcement.

    1. Institutions should be aware of the ways that cryptocurrencies
      are being misused. As actions targeting funds flowing to sanctioned
      entities in Iran, China, and Russia have shown, cryptocurrency is a
      preferred method for illicit activity and may subject entities to
      sanctions designation. Robust compliance programs, including
      comprehensive sanctions screenings, should be considered best
      practice for any cryptocurrency-related business.

    2. Institutions should undertake a risk assessment to identify how
      cryptocurrencies may impact the organization’s risk for
      exposure to money laundering and sanctions violations.

    3. Institutions may need to include information relevant to
      identifying cryptocurrency misuse in its Customer Due Diligence
      procedures, including but not limited to collecting information on
      wallet addresses, IP addresses, and expected cryptocurrency
      activity, including types of cryptocurrencies expected to be
      used. 

Footnotes

1 Report of the Attorney General’s Cyber Digital
Task Force (July 2, 2018), available at https://www.justice.gov/ag/page/file/1076696/download.

2 Press Release, “FinCEN Issues Guidance on Virtual
Currencies and Regulatory Responsibilities,” U.S. Dept.
of the Treasury, Fin. Crimes Enf’t Network, (Mar. 18, 2013),
available at 
https://www.fincen.gov/news/news-releases/fincen-issues-guidance-virtual-currencies-and-regulatory-responsibilities
.

3 According to FinCEN, relevant factors in determining
whether an MSB does business in whole, or substantial part, in the
United States include whether the foreign-located MSB is providing
services to customers located in the United States, whether or not
on a regular basis, or as an organized or licensed business
concern. Advisory, “Foreign-Located Money Services
Businesses,” U.S. Dept. of the Treasury, Fin. Crimes
Enf’t Network, (Feb. 15, 2012), available at 
https://www.fincen.gov/sites/default/files/advisory/FIN-2012-A001.pdf
.

4 The specific digital asset in question, DAO Tokens,
qualified as a security because it met the requirements of an
investment of money in a common enterprise with a reasonable
expectation of profits to be derived from the entrepreneurial or
managerial efforts of others. Press Release, “SEC Issues
Investigative Report Concluding DAO Tokens, a Digital Asset, Were
Securities,” U.S. Sec. and Exch.
Comm’n, (July 25, 2017), available at https://www.sec.gov/news/press-release/2017-131

5 Id.

6 Press Release, “SEC Halts Alleged $1.7 Billion
Unregistered Digital Token Offering,” U.S. Sec. and
Exch. Comm’n, (Oct. 11, 2019), available at https://www.sec.gov/news/press-release/2019-212.

7 Press Release, “Telegram to Return $1.2 Billion
to Investors and Pay $18.5 Million Penalty to Settle SEC
Charges,” U.S. Sec. and Exch. Comm’n, (June 26, 2020),
available at https://www.sec.gov/news/press-release/2020-146.

8 Press Release, “Treasury Designated Iran-Based
Financial Facilitators of Malicious Cyber Activity and for the
First Time Identifies Associated Digital Currency
Addresses,” U.S. Dept. of the Treasury, (Nov. 28,
2018), available at https://home.treasury.gov/news/press-releases/sm556.

9 Client Alert, “Between a Rock and a Hard Place:
OFAC Issues Advisory on Ransomware Payments,” Ropes
& Gray LLP, (Oct. 2, 2020), available at 
https://www.ropesgray.com/en/newsroom/alerts/2020/10/Between-a-Rock-and-a-Hard-Place-OFAC-Issues-Advisory-on-Ransomware-Payments
.

10 Press Release, “Treasury Targets Chinese
Kingpins Fueling America’s Deadly Opioid
Crisis,” U.S. Dept. of the Treasury, (Aug. 21, 2019),
available at https://home.treasury.gov/news/press-releases/sm756.

11 Press Release, “Treasury Sanctions Russia-Linked
Election Interference Actors,” U.S. Dept. of the
Treasury, (Sept. 10, 2020), available at https://home.treasury.gov/news/press-releases/sm1118.

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