June 21, 2021

Our recent post highlighted areas to focus on as the Anti-Money Laundering (AML) Act of 2020 takes shape. One important provision of the Act deals with virtual currency and digital assets and could have potential far-reaching effects on the industry, especially in light of the Financial Crimes Enforcement Network’s (FinCEN) recent (Dec. 2020) Notice of Proposed Rulemaking (NPRM)1 on reporting and recordkeeping requirements for virtual currency transactions (for example, payments, receipts or transfers of Bitcoin as opposed to U.S. dollars). The AML Act amends sections in the Bank Secrecy Act (BSA) related to monetary transactions, inserting the term “value that substitutes for currency2,” effectively expanding the definition of financial institutions and money transmitters to include businesses that deal in virtual currency and digital assets.

It will take some time for the full implications of this change to be realized, but the NPRM reporting and recordkeeping requirements for virtual currency could have an impact in the relatively near term. FinCEN issued the NPRM on December 18, 2020 and originally announced an abbreviated comment period of 15 days citing a security exemption for rules relating to foreign affairs and national security.3 Due to the overwhelming response, FinCEN extended the comment period twice to end on March 29, 2021.4

One provision, to require banks and MSBs to report virtual currency transactions with unhosted wallets (and other covered wallets9) of over $10,000 is seen by FinCEN to be in line with existing currency reporting requirements.5 The other provision, which is perhaps more controversial, requires recording the name and physical address of counterparties to unhosted wallet transactions over $3,000.6 This means that if a person receives $4,000 in Bitcoin, for example, and wants to transfer it to a digital wallet, they would be required to provide the name and physical address of the sender of the Bitcoin. The current rules for currency and monetary instrument reporting only require the identification of the person making the transaction but not the counterparties.

In trying to fit virtual currency into the existing reporting framework, FinCEN faces the challenge that virtual currencies share characteristics of both cash transactions (anonymity) and electronic transfers (speed) but don’t require a financial institution intermediary which is how users and counterparties are currently identified. Of course, some of the main drivers behind the development and adoption of virtual currency and other decentralized, trustless networks are anonymity and the ability to transact independently of financial institutions.

Opposition from the industry centers around five main issues7:

  1. Cost burden of implementing the rule
  2. Disadvantages to virtual currency when compared to legacy payment systems
  3. Disadvantages to the U.S. virtual currency industry and financial innovation when compared to other jurisdictions
  4. Ease of which users can evade the rule (by transacting on an unhosted wallet) thus driving them away from regulated banks and MSBs
  5. Privacy concerns around gathering information on non-customers

The comment period for the provision to include counterparty information closed on March 29th so it’s possible that a final rule could follow soon, but given the largely negative response to the NPRM it wouldn’t be surprising if FinCEN took some time in formulating the final rule.

While it is unclear at this point what all of this will mean, it is clear that virtual currency is squarely in the sights of the regulators given the recent actions by OFAC against the payment processing company BitPay8 in February 2021, and the digital wallet provider BitGo in December of 2020. In both actions the companies allowed transactions even though they had gathered Internet Protocol (IP) information indicating that the users were in sanctioned jurisdictions.10 The ability to identify IP addresses coming from sanctioned jurisdictions will become increasingly important as the effects of these OFAC actions ripple through the industry. LexisNexis® Risk Financial Crime Digital Intelligence can help with identifying location-based sanctions risk and identify digital identities that have previously been seen coming from a sanctioned country IP that is now on a different device and attempting to enter through a VPN to mask their location.

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Useful links

1. https://public-inspection.federalregister.gov/2020-28437.pdf
2. https://docs.house.gov/billsthisweek/20201207/CRPT-116hrpt617.pdf (page 2812, lines 3-9
3. https://public-inspection.federalregister.gov/2020-28437.pdf (page 4, lines 5-9)
4. https://www.fincen.gov/news-room/news (12/18/2020 original release, 1/14/2021 extends comment period, 1/26/extends comment period)
5. https://public-inspection.federalregister.gov/2020-28437.pdf (page 25 para. 1-3).
6. https://public-inspection.federalregister.gov/2020-28437.pdf (page 9 para. 2).
7. https://squareup.com/us/en/press/fincen-letter, https://www.coincenter.org/app/uploads/2020/12/2020-12-22-comments-to-fincen.pdf
8. https://home.treasury.gov/policy-issues/financial-sanctions/recent-actions/20210218
9. “Unhosted” wallets are wallets hosted by the individual user rather than by a bank or MSB. Other “covered” wallets include wallets hosted by certain foreign financial institutions or jurisdictions of primary money laundering concern (Burma, Iran, and North Korea).
10. https://home.treasury.gov/system/files/126/20201230_bitgo.pdf, https://home.treasury.gov/system/files/126/20210218_bp.pdf