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Virtual Money, Real Crime

​DIGITAL CURRENCIES, also known as e-currencies and crypto-currencies, are transactions that occur through currency issuers or money exchangers, or even directly between people who hold the money, often outside the purview of a central banking authority. The U.S. Department of the Treasury’s Financial Crimes Enforcement Network (FinCEN) contrasts it with real money by pointing out that digital currency does not have “legal tender” status in a jurisdiction. Because these transactions are done without banks and outside of the government’s regulatory domain, they have appealed to a range of users from small businesses to criminals. And as they have gained momentum, they have also drawn the attention of the U.S. Congress.

Digital currency is not backed by a central bank or issued by a nation. It can often be bought with cash or by wiring money to an issuer or exchange company. (Some people also call it virtual currency, though others reserve that term only for money used in fantasy games to buy goods in virtual economies, not in the real world.)

Crypto-currencies operate on peer-to-peer networks with specific technology required by users to transfer the currency. Bitcoin is currently the most well-known (and scrutinized) crypto-currency. Here’s how it works: Users obtain a bitcoin wallet from the bitcoin Web site and download the bitcoin client technology to facilitate the bitcoin use. Bitcoins can be obtained by “mining” the bitcoins using complicated computing algorithms (there are a finite amount of bitcoins that can be mined) or by obtaining them through an exchange by trading other currency for them. Bitcoins can then be used to make purchases and money transfers outside of the regulated banking systems. If a person loses their bitcoin wallet, they lose their bitcoins, which literally drop out of circulation. Like other currencies, bitcoins have an exchange rate. Bitcoins were worth $250 each earlier this year, but shot up past $1,000 in November when congressional hearings ended up not being as critical of the currency as anticipated.

This type of currency is attractive for many reasons. Aditya Sood, senior security consultant at IOActive, Inc., points out that the currencies help avoid some bank fees, such as those charged for credit card transactions. This can be especially attractive to a small business. Still others like the idea of a payment method outside what they see as the normal government-controlled finance system, says Jason Thomas, senior strategic analyst at Thomson Reuters.

The anti-establishment types and those trying to skirt the law are attracted by the fact that digital currencies are unregulated by central banking authorities, which means that transactions don’t require reporting. In the United States, for example, a currency transaction report (CTR) must be filed for cash transactions of $10,000 or more. In the digital currency world, no such reporting occurs. The digital currency companies also tend not to require that a person use their real identity in setting up an account. But there is a decentralized record of every transaction.

Some say account opacity works to the advantage of money launderers, tax evaders, and others who want to cover up illegal transactions. It works to the disadvantage of innocent buyers who may not get what they expected for their payment. The transactions are also irreversible.

Thomas says that another aspect of digital currencies that makes them attractive to money launderers and criminals is speed. One “can move money around the world in bitcoin in seconds” using a mobile device and the Web “and I never have to see or speak to anyone in order to execute this trade.” Thomas points out that someone looking to launder money can feed the cash into bitcoin ATMs, which exist in some physical locations, convert it to bitcoins, and then withdraw it elsewhere in whatever currency they choose. “It’s quick, and it doesn’t take up physical space.”

The U.S. Justice Department has found ways to go after some of these operations. For example, they were able to use a provision in the Patriot Act to go after the operators of the Costa Rica-based Liberty Reserve digital currency exchange for allegedly operating the largest online money laundering ring in history. The business and founder Arthur Budovsky were accused of laundering more than $6 billion over seven years. Budovsky had been on the United States authorities’ radar since a 2006 conviction for operating an illegal money transmitting business registered in the United States called E-Gold. The indictment states that the company had about 200,000 U.S. users and illegally transferred funds to and from the United States without registering as a money remittance business. It also claimed the business was being used to move illegally obtained funds. Some of the evidence came from an online chat among those running the company where they admitted that the company was used for money laundering.

The U.S. government continues to seek other ways to get more of a regulatory handle on these digital currencies, a key concern among witnesses at the congressional hearing. Additionally, last year, the U.S. Treasury Department created a new anti-money laundering task force. And earlier this year, FinCEN delivered guidance for businesses working with virtual currencies. FinCEN notes that it has expanded definitions of money services businesses (MSBs) to include virtual currencies. Therefore, virtual currency administrators and money exchanges are included under MSB rules unless they have a special exemption, although “users” of the currency (persons who are buying something with it or moving it around) are not included under those regulations.

This summer, the New York State Superintendent of Financial Services released a memo noting that the state was considering regulations for virtual currency. “If virtual currencies remain a virtual Wild West for narcotraffickers and other criminals, that would not only threaten our country’s national security, but also the very existence of the virtual currency industry,” stated the memo.