A Huge Monetary Penalty for Sprawling Allegations – But Will Zhao Receive a Prison Sentence?

As the world now knows, Binance Holdings Limited, doing business as Binance.com (“Binance” or the “Company”), has entered into a plea agreement with the U.S. Department of Justice (“DOJ”).  

Binance is registered in the Cayman Islands and regarded as the world’s largest virtual currency exchange. It agreed to plead guilty to conspiring to willfully violating the Bank Secrecy Act (“BSA”) by failing to implement and maintain an effective anti-money laundering (“AML”) program; knowingly failing to register as a money services business (“MSB”); and willfully causing violations of U.S. economic sanctions issued pursuant to the International Emergency Economic Powers Act (“IEEPA”). Despite the plea agreement, Binance will continue to operate.

Changpeng Zhao, also known as “CZ,” also pleaded guilty to violating the BSA by failing to implement and maintain an effective AML program. Zhao is Binance’s primary founder, majority owner, and – until now – CEO. As part of his plea agreement, Zhao has stepped down as the CEO, although he apparently will keep his shares in Binance.

As part of its plea agreement, Binance has agreed to forfeit $2,510,650,588 and to pay a criminal fine of $1,805,475,575 for a total criminal penalty of $4,316,126,163. Binance also entered into related civil consent orders with the Financial Crimes Enforcement Network (“FinCEN”), the Commodity Futures Trading Commission (“CFTC”), and the Office of Foreign Assets Controls (“OFAC”). Zhao also entered into a consent order with the CFTC.

The allegations are vast and detailed, and much digital ink already has been spilled regarding this matter. Our discussion therefore will be relatively high-level. Distilled, the government alleges that Binance – under the direction of Zhao – tried to hide the fact that it operated in the U.S., purposefully avoided any meaningful AML compliance, and consequently laundered many millions of dollars’ worth of cryptocurrency involving extremely serious criminal conduct, including terrorism, child pornography, and U.S. sanctions evasion.

As for Zhao, and as we will discuss, whether he will go to prison – and if so, for how long – is an open and very interesting question. His sentencing currently is scheduled for February 23, 2024.

The (Many) Filings and Announcements

The DOJ’s memorandum regarding the guilty plea proceedings is here. The Information (a type of federal criminal charge typically used when the defendant has agreed to plead guilty and obtaining an indictment is therefore unnecessary) filed against Binance is here; the Information filed against Zhao is here. Binance’s plea agreement is here; Zhao’s plea agreement is here.

For a truly deep dive into the allegations, read FinCEN’s Consent Order with Binance. It is 92 pages long (pages 3 to 52 set forth the factual allegations). Much of this post will draw on the allegations in this Consent Order – although Binance has admitted only to the facts alleged in its plea agreement, and neither admits nor denies the rest of the facts set forth in FinCEN’s Consent Order. Binance has agreed to a $3.4 billion civil money penalty with FinCEN. But, Binance “only” has to pay the Treasury $780 million because FinCEN agreed to credit $2.47 billion of Binance’s payments to the DOJ and the CFTC, and has agreed to suspend $150 million pending Binance’s compliance with the many future monitorship requirements to which it has agreed.

The CFTC’s announcement of its Consent Order with Binance and Zhao, “for knowingly disregarding provisions of the Commodity Exchange Act (CEA) to profit from their operation of an illegal digital assets derivative exchange[,]” is here. In addition to monetary penalties (most of the Company’s combined $2.7 billion CFTC disgorgement and monetary penalty is apparently subsumed by the other fines, forfeitures and penalties; Zhao also has to pay $150 million to the CFTC, to be credited towards his $50 million criminal fine), the proposed consent order “permanently enjoins Zhao and Binance from willfully evading the CEA; acting as an unregistered futures commission merchant (FCM); operating an illegal digital asset derivatives exchange; and failing to have adequate know-your-customer compliance controls[.]” The CFTC also announced that former Binance Chief Compliance Officer, Samuel Lim, agreed to a proposed consent order for a $1.5 million civil penalty, and injunctive and equitable relief.

Last but not least, OFAC’s announcement of its $968,618,825 settlement with Binance is here. This penalty is in addition to the other penalties facing the Company, and is the largest settlement ever obtained by OFAC. The global press release issued by the Department of Treasury for the OFAC and FinCEN actions also gives a shout-out to the work done by IRS Criminal Investigation.

The Allegations – Summarized Greatly

The crux of the government’s case is that Binance operated in the U.S., but pretended that it didn’t. Moreover, according to the government, the Company knowingly avoided any meaningful AML compliance, intentionally avoided any Know-Your-Customer (“KYC”) screening or transaction testing for many customers, and catered extensively to cybercriminals, terrorists (including Al-Qaeda), evaders of U.S. sanctions, child pornographers, and other criminals. The government’s pleadings are filled with eye-catching details, too numerous to catalogue here.

Binance’s operations are huge – in 2021, before the crypto market downturn, it processed over $9.5 trillion in trading volume. Although Binance is located outside of the U.S., it was subject to the BSA as a MSB because it did business “wholly or in substantial part” within the U.S. In particular, the Company served over one million U.S. customers (and actually employed over 100 personnel based in the U.S.). Binance failed to register with FinCEN as a MSB (or, presumably, as a money transmitter in various relevant states), or maintain an effective AML program or file Suspicious Activity Reports (“SARs”) as required by the BSA. 

In fact, Binance never filed a single SAR. It acted as if it was not covered by the BSA at all, based on the façade that it did not operate in the U.S. According to FinCEN’s Consent Order, the Company tried to maintain this façade by

• operat[ing] for over two years with no geofencing controls to restrict access by U.S. users, and then employed flawed protocols to “ringfence” the Binance.com platform from U.S. users while misleading U.S. authorities;
• circumvent[ing] its own “ringfencing” protocols to allow large U.S. firms to continue to operate on the Binance.com platform, including by directly instructing clients on how to change their KYC and use virtual private networks (VPNs) to obfuscate U.S. ties and indirectly through the maintenance of accounts for . . . conduits for U.S. users (Exchange Brokers); and
• devising a scheme to retain lucrative U.S. users while redirecting regulatory focus through the establishment of Binance.us (a U.S.-located MSB registered with FinCEN that purports to be Binance’s sole presence in the United States and separate from Binance.com, but that in reality lacked autonomy and maintained extensive ties to Binance.com).

In addition to hiding its U.S. customers, Binance allowed its services to be used to launder criminal proceeds and promote criminal activity. Just as an example, Binance allegedly processed at least $890 million in transactions involving Iran over the course of several years.

The Monitorship and Undertakings

As set forth in Attachment C to its guilty plea, Binance has agreed to numerous and detailed “compliance commitments.” A fair interpretation is that actual compliance with the many AML obligations imposed by the BSA has been ensconced as part of Binance’s plea agreement. 

The Company also has agreed to retain an independent compliance monitor, as set forth in Attachment D to its guilty plea, and that its three-year period of probation as part of its criminal sentence will begin once the outside monitor is retained. Condensing greatly, the outside monitor will have broad and intrusive powers, and will report regularly to the DOJ regarding reviews of Binance’s compliance efforts. Binance could be regarded as violating its plea agreement for compliance failures, and its period of probation could be extended.

Moreover, FinCEN’s Consent Order requires Binance to retain the outside monitor for a period of five years, and regularly report to FinCEN, OFAC and the CFTC. Not only will this supervision be expensive and potentially disruptive for Binance, but its effective implementation likely will impact its business and market share.

Binance has agreed to cooperate with the DOJ in its plea agreement, and it is worth noting that Binance has pleaded guilty to a count of conspiracy, which necessarily involves the participation of individuals and entities beyond Binance. Whether the Company has or will provide information to U.S. law enforcement and regulators against other financial institutions remains to be seen.

The Zhao Guilty Plea – Prison, or Just Money?

Zhao has pleaded guilty to a single count of failing to maintain an effective AML program, in violation of 31 U.S.C. § 5318(h). This offense has a statutory maximum sentence of ten years.

The DOJ’s press release distills the facts to which Zhao has admitted:

. . . . [Zhao] understood that Binance served U.S. users and was thus required to register with FinCEN and implement an effective AML program. Zhao knew that U.S. users were essential to Binance’s growth and were a significant source of revenue and knew that an effective AML program would include KYC protocols that would mean that some customers would choose not to use Binance. Zhao told employees it was “better to ask for forgiveness than permission,” and prioritized Binance’s growth over compliance with U.S. law. Without an effective AML program, Binance caused transactions between U.S. users and users in jurisdictions subject to U.S. sanctions. These illegal transactions were a clear and foreseeable result of Zhao’s decision to prioritize Binance’s profit and growth over compliance with the BSA.

It has been widely noted that the parties have agreed to recommend to the Court that Zhao pay a criminal fine of $50 million (to be credited against his $150 million penalty owed to the CFTC).  But it’s worthwhile to dig into the details of Zhao’s written plea agreement. 

First, the proposed fine amount is merely a recommendation, and the Court can disregard it and impose a fine, according to statute, equal to the amount of profit gained by Zhao from the offense. According to Forbes, Zhao’s estimated net worth exceeds $10 billion. If nothing else, a defendant’s financial situation is always an important factor for the Court to consider in any federal sentencing proceeding when assessing the defendant’s culpability and ultimate sentence.

Second, the plea agreement contains the parties’ stipulated findings for the purposes of the Federal Sentencing Guidelines, which propose ranges of potential imprisonment after an extremely complex analysis, often driven in financial crimes by relevant monetary amounts.  Condensing greatly, the parties have agreed to so-called “adjustments” under the Guidelines which likely would yield proposed sentences of imprisonment of either 10 to 16 months or 12 to 18 months, depending upon the Court’s decision regarding an adjustment about which the parties agreed to disagree. Some observers might be surprised by the relatively short period of recommended imprisonment, given the vast and extremely serious nature of the government’s overall allegations. The key here is that Zhao has pleaded guilty to a violation of the BSA, and the Guidelines provision for his particular offense has a generally short recommended sentence.  If, hypothetically, Zhao had been convicted instead of money laundering, his recommended sentence would be driven by the relevant monetary amount, among other factors. In this hypothetical, the likely recommended Guidelines range of imprisonment would be very high. 

But, just like the recommended fine, the Court – and, significantly, the U.S. Probation Office, which often has an important role in advising the Court at sentencing – is not bound by any of this. The Court can and will make its own independent Guidelines findings. More importantly, the Court can “vary” or “depart” from the recommended Guidelines range, and impose a higher or lower sentence of imprisonment (or, conversely, probation) and fine that the Court believes is appropriate for the particular facts of the case and the defendant. Moreover, Zhao’s plea agreement indicates that the parties themselves still can argue for a sentence which is either above or below the recommended Guidelines range attained by their own stipulations. Critically, the DOJ can and will make the Court and Probation Office aware of other factual allegations – and there are many – beyond the limited allegations to which Zhao has agreed. Such facts can constitute “relevant conduct” for the purposes of the final sentence. Ultimately, the only things which cabin the Court’s authority are the statutory maximums for prison time and fine amount.

Don’t Forget About the SEC

As we previously blogged, the SEC filed on June 5, 2023, an extensive civil complaint against Binance and Zhao, alleging multiple violations of the Securities Act of 1933 and the Securities Exchange Act of 1934. That lawsuit is ongoing, and it also rests upon alleged efforts by Binance to evade U.S. regulations through manipulation of its KYC processes. Presumably, the SEC will take advantage of the massive amount of information that Binance is obligated to provide to the federal government due to its cooperation and monitorship. The defendants have filed motions to dismiss; a hearing currently is scheduled for January 18, 2024.

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