Bad news travels fast. On May 14, Magistrate Judge Susan Gauvey of the United States District Court for the District of Maryland signed a Seizure Warrant authorizing the Federal Government to seize “the contents of Dwolla Account 812-649-1010 registered in the name of Mutum Sigillum LLC, held in the custody of Veridian Credit Union.” After Judge Gauvey signed the warrant, the Government issued it, and the news spread like wildfire. Even though Bitcoin up until now has not been used in the mainstream markets and most people have probably never even heard of it, within a short period of time news of the warrant had proliferated the internet, appearing on mainstream websites such as Gawker (Bitcoin exchange Mt. Gox lands in feds’ crosshairs), CNN (Bitcoin exchange Mt. Gox lands in feds’ crosshairs), PC World (Mt. Gox accused of violating US money transfer regulations), Financial Times (US seizes accounts of Bitcoin exchange), and more underground sites such as Ars Technica (Feds reveal the search warrant used to seize Mt. Gox account), Betabeat (Warrant Reveals Homeland Security Seized Mt. Gox’s Dwolla Account …), PandoDaily (US authorities launch their first attack on bitcoin), and TheBlaze.com (Feds Seize Bitcoin Account for ‘Unlicensed Money Transferring’).
Tragically for this upstart currency, the mainstream will learn of Bitcoin for the first time as a fringe currency under attack by the federal government. Whether Bitcoin will survive this attack and shed itself of the stigma associated with this seizure is a matter for another day and another article. We certainly hope that it does.
On Thursday, Kim Dotcom (@kimdotcom) tweeted a question that seems to be on everyone’s mind in the wake of the warrant: “Is the U.S. govt trying to destroy Bitcoin?” While we are absolutely sensitive to Mr. Dotcom’s perspective on the issue, we won’t speculate on the answer to his question. However, we will say that – given the statement of facts included in the affidavit attached the warrant – the attack should come as no surprise.
Let’s start with the regulatory background. Between the time of its birth and this past March, Bitcoin existed in an area of the law where there was no law. That is not to say that Bitcoin issuers and users were not subject to the money laundering provisions of federal law if they used Bitcoin for unlawful purposes, but up until March of this year the federal government had not decided how to regulate Bitcoin as a thing. Then, on March 18, the Financial Crimes Enforcement Network (FinCEN) of the Department of the Treasury issued its Guidance entitled, “Application of FinCEN’s Regulations to Persons Administering, Exchanging, or Using Virtual Currencies.” This was a watershed moment for the regulation of Bitcoin, but sadly it seems that Mt. Gox either never knew about it or chose to disregard it. In FinCEN’s Guidance, FinCEN does not mention Bitcoin by name, but does include a discussion of “De-Centralized Virtual Currencies” which explains as follows:
A final type of convertible virtual currency activity involves a de-centralized convertible virtual currency (1) that has no central repository and no single administrator, and (2) that persons may obtain by their own computing or manufacturing effort.
A person that creates units of this convertible virtual currency and uses it to purchase real or virtual goods and services is a user of the convertible virtual currency and not subject to regulation as a money transmitter. By contrast, a person that creates units of convertible virtual currency and sells those units to another person for real currency or its equivalent is engaged in transmission to another location and is a money transmitter. In addition, a person is an exchanger and a money transmitter if the person accepts such de-centralized convertible virtual currency from one person and transmits it to another person as part of the acceptance and transfer of currency, funds, or other value that substitutes for currency.
So, before March, whether FinCEN would ever regulate Bitcoin – and if so, how – was a mystery. However, after March 18, things became much more clear: if an entity is in the business of exchanging Bitcoin for “real currency” or vice versa, or accepts Bitcoin from one person and transmits the real currency equivalent to another person, that entity is a money transmitter and will be regulated as such in the United States, and will be subject to the criminal provisions of 18 USC 1960 for failing to register with the federal government as a money transmitter or being licensed in any state that would require a money transmitting license.
Next, FinCEN’s recently crafted regulatory scheme for Bitcoin dealers is unquestionably applicable for dealers operating outside of the United States. Thus, even assuming that Mt. Gox did not have the physical nexus in the United States which Special Agent McFarland described in his Affidavit, so long as Mt. Gox was servicing people located in the United States, Mt. Gox would be regulated as a money transmitter. As FinCEN explained on July 18, 2011, and as we blogged shortly thereafter, FinCEN’s rules make foreign-located businesses engaging in MSB activities within the U.S. subject to U.S. law:
As a result, even foreign based MSBs with no physical presence in the US can be classified as an MSB and thus subject to the rigorous requirements of the BSA. However, foreign banks as well as foreign financial agencies that engage in activities that if conducted in the US would require them to be registered with the SEC or CFTC are excluded from the definition of an MSB. As noted in the rule, “To permit foreign-located persons to engage in MSB activities within the United States and not subject such persons to the BSA would be unfair to MSBs physically located in the United States and would also undermine FinCEN˜s efforts to protect the U.S. financial system from abuse.”
Finally, third, as we have repeatedly explained (and as we deal with over and over for clients), opening a bank account under false pretenses is never a good idea. Indeed, just this week we explained how state sanctioned marijuana dispensaries could face criminal liability for opening bank accounts in the name of shell companies or straw owners:
Generally speaking, the use of shell companies or other accounts to mask the profits derived from the sale of marijuana could subject the owner of a dispensary to a wide variety of federal criminal penalties, including bank fraud 18 U.S.C. § 1344, wire fraud 18 U.S.C. § 1343, and money laundering 18 U.S.C. § 1956. Additionally, those who assist in such actions, for example the friend or family member who allowed for money to be transferred through his or her account, would also face similar criminal charges. Moreover, should such fraud occur, the payment processors and banks who process this money can still be held liable for money laundering and face criminal and civil fines and penalties. Each of these penalties is available regardless of whether marijuana is legal under State law. Put simply, if a company lies for the purpose of opening a bank account, the consequences are severe.
Based on the contents of the Seizure Warrant and its accompanying Affidavit, the Mt. Gox case hits on all of these points. First, as the affidavit describes, Mt. Gox is a Japanese company which operates in the United States under a subsidiary named Mutum Sigillum LLC. Second, the Affidavit explains that neither Mt. Gox nor Mutum Sigillum had registered with the federal government as a money transmitting business. Finally, when Mt. Gox d/b/a Mutum Sigillum approached Wells Fargo for purposes of opening a bank account, the affidavit describes that Mark Karpeles, operating on behalf of Mt. Gox d/b/a Mutum Sigillum, told Wells Fargo that the account would not be used for purposes of exchanging currency or transmitting money. In all likelihood, when Wells Fargo saw on the one hand that the Mutum Sigillum account’s activity resembled that of a money services business, but that Karpeles had previously told the bank that Mutum Sigillum was not engaged in that business, Wells Fargo filed a Suspicious Activity Report which called in the federal government, and then the government made short work of the asset seizure. Unfortunately, while this is new to the Bitcoin industry, this is a common occurrence in the United States.
In conclusion, we cannot and will not comment on whether the government is simply attacking Bitcoin in an effort to eradicate it. What we will say though is that everything included in the government’s seizure warrant has been well known for some time, and it is unfortunate that Mt. Gox did not heed these warnings. Based on the contents of the government’s Seizure Warrant and Affidavit, this incident was totally avoidable.
The attorneys at Fuerst Ittleman David & Joseph, PL have extensive experience in the area of anti-money laundering compliance with a focus on non-bank financial institutions, including all varieties of money services businesses and Bitcoin dealers and exchangers, as well as white collar criminal defense and litigation against the U.S. Department of Justice. You can reach an attorney by emailing us at email@example.com or by calling us at 305.350.5690.