(Bitcoin Exchange) Owners Arrested

handshake-36806_1280 executives arrested and charged with operating as unlicensed money transmitters and money laundering. (See Press Release here) is or at this point was an American bitcoin exchange.

In one of my previous articles, I speculated that one of the reasons FinCEN chose to view operators of virtual currency businesses as money transmitters was because according to federal law, operating as a money transmitter without a license carried criminal penalties

(a) Whoever knowingly conducts, controls, manages, supervises, directs, or owns all or part of an unlicensed money transmitting business, shall be fined in accordance with this title or imprisoned not more than 5 years, or both. 18 U.S.C. 1960

According to the unsealed complaint today, that is not the main reason federal government took interest in Obviously, at this stage, the government’s complaints against two men, Anthony Murgio and Yuri Lebedev is nothing but allegations. (Murgio Complaint; Lebedev Complaint)

But if the government’s allegations will prove true, not only knew that the company was engaged in money laundering, but they actively sought it as a way to expand the business. For example

“in a series of chats LEBEDEV proposed that begin offering exchange services through Russia-based payment processors because ‘then a lot of [R]ussians can buy ! . . . and wash money as well.”

For all I know the quote was taken out of context and placed into the complaint to bolster the government’s chances of getting an arrest warrant. But another allegation, if proven true, would make me think that if may not have been complicit in the alleged money laundering activities at least they looked the other way when something really suspicious was happening.

By way of another example, the complaint describes a scenario where a company has been a victim of cryptowall ransomware — a scenario where a program rendered the victim’s computer unusable by encrypting the files and then decrypts them after a ransom has been paid. The victim described the situation to a employee, but employee has not only failed to file a suspicious activity report, but pretty much took the “don’t ask, don’t tell approach to the whole thing.”

Then there is an allegation is that, for all intents and purposes, took over a small credit union for the sole purpose of avoiding raising federal regulator’s eyebrows regarding ACH transactions going through the credit union.

Once again, at this point all these allegations are merely that –allegations. Time will tell whether there is actually any substance to them. But as of now, Mr. Lebedev and Mr. Murgio are looking at jail time.




Virtual Currencies and Office of Foreign Assets Control (OFAC)


In this article I want to address the application of the regulations of the Office of Foreign Assets Control (“OFAC”) to businesses dealing with virtual currencies.

OFAC is an office of the US Department of the treasury tasked with administering and enforcement of economic and trade sanctions against foreign countries and certain foreign nationals.

Laws and regulations enforced and promulgated by the OFAC apply to banks and Money Service Businesses (“MSB”) alike. And since back in 2013 the Treasure Department designated administrators and exchangers of virtual currencies as MSB’s most likely OFAC regulations will apply to them as well. Thus a business owner dealing with virtual currencies should be aware of all possible regulations that may affect the bottom line.

When imposing sanctions, the US Government can target either the entire country, region, organization or individual.

When the entire county, such as North Korea, is targeted by sanctions, it is the responsibility of a financial institution to block any account or property belonging to any citizen of that country, as well as deny

Blocking or “freezing” of property means that a country or an individual is denied any kind of access, administration or control of their property without authorization from OFAC.

Banks have developed software that is designed to “interdict” certain illicit fund transfers  to targeted regions or individuals. It is unclear whether a comparable software exists for virtual currencies.

OFAC treats failure to block illicit transfers as a strict liability. According to this guidance (though likely outdated by now), OFAC has imposed millions of dollars in civil penalties to banks who failed to block illicit transfer involving a targeted individual or a country.

As an aside, OFAC has authority to impose civil liability of either $250,000 or twice the amount of the underlying transaction. For a more recent civil penalty imposed on a MSB, see this settlement agreement involving PayPal and OFAC. Paypal had to pay $7,658,300 to OFAC because they have failed to block a number of transactions between Iranian and Cuban nationals, among others.

This settlement agreement shows that MSBs are just as liable under OFAC’s regulations as the banking sector. And there is no indication that virtual currency operators will be treated any different in case of non-compliance.

Every time an account has been blocked or a transaction has been rejected, the financial institution –or a virtual currency business has an obligation to make a report within 10 business days. The report must identify, among other things, the owner, the property, the property’s location, estimated value and date it was blocked.

When it comes to Bitcoin or similar virtual currency that may be problematic, because of the nature of the cryptocurrency.

In addition, every time it comes to OFAC’s attention that an illicit transaction has occurred without being blocked or rejected, OFAC sends out an administrative demand for information requesting information on how the transaction was processed. Once the financial institution has responded to the demand, a civil penalty may be imposed. The financial institution — or a virtual currency operator, then has 30 days to present an explanation why a penalty should not be imposed or lessened. OFAC will look at any mitigating circumstances. Mitigating circumstances include self-disclosure, use of any interdiction software as well as other factors.

This is just an example of another way existing regulations can apply to virtual currency based businesses.


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New York’s BitLicense Application Carries a $5,000 Fee


New York State Department of Financial Services (“DFS”) has recently released a 31 page application for anyone who wants to engage in doing business with virtual currencies. The whole application is available here. It is a convoluted and cumbersome to say the least. But most of all it is costly. If the objective was to create an entry barrier, then mission accomplished!

Potential Costs

For starters, the bitlicense application fee itself is a whopping $5,000. But that is not the only thing bitlicense applicant will have to shell out the money for. Any bitlicense applicant will have to post a surety bond or set money aside in the trust account.

The decision on the amount of surety bond or trust account is left to the applicant. However the bitlicense application calls for an applicant to justify how the proposed sum will be sufficient for the protection of the customer. Implicit in that language is the notion that if DFS deems the amount insufficient, the application can and will be denied.

Another potential source of costs for a potential bitlicense applicant is under “Information Regarding Financial Statements.” This subheading calls the applicant to provide DFS with audited financial statements prepared by an independent certified public accountant. These documents can be potentially costly.

Background Information

Bitlicense application requires every applicant to provide a list of other businesses – including in different states; current and former litigation; bankruptcy proceedings as well as myriad of financial liabilities for owners and directors.


Before bitlicense application can be submitted, any potential applicant must already be registered with Fincenn – a federal regulator. (If the reader wants to know who must register with Fincen, read here)

Besides registration with Fincen, any applicant must have Anti-Money Laundering policies and procedures that meet the guidelines provided by the Bank Secrecy Act. The applicant is directed to submit written policies and procedure along with the application.

In conclusion – overall the application process is quite complicated, but with that said not surprising. It will be interesting to see how the industry adjusts to this developing regulatory landscape


What Every Grid Owner Needs to Know About Virtual Currencies

Linden Dollar and New York’s Bitlicense


New York is the first state to undertake a broad-scale regulation of the growing virtual currency market. Department of Financial services has proposed a set of rules that would apply to businesses that are involved with virtual currency. (See my previous article on that particular topic)

Just like FinCEN’s previous regulatory action has affected the virtual currency in a profound way, this one has the potential to change the landscape too. One of the virtual currencies affected by FinCEN was the Linden Dollar – a product of Linden Research. Linden Research itself had to register as a Money Services Business. But now that states are jumping into the regulatory pool, this will once again change the landscape for the Linden Dollar and the companies that deal with it.

Just by way of background, a Linden Dollar is a virtual currency used in Second Life – an online gaming platform created by Linden Research where people interact by way of avatars. Inside the game people can buy and sell virtual goods and services. The medium of exchange for those goods and services is the Linden Dollar.

People can buy their Linden Dollars either through an official exchange or through a number of the authorized resellers

Under the new set of New York’s  proposed rules – BitLicense (full text available here), both Linden Research and numerous authorized resellers would likely have to apply for a license.

The rules state that person or entity that engages in Virtual Currency Business Activity needs a license. Virtual Currency Business Activity is in turn defined as “buying and selling Virtual Currency as a customer business” where it involves New York or a New York Resident.

The bit talking about involving “New York of a New York Resident” part is really important. Virtual currency is a cross-border transaction almost by definition, and Linden Dollar is no exception. And according to the proposed regulation, once a New York resident has bought or sold Linden Dollars, the regulation kicks in automatically and subjects the business to Bitlicense regulations.

BitLicense rule potentially creates barriers to entries. First, by virtues of the application process itself which will probably be time-consuming and costly. Second, the regulation calls for a bond, which creates an extra financial burden. Third, AML compliance requirements are cumbersome and likely to discourage some businesses from entering the New York market.

While Linden Research is not likely to be discouraged by having to apply for a BitLicense, it is not that far fetched to think that certain authorized linden dollar resellers – especially startups – will avoid New York customers because dealing with the extra regulatory headache may not be worth the effort.

The penalties for non-compliance are not clear. The proposed regulation itself does not indicate the penalty for failure to obtain the license or violating any of the regulations. But since the regulation derives its authority from several sections of New York’s Financial Services Law including Section 309. Section 309 of the Financial Services Law grants to the Department of Financial Services power of injunction.  Department of Financial Services itself does not have the power to impose criminal penalties.

But at this stage, the rules are likely to be revised many times over after the initial “wait and see” period.

P.S. The author is partner at Gill & Kadochnikov P.C. lawfirm. Feel free to check out his website and see what they are about.