The virtual currency market was initially thought to be exempt from Federal regulation. However, the illegal activities which have flourished as a result of lax regulation have drawn the attention and ire of U.S. authorities.  Virtual currencies have enabled criminals, both big and small, to launder profits from drug trafficking, illegal carding sites, a recent high-profile ATM cash out scheme, and other less savory crimes.  In a move to gain jurisdiction over these businesses, the Financial Crimes Enforcement Network (FinCEN), recently expanded the definition of a Money Service Business (MSB) to include the transfer or exchange of virtual currency—a  change which has brought virtual currency businesses into the regulatory crosshairs.  Remaining trading operations and exchanges are now scrambling to avoid the fate of their fallen competitors by changing how--and with whom--they do business.  Unfortunately for them, the arm of the law is proving long indeed, leaving crooks with fewer options for transferring their ill-gotten gains.  In considering what has come to pass, we can identify the implications of this new regulatory focus for modern-day money laundering.

  • The list of indictments and enforcement actions thus far illustrate the trend.

The Feds targeted E-Gold less than a decade ago for their role as the payment method of choice for carders, and the company’s founder was eventually found guilty on charges of money laundering in Federal court.  Taking to heart the prosecution of E-Gold’s founder and his own previous troubles with the Feds, the founder of Liberty Reserve, Arthur Budovsky, thought that he could keep U.S. officials at bay by registering his business in Costa Rica.  Fake record entries designed to obscure illicit transactions likely did little to endear Liberty Reserve to Costa Rican authorities – Mr. Budovsky was recently indicted in U.S. District Court for failing to register the company as a money transmitting business.  Seeing the writing on the wall, competing services (such as Perfect Money and WebMoney) have simply begun to turn away new U.S. customers, but if Liberty Reserve is any example of how far the Federal government will go, it is likely that existing U.S.-based customers (law abiding and crooked alike) may soon be booted completely.

  • The famously decentralized crypto-currency, a.k.a. Bitcoin, is not proving to be much better off.

In May, the Federal government froze an account belonging to Mt. Gox, the largest Bitcoin exchange, claiming that they also failed to register as an MSB.  This event, along with recent efforts to bring Bitcoin into the mainstream by both avid users and venture capitalists will eventually bring this currency under the formal watchful eye of the U.S. government.  Such a scenario will only serve to make Bitcoin less attractive to criminals.  In addition, the fluctuating value of Bitcoins would make any self-respecting kingpin think twice before leaving their profits to the mercy of finicky speculators and opportunistic DDoS attacks (it has been suspected that recent DDoS attacks were designed to affect Bitcoin exchange rates).

  • So where does that leave criminals just trying to make a dishonest buck and move it from Point A to Point B?

Small-time, unsophisticated hoods will continue to rely on Bitcoins for the immediate future.  As for prepaid cards, for all their recent troubles they have begun to be more closely regulated – that door is starting to close.  So, those looking to move serious money may resort to using the conventional financial system.  But the practice of money mules initiating wire transfers under the $10k reporting cap is still a risky proposition (work from home business, anyone?).    It would seem that the informal regulation of the virtual currency market will send some criminals from our shores to countries with more lax financial regulation.  That’s not to say that we are completely safe from them in today’s highly interconnected world, but it will be nice to know that they don’t live next door.

  • And what about the good guys, you ask?  Two words: vigilance and perseverance.

U.S. financial institutions should be aware that some of the business once bound for operators like Liberty Reserve may work its way back into the mainstream – time to put those AML teams on high alert!  Federal regulators and law enforcement officials should continue to pursue stronger working relationships with international counterparts to promote changes to foreign financial regulation and to track down criminals on their home turf. Bad guys are on the run, and while virtual currency supports real crime it may also positively change how we transact.  As long as we stay the course, the future of commerce is better off with these new financial tools than without.  In the coming months, Javelin will examine the potential of virtual currencies, so stay tuned!


About Al Pascual

An accomplished industry analyst, market researcher, and financial industry practitioner, Al Pascual is Javelin’s Senior VP of Research and Head of Fraud & Security. As SVP of Research, he oversees the firm’s operations and ensures that Javelin’s research content provides the innovative perspectives that clients expect from the firm.

As Head of Fraud & Security, Al provides clients actionable insights on a variety of fraud and security issues, acts as a partner in developing strategies for managing risk, and identifies and raises awareness of future threats and solutions. Al researches a range of topics, including the applicability of biometrics in banking and payments, the effect of data breaches on the integrity of consumer identities, the relationship between identity fraud and loyalty, and the best methods for securing data and transactions.

Al has presented findings from Javelin’s rigorous, industry-leading research at conferences around the world, including BAI, CARTES, Money20/20, NACHA, and RSA. Al has provided commentary on fraud and security issues to media outlets such as American Banker, Bloomberg, CNNMoney, Fox Business, Reuters, The New York Times, The Wall Street Journal, The Washington Post, and Wired.

Previously Al held risk management roles at HSBC, Goldman Sachs, and FIS. He is a member of the Association of Certified Fraud Examiners, the International Association of Financial Crimes Investigators, and the Federal Reserve Secure Payments Task Force. He earned a Bachelor of Arts degree in History from the University of South Florida.

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