The Financial Crimes Enforcement Network (FinCEN) published a notice of proposed rule making that would escalate the mixing of convertible virtual currencies to a “primary money laundering concern.” If implemented, these new and more stringent rules will impact not only dedicated tumblers like Tornado Cash but service providers that use basic privacy protocols like Bitcoin’s coinjoin.
FinCEN cited malicious actors’ use of crypto-mixing services to launder illicit proceeds. The bureau highlighted Hamas, Palestinian Islamic Jihad, Russian criminal groups, and the Democratic People’s Republic of Korea.
The Palestinian Islamic Jihad, for example, recently received millions of Tron-based USDT. Hamas reportedly received some $450,000 in digital asset donations which Israeli authorities have since seized.
The notice of proposed rule making explains FinCIN’s goals of greater compliance practices for coin mixers. It says heightened transparency will improve FinCIN’s ability to deny states like North Korea and other terrorist groups their access to US financial infrastructure.
FinCEN’s proposal could require financial institutions to keep records and reports relating to transactions involving digital asset tumblers. Simply put, the rule brings know your customer (KYC), anti-money laundering (AML), and combating the financing of terrorism (CFT) requirements to operators of crypto tumblers.
USA PATRIOT Act: Law since October 2001
As justification for its rulemaking, FinCEN cited Section 311 of the USA Patriot Act. Section 311 empowers the Treasury Secretary with the authority to classify “primary money laundering concerns” and require domestic financial agencies to take “special measures” against those entities.
Special measures for primary money laundering concerns include:
- Prohibiting the opening or maintenance of any correspondent or payable-through accounts
- Verifying purpose and source of funds for payments
- Recordkeeping and reporting requirements
- Beneficial ownership disclosures
Tornado Cash: A case study in crypto sanctions
Previously, authorities cracked down on mixers like Tornado Cash, which is already sanctioned in the US. The Office of Foreign Asset Control (OFAC) sanctioned Tornado Cash in August 2022.
The Tornado Cash sanction, of course, proved highly controversial. Several digital asset insiders claimed it was unfair to honest users who simply want privacy. Many claimed the sanction violated their free speech rights.
Somebody used Tornado Cash to sprinkle ETH donations into the wallets of well-known figures like Vitalik Buterin, Brian Armstrong, and Jimmy Fallon — perhaps an attempt to draw them into the debate over whether OFAC’s actions amounted to an overreach of its authority. Even Vitalik Buterin suggested a potentially more regulatory-compliant alternative using ZK proofs in a paper he co-authored.
Tornado Cash’s volume declined by 85% shortly after OFAC imposed its sanction. However, the measures haven’t killed the service entirely. A recent Arkham report showed that $77 million in digital assets were sent through the Tornado Cash contract in a recent 30-day period.
As an open-source protocol, Tornado Cash’s contract still operates on the Ethereum blockchain, making it more difficult for authorities to block entirely for as long as Ethereum is accessible.
However, the ability to access a tumbling service doesn’t necessarily mean that using it is legal. In theory, OFAC could pursue anyone who sends funds through a sanctioned coin tumbler, even though it may have some explaining to do if it were to go after Jimmy Fallon for receiving an unsolicited donation of ETH through Tornado Cash.
Coinjoin services put on 90-day FinCEN notice
FinCEN’s new notice of proposed rule making on digital asset mixing means that tumbling services like CoinJoin might soon become even more difficult to use legally. Moreover, operators depending on anonymizing services might have to collect, record, process, and disclose untold reams of data to the government.
Unless FinCEN receives a significant number of objections as formal comments during its public comment period, its proposed rules stand a good chance of becoming enacted by treasury secretary Janet Yellen.
Unsurprisingly, FinCEN justifies the new requirements by naming rogue users like Hamas and the Democratic People’s Republic of Korea. FinCEN has opened a comment period lasting 90 days after its recent publication of the notice of proposed rule making in the federal register.