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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.…

Continue Reading  Binance Settles Criminal and Civil AML and Sanctions Enforcement Actions for Multiple Billions – While its Founder, Owner and Former CEO Zhao Pleads Guilty to Single AML Crime

Complex Civil and Criminal Cases Converge

On August 17, 2023, Judge Robert Pitman of the federal district court for the Western District of Texas issued an Order granting summary judgment for the U.S. Treasury Department (“Treasury”) in a lawsuit brought by six individuals, and denying the cross-motion for summary judgment filed by the individuals. The lawsuit alleged that Treasury overstepped its authority by imposing sanctions on the coin mixing service Tornado Cash.  Deciding for the government, Judge Pitman determined that Tornado Cash is a “person” that may be designated by OFAC sanctions.  Specifically, the regulatory definition of “person” includes an “association,” and Tornado Cash is an “association” within its ordinary meaning.

Shortly thereafter, on August 23, 2023, the U.S. Department of Justice (“DOJ”) unsealed an indictment returned in the Southern District of New York against the alleged developers of Tornado Cash, Roman Storm (“Storm”), a naturalized citizen residing in the U.S., and Roman Semenov (“Semenov”), a Russian citizen.  The indictment charges them with conspiring to commit money laundering, operate an unlicensed money transmitting business, and commit sanctions violations involving the International Emergency Economic Powers Act, or IEEPA.  When the indictment was unsealed, Storm was arrested and then released pending trial.  Treasury simultaneously sanctioned Semenov, who remains outside of the U.S., adding him to OFAC’s Specially Designated Nationals and Blocked Persons (“SDN”) List.

These are very complicated cases raising complicated issues.  They are separate but obviously related.  As we will discuss, the factual and legal issues tend to blend together, and how a party characterizes an issue says a lot about their desired outcome:  has the government taken incoherent action against a technology, or has it pursued a group of people attempting to hide behind tech?…

Continue Reading  All Roads Lead to Roman: Alleged Tornado Cash Co-Founders Roman Storm Arrested and Roman Semenov Sanctioned, Days After Treasury Defeats Lawsuit Challenging OFAC

The Office of Foreign Asset Control (“OFAC”) announced on June 20 that Swedbank Latvia AS (“Swedbank Latvia”), a subsidiary of Swedbank AB (“Swedbank AB”) headquartered in Riga, Latvia, agreed to pay $3,430,900 to settle its potential civil liability for 386 “apparent” violations of OFAC sanctions involving Crimea.  Specifically, Swedbank Latvia allegedly allowed a client to initiate payments from Crimea through an e-banking platform that ultimately were processed by a U.S. correspondent bank. The settlement amount reflects OFAC’s determination that Swedbank Latvia’s conduct was “non-egregious” – but not voluntarily self-disclosed.

Although unrelated to this OFAC action, Swedbank Latvia was the topic of a 2019 internal investigation report commissioned by Swedbank AB revealing that from before 2007 through 2016, Swedbank Latvia (and Swedbank Estonia) actively pursued certain high-risk customers as a business strategy.  This conduct, related to the Danske Bank scandal and its now-notorious Estonian Branch, resulted in Swedish and Estonian authorities ordering Swedbank AB in 2020 to pay a record 4 billion Swedish Krona (then, approximately $38 million) in anti-money laundering related penalties.

This OFAC enforcement action involves alleged conduct which occurred even before Russia’s 2022 unprovoked invasion of Ukraine, the ensuing host of expanded U.S. sanctions, and the recent drive by U.S. regulators and prosecutors to combat the attempted evasion of Russia sanctions and export controls.  The enforcement action reflects how OFAC can learn of potential sanctions violations through other financial institutions.  It also emphasizes, once again, some of the risks inherent in providing correspondent bank services to foreign banks, and the need for good communication between U.S. and foreign banks.  It further reflects the need for a financial institution (or any company) to integrate customer data into a sanctions compliance program, keep up to date on evolving sanctions, and pursue potential red flags of non-compliance – including in the face of customer representations of compliance.…

Continue Reading  Swedbank Latvia Settles with OFAC for Apparent Crimea Sanctions Violations

On June 5, 2023, the SEC filed an extensive civil complaint against Binance Holdings Limited, its assorted affiliates and its beneficial owner and CEO, Changpeng Zhao, alleging multiple violations of the Securities Act of 1933 and the Securities Exchange Act of 1934.  The Binance suit, as all of SEC’s enforcement efforts in the crypto space, arises from the hotly contested and frequently litigated predicate categorically asserted by the SEC that at least some cryptocurrencies are “securities” under, and therefore subject to, the federal securities laws.  The Binance case demonstrates how, from that premise, the SEC takes a utilitarian approach to the crypto industry, essentially overlaying the functions and participants in the traditional securities industry against their counterparts in crypto.

Although the Binance enforcement action obviously focuses on securities law, it is relevant to anti-money laundering concepts because the action focuses on Know-Your-Customer (“KYC”) requirements, as a predicate to discussing the securities laws.  The Binance enforcement action is similar to the enforcement action against Bitmex and other entities, which rested on the allegation that the entity attempted to pretend that it did not have U.S. customers — even though it in fact had such customers, as it allegedly well knew and despite efforts to obfuscate such U.S. contacts.  This post therefore will focus on the KYC and customer identification issues presented by the Binance complaint.…

Continue Reading  SEC’s Suit Against Binance Demonstrates Scope of Its Crypto Enforcement Efforts

On June 16, 2023, Michael J. Hsu, Acting Comptroller of the Currency made remarks to the American Bankers Association (“ABA”) Risk and Compliance Conference in San Antonio, Texas. In his remarks, Hsu discussed both the benefits and risks of artificial intelligence (“AI”) and tokenization. The core of Hsu’s remarks is that, given the rapid innovation of AI and tokenization in banking, banks should closely work with regulators to manage technological risks.

Hsu’s remarks came at the right time. Five days later, and as we discuss below, Google Cloud announced the launch of an AI anti-money laundering program. Early results seem promising, but only time will tell whether Hsu’s remarks concerning AI’s risks prove prophetic.…

Continue Reading  Building the Engine Alongside the Brakes: Acting Comptroller Hsu’s Remarks Discuss Impact of Artificial Intelligence and Tokenization in Banking

We are pleased to offer the latest episode in Ballard Spahr’s Consumer Finance Monitor podcast series, A Look at the Treasury Department’s April 2023 Report on Decentralized Finance or “DeFi.” 

In this episode, we follow up and expand upon our blog post regarding the U.S. Department of the Treasury’s April 6, 2023 report examining vulnerabilities…

On April 13, the State of Wyoming took the extraordinary step of filing a request for permission to intervene in the ongoing dispute between Custodia Bank, Inc. (“Custodia”) and the Board of Governors of the Federal Reserve System (“the Fed”) and the Federal Reserve Bank of Kansas City.  This dispute involves a complaint (now amended) filed by Custodia – a state-chartered special purpose depository institution (“SPDI”) based in Cheyenne, Wyoming – against the Fed and the Federal Reserve Bank of Kansas City, alleging that the defendants improperly denied Custodia’s application for a “master account” with the Fed. Generalizing greatly, having a master account allows financial institutions to operate in the normal course as a custodial bank in the U.S.  Having a Fed master account is therefore critical to any institution looking to operate in the U.S. financial system.

In a nutshell, Wyoming’s request to intervene critiques the defendants because of their “view of perceived inadequacies in Wyoming’s laws and regulations for SPDIs, [which are] partially responsible” for the denial of Custodia’s master account application.  More specifically, Wyoming accuses the defendants of seeking to treat Wyoming SPDIs in an inequitable manner, thereby “treating state-chartered non-federally regulated banks as second-class banks ineligible to compete with federally-regulated ones.”

This blog post focuses on an important issue referenced seemingly in passing in Wyoming’s request for permission to intervene, which is clearly motivating in part the filing by Wyoming:  on March 24, 2023, the Fed made public its January 27, 2023  Order Denying Application for Membership (the “Order”) by Custodia, which had requested the Fed’s approval under Section 9 of the Federal Reserve Act to become a member of the Federal Reserve System.  According to Wyoming, the Fed’s decision to deny Custodia’s application has the effect of preventing Custodia and other Wyoming SPDIs from ever being able to attain the status of federal regulation.  We focus here on the Order because of its much broader anti-money laundering (“AML”) and sanctions implications for any banks which are contemplating targeted services for the digital asset industry.  The 86-page Order is very detailed, and often also discusses safety and soundness concerns, as well as other issues.

As we discuss, the Order suggests that any bank will have a hard time convincing the Fed that crypto-heavy banking services can comply with the requirements of the Bank Secrecy Act (“BSA”) and U.S. sanctions law.  Likewise, the Fed has expressed its skepticism in the Order that blockchain analytics services, even when applied skillfully and with the best of intentions, actually can satisfy the BSA and U.S. sanctions law due to limitations inherent in crypto transactions relating to knowing with confidence who is actually conducting the transactions.  This same issue was also noted by the recent report by the U.S. Treasury regarding perceived AML and sanctions vulnerabilities in decentralized finance providers.…

Continue Reading  State of Wyoming Wades Into Custodia Bank Dispute with Federal Reserve — In Wake of Fed’s Rejection of Bank Due to Crypto-Related AML and OFAC Concerns

On April 6, 2023, the U.S. Department of the Treasury released a report examining vulnerabilities in decentralized finance (“DeFi”), including potential gaps in the United States’ anti-money laundering (“AML”) and countering the financing of terrorism (“CFT”) regulatory, supervisory, and enforcement regimes for DeFi.  The report concludes by making a series of recommendations, including the closing of “gaps” in the application of the Bank Secrecy Act (“BSA”) to the extent that certain DeFi services currently fall outside the scope of the BSA’s definition of a “financial institution” covered by the BSA.  The report cautions that it does not alter any existing legal obligations, issue any new regulatory interpretations, or establish any new supervisory expectations.…

Continue Reading  U.S. Treasury Releases Report and Recommendations Regarding Vulnerabilities in Decentralized Finance

As we have repeatedly blogged, concerns about perceived anti-money laundering (“AML”) risks in the real estate industry are rising globally.  Consistent with this concern, the Financial Action Task Force (“FATF”) has updated its AML guidance for the real estate sector in a document entitled “Guidance for a Risk-Based Approach: Real Estate Sector,” (“FATF Guidance” or “the Updated Guidance”).  The FATF Guidance urges a variety of players in the real estate industry to adopt a risk-based approach (“RBA”) to mitigate AML risks and sets forth some high-level recommendations.  The Updated Guidance notably coincides with FinCEN’s advanced notice of proposed rulemaking to impose reporting and perhaps other requirements under the Bank Secrecy Act (“BSA”) for persons involved in real estate transactions to collect, report, and retain information, and the  recent extension of Geographic Targeting Orders for U.S. title insurance companies.

The FATF Guidance appears to be driven, at least in part, by FATF assessments showing that the real estate sector has high AML risks, which industry players often fail to appreciate and/or mitigate.  The Updated Guidance explains how various industry players can use an RBA to mitigate those risks.  It identifies sector-specific risks, sets forth strategies for assessing and managing those risks, and describes challenges the industry faces in doing so.  The FATF also offers specific guidance for “private sector players” and “supervisors” (e.g., countries and self-regulatory boards) for going forward.  The Updated Guidance includes tools, case studies, and examples of both private sector and supervisory practices to show real estate supervisors and practitioners how to implement FATF standards in an adequate, risk-based and effective manner.

The FATF is an inter-governmental policymaking body dedicated to creating AML standards and promoting effective measures to combat money laundering (“ML”) and terrorist financing (“TF”).  The FATF issued the Updated Guidance with input from the private sector, including from a public consultation with thirteen private-sector representatives (including from sector specific professional associations, the legal profession, FinTech providers, and non-profit organizations) in March and April 2022.  This consultation urged FinCEN, among other things, to provide greater clarity in the Updated Guidance regarding its applicability to the real estate sector and related professions (such as lawyers, notaries, and financial institutions) and extend FATF recommendations to broader real estate activities (such as property development and leasing).…

Continue Reading  FATF Updates Risk-Based Approach Guidance for the Real Estate Sector

On April 28, 2022 the New York Department of Financial Services (“NYDFS”) issued its Guidance on Use of Blockchain Analytics, a document directed to all virtual currency business entities that either have a NYDFS Bitlicense or are chartered as a limited purpose trust company under the New York Banking Law.  The Guidance emphasizes “the importance of blockchain analytics to effective policies, processes, and procedures, including, for example, those relating to customer due diligence, transaction monitoring, and sanctions screening.”

The NYDFS is stressing the role of blockchain analytics in anti-money laundering (“AML”) compliance because “virtual currencies such as Bitcoin and Ether can be transferred peer-to-peer directly from one individual or entity to another pseudonymously, absent the use of a regulated third party (e.g., between non-custodial wallets, or self-hosted wallets that allow users to maintain control of their private keys). . . . [T]hese wallet addresses are typically pseudonymous, with nothing on the face of the transfer tying back to the originator, beneficiary, or underlying beneficial owners.”

Given the potential compliance challenges presented by such characteristics, the NYDFS wants virtual currency entities to leverage the fact that virtual currencies also enable provenance tracing because “the blockchain ledger’s immutability typically allows a historical view of a virtual currency transmission between wallet addresses, providing the opportunity for greater visibility into transaction lineage than is typically found with traditional, fiat funds transfers.”

The Guidance provides that, ultimately, all risk mitigation strategies must account for an entity’s business profile to assess risk across types of virtual currencies and effectively address the specific characteristics of any particular virtual currency involved.  If a virtual currency entity chooses to outsource its control functions to third-party service providers rather than use only internally developed blockchain analytics, it must have “clearly documented policies, processes, and procedures with regard to how the [third-party] blockchain analytics activity integrates into the [entity’s] overall control framework consistent with the [entity’s] risk profile.”…
Continue Reading  NYDFS Stresses Use of Blockchain Analytics for AML Compliance by Virtual Currency Businesses