How much privacy should individuals be afforded when it comes to financial transactions involving cryptocurrencies and wallets? Should this expectation of privacy change if the government believes that disclosing some or all of an individual’s crypto wallet information could help uncover crimes such as money laundering or financing terrorist attacks? How should these concerns be balanced against the right to privacy?
Government regulators, crypto enthusiasts, criminal defense attorneys and civil rights activists can be expected to intervene on these issues, as seen by the Financial Crimes Enforcement Network (FinCEN), a division of the department. of the US Treasury”Requirements for certain transactions involving convertible virtual currency or digital assets (the “proposed rule”)
Like the existing Currency Transaction Report (CTR), the proposed rule would require banks, money services businesses (MSBs), and virtual asset service providers (VASPs) to maintain records, verify information, and file reports with FinCEN. The proposed rules would apply to every convertible virtual currency (CVC) or legal tender digital asset (LTDA) transaction over $10,000 involving a non-hosted wallet or an “otherwise covered wallet”. Financial institutions would be required to register the CVCs and LTDAs of customers and their counterparties. Additionally, banks and MSBs should identify their client’s counterparty if the transaction exceeded $3,000 and the wallet was not hosted or otherwise covered.
Banks and MSBs would be required to collect and report more accurately under these proposed rules, which could help government investigators by hindering money laundering and illicit business financing.
The rocky road to… Here
Championed by former Treasury Secretary Steve Mnuchin and introduced during President Trump’s lame portion of his term to address “substantial national security concerns,” the proposed rule was seen by opponents as an attempt to push the regulations through without appropriate industry verification.
Preview of a failed rule change
- Mnuchin’s FinCEN publishes notice of proposed rulemaking (NPRM) for wallet rules with unprecedented 15-day consultation. The backlash immediately ensues. Most FinCEN rule considerations include comment periods of 30 to 90 days, and some are up to 120 days.
- The initial 15-day consultation ended on January 2, 2021.
- Under fire, FinCEN extended the comment period on the crypto wallet rule by 45 days on January 14, 2021.
- On January 21, 2021, President Biden froze all Treasury Department rules pending review for 60 days.
- FinCEN regulatory freeze ended March 22, 2021
The resurrection of the rule proposed by the Biden administration focuses on the potential use of cryptography by criminals and those who could threaten US national security. While a decision could come as early as September, the thousands of comments generated by the initial rule could lead the government to reopen comments to ensure public concerns are properly addressed.
The proposed rule would entail high administrative costs. It would also defeat much of the anonymity sought by parties conducting financial transactions using crypto and administering contracts on the blockchain, a fundamental pillar that attracts investors and tech companies. Privacy is a particular concern here, as crypto wallets include the owner’s full transaction history, information that can easily be used for global monitoring and profiling purposes.
Additionally, with the imminent explosion of the metaverse, we are about to witness the release of thousands of personally identifiable information. The legal framework for the processing of this information raises fundamental questions of respect for the privacy of individuals. For example, the federal government could easily track an individual’s digital activity if exchanges are needed to provide the government with blockchain addresses, physical addresses, and names. In contrast, when a person leaves a bank with physical currency, the bank can report that event, but the currency cannot be used to track that person’s location or previous transaction history.
Finally, and perhaps counterintuitively, the proposed rules could hamper FinCEN’s mission to hunt down bad actors: even if the new reporting requirements keep bad actors away from U.S. exchanges, they are likely to move to offshore platforms outside the jurisdiction of FinCEN.
Implications for DeFi platforms
The proposed rules should be implemented among exchanges, brokers and other financial depositories. To ensure that funds are not sent to wallets without personal information, exchanges may need to allow individual wallet addresses. This would almost certainly negatively impact the crypto user experience by increasing the time and effort required to complete transactions, in addition to raising the privacy concerns discussed above.
Furthermore, it is unclear how the FinCEN proposal could be practically implemented by DeFi platforms, exchanges, brokers and other custodians. Smart contracts have no name or physical address, so they cannot interact with US financial systems. For a business to send a large payment using crypto, it needs to know the name and address of the counterparty.
The vagueness of the proposed rule makes it unclear whether funds used in DeFi would or could be accepted by a “hosted” wallet. If the proposed rules are adopted, the current DeFi would be unusable in the United States. Without a strategy to address the issues raised in this section, the United States could be at a significant disadvantage relative to other countries that adopt effective policies to encourage innovation and development in this area.
Opponents suspended the approval process shortly after the proposed rule was enacted, with many echoing the president of the Washington, D.C.-based Chamber of Digital Commerce Perianne Boring’s assessment of the proposed rule as “a huge overreach of privacy”.
“As everyone knows, in the crypto or blockchain space, once you have a wallet address, you not only have the history of that transaction that applies to that regulated institution, you have the ‘full transaction history of this person going backwards and forwards,’ Boring said. “That’s what is an overshoot and would potentially create, what I would say, a surveillance state, which is absolutely not appropriate.”
Groups and companies like Coinbase have already started writing comments in response to FinCEN’s proposal. Coin Center has implemented a consumer module to streamline the process
Compliance with applicable laws and regulations
FinCEN should appreciate the breadth of the comment period on this regulation compared to those on previous regulations. The Treasury Department, under a new administration, should continue to supplement these proposed rules by incorporating changes based on comments received during the comment period.
The public should take advantage of this unique opportunity to provide comment, which may be aided by commentary from lawyers knowledgeable in the matter, to ensure that the views of all classes of market participants are considered as and as new rules are developed.
Consulting an experienced crypto attorney can help platforms, creators, and others in the convertible virtual currency space comply with all applicable laws and navigate the complex legal and regulatory landscape and constant evolution.
The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.