Cryptocurrency's reputation for enabling transactions outside of the traditional financial ecosystem has prompted concerns that it may serve as a tool for Russian actors to evade recently promulgated sanctions against the Russian Federation and associated individuals. Although federal regulators have made clear that they will work to prevent attempts to circumvent sanctions using cryptocurrencies, their ability to identify and interdict cryptocurrency transactions remains limited. Regulators will likely increase their reliance on private actors—many of which have sophisticated technologies and more information than the federal government—to identify sanctions evaders who may try to leverage their services. Market participants should take heed of their compliance obligations and implement robust procedures to stay ahead of any illicit activity.
US policymakers have voiced concerns that the Russian government, as well as sanctioned corporate entities and individuals, could use cryptocurrencies to circumvent western sanctions. Indeed, a group of US senators, led by Senator Elizabeth Warren, wrote a letter to Secretary Yellen inquiring about the Department of the Treasury's progress enforcing and monitoring sanctions compliance by the cryptocurrency industry and raising concerns that the Treasury's Office of Foreign Assets Control "has not developed sufficiently strong and effective procedures for enforcement in the cryptocurrency industry."1 The executive branch shares their concerns: President Biden's Executive Order on Ensuring Responsible Development of Digital Assets, announced on March 9, 2022, specifically lists "sanctions risk" and "sanctions evasion" among the issues presented by digital assets such as cryptocurrencies.2 In addition, the G7's Joint Statement on March 11, 2022 made it clear that it is "commonly understood that our current sanctions already cover crypto-assets."3
Further, on March 17, 2022, the Senate Banking Committee held a hearing in which they signaled regulatory interest in the crypto ecosystem, and particularly in the potential use of cryptocurrencies to evade US sanctions. Experts from the cryptocurrency community suggested that this was generally unlikely at scale, claiming that unique features of blockchain—including transparent, permanent records and the need to interface with the traditional banking ecosystem to use cryptocurrency in a significant manner—mitigate the risks of illicit activity using cryptocurrency.4 The senators, however, were skeptical, framing the issue as a battle between the interests of the crypto industry and the interests of the United States in enforcing sanctions. Indeed, during the hearing, Senator Warren announced a "Digital Asset Sanctions Compliance Enhancement Act." This bill contained several aggressive enforcement-related provisions including a requirement that US taxpayers transacting more than $10,000 with offshore entities file a form with FinCEN and an authorization for the Department of the Treasury to prohibit digital asset trading platforms that transact with cryptocurrency addresses in Russia. The tone of the hearing made clear that further guidance, regulation and enforcement efforts in the space are likely.
In response to these concerns, federal regulators in the Department of Justice (the "DOJ") and the Department of the Treasury ("Treasury") have taken steps to clarify their authority to enforce sanctions compliance in the cryptocurrency industry. These actions demonstrate the broader growth in federal regulators' enforcement efforts related to cryptocurrencies and other digital assets. Although the ability of the federal government to identify and address illegal transactions is increasingly coordinated and sophisticated,6 it remains incomplete, and financial service providers will be expected to fill gaps through their obligation to implement robust, risk-based compliance programs. We recommend that clients demonstrate their commitment to fulfillment of their legal obligations by investing in their ability to positively identify the identities of their customers and—to the extent technologically feasible—the sources of transacted funds.
Federal Regulatory Response to Crypto Concerns
Department of Justice
The DOJ has indicated that it will focus enforcement efforts on any use of cryptocurrencies to evade sanctions. On March 2, 2022, Attorney General Merrick Garland announced the launch of Task Force KleptoCapture, an interagency law enforcement task force dedicated to enforcing sanctions and restrictions placed in response to Russia's actions in Ukraine. The mission of the Task Force will specifically include "targeting efforts to use cryptocurrency to evade US sanctions, launder proceeds of foreign corruption, or evade US responses to Russian military aggression."7 Additionally, a Bloomberg report cited a senior department official as stating that the DOJ will investigate and prosecute "cryptocurrency exchanges," among other entities, that help rich Russians hide or launder their assets.8 Importantly, there was no indication in the report that this "help" need have been intentional; even companies that inadvertently allow sanctions evasion through use of their platforms may be held responsible.
Although the DOJ has not yet announced any charges related to the most recently enacted Russian sanctions, the day after the launch of Task Force KleptoCapture, a federal court in the Southern District of New York unsealed the first criminal indictment alleging violations of Crimea-related Russian sanctions.9 The indictment charged a US citizen with violating the International Emergency Economic Powers Act and making false statements by allegedly assisting a sanctioned Russian wealthy individual in launching a cable news network in Russia.10 In the announcement of the case, the Assistant Director in Charge of the FBI's New York Field Office stated, "[t]he action we have taken today should serve as an example to all that we will use all the resources at our disposal to aggressively enforce our nation's sanctions."11
Department of the Treasury
Treasury has also taken steps to address the potential use of cryptocurrencies to avoid sanctions. Secretary Yellen referred to cryptocurrency as a "channel to be watched" for avoiding sanctions' impact,12 and both the Office of Foreign Assets Control ("OFAC") and Financial Crimes Enforcement Network ("FinCEN") have recently moved to clarify and emphasize their efforts to enforce sanctions related to cryptocurrencies.
OFAC issued guidance in an FAQ released on March 11, 2022, confirming that compliance with the expansive Russian sanctions is required "regardless of whether a transaction is denominated in traditional fiat currency or virtual currency."13 The FAQ points to OFAC's Sanctions Compliance Guide for the Virtual Currency Industry, issued in October 2021, for additional information on compliance best practices.14 The FAQ also makes clear that OFAC watches the space closely, stating that OFAC "is committed to using its broad enforcement authorities to act against violations and promote compliance."15
FinCEN also issued an alert to financial institutions providing examples of red flags that indicate suspected sanctions evasions. Among the red flags were three specific to the evasion of sanctions through convertible virtual currency ("CVC"), which includes cryptocurrencies and other digital assets.16 These include:
- whether a customer's transactions involve suspicious IP addresses and/or an IP address that is associated with Russia or Belarus, with other jurisdictions that have been comprehensively sanctioned by the United States, or with jurisdictions identified as deficient by the Financial Action Task Force;
- whether a customer's transactions are connected to any digital currency wallet addresses listed on the Treasury Office of Foreign Assets Control's list of individuals and companies subject to US sanctions (the Specially Designated Nationals and Blocked Persons Lists, collectively known as "SDNs"); and
- whether a customer uses services in a high-risk jurisdiction with deficiencies in their compliance laws, particularly deficiencies in "know-your-customer" or customer due diligence measures.17
The FinCEN alert also explained that it is unlikely that the Russian government can use cryptocurrency to mitigate or circumvent the impact of sanctions in any meaningful way, finding that "large scale sanctions evasion using CVC by a government such as the Russian Federation is not necessarily practicable."18 Additionally, FinCEN Acting Director Him Das said the agency had "not seen widespread evasion of our sanctions using methods such as cryptocurrency."19 This echoes the sentiment expressed by Carol House, Director of Cybersecurity at the National Security Council, when she stated, "[t]he scale that the Russian state would need to successfully circumvent all US and partners' financial sanctions would almost certainly render cryptocurrency as an ineffective primary tool for the state."20
Nonetheless, the FinCEN guidance also cautioned that "sanctioned persons, illicit actors, and their related networks or facilitators may attempt to use CVC and anonymizing tools to evade US sanctions and protect their assets,"21 and Acting Director Das explained, "Prompt reporting of suspicious activity contributes to our national security and our efforts to support Ukraine and its people."22
Clients Should Invest in Compliance Ahead of an Approaching Wave of Enforcement
The recent actions taken by the DOJ and Treasury show that US officials are committed to enforcing federal regulations in the cryptocurrency industry, especially with respect to Russian sanctions.
Accordingly, it is critical that companies operating in this space review their current compliance programs and assess where investments now may prevent compliance risk down the road. These compliance programs can include:
- positive identification of customers using live identification authentication platforms and periodic reviews of their customer lists against OFAC's Specially Designated Nationals and Blocked Persons List;
- risk-based tiered transaction limits and account controls leveraging advanced technologies such as geofencing and IP address blocking;
- strong internal compliance processes and controls, including a systemic approach to transaction flagging, review, and reporting;
- engaging third-party vendors offering "blockchain intelligence technology;" and
- proactive engagement with law enforcement and regulators, including registration as a Money Services Business and a Suspicious Activity Report (SAR) process.
4 https://www.banking.senate.gov/imo/media/doc/Levin%20Testimony%203-17-223.pdf; see also https://www.economist.com/finance-and-economics/why-crypto-is-unlikely-to-be-useful-for-sanctions-dodgers/21808188
6 See, e.g., https://www.justice.gov/opa/pr/deputy-attorney-general-lisa-o-monaco-announces-national-cryptocurrency-enforcement-team; https://www.justice.gov/opa/pr/two-arrested-alleged-conspiracy-launder-45-billion-stolen-cryptocurrency.
16 See definition of CVC in Section 1.3 of Guidance, https://www.fincen.gov/sites/default/files/2019-05/FinCEN%20Guidance%20CVC%20FINAL%20508.pdf
Stephen Hogan-Mitchell (White & Case, Law Clerk, New York) contributed to the development of this publication.
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