what you need to know about virtual convertible currency

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What You Need to Know About Virtual Convertible Currency

June 24, 2021Rachelle Dekker, Senior Compliance Advisor

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Today’s Presenter

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Rachelle Dekker, CRCMSenior Compliance Advisor

Rachelle Dekker is a Senior Compliance Advisor withthe Temenos Compliance Advisory team. Rachellewas most recently the BSA Officer for a communitybank. Her experience includes working for communitybanks as well as working for a regional auditing firmwhere she provided compliance auditing andconsulting services to various financial institutions. Herbackground is specialized in BSA/AML, HMDA, anddeposit compliance. Rachelle graduated fromGrand Valley State University with her Master ofScience in Accounting. She is also a CertifiedRegulatory Compliance Manager (CRCM).

1. Convertible Virtual Currency (CVC)

2. Important Definitions

3. Access to Convertible Virtual Currency (CVC)

4. Wallets

5. FinCEN Guidance

6. Focus for Financial Institution

7. What’s Next?

Agenda

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Virtual Currency:A medium of exchange that can operate like currency but does not haveall the attributes of “real” currency, as defined in 31 CFR § 1010.100(m),including legal tender status.

Convertible Virtual Currency (CVC):A type of virtual currency that either has an equivalent value as currency,or acts as a substitute for currency, and is therefore a type of “value thatsubstitutes for currency.”

Convertible Virtual Currency (CVC)

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“Real” Currency Virtual Currency“The coin and paper money of theUnited States or of any other countrythat is designated as legal tender andthat circulates and is customarily usedand accepted as a medium ofexchange in the country of issuance.Currency includes U.S. silver certificates,U.S. notes and Federal Reserve notes.Currency also includes official foreignbank notes that are customarily usedand accepted as a medium ofexchange in a foreign country.”

“A medium of exchange that operateslike a currency in some environments,but does not have all the attributes ofreal currency. In particular, virtualcurrency does not have legal tenderstatus in any jurisdiction.”

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Convertible Virtual Currency Non-Convertible Virtual Currency

Open virtual currency that has anequivalent value in real currency and can be exchanged back and forth for real currency.

Closed virtual currency that is intended to be specific to a particular virtual domain.

Centralized Virtual Currency

Decentralized Virtual Currency

A type of convertible virtual currency (CVC) that has a centralized repository and an administrator of that repository. The administrator issues and establishes rules for the currency

A type of convertible virtual currency (CVC) that has no central repository and no single administrator. In addition, that person may obtain by their own computing or manufacturing

• User: Person that obtains virtual currency to purchase goods or services.• Administrator: Person engaged as a business in issuing (putting into

circulation) a virtual currency, and who has the authority to redeem (towithdraw from circulation) such virtual currency.

• Exchanger: Person engaged as a business in the exchange of virtualcurrency for real currency, funds, or other virtual currency.

• Money Transmitter: person that provides money transmission services, orany other person engaged in the transfer of funds.

• Money Transmission Services: “the acceptance of currency, funds, orother value that substitutes for currency from one person and thetransmission of currency, funds, or other value that substitutes forcurrency to another location or person by any means.”

Important Definitions

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• Anonymizing-Enhanced CVC Transactions:• Structured to conceal information otherwise generally available through the

CVC’s native distributed public ledger; or• Specifically engineered to prevent their tracing through distributed public

ledgers (also called privacy coins).• “Mixers” or “Tumblers“

• Blockchain: Distributed digital ledger that enables, validates, and stores transactionrecords.

• CVC Wallet: Interfaces for storing and transferring convertible virtual currency (CVC).• Miner: Participant in a decentralized virtual currency network by utilizing special

software to solve complex algorithms in a distributed proof-of-work or other distributedproof system used to validate transactions in the virtual currency system

• Tor: Underground distributed network of computers that conceals the true IP addresses,and therefore the identities of the network’s users, by routingcommunications/transactions through multiple computers wrapping them in numerouslayers of encryption.

Important Definitions

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Obtaining Convertible Virtual Currency (CVC)

Access to Convertible Virtual Currency (CVC)

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MiningDirect Purchase

Exchanger

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How can it be accessed?• Peer-to-Peer (P2P) Exchangers

• CVC Wallets

• CVC Kiosks

• Decentralized Applications (Dapps)

• Anonymizing Services

• Internet Casinos

Access to Convertible Virtual Currency (CVC)

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Convertible Virtual Currency (CVC) Wallet• Interfaces for storing and transferring CVCs.

• Regulatory treatment of such intermediaries depends on four criteria1. Who owns the value2. Where the value is stored3. Whether the owner interacts directly with the payment system where the CVC

runs4. Whether the person acting as intermediary has total independent control over

the value

Wallets

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• Hosted Wallets:• Account-based money transmitters that receive, store, and transmit CVCs on behalf of

their accountholders.• Money transmitter- host• Account- wallet• Accountholder- wallet owner

• Unhosted Wallets:• Software hosted on a person’s device, which allows storage and CVC transactions• Do not require an additional third party to conduct transactions• User has independent control over the transmission of the value• Interact with a virtual currency system directly

• Self-hosted Wallets:• Allows peer-to-peer transactions with no “middleman”

Wallets

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FinCEN Guidance:• FIN-2013-G001

• Application of FinCEN’s Regulations to Persons Administering, Exchanging, orUsing Virtual Currencies

• Issued: March 18, 2013• FIN-2014-R001

• Application of FinCEN’s Regulations to Virtual Currency Mining Operations• Issued: January 30, 2014

• FIN-2014-R002

• Application of FinCEN’s Regulations to Virtual Currency Software Developmentand Certain Investment Activity

• Issued: January 30, 2014

FinCEN Guidance

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More FinCEN Guidance: • FIN-2014-R007

• Application of Money Services Business regulations to the rental of computer systems for mining virtual currency

• Issued: April 29, 2014• FIN-2014-R011

• Request for Administrative Ruling on the Application of FinCEN’s Regulations to a Virtual Currency Trading Platform

• Issued: October 27, 2014• FIN-2014-R012

• Request for Administrative Ruling on the Application of FinCEN’s Regulations to a Virtual Currency Payment System

• Issued: October 27, 2014

FinCEN Guidance

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Even More FinCEN Guidance! • FIN-2015-R001

• Application of FinCEN’s Regulations to Persons Issuing Physical or Digital Negotiable Certificates of Ownership of Precious Metals

• Issued: August 14, 2015 • FIN-2019-A003

• Advisory on Illicit Activity Involving Convertible Virtual Currency• Issued: May 9, 2019

• FIN-2019-G001

• Application of FinCEN’s Regulations to Certain Business Models Involving Convertible Virtual Currencies

• Issued May 9, 2019

FinCEN Guidance

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Potential Customer Involvement• Customer Onboarding• Business and Consumer KYC

• Account Monitoring• Transaction Review- key words such as crypto, bitcoin, blockchain• Suspicious Patterns

• Unregistered Money Service Business (MSB)• CVC and Acting as an MSB

Focus for Financial Institution

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Future of Hosted Wallets• OCC Custody Guidance (July 2020)

• Offer cryptocurrency custody services to its customers as part of itsexisting custody business through hosted wallets• Escrow encryption keys used in connection with digital certificates• Provide secure web-based document storage, retrieval and

collaboration of documents and files containing personal informationor valuable confidential trade or business information


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Future of Hosted Wallets• FinCEN NPRM (December 2020)

• Require that banks and MSBs identify and verify hosted wallet customerswho engage in transactions with unhosted or otherwise covered walletcounterparties• Recordkeeping for transactions above $3,000• Reporting for transactions above $10,000

• Establish risk-based procedures for verifying their hosted wallet customer'sidentity that are sufficient to enable the bank or MSB to form areasonable belief that it knows the true identity of its customer

• Hosted wallet providers subject to BSA/AML requirements


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Digital Bank Charter• Interpretive Letter #1170 (July 2020)

• Concludes that a national bank may provide cryptocurrency custody services on behalf of customers• Includes holding the unique cryptographic keys associated with cryptocurrency• Reaffirms that national banks may provide permissible banking services to any lawful business,

including cryptocurrency businesses, so long as they effectively manage the risks and complywith applicable law.

• Interpretive Letter #1172 October 2020• Addresses the authority of a national bank to hold deposits that serve as reserves for certain

“stablecoins.”• Conclude that a national bank may hold such stablecoin “reserves” as a service to bank

customers• Not presently addressing the authority to support stablecoin transactions involving un-hosted

wallets


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Digital Bank Charter• Interpretive Letter 1174 January 2021

• Permits the use of new technologies, including the use of independentnode verification networks (INVNs or networks) and stablecoins, toengage in and facilitate payment activities.

• OCC Conditionally Approves Conversion of Anchorage Digital Bank January13, 2021

• State-Chartered Financial Institutions


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Red Flag Indicators of the Abuse of Virtual Currencies (FIN-2019-A003)• Darknet Marketplaces

• Customer conducts transactions with CVC addresses that have been linked to darknet marketplaces or other illicitactivity.

• Customer’s CVC address appears on public forums associated with illegal activity.• Customer’s transactions are initiated from IP addresses associated with Tor.• Blockchain analytics indicate that the wallet transferring CVC to the exchange has a suspicious source or sources of

funds, such as darknet marketplace.• Transaction makes use of mixing and tumbling services, suggesting an intent to obscure the flow of illicit funds

between known wallet address and darknet marketplaces.

• Unregistered or Illicitly Operating P2P Exchangers• Customer receives multiple cash deposits or wires from disparate jurisdictions, branches of a financial institution, or

persons and shortly after uses funds to acquire virtual currency.• Customer receives a series of deposits from disparate sources that, in aggregate, amount to nearly identical

aggregate funds transfers to a known virtual currency exchange platform within a short period of time.• Customer’s phone number or email address is connected to a known CVC P2P exchange platform advertising

exchange services.


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Red Flag Indicators of the Abuse of Virtual Currencies (FIN-2019-A003)• Unregistered Foreign-Located MSBs

• Customer transfers or receives funds, including through traditional banking systems, toor from an unregistered foreign CVC exchange or other MSB with no relation towhere the customer lives or conducts business.

• Customer utilizes a CVC exchanger or foreign-located MSB in a high-risk jurisdictionlacking, or known to have inadequate AML/CFT regulations for CVC entities,including inadequate KYC or customer due diligence measures.

• Customer directs large numbers of CVC transactions to CVC entities in jurisdictionswith reputations for being tax havens.

• Customer that has not identified itself to the exchange, or registered with FinCEN, asa money transmitter appears to be using the liquidity provided by the exchange toexecute large numbers of offsetting transactions, which may indicate the customer isacting as an unregistered MSB.


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Red Flag Indicators of the Abuse of Virtual Currencies (FIN-2019-A003)• Unregistered or Illicitly Operating CVC Kiosks

• Customer operates multiple CVC kiosks in locations that have a relatively highincidence of criminal activity.

• Large number of transactions from different customers sent to and from the sameCVC wallet address but not operating as known CVC exchange.

• Illicit Activity Leveraging CVC Kiosks• Structuring transactions beneath the CTR threshold or the CVC kiosk daily limit to

the same wallet address either by using multiple machines or multiple identitiestied to the same phone number.


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Red Flag Indicators of the Abuse of Virtual Currencies (FIN-2019-A003)• Other Potentially Illicit Activity

• Customer conducts transactions with CVC addresses that have been linked to extortion, ransomware, sanctioned CVC addresses, or other illicit activity.

• Customer’s transactions are initiated from non-trusted IP addresses, IP addresses from sanctioned jurisdictions, or IP addresses previously flagged as suspicious.

• Use of virtual private network (VPN) services or Tor to access CVC exchange accounts.• Customer initiates multiple rapid trades between multiple virtual currencies with no related

purpose, which may be indicative of attempts to break the chain of custody on the respective blockchains or further obstruct the transactions.

• Customer provides identification or account credentials shared by another account.


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• Customer conducts transactions or rapidly executes multiple conversionsbetween various types of different CVCs below relevant due diligence,recordkeeping, or reporting thresholds followed by a transfer off the exchange.

• Discrepancies arise between IP addresses associated with the customer’s profileand the IP addresses from which transactions are being initiated.

• Customer significantly older than the average age of platform users opens anaccount and engages in large number of transactions, suggesting their potentialrole as a CVC money mule or a victim of elder financial exploitation.

• Customer shows limited knowledge of CVC despite engagement in CVCtransactions or activity, which may indicate a scam.

• Customer declines requests for “know your customer” documents or inquiriesregarding sources of funds.


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• Customer purchases large amounts of CVC not substantiated by availablewealth or consistent with his or her historical financial profile.

• Common wallet address is shared between accounts identified as belonging totwo different customers.

• Deposits into an account or CVC address significantly higher than ordinary withunknown source of funds, followed by conversion to currency of legal tender.

• Multiple changes to email address and other contact information for an accountor customer, which may indicate account takeover against a customer.

• Use of language in CVC message fields indicative of the transactions beingconducted in support of illicit activity or the purchase of illicit goods.


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Requirements for Certain Transactions Involving Convertible Virtual Currency or Digital Assets (Notice of Proposed Rulemaking released December 23, 2020)

• Expansion of the Definition of “Monetary Instruments”

• Reporting Requirements on CVC and LTDA Transactions With Unhosted or OtherwiseCovered Wallets

• Recordkeeping and Verification Requirements Related to the Transaction ReportingRequirement for CVC and LTDA Transactions With Unhosted or Otherwise CoveredWallets

• Identity Verification and Recordkeeping Requirements• Procedural Requirements and the Anti-Structuring Rule

• Recordkeeping and Verification Requirements for Transactions Greater than $3,000

What’s Next?

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• Office of the Comptroller of the Currency (OCC) continues to moveforward with Digital Bank Charters.

• Other federal bank regulators are moving forward with guidance onDigital Assets.

• Recent Proposal by the U.S. Department of Treasury requiringcryptocurrency transaction of $10,000 or more to be reported to the IRS.

What’s Next?

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Thank You

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what you need to know about virtual convertible currency

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