US Floats Long-Dreaded Plan to Make Crypto Exchanges Identify Personal Wallets

FinCEN has proposed requiring exchanges to collect and report KYC information on unhosted wallets for transactions up to $10,000.

AccessTimeIconDec 18, 2020 at 9:53 p.m. UTC
Updated Sep 14, 2021 at 10:45 a.m. UTC

U.S. cryptocurrency users hoping to transfer their holdings from an exchange to their own personal wallets may need to comply with new know-your-customer (KYC) requirements under a rule proposed by the Treasury Department Friday.

Under the advanced notice of proposed rulemaking, users who want to send cryptocurrencies from centralized exchanges to a private wallet would need to provide personal information about the owner of that wallet to the exchanges, if the amount sent is greater than $10,000 in one day. The exchanges would also need to submit and store records involving such transactions with a total value over $10,000 in a given reporting period, or just maintain records for transactions over $3,000.

In other words, users of centralized cryptocurrency exchanges who want to move their holdings onto their own private wallet, or to someone else’s, would have to provide detailed personal information for transactions greater than $3,000, and exchanges would be required to report either individual or groups of transactions that add up to more than $10,000 to the Financial Crimes Enforcement Network (FinCEN). 

Along with another recent proposal, the move would increase the amount of work individuals and exchanges must put into transferring cryptocurrencies, as well as increase the amount of personal data exchanges must hold onto or report to the Treasury Department.

This would bring crypto closer in line with the traditional banking system, perhaps giving greater comfort to institutional investors who are increasingly considering the asset class, but undermining the technology's early promise of privacy and self-sovereignty.

At a minimum, privacy would require jumping through more hoops:

In a press release, the Treasury said the rule would close “loopholes” around virtual currency transaction reporting.

The general public will have until Jan. 4, 2021 to provide comments or feedback (although another part of the document says feedback can be submitted within 15 days after the rule is published in the Federal Register, the national logbook, on Dec. 23).

“FinCEN assesses that there are significant national security imperatives that necessitate an efficient process for proposal and implementation of this rule,” the document read, adding:

 “U.S. authorities have found that malign actors are increasingly using CVC to facilitate international terrorist financing, weapons proliferation, sanctions evasion, and transnational money laundering, as well as to buy and sell controlled substances, stolen and fraudulent identification documents and access devices, counterfeit goods, malware and other computer hacking tools, firearms, and toxic chemicals.”

Rumors that this rule was in the works circulated last month when Coinbase CEO Brian Armstrong tweeted that the Trump administration was preparing a rushed rule that would require exchanges to verify know-your-customer information for the recipient of a transfer to a self-hosted wallet. 

The move would introduce a large amount of friction for crypto users, Armstrong warned at the time.

The rule would be largely in line with guidance from the Financial Action Task Force (FATF) last year that required its member nations to implement KYC rules for virtual asset service providers (VASPs), a term for crypto exchanges and other startups, as well as the so-called “travel rule.”

At the time, FATF’s guidelines suggested that individual crypto wallets could be designated VASPs, saying:

“In cases where the VASP is a natural person, it should be required to be licensed or registered in the jurisdiction where its place of business is located – the determination of which may include several factors for consideration by countries.”

Public comment period

Any time a VASP customer sends $10,000 or more in crypto to a self-hosted wallet in a single day, their VASP would be required to verify their identity, collect the identity of their counterparty, and file a report with FinCEN, under Treasury's proposed rule.

The rule would force banks and money services businesses (MSBs) to compile and verify the same information for all unhosted wallet transactions over $3,000. They would not need to file a report with FinCEN for these four-figure transfers, however.

As has been rumored for weeks, the rule’s main target appears to be self-hosted wallets (FinCEN calls them unhosted wallets). These are wallets that grant their users access to the private keys, giving them full control over the funds, just like the leather wallet in your pocket or purse.

Treasury also intends to apply the reporting rules to foreign wallets tied to countries on FinCEN’s money laundering watch list. This means Myanmar (which FinCEN calls Burma), Iran and North Korea to start.

FinCEN suggested that a large portion of crypto transaction activity might be suspicious, writing that “despite significant underreporting due to compliance challenges in parts of the CVC [convertible virtual currency] sector, in 2019, FinCEN received approximately $119 billion in suspicious activity reporting.”

“A significant majority” of these transactions might relate to possible legal violations, the document said.

Central bank digital currencies

The document also references “digital assets with legal tender status (LTDA),” a term apparently referencing central bank digital currencies (CBDCs). The term first appeared around the end of October in government documents.

LTDAs have legal tender status, but are not currencies, according to a footnote. They can be treated as being similar to “coins and currency of a foreign country, travelers’ checks, bearer negotiable instruments” or other financial instruments.

Another note says that at present, “only a limited number of transactions occur involving LTDA,” though several countries are developing LTDA systems.

LTDAs are referenced as being distinct from CVCs in the advanced notice.

Widespread pushback

Marta Belcher, a civil liberties and technology attorney, told CoinDesk that in her view, “one of the most important things about cryptocurrency is that it imports the civil liberties benefits of cash into the digital sphere by allowing for anonymous transactions.”

The ANPR is part of a trend where the U.S. government seeks to implement traditional banking system surveillance tools in the crypto space, said Belcher, who is also special counsel at the Electronic Frontier Foundation. 

“There are photos from the Hong Kong protests of long lines at the subway stations as protestors waited to purchase tickets with cash so that their electronic purchases would not place them at the scene of the protest,” she said. “These photos underscore that a cashless society is a surveillance society; that is why the ability to import the anonymity of cash to the digital world is so important for civil liberties.”

The rule received pushback from the crypto community well before details were officially announced. Armstrong criticized the rule, saying he believed there may be unintended consequences. 

Part of the concern stems around the rapid pace at which Mnuchin – and agencies that report to Treasury – are implementing new rules. FinCEN, a bureau of the Treasury, moved to lower the threshold for applying the travel rule to international money transfers, including cryptocurrencies. While that rule change proposal did see a public comment period, it was shorter than typical by at least 30 days.

Kristin Smith, executive director of the Blockchain Association, said in a statement, "Undercutting that ability with last-minute rulemaking in the twilight days of an outgoing administration is not the way to make the type of long-lasting, responsive regulations that will support the safe growth of this industry in the U.S. Whether regulators acknowledge it or not, crypto is here to stay and should be considered a pro-growth part of the national economy, not something to be brushed aside quietly at the midnight hour."

Peter Van Valkenburgh, research director at Coin Center, likewise called Friday's proposal "rushed," saying some of the recordkeeping requirements might be "infeasible in the context of cryptocurrency transactions."

FinCEN does not appear to be bothered by these fears. In fact, the agency asserts it has no legal requirement to hold a comment period of any length but is giving the public a shot anyhow. Delaying implementation could spur individuals to move their funds fast, FinCEN warned. 

The moves increase the amount of work individuals and exchanges must put into transferring cryptocurrencies, as well as increase the amount of personal data exchanges must hold onto or report to the Treasury Department.

Republican lawmakers even decried the move, with a public letter signed by U.S. Representatives Warren Davidson (Ohio), Tom Emmer (Minn.), Ted Budd (N.C.) and Scott Perry (Penn.) asking Mnuchin to discuss the move with elected officials. Earlier on Friday, Senator-elect Cynthia Lummis (R-Wyo.) said she was concerned by the move.

Other industry representatives criticizing the move include Circle CEO Jeremy Allaire, who wrote an open letter to Treasury Department staff saying the proposed rule “would inadequately address the actual risks that are at issue,” and harm the industry overall. 

International restrictions

The U.S. follows a number of other nations in implementing stricter identity verification rules around crypto wallets. France, the Netherlands and Switzerland have all created their own form of stringent wallet rules this year. 

De Nederlandsche Bank, the Netherlands’ central bank, apparently began requiring exchanges to ask its customers what they intend to use their cryptocurrencies for as well as verify that they were the owner of the wallets they were trying to transfer funds to. 

Similarly, Switzerland has required exchanges to “prove ownership of non-custodial wallets” since the start of the year

Prior to the U.S., France was the latest country to force such identification requirements on crypto exchanges, barring anonymous accounts and hinting at further digital ID rules.

Unlike the other countries, however, French Finance Minister Bruno Le Maire cited concerns around crypto being a potential source of terrorism funding rather than FATF in the rules’ rollout. 

Van Valkenburgh noted that the U.S. proposal differs from the overseas variants, writing, "We are, nonetheless, gratified that the U.S. has not chosen to repeat the mistakes made overseas, and, instead, policymakers have proposed an extension of rules that already apply to traditional financial institutions dealing in cash."

UPDATE (Dec. 18, 2020, 23:10 UTC): Updated with additional context and information.


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