Cryptocurrency is often a divisive subject. Its supporters tout its ability to reshape the global financial market, while skeptics express concerns about the potential for massive criminal enterprises. In an attempt to balance the exciting innovations made possible by cryptocurrency with the vulnerability to criminal activity, regulatory agencies have accelerated the pace of establishing policies to prevent fraud and money laundering from taking hold in the crypto market.
The fear of bad actors taking advantage of cryptocurrency as a means of committing a crime is based on reality. In 2021, criminals laundered $8.6 billion in cryptocurrency globally. While this number is dwarfed by the amount of money laundering that occurs with other currencies, like the dollar or Euro, it is nevertheless an indicator that there is a need to protect crypto investments and transactions.
Regulations for cryptocurrency in the United States are only now beginning to take shape. Although changes are expected in the future, it is important for every person who trades in digital assets to have a full understanding of what laws and standards are currently in place.
How is Cryptocurrency Defined in the U.S.?
Cryptocurrency does not have legal tender status in the U.S., but it is widely recognized as an important part of the American economy. Consumers who deal in cryptocurrencies should consider how their purchases, sales, and exchanges are treated by government agencies.
For tax purposes, the U.S. Internal Revenue Service (IRS) defines virtual currency as “a digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value.” Cryptocurrency is more specifically defined as a virtual currency that uses cryptography to secure transactions that are recorded on a blockchain or similar ledger. Cryptocurrency like Bitcoin that acts as a substitute for real currency, like the US dollar, is referred to as “convertible.”
Although it is defined as currency, the IRS treats cryptocurrency as personal property, which means that it is subject to tax principles that apply to other forms of property, such as automobiles or real estate. Consequently, individuals who sell or exchange cryptocurrency often face tax liabilities.
What Cryptocurrency Regulations Are in Place in the U.S.?
With the increasing interest in cryptocurrency, U.S. regulatory agencies have taken steps to increase the protection of investors and reduce criminal activity. In fact, the investment in standardized cryptocurrency regulation has made the U.S. one of the most crypto-friendly economies in the world.
Many of the standards and guidelines that have been put into place are based on those created by the Financial Action Task Force (FATF), which is a global money laundering and terrorist financing watchdog. The FATF develops standards for anti-money laundering (AML) legislation for all forms of currency, including virtual and first published cryptocurrency AML guidance in 2014.
Based on the FATF’s guidelines, virtual asset service providers (VASPs) that sell or exchange cryptocurrency are responsible for implementing know-your-customer (KYC) checks and monitoring for suspicious activity. If they notice anything that they deem suspicious, VASPs must report it to the appropriate regulatory or law enforcement agency, such as the Financial Crimes Enforcement Network (FinCEN) in the U.S. In general, KYC programs contain three elements:
- A Customer Identification Program (CIP) that verifies the identity of a customer with personal information such as a legal name, date of birth, or address.
- Customer Due Diligence (CDD) that assesses the risk of a new client or business relationship and assigns a rating based on a transaction history, background checks, and customer surveys.
- Continuous Monitoring that reviews transactions for indicators that criminal activity has occurred or is occurring and reports the activity with a Suspicious Activity Report (SAR).
Many countries have not yet implemented the FATF’s guidelines to prevent money laundering and terrorist financing with virtual currency, which creates opportunities for criminal activity. The U.S., however, has made progress in this area. FinCEN, which is part of the U.S. Financial Intelligence Unit, legally codified most of the AML recommendations created by the FATF. Likewise, FinCEN has indicated that cryptocurrencies are one of their top priorities in the effort to prevent money laundering and the funding of terrorism.
The Bank Secrecy Act
One of the most significant developments in crypto regulation was the amendment of the Bank Secrecy Act (BSA). The BSA requires financial institutions to make efforts to detect and prevent money laundering and terrorist financing, maintain certain records, and report suspicious activity.
FinCEN has long maintained that virtual currencies and digital assets fall under the scope of AML regulation, but amending the BSA made it official. Specifically, several definitions within the BSA were updated to include “value that substitutes for currency.” For example, the definition of a financial institution now includes a business that exchanges value that substitutes for currency or funds.
What Is the Future of Cryptocurrency Regulation in the U.S.?
At this point, the U.S. government has not passed any federal legislation related to cryptocurrency, and Congress has left most decisions in the hands of regulatory agencies. However, a Congressional Blockchain Caucus was formed in 2016, demonstrating that there is increasing interest on a national level. Additionally, states have implemented specific cryptocurrency laws and regulations, with many of them choosing to regulate virtual currency under money transmitter rules that were already in place.
Other major events in the past year illustrate the increasing focus on cryptocurrency regulation:
- In March 2022, President Biden issued an executive order called “Ensuring Responsible Development of Digital Assets,” which asks government agencies to establish committees, conduct research, and begin creating a regulatory framework for cryptocurrency markets.
- In response to the order, the U.S. Department of the Treasury released a framework detailing how American government agencies should work with foreign regulators to reduce criminal activity and protect consumers, investors, and businesses.
- In June 2022, the U.S. Department of Justice announced criminal charges in several cases that involved fraud related to cryptocurrency investments, indicating that law enforcement is taking criminal activity in the crypto market more seriously.
Despite these developments, cryptocurrency regulation is still in its earliest stages. There is every reason to believe that as the market for virtual currencies and digital assets grows, further regulations will be put into place and strictly enforced.
The development of cryptocurrency brought with it a feeling of excitement and freedom. Because one of the most compelling aspects of crypto is that it is decentralized, some investors have expressed concerns that the involvement of regulatory agencies will ultimately harm rather than help the industry. On the contrary, finance experts predict that regulations will not only protect consumers and investors but also stabilize the market and reduce price volatility, making them beneficial to everyone involved in the crypto market.