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Bitcoinomics, Chapter 14: “Varying Levels Of Bitcoin Legality”

[heading]Bitcoinomics, Chapter 14: “Varying Levels Of Legality”[/heading]

“The Bretton Woods Monetary System Is Much More Dangerous Than Bitcoin.” – Jeff Berwick, The Dollar Vigilante

“It is not so simple to answer the question ‘Is Bitcoin legal?’


There is a complex of jargon, known as legalese,that must be sifted through to even begin answering the question. Such as, What do we mean by legal? How do we define Bitcoin in a legal sense?  There are a few different understandings of the law:

Legal Positivism:

•Written Codification

What the written code says is legal/allowed

Legal Realism:

•Court Praxis

When people begin facing retribution for certain acts

Legal Behavioralism

•Behavioral norms

What is expected? How do people behave?


Generally speaking, the higher the transaction volume,  the more likely you are to appear on the radar of regulators and be scrutinized for your Bitcoin activities if your Bitcoin activities are public.

But, Bitcoin is very clearly what is known as a disruptive innovation. Law will have to adapt to Bitcoin. Until recently, Bitcoin fell into a legal gray area. Little legislation, no court cases and no clear identifiable social norms have formed around the new technology.

Bitcoin has expanded society into the unknown, where legislation has not existed because society hasn’t existed before in the area.  The area being digital currencies. Further, Bitcoin is still very much unknown and scantily understood by legislators.  When it comes time to legislate for Bitcoin, the law will be interpreted based upon behavioral norms for Bitcoin, as those behaviors will define the need for legislation.

What is Bitcoin being used for?


If it is perceived as used for things such as extorting Mitt Romney or Silk Road, the legislation will reflect this. In the end, though, if the government claims that a certain Bitcoin company was laundering money, then this will held as truth before the law in the lion’s shares of instances.

Regulatory actions, though schizophrenic, have demonstrated that Bitcoin doesn’t make you exempt from paying taxes you otherwise would have to pay.

For instance, in Finland, the law states all income that hasn’t specifically been declared tax free is liable to taxation.

In the first half of 2013, the US’s FinCEN issued guidelines regarding virtual currencies. The guidance was intended to “provide clarity and regulatory certainty for businesses and individuals engaged in an expanding field for financial activity.” FinCEN offers a guideline touching upon “users, administrators and exchangers…persons creating, obtaining, distributing, exchanging, accepting or transmitting” virtual currencies, both centralized, decentralized, e-currency and e-precious metals.

•FinCEN sees those dealing in virtual currencies as their regulatory responsibility

•Users, and Bitcoin miners seem to be exempt from regulation for the moment

•Buying or selling virtual currencies for “any reason” can make you a money transmitter and subject to FinCEN regulation

•Virtual currency dealers are NOT necessarily foreign exchange dealers

•FinCEN rules can also apply to those dealing in e-precious metals

•However, Prepaid Access rules do NOT apply to virtual currencies

FinCEN details its interpretation of what virtual currency is contrasted with “real” currency:

“a medium of exchange that operates like a currency in some environments, but does not have all the attributes of real currency. In particular, virtual currency does not have legal tender status in any jurisdiction.”


“This guidance addresses “convertible” virtual currency. This type of virtual currency either has an equivalent value in real currency, or acts as a substitute for real currency.”

Bitcoin is not currency, though it will be regulated as a financial instrument:

“Virtual currency does not meet the criteria to be considered ‘currency’ under the BSA, because it is not legal tender.“

Where it is convenient, Bitcoin will be currency:

“The definition of a money transmitter does not differentiate between real currencies and convertible virtual currencies.”

Accepting and transmitting anything of value that substitutes for currency makes a person a money transmitter under the regulations implementing the BSA.”

“Users” might not apply to the guidelines”

“A user who obtains convertible virtual currency and uses it to purchase real or virtual goods or services is not an MSB under FinCEN’s regulations.”

Bitcoin miners appear to be exempt:

“A person that creates units of this convertible virtual currency and uses it to purchase real or virtual goods and services is a user of the convertible virtual currency and not subject to regulation as a money transmitter.”

Anyone who sells virtual currency, however, for real currency must take note of these lines in the document:

“An administrator or exchanger that (1)accepts and transmits a convertible virtual currency or (2) buys or sells convertible virtual currency for any reason is a money transmitter under FinCEN’s regulations.”

Prepaid Access don’t apply to virtual currencies:

“A person’s acceptance and/or transmission of convertible virtual currency cannot be characterized as providing or selling prepaid access because prepaid access is limited to real currencies.”

Surely, the guidelines for FinCEN are opaque. The guidance functions as an entirely new regulatory architecture applicable to decentralized crypto-currencies.

FinCEN, to be sure, won’t be able to rely on such guidance to enforce much of anything, for, under the Administrative Procedures Act (APA), FinCEN cannot create new rules without going through a notice and comment proceeding with the public.

FinCEN’s guidances are impractical, as you might notice the agency implies that each person who has ever had any virtual currency and exchanged that virtual currency for real is a money transmitter under the Bank Secrecy Act. That is quite presumptious.

FinCEN’s position as it relates to bitcoin can be summed up as follows:

•A person may spend money to purchase bitcoin or mine bitcoin and then exchange the currency for goods and/or services without having to register with FinCEN as an MSB.

•If a person receives real money in exchange for their bitcoin they might have to register with FinCEN.

•If a miner exchanges their mined bitcoin for real money they must register with FinCEN.

•Anyone transacting bitcoin on someone else’s behalf MUST register with FinCEN.

Australian Transaction Reports and Analysis Centre Typologies Report, 2012


In July 2012, the Australian Transaction Reports and Analysis Centre, or AUSTRAC, issued a periodic typologies report, in which the financial watchdog reviewed money laundering case studies as well as assessing new approaches for launder of the proceeds from crime.

One of the “potential vulnerabilities” listed was digital currencies, such as Bitcoin: “[Digital currencies] potentially allow individuals and entities to use them to conduct quick and complex transfers which are not regulated by authorities, making it a challenge for government agencies to follow the money trail,” says AUSTRAC CEO John Schmidt.

“New payment methods such as the use of digital currencies or virtual worlds are not issued under the authority of a government body, or backed by traditional currencies.”

The report admitted that due to “tighter regulation of established or traditional financial channels” people will basically be forced to wade into the financial waters of digital currencies where they do not have to be setback by indulgences to their national governments or eavesdropping.

“At this stage, the misuse of digital currencies and virtual worlds for money laundering is still very much an emerging vulnerability,” AUSTRAC CEO John Schmidt says.

“AUSTRAC is aware that digital currencies, such as those offered by Bitcoin, may become more attractive to criminal groups, particularly in response to tighter regulation and monitoring of established or traditional financial channels by both government and the traditional financial service providers themselves.”  (


The FBI stated in an April 2012 report that it believes “[Bitcoin] will become an increasingly useful tool for various illegal activities beyond the cyber realm… Bitcoin might … logically attract money launderers and other criminals who avoid traditional financial systems by using the Internet to conduct global monetary transfers.”

“By not being able to easily trace either the criminal or the placement of money, and coupled with the issue of which country should criminal proceedings be brought in, it is appealing to criminals who want to quickly launder money,” Dr. Clare Chambers-Jones, associate professor in banking and finance law at the University of the West of England, argues.

For some context as to what Bitcoin could be facing in terms of regulation, the following is expected of your neighborhood banker under FDIC regulations:

•Collection and analysis of basic identity information (CIP)

•Name matching against lists of known parties (such as politically exposed person)

•Determination of the customer’s risk in terms of propensity to commit money laundering or identity theft

•Creation of an expectation of a customer’s transactional behavior

•Monitoring of a customer’s transactions against their expected behavior and recorded profile as well as that of the customer’s peers.

Schmidt hints that AUSTRAC  and the Attorney-General’s Department are analyzing the Anti-Money Laundering and Counter-Terrorism Financing Act of 2006 in light of emerging new, digital payment methods such as Bitcoin.

“The global use of electronic payment systems and new payment methods is set to continue to grow in coming years, as these systems evolve to handle high values and volumes of transactions and broaden in global reach. As their use expands, so does the threat of them being exploited for criminal purposes,” Schmidt says.


“You need to get all countries to agree on a policy and this is going to be incredibly difficult to get a consensus on because of the societal difference which underpin legislation,” Chamber-Jones says.

Brazilian Authorities Come Down on Bitcoin Investment Fund

In another early case of regulation, the equivalent of the Securities and Exchange Commission of Brazil, Comissão de Valores Mobiliários or CVM,  signed in 2012 a decision ordering the administrator of Grupo de Investimento Bitcoin to cease the government-perceived investment fund.   The fund  operated at the time with less than $4,500 USD (!).

Grupo de Investimento Bitcoin released a statement, comparing the action by the Brazilian government to internet censorship a la China.

The release claims that the offering was never based in Brazil nor was it publicized to those in Brazil.

The group stated in the release that “[Grupo de Investimento Bitcoin] has no flag and no country. It is decentralized and universal, just like [bitcoin].”

As a pseudonymous currency, it will cost millions to trace wherefrom most Bitcoin funds originate.


In the release, the group asks: “Is Bitcoin being recognized by the Brazilian government as a currency now?”

This was the first public instance that a government organization classified bitcoins as securities. It marked also the first time a regulator in any country has ordered a bitcoin-related entity to end all transactions involving bitcoin. According to Bitcoin Money, the exchange worked as such: Investors who put up funds can withdraw their balance after a thirty day cycle. Their investment will have either increased or decreased in value in relation to something, like a fiat currency – say, the U.S. Dollar or Euro. Funds not withdrawn after a given cycle can then be used towards subsequent investment rounds.

The group has been operating since October 2011 and investors from more than eight different countries have joined the investment group. The only fees associated with the fund is 5% on income. As Bitcoin Money writes of how Bitcoin companies functioned,  “These are all unincorporated, transnational voluntary associations that are registered with no regulatory authority.  The funding transactions for these investments occur using bitcoins, allowing these entities to operate nearly entirely online with no interaction directly with the banking systems.”


Norway Financial Supervisory On Bitcoin, July 2012

Norway’s financial supervisory authority released a Risk and Vulnerability analysis in March of 2012. The report analyzed information and communication technology in financial institutions. The report compares Bitcoin to monopoly money, while at the same time noting that U.S. authorities have signaled they want to “remove this system.”

If the authorities wish to view bitcoin as monopoly money, that is fine. But if they then attempt to “remove” the system from the market, they then put credits like facebook credits and “WoW-Gold” under the same sort of pressure.

The extract from the text reads as such:

2.4.3 Shadow Services on the Internet Bitcoin

Bitcoin is a digital currency created in 2009. The name of the currency also refers to “open source” – Bitcoin program used to send money. Maximum limit on the number bitcoins that can be current is set at 21 million. 


There is also a static value after all bitcoins are dealt. Bitcoin is person based on two person-technology (P2P), and operates without any central server or
intermediaries. All payments will be verified automatically through the nodes in the P2P network, and the system is built up so that you can not create more money or steal someone else’s. 

This is ensured through a “Block chain” that is stored by all nodes in the network.

Bitcoin can be compared with “Monopoly Money” where the individual players buying virtual monetary values ​​called bitcoin to make commercial transactions in a closed trading environment. 

Liquidity in “Real” money should always be available if the players want to switch from bitcoins for such as U.S. dollars or euros. 

Currently, this activity takes place outside the control of

authorities, and the risk is unknown.

The system is virtual and U.S. authorities have signaled that they want to remove this system before unsuspecting users is too much involved. For such a system to function, it must have a “rich” sponsor.




Iran’s Capital Controls Amid Hyperinflation

As hyperinflation  hit Iran, the government there heightened its censorship of currency exchange websites like Mesghal and Mazanex, whose rates were blanked out for the rial’s value against other nations’ currencies at least once in 2012.

Moreover, the people of Iran had access blocked to open source software sites for downloading apps such as Bitcoin.

The blockade was not instigated by Iran’s mullahs but by the U.S.-led embargo prohibiting certain persons from receiving services via open source hosting sites. So, users residing in countries on the United States Office of Foreign Assets Control (OFAC) sanction list, including Cuba, Iran, North Korea, Sudan, and Syria, may not post content to, or access content available through, websites that make available open source software like Bitcoin. Software export from the US, including software that uses encryption, is controlled by the Bureau of Industry and Security (BIS) so as to comply with Export Administration Regulations (EAR).


Gavin Andresen, Chief Scientist for Bitcoin Foundation, stated at the time of the sanctions and intensified hyperinflation in Iran, that Bitcoin applies the full OpenSSL library and the wallet encryption feature uses AES-256 which is what places Bitcoin in the above category.


To get around such blockades, users can use alternative methods of downloading the Bitcoin client such as using non-U.S. independent mirrored sites, Virtual Private Network (VPN) for IP address masking, Tor if your country has the exit node needed, or BitTorrent file sharing.

Secret Service Raids Bitcoiner, 2012

Michael Brown paid $5,000 for 371,000 bitcoins. Wire magazine has called him the “richest man in the bitcoin realm.”

When the Secret Service smashed through Brown’s front door in September 2012, he was familiar with the case of an anonymous computer hacker claiming to have copies of presidential candidate Mitt Romney’s tax returns.

Brown was interested in the case because of his history with computers.  The Secret Service searched his home for 18 hours, pulling laptops, hard drives and all manner of digital storage devices from his Franklin, Tennessee home.

Since the search, Brown has been charged in extortion charges.  Brown is the prime suspect, it seems, in an attempt to extort money.  He is accused of claiming to have Mitt Romney’s tax returns and asking for $1 million to release the documents or not…payable in Bitcoin. “We’ve taken the unusual step of confirming an investigation by the Secret Service,” Boling said. “The matter is under investigation, so there’s nothing really we could say.”

Certified computer forensic examiner out of Austin, Texas, lawyer Craig Ball, says that authorities can use the serial numbers off of two flash drives, said to contain the tax returns, left at a political office in Williamson County.

Each computer keeps a record of all external devices plugged into them.   The search warrant also contains IP addresses that could be used to determine which computers posted the extortion letter online at

Authorities have also taken an interest in Bitcoin, a system through which the money was to be paid. Brown defends himself quite simply: because of bitcoin volatility, he actually created his own digital currency that competes with bitcoin. Why would he demand payment in the competition to his currency?” “Short of an abacus and a stone tablet, there’s nothing they can’t take from this person’s home,” Ball said. “They’re not fishing.”

Brown has been targeted before because of his computer knowhow. In 2009, the Secret Service also showed up to his house.

They were looking for evidence to try him for the thefts of thousands of Social Security numbers.  Never charged, Brown even agreed to a polygraph at the time. Brown does not reserve judgement for the agents: “They left me with the impression of a bunch of apes with screwdrivers punching away at stuff.”

The letters claim that the author got Romney’s tax documents from the Franklin office of PricewaterhouseCoopers, Romney’s accounting firm. But the company denies any such occurrence.

“At this point there’s nothing to suggest our systems were tampered with,” Chris Atkins, a spokesman for the company in New York City, said last week.

Mt. Gox/Dwolla Accounts Seized

By May of 2013, the US Department of Homeland Security had begun acting against main Bitcoin centers.

Having determined that they are operating as unlicensed money transmission businesses in violation of US law, DHS clamped down in a big way on Dwolla-Mt.Gox transactions, in particular.

Ars Technica received a copy of the seizure warrant issued in US District Court in Maryland and signed by US Magistrate Judge Susan K Gauvey.

The seven-page warrant cites an affidavit made by a special agent with Homeland Security Investigations (HSI) in which it is stated that there is probably cause to believe the contents of a specific Dwolla account are subject to seizure and forfeiture under US law.


The warrant  revealed that a confidential informant, who engaged in Bitcoin trading over a period of six months, was key to the seizure and forfeiture.  The warrant describes  Mt. Gox as a subsidiary of Mutum Sigillum LLC, which, according to the warrant, holds an account at Wells Fargo bank as of May 20, 2011 signed by Mt. Gox CEO Mark Karpeles, the owner of Mt. Gox and Mutum Sigillum.

According to DHS, Karpeles stipulated that Mutum Sigillum was “not engaged in money services.”  The warrant against Mt. Gox then states that “neighter Mt. Gox nor the subsidiary, Mutum Sigillum LLC, is registered as a Money Service Business.”  Such registration with FinCEN is required by US federal law.

The Maryland based confidential informant – referred to in the warrant as CI-1 – divulged to the government that he established new accounts with Mt. Gox and Dwolla.

The informant stated he deposited US funds in his Mt. Gox account, then used Dwolla to exchange those funds for bitcoins. He then used Mt. Gox to exchange the bitcoins back into US dollars, which were credited to his Dwolla account.

“According to bank records, this transfer was completed through the subsidiary, Mutum Sigillum LLC,” the warrant reads. “This demonstrates that Mutum Sigillum LLC is engaged in a money transmitting business but is not registered as required with FinCEN.” Bank records demonstrated tht “a number of deposits” to Mutum Sigillum’s Wells Fargo account were made via international wire transfers from Japan’s Sumitomo Mitsui Bank in the name of Mt. Gox.

Thereafter,  those funds were “frequently disbursed to Dwolla.”  Since Mutum Sigillum transfered said funds without FinCEN registration as a money transmitting business, the contents of its Wells Fargo account “were subject to seizure and forfeiture,” according to the warrant.


The seizure warrant for the Wells Fargo account was issued May 9,2013.  Another seizure warrant was issued on Tuesday, May 14 for a Dwolla account reigstered in the name of Mutum Sigillum and held in the custody of Veridian Credit Union.

This particular Dwolla account was “the destination for the funds wired from the Wells Fargo account,” according to the warrant.

“Therefore, it is evident that the Dwolla account was used exclusively to move funds between Mt. Gox and Mutum Sigillum and their customers,” the warrant states.

“Consequently, there is probably cause to believe that Mt. Gox and Mutum Sigillum are using (the Dwolla account) to conduct transactions as part of an unlicensed money service business…”

Basically, according to the definition of an “unlicensed money transmitting business,”  Mt Gox, Dwolla and Mutum Sigillum did not hold the appropriate license to transfer funds “on behalf of the public.” Dwolla users received the following message:

“In summary: The Department of Homeland Security and US District Court for the District of Maryland issued a “Seizure Warrant” for the funds associated with Mutum Sigillum’s Dwolla account. In light of the court order, procured by the Department of Homeland Security, 1.) Dwolla has ceased all account activities associated with Dwolla services for Mutum Sigillum while 2.) Dwolla’s holding partner transferred Mutum Sigillum’s balance to the proper authorities…Dwolla requires a court order before honoring requests such as seizing funds or revoking access to an account.”


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