Analysis and Introduction of All Relevant U.S. Institutions in Cryptocurrency Market Regulation
Examining the Role of Active Political-Economic Institutions of the United States in Regulating the Digital Currency Market; from the “Internal Revenue Service” to the “Commodity Futures Trading Commission”
For over a decade, the cryptocurrency market, led by Bitcoin, has dominated global economic headlines; a captivating and volatile industry where one can make thousands of dollars in an instant or lose their entire fortune in the blink of an eye. What many participants in this market overlook is the behind-the-scenes network of institutions and political and financial regulators that weave the fabric of this industry.
It has been nearly 15 years since the collapse of U.S. banks and the emergence of Bitcoin. This event intensified the focus of American regulatory institutions on economic markets. With the exponential growth of the cryptocurrency market, these assets have come under stricter scrutiny by these institutions. These assets have provided their investors with more profits than any other assets in history.
As digital assets become prominent in the global economy, understanding the impact of government institutions, especially those in the United States—the world’s economic hub—on this range of assets is crucial.
In the previous issue, we examined four of the most important U.S. institutions and their impact on the cryptocurrency market. We reviewed the Securities and Exchange Commission (SEC), the Commodity Futures Trading Commission (CFTC), the Federal Reserve, and the U.S. Department of the Treasury, providing detailed insights into their histories and the regulations they have implemented in the cryptocurrency sector.
This issue will examine three other key institutions heavily tied to the federal government. The actions of these institutions have far-reaching consequences for investors, businesses, and the blockchain industry. The goal of this article, following on from what was discussed in the previous issue, is to provide valuable insights into how these institutions shape the digital asset ecosystem by exploring their historical background, critical economic actions, and specific effects on the market—a market that is rapidly emerging as a dynamic segment of the global economic landscape.
Internal Revenue Service (IRS)
The Internal Revenue Service (IRS) is a U.S. federal government agency under the U.S. Department of the Treasury. It is responsible for enforcing tax laws and collecting taxes on behalf of the federal government. The IRS has its roots in the Treasury Department, with a history dating back to 1862. At that time, President Abraham Lincoln, along with Congress, established the position of Commissioner of Internal Revenue to help fund the Civil War.
Since its inception, the IRS has evolved, expanding its role and responsibilities in enforcing tax laws for individuals, businesses, and organizations. From Social Security taxes to capital gains taxes on modern investments, the IRS has become a constant challenge for the leaders of the U.S. capitalist system. In addition to expanding its responsibilities, the IRS has also enhanced its enforcement mechanisms by utilizing modern tools such as data mining and artificial intelligence to identify and investigate potential tax evasion.
The Evolution of the Internal Revenue Service
Over the years, the IRS has taken significant actions that, beyond the U.S. economy, have also focused heavily on the social welfare of the nation’s residents. For example, in 1935, it played a key role in implementing Social Security and health legislation. In 1952, the IRS launched the Voluntary Compliance Program, allowing taxpayers with hidden assets to pay their taxes without facing criminal prosecution. It later introduced the Whistleblower Program, which rewarded individuals who provided valuable information that led to the detection and prosecution of tax crimes.
Some of the most significant initiatives that the IRS has undertaken are outlined below.
Implementation of Income Tax:
One of the critical actions taken by the IRS was the implementation of the federal income tax in 1913. This marked a significant shift in the U.S. tax system, as taxes were now based on individuals’ income levels—a model that became an attractive framework for many major economies. The enactment of this law made the IRS one of the primary sources of revenue for the federal government.
Creation of the Withholding Tax System:
In 1943, during World War II, the IRS introduced the withholding tax system to streamline the collection of income taxes from individuals’ wages. This system required employers to withhold a portion of employees’ wages and remit it directly to the government. This new system greatly facilitated tax compliance for workers and significantly accelerated the collection of taxes.
Improvement in Taxpayer Services:
In recent years, the IRS has worked to enhance taxpayer services and improve the efficiency of tax administration. For example, the introduction of electronic payment systems and online tax payment platforms has made it easier for taxpayers to fulfill their obligations to the government. Additionally, the IRS has increased its focus on providing educational resources and assistance to taxpayers to reduce errors in tax filings.
Tax on Offshore Capital:
A common method of tax evasion in the United States has been the concentration of capital outside the country’s borders. In response to concerns over this issue, the IRS has taken strong action. The agency has implemented various programs, including the Offshore Voluntary Disclosure Program and the Foreign Account Tax Compliance Act (FATCA), to encourage taxpayers to disclose offshore accounts and assets. The IRS has also made considerable efforts to enforce tax laws and collaborate with international tax authorities to identify and pursue individuals involved in such activities.
Tax Reforms:
Over the years, the U.S. tax system has undergone significant changes as a result of decisions made by the U.S. Congress, with the IRS playing a key role in these transformations. For example, the Tax Cuts and Jobs Act (TCJA) of 2017 brought substantial changes to the U.S. tax system, and the IRS played a crucial role in the passage and implementation of this law.
These critical actions taken by the IRS have had a broad impact on the U.S. economy, taxpayer compliance, and the overall functioning of the tax system. By enforcing tax laws, providing services to taxpayers, and implementing tax reforms, the IRS plays a vital role in securing government revenue, promoting tax compliance, and ensuring fairness and accuracy in the tax system.
“I believe that to oversee large transactions and collect taxes, we need a directive from Congress. We face many challenges in this regard, and such a directive could significantly assist us in gathering information.”-Charles Rettig, Former Commissioner of the Internal Revenue Service.
Regulator of the Cryptocurrency Market
It is clear that every tax agency, due to its responsibilities, is on the lookout for new sources of taxation, and in recent years, the IRS has not been idle, placing the cryptocurrency market under scrutiny. The role of taxation and regulation in any market cannot be overlooked, and the IRS has played a significant role in this regard. In 2014, the IRS issued a framework for those operating in this sector, declaring that virtual currencies, including cryptocurrencies like Bitcoin (BTC), are to be treated as assets for tax purposes. This guideline means that individuals and businesses are required to report cryptocurrency transactions, gains, and losses from investments in the cryptocurrency market to the IRS and pay the corresponding taxes to the government according to the announced rules. Since 2014, this agency has focused on combating tax evasion and ensuring that companies operating in this market comply with tax laws.
Decisions made by this agency are crucial for the cryptocurrency market, as they facilitate the understanding of the tax situation for clients and business owners, helping them comprehend their tax obligations and plan their finances accordingly. This clarity is vital for promoting compliance and reducing ambiguity in the cryptocurrency market. Activities such as obtaining judicial approval from the IRS to request data from cryptocurrency exchanges to ensure compliance with tax laws, contrary to the beliefs of the U.S. government and affiliated experts, have faced significant criticism.
“This represents a really large enforcement area for the IRS. They are pursuing every user who trades or even uses cryptocurrencies. These individuals could become targets for audits or new regulations by the agency.” -Brian R. Harris, Tax Attorney
Despite the government’s position, inspections and investigations by this federal agency have not only failed to create transparency and streamline processes in the market but have also instilled fear of heavy tax liabilities among investors, which many experts believe could ultimately lead to investors withdrawing from the market and a market downturn.
Taxes in Practice
Until 2022, the Internal Revenue Service (IRS) of the United States had not issued specific guidelines on how to calculate gains and losses for cryptocurrency transactions, which led to some ambiguity in the market. According to the IRS website, for federal tax purposes, digital assets are considered property and are taxed based on income levels, ranging from 10% to 37%. The general tax principles applicable to transactions involving these assets are based on property tax laws.
Taxable income, gains, or losses may arise from, but are not limited to, the following:
- Selling digital assets for fiat currency
- Exchanging digital assets for other assets, goods, or services
- Exchanging one digital asset for another
- Receiving digital assets in exchange for goods or services
- Receiving new digital assets as a result of a “hard fork“
- Receiving new digital assets from mining or staking activities
- Receiving digital assets from an airdrop
- Any other financial situation related to digital assets
The IRS’s actions, contrary to the views of the U.S. government, have had negative effects on the market. For example, in 2018, Bitcoin’s price sharply declined following the IRS’s announcement regarding its crackdown on cryptocurrency tax evasion. Although the price improved slightly afterward, these actions undoubtedly deterred some investors from the market, possibly still affecting it today.
In 2019, the IRS announced it would send letters to taxpayers who had not reported their cryptocurrency transactions. These letters were sent with the cooperation of cryptocurrency exchanges operating in the U.S., which collected information for the IRS. This action questioned the anonymous and disruptive nature of cryptocurrencies and caused significant concern among users, a concern that persists today. In 2020, the IRS sent warning letters to over 10,000 cryptocurrency users.
Another notable action by the IRS occurred on August 15, 2022, when it accused well-known cryptocurrency trader John Doe of failing to report his cryptocurrency transactions. John Doe eventually had to pay $500,000 in back taxes and penalties to the government as a result of the IRS’s lawsuit.
The IRS’s decisions regarding cryptocurrency taxation will have significant implications for the future of this market. If the IRS decides to classify cryptocurrencies as securities, the market could face a downturn or even a harsh “crypto winter,” which would significantly impact trading methods and regulatory practices governing cryptocurrencies. Given Ripple’s victory over the U.S. Securities and Exchange Commission in court, it is important to remember that the Howey Test cannot be used as a definitive measure to classify a cryptocurrency as a security during its initial offering.
Financial Crimes Enforcement Network (FinCEN)
The Financial Crimes Enforcement Network (FinCEN) is also a part of the U.S. Department of the Treasury. As its name suggests, it is responsible for combating financial crimes, including money laundering and terrorism financing.
FinCEN’s history can be traced back to the early 1970s when the U.S. government began addressing the growing problem of money laundering. The Bank Secrecy Act of 1977 was enacted, requiring financial institutions to report certain suspicious transactions. FinCEN was ultimately established in 1990 and now plays a crucial role in maintaining the integrity and health of the U.S. financial system and economy and preventing illicit activities.
The agency’s mission, as stated in their slogan, is to “protect the financial system from illicit use and combat money laundering and promote national security.” FinCEN fulfills this mission by collecting and analyzing financial transaction data, issuing guidance to financial institutions on compliance with the law, and enforcing regulations through investigations and enforcement actions.
Significant Historical Actions
During its years of operation within the U.S. Department of the Treasury, FinCEN has undertaken several important economic actions. Five years after its establishment, the agency issued a guideline requiring financial institutions to report suspicious transactions related to shell banks. Shell banks are banks that exist only on paper and have no physical presence. This guideline helped curb the use of shell banks for money laundering.
In 2001, FinCEN issued another guideline that required financial institutions to report suspicious transactions related to terrorism financing. This guidance significantly contributed to preventing terrorists from using the U.S. financial system to fund their activities.
Both of these actions led to the adoption and widespread implementation of Anti-Money Laundering (AML) and Know Your Customer (KYC) regulations.
“Collecting data on the counterparties in cryptocurrency transactions, even in private wallets, is both legal and mandatory, and it must be done in the United States.” -Michael Mosier, Former Director of FinCEN at the Consensus 2021 conference
Identity Verification: A Challenge for Exchanges
In its early years, FinCEN focused heavily on combating money laundering within traditional financial institutions like banks. However, with the rise of cryptocurrencies and new financial technologies, the agency expanded its scope to include regulation and oversight of these markets. FinCEN can be seen as responsible for implementing and enforcing anti-money laundering (AML) and know-your-customer (KYC) regulations for cryptocurrency companies.
The decisions and actions of this organization may be particularly significant for Iranians compared to others, due to the mandatory compliance of cryptocurrency exchanges with AML and KYC regulations. These regulations aim to prevent money laundering and illegal activities in the cryptocurrency space, enhancing the transparency and legitimacy of cryptocurrency transactions. However, like any regulator, FinCEN faces its set of challenges, such as limited access for many users to active markets or even the exit of major investors seeking to avoid taxes.
While customer identification and anti-money laundering regulations are crucial, their negative impacts on the market cannot be overlooked. These concerns have led to significant criticism of various governments.
Privacy:
Cryptocurrencies are inherently anonymous, which is one of their main attractions. Legal requirements like KYC and AML regulations, which necessitate the provision of identity documents and addresses by users on cryptocurrency service platforms, erode this anonymity. This raises concerns about privacy and the security of sensitive data, potentially leading to a significant number of users leaving the cryptocurrency market.
Impact on User Experience and Access:
KYC and AML regulations can create additional barriers for new users, making the entry process into the market complex and time-consuming. Verification processes are often lengthy and cumbersome, which can negatively affect the user experience for newcomers.
Contradiction with Decentralization:
Such regulations might conflict with the principles of decentralization on which cryptocurrencies are based. The need for intermediaries and centralized exchanges to enforce these regulations may be at odds with the peer-to-peer, intermediary-free trading vision of Satoshi Nakamoto.
Additional Costs for Businesses:
Implementing the infrastructure required to comply with these regulations imposes extra costs on cryptocurrency companies. Enforcing these rules forces companies to invest in complex identity verification systems, hire compliance officers, and allocate resources for monitoring and reporting. These additional costs can pose challenges for startups and small businesses, particularly in this innovative sector.
Although the goal of implementing and enforcing customer identification and anti-money laundering regulations is to safeguard the financial system, prevent illegal activities, and ensure transaction accuracy, it is crucial to balance regulatory compliance with the benefits of innovations like cryptocurrencies. Finding solutions that address these issues while maintaining transaction integrity and preserving the inherent features of cryptocurrencies is vital for the continued growth and acceptance of this industry.
“Supporting innovation in the blockchain industry is our duty; it is a valuable technology that has been misused by some individuals. Blockchain and cryptocurrencies belong to all of us, and we must not allow a few people to use them for malicious purposes or rogue states to exploit them for circumvention and sanctions evasion.” — Kenneth Blanco, Former Director of the Financial Crimes Enforcement Network (FinCEN)
Penalties
The Financial Crimes Enforcement Network (FinCEN) has had significant interactions with the cryptocurrency market. In 2013, the network issued guidance classifying Bitcoin as a virtual currency and requiring businesses processing Bitcoin transactions to comply with the Bank Secrecy Act (BSA). This guidance indicated that cryptocurrency businesses are subject to the same anti-money laundering regulations as traditional financial institutions.
Continuing its efforts, in 2015, FinCEN issued additional guidance requiring cryptocurrency businesses to report transactions. This made it more difficult for individuals to remain anonymous when using cryptocurrency businesses and continued the crackdown on money laundering using cryptocurrencies.
One of FinCEN’s most impactful legal actions was against the cryptocurrency exchange BTC-e. In 2017, FinCEN accused BTC-e of facilitating transactions related to ransomware, dark net markets, and other illegal activities, ultimately leading the company to pay $110 million to the U.S. government.
Another example of FinCEN’s impact on the cryptocurrency market is the regulation issued in December 2020, which mandated the collection and reporting of customer information for transactions over $3,000 at cryptocurrency exchanges. This requirement was to improve oversight and investigation of suspicious transactions in the cryptocurrency space.
Lastly, cryptocurrency exchanges Bitfinex and Bittrex were each fined $75 million and $25 million, respectively, for violating the Bank Secrecy Act and providing services to prohibited countries.
“Cryptocurrency exchanges operating around the world must both understand who their customers are and where they are from.” — Andrea Gacki, Director of the Office of Foreign Assets Control (OFAC), U.S. Department of the Treasury
The future of FinCEN’s guidelines for the cryptocurrency market remains somewhat uncertain. However, the agency is likely to continue adapting its guidelines to keep pace with the ever-evolving cryptocurrency and blockchain industry.
“As digital assets play an increasingly important role in our global financial system, we must work alongside agencies and departments across the government to prevent and disrupt the exploitation of these technologies for facilitating crime, criminal activity, and undermining national security.” — Merrick Garland, U.S. Attorney General
Department of Justice
The Department of Justice (DOJ) is one of the 15 executive departments of the U.S. federal government, operating at the cabinet level. It is responsible for enforcing the law and providing legal advice to the President and other government officials. The department is led by the Attorney General, who is appointed by the sitting President. Currently, Merrick Garland is the Attorney General of the United States.
The DOJ has a long and complex history. In its early days, it was responsible for prosecuting a wide range of crimes, including counterfeiting, mail fraud, and violations of the Sherman Antitrust Act. The department also played a key role in the legal prosecution of the American Civil War.
Over the years, the DOJ has continued to grow and evolve. Today, it is responsible for enforcing a broad array of federal laws, including the Foreign Corrupt Practices Act and the Patriot Act. The DOJ also plays a crucial role in combating terrorism and organized crime.
An important point to note is that all legal complaints and litigation involving both government-affiliated and non-governmental entities are handled by the DOJ.
The Federal Government’s Muscle
The DOJ has undertaken significant actions in the realm of technology and innovation over the years, making it a key player in this discussion. For example, in 1995, the DOJ’s lawsuit against Microsoft resulted in a settlement that required Microsoft to alter its business practices. In 2008, the DOJ sued Goldman Sachs, the world’s largest investment bank, claiming that the company misled investors about the quality of mortgage-backed securities in the wake of that year’s financial crisis. The DOJ’s lawsuit led to a settlement in which Goldman Sachs was required to pay five billion dollars.
Impact on the Cryptocurrency Market
Decisions made by the DOJ have a direct impact on financial markets, especially the cryptocurrency market. The DOJ has the authority to intervene in any cases related to cryptocurrency crimes, including fraud, money laundering, and illegal activities. The influence of this agency on the market is so significant that even its statements can affect investor sentiment, regulators, and the public. For instance, high-profile cases and negative rulings related to cryptocurrency activities can undermine public confidence in the market, leading to increased scrutiny and regulation of the industry. Conversely, pursuing and penalizing fraudsters like Do Kwon, the co-founder of the Luna project, can boost public trust in the market.
The DOJ’s actions can have two major effects on the cryptocurrency market. First, the department’s efforts can help prevent criminal activities and provide a secure and credible market for users and investors. Second, the DOJ’s enforcement actions can significantly increase clarity and guidance regarding legal boundaries and responsibilities for market participants, which can lead to broader acceptance of cryptocurrencies among the general public.
As previously mentioned, the DOJ has the authority to engage in any case related to the cryptocurrency market, and we will now examine the most significant cases the department directly addresses.
Money Laundering and Illegal Activities:
The Department of Justice (DOJ) actively addresses activities related to money laundering and illegal activities facilitated by cryptocurrencies. These cases typically involve individuals or organizations using digital assets to conceal the proceeds of criminal activities such as drug trafficking, fraud, or ransomware attacks.
Cyber Crimes and Hacking:
One of the most apparent areas of involvement for the DOJ is cases involving cyber crimes or hacking related to cryptocurrencies. These cases often include theft from cryptocurrency exchanges, phishing, spoofing, or digital extortion. The DOJ frequently collaborates with the Federal Bureau of Investigation (FBI) and other law enforcement agencies to track down cybercriminals.
Initial Coin Offerings (ICOs):
The DOJ has also been active in cases related to Initial Coin Offerings (ICOs), particularly where these offerings involve fraudulent claims or non-compliance with securities laws. An example is the long-standing case involving Ripple, which saw a resolution on July 13, 2023, in favor of Ripple’s legal team. The DOJ’s goal in regulating ICOs is to protect investors’ assets.
Online Dark Web Markets:
Dark web markets that use cryptocurrencies to conceal their operations are investigated under DOJ orders and by the FBI to combat illegal activities. These markets typically deal with illegal goods and services, including drug trafficking, child exploitation, weapon sales, and stolen data. The DOJ aims to eliminate criminal activities and create a safe environment for cryptocurrency market users by analyzing these markets and taking legal action against those involved.
Sanctions:
The DOJ has been particularly vigilant in combating the use of cryptocurrencies to evade political sanctions. This has led to numerous cases against individuals accused of circumventing U.S. sanctions. Following Russia and Iran’s announcement that cryptocurrencies could be used for international transactions, the DOJ has issued several serious warnings.
“The DOJ will use all its authority to seize assets from individuals and entities that violate U.S. sanctions. The use of cryptocurrencies to evade U.S. sanctions and money laundering resulting from foreign corruption will not go unanswered.” — Kenneth Blanco, Former Director of the Financial Crimes Enforcement Network (FinCEN)
One of the significant actions taken by the DOJ was the seizure of nearly 70,000 Bitcoins from the Silk Road website on the dark web. These assets were used to facilitate the illegal trade of goods such as drugs on this online marketplace. The seizure of this large volume of Bitcoin had significant repercussions, making the U.S. government one of the largest holders of this cryptocurrency. A major concern today is the potential impact of moving this volume of assets to exchanges, which could lead to a sharp decline in Bitcoin’s price and subsequently affect the broader market.
In one of the DOJ’s recent actions in January 2023, the exchange Bitzlato Ltd was accused of money laundering through cryptocurrencies, and its founder, Anatoly Legkodymov, was arrested in Miami. Many experts consider the shutdown of this company to be one of the most important anti-crime actions in the cryptocurrency sector by the U.S. government.
In May 2023, DOJ’s National Security Division also began investigating Russian users’ access to the Binance exchange despite U.S. sanctions imposed due to Russia’s invasion of Ukraine. This was not the DOJ’s first engagement with Binance. In 2021, the DOJ, along with the Internal Revenue Service, initiated investigations against Binance. In both cases, the parties reached agreements, and Binance continued its operations in the U.S. after accepting penalties.
Final Thoughts
As discussed in the previous section, the significant role and impact of American agencies in the cryptocurrency market are evident. The seven institutions mentioned in these articles play a crucial role in shaping the trends and development of digital assets, led by cryptocurrencies, through their policies and actions. The influence of these institutions on market fluctuations and overall growth is observable.
The cryptocurrency and blockchain industries are continuously evolving, making it essential to closely monitor the actions and policies of these agencies. Investors and traders must stay informed about regulatory changes and be prepared to respond to potential market shifts. While the involvement of American institutions may introduce uncertainty and volatility, it also creates opportunities for innovation and growth in this disruptive ecosystem.
In conclusion, the relationship between American institutions and the cryptocurrency market is complex and multifaceted. It is not possible to categorize their impact as solely positive or negative for the industry. By examining this relationship and understanding the roles of these institutions, we can gain valuable insights into the future of digital assets. Awareness of regulatory issues, both at the national and global levels, is a crucial aspect that can aid in preserving your investments and business in this market.
