Tax authorities, both domestic and abroad, have been continuously building an arsenal of tools and experts to monitor and audit crypto transactions. This increased weaponry has led to a growing number of international arrests by the Joint Chiefs of Global Tax Enforcement (J5) and the US Department of Justice (DOJ), with each member organization arresting individuals allegedly involved in crypto fraud, and/or seizing funds from their activities.
Not surprisingly, the US Internal Revenue Service (IRS) is keeping pace with these efforts and closing in on those who may have attempted to take advantage of the perceived anonymity of these transactions to evade taxes. As these tax authorities continue their collective efforts, the question becomes: who will be the next target of this expanding arsenal?
Crypto tracing for hire
Public records reveal that the IRS and other federal agencies have recently entered into agreements with a number of private cryptocurrency analytics companies to gain access to certain blockchain tracing software. This is unsurprising, given the US government’s recent outreach to members of the cryptocurrency community. For example, the IRS recently sought assistance from several cryptocurrency tax software companies for the audits of tax returns involving on-chain and off-chain cryptocurrency transactions.
The statements of work for these arrangements provide that the IRS “is engaging outside contractors to assist our revenue agents in calculating taxpayers’ gains or losses as a result of their transactions involving virtual currency.” The DOJ is also advertising positions for crypto experts to assist law enforcement with “undercover operations on the Dark Web and undercover cryptocurrency transactions, technical skills and technology to perform block-chain analysis to trace transactions."
The IRS Criminal Investigation Division (IRS CI), the largest federal law enforcement agency in the US Department of Treasury, is also expanding its crypto capabilities. As part of its Cryptocurrency Initiative, IRS CI recently issued a public request for tools related to cryptocurrency, including applications “to more easily trace privacy coins and other protocols that provide anonymity to illicit actors.” This coordinated effort by the IRS and other federal agencies to acquire crypto talent forecasts a looming crackdown on the use of virtual currency for illicit purposes, and those that facilitate its use for those purposes.
International enforcement: Pooling of resources
The global tax community has also pooled its resources to target crypto fraudsters. The J5, which consists of the leaders of the tax enforcement agencies in Australia, Canada, the Netherlands, England, and the United States, was formed to investigate and combat cross-border tax and money laundering threats, including cybercrime, cryptocurrency, and enablers of global tax crimes. This has led to the J5 making several recent arrests involving certain cryptocurrency transactions. One of the J5’s stated missions is to “collaborate internationally to reduce the growing threat to tax administrations posed by cryptocurrencies and cybercrime and to make the most of data and technology.”
The J5 has held annual events known as “Challenges,” where investigators, cryptocurrency experts, and data scientists from the member nations exchange data and techniques. These combined efforts have led to an uptick in enforcement activity by member nations, including:
Two men were arrested in February 2020 in the Netherlands on suspicion of money laundering using cryptocurrencies via the subject crypto service provider. This arrest was the apparent culmination of the Dutch Fiscal Information and Investigation Service’s investigation of a crypto service provider discussed during the 2019 Challenge. The amount laundered was approximately US$118,800, indicating that the J5’s targets are not limited to the million-dollar players.
A Romanian programmer in Germany was arrested and pleaded guilty in July 2020, for conspiring to commit wire fraud and offering and selling unregistered securities. The activity is connected with the programmer’s role in a cryptocurrency mining scheme that defrauded investors of at least US$722 million worth of bitcoin.
The DOJ has also continued its enforcement efforts in earnest. Just last month, the DOJ:
- Announced the seizure of millions of dollars in bitcoin associated with financing of terrorist organizations, including al-Qassam Brigades, al-Qaeda, and Islamic State of Iraq and the Levant (ISIS). The operation involved, among other things, an investigation into certain alleged Syrian charities and also led to the unsealing of criminal charges for two Turkish individuals. Acting United States Attorney Michael R. Sherwin commented that this seizure, the largest of its kind, “reflect[s] the resolve . . . to target and dismantle these sophisticated cyber-terrorism and money laundering actors across the globe. While these individuals believe they operate anonymously in the digital space, we have the skill and resolve to find, fix and prosecute these actors under the full extent of the law.”
- Filed a civil forfeiture complaint related to two hacks of virtual currency exchanges by North Korean actors. The complaint alleges that these North Korean players stole millions of dollars’ worth of cryptocurrency and then laundered the same through Chinese over-the-counter crypto traders. Acting Assistant Attorney General Brian C. Rabbitt of the Justice Department’s Criminal Division proclaimed, “Today’s action publicly exposes the ongoing connections between North Korea’s cyber-hacking program and a Chinese cryptocurrency money laundering network.” The first hack dates back to July 2019 when an agent tied to North Korea allegedly stole over US$272,000 worth of crypto. This agent then engaged in “chain hopping,” a process whereby the user converts cryptocurrency into other forms of crypto in order to make the illegal transactions more difficult to trace. Then, in September 2019, another agent with ties to North Korea hacked a US-based company, stealing nearly US$2.5 million in crypto.
Avoiding the land mines and risks: The time to act is now
The message is ominous. The recent J5 activity and the US government’s stockpiling of crypto experts and tracing software leaves little doubt that tax enforcement efforts in the crypto space is ramping up. Indeed, in its February 18, 2020, newsletter, the J5 warned that “it cannot be ruled out that more international investigations by the J5 countries will follow” from the data sharing at the Challenges.
At home, the DOJ, IRS, and IRS CI remain laser focused on abusive crypto schemes, as evidenced by their call to arms for crypto experts and tracing software. While the above DOJ actions focus on anti-money laundering activity, they demonstrate a growing familiarity with these systems which will lead to future cases in other areas, including tax evasion. Thus, any company operating in this high-risk industry should consider whether its compliance measures are adequate to protect its systems from being used, purposefully or not, to further activity that may become the focus of the government’s increasing scrutiny in this space. This is especially so in light of the DOJ’s updated guidance for corporate compliance programs places greater emphasis on continuous data driven compliance programs that are responsive to industry risks.