by Dustin M. Monroy What is Bitcoin, how would financial institutions (“banks”) encounter Bitcoin, and what are the legal effects on banks in connection with Bitcoin? Briefly, Bitcoin is a virtual currency— a digital, internetonly medium of exchange— with no central government authority, maintained by its global network of users, that enables users to buy and sell goods and services online with anonymity, internationally without the need for currency exchange and without the approval or authority of a depository institution or central government authority. Banks may encounter bitcoin-based activity when an existing bank customer exchanges U.S. dollars in his or her bank account for bitcoins1 at a Bitcoin wallet service provider or exchange, which show up as an Automatic Clearing House (“ACH”) transaction. Bitcoin has been held to be “money” for Bank Secrecy Act / Anti-Money Laundering (“BSA/AML”) purposes, thus bank customers may exchange funds in their bank accounts for bitcoins. The Federal Reserve has accordingly said that financial institutions should enhance their BSA/AML program to monitor and manage bitcoin-related risks. This article further examines these questions in detail.
14 August 2015
HAWAII BAR JOURNAL
What is Bitcoin? Bitcoin is a virtual currency,2 which is a medium of exchange that operates with either an equivalent value in real currency3 or acting as a substitute for real currency, but does not have all of the attributes of real currency, including not having legal tender status in any jurisdiction.4 Bitcoin is a digital, decentralized, partially anonymous currency, not backed by any government or other legal entity, and not redeemable for gold or other commodity, that relies on peer-to-peer networking and cryptography to operate.5 Bitcoin has
Bitcoin and Banks – A Primer
been found by federal courts to constitute “money” as defined by the United States Department of the Treasury Financial Crimes Enforcement Network’s (“FinCEN”) BSA/AML statute.6 Bitcoin users store their bitcoins online, in a digital wallet.7 Users’ bitcoin balances are associated with bitcoin addresses (long strings of numbers and letters) that use cryptography to safeguard against tampering.8 When a user transfers bitcoins (for example, when purchasing a product from a business that accepts bitcoins), the recipient provides their Bitcoin address to the sender, and the sender authorizes the transaction with their private key (a secret code that proves the sender’s control over their Bitcoin address).9 Bitcoin transactions are irrevocable and do not require the sender or receiver to disclose their identities to each other or a third party.10 Each transaction, however, is registered in a public ledger called the “blockchain,” which maintains the associated Bitcoin addresses and transaction dates, times, and amounts.11 Users can define how much additional information they require of each other to conduct a transaction.12 Bitcoins are created and entered into circulation through a process called mining.13 Bitcoin miners download free software that they use to solve complex math problems.14 Solving these problems verifies the validity of Bitcoin transactions by