Russia’s invasion of Ukraine has been a sobering and worrying moment for onlookers across the world. In the wake of Putin’s decision to attack and occupy a sovereign nation, Western nations responded by imposing one of the most severe sanctions regimes ever. Designed to impose significant costs and isolate Russia from the dollar-led global financial system, the sanctions package removes select Russian banks from SWIFT (the international financial correspondence system), restricts the Russian Central Bank’s access to its international reserves, and freezes the assets of individuals and entities who have been identified as facilitators of the ongoing invasion.
Experts, including U.S. lawmakers, have raised legitimate concern that crypto assets may be one potential avenue to evade these sanctions. While it is unlikely that an economy as large as Russia’s can be rerouted through present crypto infrastructure, there remains opportunity for targeted individuals and entities to leverage the industry’s weak compliance mechanisms to move some of their assets. The Treasury Department’s Office of Foreign Asset Control (OFAC) and Financial Crimes Enforcement Network (FINCEN), in conjunction with the White House’s National Security Council, need to ensure this does not happen.
Based in the Treasury Department, OFAC is responsible for administering and enforcing U.S. economic and trade sanctions on targeted regimes, countries and individuals. In line with that responsibility, the agency publishes lists of individuals and companies connected to both country and non country-specific sanctions. Additionally, the agency provides guidance to specific industries to ensure they appropriately comply with listed sanctions. The agency’s Sanctions Compliance Guidance for the Virtual Currency Industry is a good example. Released in tandem with Deputy Treasury Secretary Wally Adeyemo’s sanctions review report, which recognized the risks digital assets present to sanction enforcement, OFAC’s guidance outlines compliance requirements and best practices for sanctions for compliance for the crypto industry.
To meet compliance requirements, crypto firms, even those that claim to be decentralized, need to block sanctioned individuals and entities from signing up to and conducting transactions on their platforms. These firms must also submit reports of these blocked transactions within ten days and be prepared to provide at any moment information on blocked activity reports. Some of the best practices recommended to allow firms to meet these requirements include Know Your Customer (KYC) procedures, geolocation tools to identify addresses in sanctioned jurisdictions, and transaction monitoring software. These internal controls need to be supported by commitments from firms’ management, frequent tests and audits of platforms and extensive risk assessment tests.
Provision of clear and actionable guidance to the industry is a positive first step, but OFAC must be ready to fully utilize the full range of its enforcement powers to guarantee full compliance. First, the agency needs to ensure that compliance controls are well established across the industry, including within decentralized exchanges that purport to have little to no control over their platforms. The current crypto industry norm of adopting OFAC policies and procedures long after commencing operations cannot be handwaved. Moreover, OFAC must frequently draw on its subpoena power to request on demand reports of information related to transactions subject to OFAC’s regulations from businesses in the industry. It is critical that the agency not just relies on firms’ voluntary self-disclosures, but proactively seeks information from businesses for screening and analysis When details in the reports are not sufficient, the agency should not hesitate to seek additional information from firms. In situations where OFAC finds evidence of wrongdoing or negligence, the agency must apply appropriate civil or criminal penalties. Negligent firms should not evade accountability with slap on the wrist punishments or settlement fees that are immaterial to their bottom line.
Some crypto firms have dismissed pleas to exclude all Russians from their platforms while others have argued that the industry already possesses ample tools to ensure sanctions compliance. But as law professor Lee Reiners notes, even larger financial institutions which possess both a record of sanctions compliance and requisite financial resources to ensure compliance have struggled to meet OFAC standards for implementing sanctions. In fact, these institutions —domestic bank holding companies with over $100 billion in consolidated assets or U.S. intermediate holding companies of foreign banking organizations with more than $50 billion in total consolidated assets— were penalized to the tune of $4.3 billion by OFAC between 2010 and 2019. Thus, it is especially important to place a more watchful eye on the loosely regulated crypto industry which boasts of much weaker private policing capabilities.
The crypto industry continues to play a not insignificant role in illicit activity. Strict enforcement of longstanding law is necessary to counteract corporate wrongdoing in the space. That means the imminent Omnibus to fund the US government must include adequate resources to ensure a vigorous OFAC enforcement capability. It is critical that OFAC is ready to quickly and justly apply civil and criminal penalties when the crypto industry fails to meet required standards.
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