Cryptocurrency Compliance


The United States Securities and Exchange Commission recently raised concerns about cryptocurrencies. Notably, in recent months, the SEC’s division of internal management sponsors to refrain from initiating registrations for funds investing in cryptocurrencies and related products, due to concerns about how such funds could comply with laws and regulations.

Fiduciary Duties

In particular, the internal management division noted the opportunity for fraud and manipulation in cryptocurrency markets. As such, the regulator has warned that broker-dealers and investment advisors should consider their fiduciary duties and the appropriateness of funds investing in cryptocurrencies and related products.  SEC Chairman Jay Clayton outlined several questions for investors and other market participants, including, whether the product is legal/licensed, what risks are involved, and whether or not the product is in compliance. In addition, he cautioned that highly touted securities in thinly traded, volatile markets could be a red flag of a “pump and dump scheme.” Furthermore, the anonymity offered by cryptocurrencies and the capacity to make transfers without intermediaries or geographic locations may facilitate illicit trading and financial transactions. Several recent examples stand out as warnings to investors in this field.

Price Manipulation

In California, a type of cryptocurrency operating on a centralized blockchain model recently received its third class-action lawsuit for securities fraud and illegally trading securities.  In California Superior Court, a private investor alleged the company and its Chief Executive Officer illegally profited from price increases and conflating their token supply, creating billions of tokens “out of thin air.” Defendants profitted by selling the tokens and using the cryptocurrency to fund themselves, according to plaintiffs.

Ukraine Exchange Fraud

Recently, Ukrainian Authorities arrested several individuals in connection with running multiple fraudulent cryptocurrency exchanges. The individuals reportedly used a custom content management system and infused review websites of these exchanges with fake, positive reviews to attract users. The suspects then used eWallets registered under fake identities to steal money from users. In Ukraine, and several other countries, cryptocurrencies are in a bit of a legal gray zone, and are neither explicitly legal or illegal.

Chinese Gambling Ring

Chinese Police arrested over 540 suspects involved in a cryptocurrency gambling ring in China during the 2018 World Cup. The ring, which involved more than USD 1.5 billion, implicated more than 20 gangs and 70 apps and websites. The platform reportedly supported gambling through the usage of Bitcoin, Ethereum, and Litecoin. Last September, then People’s Bank of China banned initial cryptocurrency offerings due to the large number of scams and its disruptive effect on the “economic and social order” of the country.

Ponzi Scheme in India

In India, authorities have accused a businessman of committing a cryptocurrency ponzi scheme, duping investors into believing their product was a safe investment with promises of high returns. His affiliates reportedly lured investors with promises of huge returns after six months and boasted they had connections with governments in several Caribbean companies.  This would pave the way for their legalization in those jurisdictions. After time passed, investors realized they were not getting a return on their investment, and those that attempted to go to the company’s headquarters were turned back or even threatened. Several other scams have been uncovered in India in recent months, including a kidnapping scheme extorting bitcoins and other ponzi schemes.

Moving Forward

While efficient and conducive to facilitating investment opportunities, cryptocurrencies present a substantial amount of risk and a significant amount of legal uncertainty, particularly internationally. When advising clients and engaging in transactions, advisers should thoroughly examine laws and regulations, in addition to the suitability of these opportunities for their clients.  Partnering with a third party due diligence provider such as Vcheck Global can help companies and institutions protect themselves and their clients from involvement with bad actors across the field. Thoroughly vetting companies, their affiliates, and key actors can include not only reviews of sanctions lists, in-country public records and native language research, but higher level investigations which can involve in-country source inquiries and surveillance in the appropriate jurisdictions.

Brock Treworgy

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