Bitcoin Exchange in U.S. Crosshairs Banked at Wells Fargo

A move by the U.S. government to rein in the unregulated use of Bitcoin involved the seizure of a Japanese company's account at Wells Fargo (WFC).

Mt. Gox, the world's largest exchange for trading the virtual currency, has operated as an unlicensed money transmitting business in violation of federal law, the Department of Homeland Security charged in warrants issued recently by the U.S. District Court in Baltimore.

The warrants authorize the government to seize funds held in accounts that Mt. Gox, based in Tokyo, allegedly maintains at Wells Fargo, the nation's fourth-biggest bank, and at Dwolla, an alternative payments provider in Des Moines, Iowa.

While opening a Wells Fargo account for a subsidiary in 2011, Mt. Gox's chief executive allegedly answered "no" when asked by the bank if his company dealt in, exchanged or transmitted money.

A Wells Fargo spokesman would not discuss the warrant on Wednesday.

U.S. law requires businesses that transmit money to adhere to state licensing laws and to register with the Treasury Department's Financial Crimes Enforcement Network, which enforces laws that aim to prevent money laundering.

Businesses that register with Fincen also must authenticate the identity of customers and report suspicious activity, a requirement that runs counter to the setup of Bitcoin, which enables users to transact anonymously.

In March, Fincen issued rules "clarifying" that registration requirements apply to certain businesses that deal in bitcoins and other cryptocurrencies. Neither Mt. Gox nor Mutum Sigillum, the Delaware-based subsidiary of the exchange that banked at Wells Fargo, has registered with Fincen as a money services business, the government charged.

"The moment an exchanger is considered a money transmitter a whole slew of regulations fall on you," says Juan Llanos, a risk management expert. "This should be seen as a huge red flag by Bitcoin entrepreneurs."

Mt. Gox said in a Facebook post early Wednesday that it had not seen the warrant but that it would "provide further reports when additional information becomes known."

Dwolla spokesman Jordan Lampe said in an email to PaymentsSource that because of the warrant the company "has ceased all account activated associated with Dwolla services for Mutum Sigillum while Dwolla's holding partner transferred Mutum Sigillum's balance to the proper authorities."

Nicole Navas, a spokeswoman for U.S. Immigration and Customs Enforcement in Baltimore, declined to comment to PaymentsSource.

The seizure means that people who want to convert dollars to bitcoins or vice versa will be unable to do so through Dwolla, which provided settlement accounts for Mt. Gox customers.

Mt. Gox allegedly used the account at Wells Fargo to route funds from overseas to and from accounts at Dwolla at customers' requests.

The seizure also seems calculated to undermine the anonymity of Bitcoin, which serves as a medium of exchange for people who choose to not have their transactions tracked. Because Bitcoin has no central issuing authority, law enforcement agencies view it as a way for people to hide or launder the proceeds of illegal activity.

"Bitcoin offers many of the same challenges associated with other virtual currencies … and adds unique complexities for investigators because of its decentralized nature," the FBI wrote in a report published last year.

Requiring Mt. Gox to register transactions it completes on behalf of customers in the U.S. may thwart that activity. "That way you nip it in the bud," says Terry Maher, an attorney with Baird Holm LLP in Omaha, Neb. "Law enforcement is scared to death of Bitcoin because of concerns it could be a tool for terrorists and drug gangs to move funds outside the banking system."

He and Llanos point to a crackdown four years ago by the government on E-Gold, a worldwide electronic payments system that allowed people to transact anonymously, as precedent for the government's handling of Mt. Gox.

E-Gold was charged with operating an unlicensed money transmitting business in violation of the same U.S. law the government cited in the warrants it obtained to seize funds from the Bitcoin exchange. The prosecution of E-Gold case ended with guilty pleas by some of its officers and directors.

Llanos noted that the crackdown on companies like E-Gold and Mt. Gox stems from federal laws that aim to prevent the financial system from becoming a conduit for criminals and state laws that aim to protect consumers.

Still, regulation "is bound to hamper disruptive innovations in the crypto-payments space," Llanos wrote recently in a blog post that presaged the crackdown on Mt. Gox. "E-Gold is a case in point."

"And I'm not even talking about the potential threat posed by Bitcoin to financial industry incumbents and to the sovereign powers that control fiat currencies," he added.