Tornado Cash Sanctions: What Crypto Investors Need to Know
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In August 2022, the U.S. Department of the Treasury's Office of Foreign Assets Control — also known as OFAC — sanctioned Tornado Cash, a cryptocurrency mixer that blends funds together to make their sources harder to trace. Virtual currency mixing services can be used to launder stolen funds, and the U.S. Treasury says Tornado Cash reportedly processed over $500 million from several online hacks and heists. The sanctions stipulate the following:
Any assets currently sitting in Tornado Cash are frozen.
Transactions to or from Tornado Cash are prohibited.
The mixer’s code itself is banned (though it’s essentially impossible to shut down the technology).
But while the sanctions were meant to target money laundering, some crypto enthusiasts feel that OFAC is overstepping its authority by sanctioning a digital asset rather than a person or organization. Critics of the sanctions are worried about their implications for crypto users’ privacy and potential future shutdowns. In September, six individuals challenged these sanctions by bringing a lawsuit, funded by the crypto exchange Coinbase, against the U.S. Treasury Department.
Here’s what to know about cryptocurrency mixers, and what these government sanctions might mean for your future investments.
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What is a crypto mixer?
Cryptocurrency mixers, also known as tumblers or blenders, are designed to make actions on the blockchain more private by mixing together data from separate transactions. This prevents anyone from being able to trace where a certain asset is coming from, making transactions essentially anonymous.
Mixing services charge a fee, usually between 0.25% and 3% of the amount sent through the mixer. Though they can be legal if properly registered, mixers have made headlines for their use in money laundering and other cyber crimes.
Tornado Cash, for example, is one of the first decentralized applications on the Ethereum blockchain to offer private transactions and has allegedly “mixed” millions in stolen funds from multiple online heists. One of the biggest heists that moved funds through the mixer was led by a Democratic People’s Republic of Korea state-sponsored hacking group sanctioned by the U.S. Treasury in 2019.
According to a July 2022 report by blockchain analysis firm Chainalysis, mixer use is at an all-time high, with 23% of funds sent to mixers coming from addresses connected to illicit activity.
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What are sanctions, and how are they being enforced?
OFAC enforces economic sanctions — penalties that work as a deterrent against prohibited activities — on certain countries, individuals and business entities. The recent sanction against Tornado Cash is list-based, which calls for the assets in the entity’s possession to be blocked and prohibits transactions with any associated actors.
OFAC has specific guidelines for sanctions against virtual currencies. In particular, anyone holding a blocked cryptocurrency must report the asset to OFAC within 10 business days of the currency being blocked and deny anyone else access to it (so no selling or trading). If you want to withdraw funds, you’d have to apply for special permission from OFAC.
In the case of Tornado Cash, U.S. users are no longer allowed as of Aug. 8, 2022, to send any assets through the mixer — or retrieve any funds stuck on the platform — without special permission from the U.S. Treasury. OFAC did note that it would look favorably on applications from users looking to withdraw their funds.
How have crypto issuers and platforms responded to the sanctions?
In compliance with the government sanction, Circle, the issuers of USDC — a stablecoin tied to the U.S. dollar — froze over $75,000 of assets on the platform.
The developers of Tether (USDT), another U.S.-dollar-based stablecoin, made a public statement that they would not be freezing all accounts associated with Tornado Cash, and would wait for an official, direct request from OFAC.
Exchange platform Coinbase is funding a lawsuit against the U.S. Treasury over the sanctions, claiming the Treasury overstepped its authority by blocking the software instead of just individual actors.
I don’t use Tornado Cash. Could this affect me?
For the majority of users, sanctions at this level won’t affect their investments, but it does suggest that other crypto platforms used for money laundering could be shut down.
Currently, decentralized finance, or DeFi, apps like mixers work more like the Wild West than Wall Street. They're meant to operate without intermediaries, but a lack of internal regulation can expose such platforms to misuse and potentially make them a target for government regulation or penalties.
Because Tornado Cash operates on the Ethereum blockchain, these events also have the potential to affect Ethereum as a whole. If the government asked Ethereum validators to block blacklisted Ethereum addresses, for example, and a majority of validators complied, it would effectively make Ethereum more regulated. So far, the government hasn’t made this request, and it’s unclear whether a majority of validators would comply if it did.
How do I make sure my crypto assets aren’t affected by sanctions?
“Make sure the products you’re investing in are from vetted providers that are on top of regulations,” says Katherine Dowling, chief compliance officer at Bitwise Asset Management.
It can be tempting to use services that promise high returns or total privacy, but these platforms aren’t without risk. In the decentralized environment of cryptocurrency, it’s especially important to invest in products with a clean track record. Penalties for a violation of OFAC sanctions can range from a warning letter to a significant fine or even a criminal investigation.
However, it’s impossible to predict if a service will be used for illegal means. Complying with sanctions isn’t always in your control, either: The day after Tornado Cash was sanctioned, an anonymous user sent small transactions from the mixer to high-profile Ethereum accounts, all of which were unable to block the transfers.
OFAC said it’s aware of this practice, known as dusting, and will not prioritize enforcement against such recipients. But if you’re a recipient, you should reject or block the transaction by filing a report with OFAC within 10 business days.
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What does this mean for crypto?
When Tornado Cash was sanctioned, the government seized control of all its addresses and froze the associated assets, which could set a standard for future government crackdowns on crypto.
“We’re going to continue to see tension points between privacy and national security interests,” Dowling says. “But we’re going to have to create better instruments to handle violations.”
Until there are better tools to regulate products like Tornado Cash, government safety measures meant to target illicit activity could affect innocent users of these products, too.