Since the original 2008 white paper introducing blockchain technology, bitcoin and other cryptocurrency transactions have been touted as completely anonymous and private. But how anonymous are crypto transactions really?
$3.6 billion earlier this year bitcoin was seized of a Manhattan couple who were arrested and charged with money laundering in connection with a 2016 hack on the Hong Kong cryptocurrency exchange Bitfinex. It was the largest financial seizure in Justice Department history.
Law enforcement has gone to great lengths to track down the illicit funds, including tracking the stolen bitcoin through a complicated web of transactions across multiple countries. It took six years, but authorities finally caught up. More recently, researchers have demonstrated traceability via unintentional patterns in bitcoin’s transaction data — the larger a data set gets, the more patterns appear. And patterns can be identified and tracked.
Since cryptocurrency allows instant peer-to-peer transactions over the internet, the idea is that there are only two parties involved in the activity. No banks, governments or intermediaries are needed. While this may seem like the perfect framework for privacy and anonymity, this year’s bust is and other examples paint a different picture of crypto transactions.
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Bitcoin has now caught on with mainstream investors and this principle of private transactions has become much more uncertain. If this financial activity can be traced then cryptocurrency like bitcoin is more pseudonym then anonymous.
To understand how anonymity and cryptocurrency relate, CNET sat down with two blockchain technology experts: Dr. Steven Gordon, who teaches a cryptocurrency and blockchain course at Babson College; and Feng Hou, Maryville University’s chief of digital transformation, who is working to implement blockchain technology.
This is what they told us.
Are bitcoin transactions anonymous?
No. Bitcoin transactions can be traced, as evidenced by the recent arrest in Manhattan and last year’s Colonial Pipeline hack, in which authorities were able to to earn back part of the attackers’ ransom.
“While there are certain ways that cryptocurrency offers some level of anonymity, keep in mind that no one can claim 100% anonymity at this point,” Hou said.
How is cryptocurrency traceable?
The federal focus on crypto-related crime, combined with the increasing sophistication of law enforcement tools to detect illegal cryptocurrency payments, means such transactions are not anonymous. But aside from the proliferation of resources dedicated to stopping crypto-crime, there’s a simpler reason why these types of transactions aren’t exactly anonymous for regular Americans.
Cryptocurrency transactions are recorded on a blockchain, which is generally public. At the same time, crypto transactions are not necessarily linked to an identity, offering users a bit of anonymity. While there are certain goods and services that you can purchase directly with bitcoin, in most cases it must be exchanged into local currency in order to actually spend it. And converting bitcoin to US dollars, a highly regulated currency backed by the federal government, creates a clear paper trail.
“If you want to use bitcoin or any other cryptocurrency to buy things,” Gordon said, “you’re probably going to have to convert the cryptocurrency to dollars at some point.”
To convert bitcoin to dollars, you generally need to find a company that offers this service, such as a cryptocurrency exchange, a money transfer service, or selected banks. Such companies usually adhere to the “Know Your Customer” principles, which means that identity verification is required to use the service. As Gordon said, “Regardless of how anonymous or pseudo-anonymous bitcoin is, the services that convert bitcoin into dollars are not anonymous, and therefore trading them would not be anonymous in any meaningful way.”
How are suspicious crypto transactions reported?
KYC refers to a standard in the financial services industry that protects against money laundering and other financial crime. For example, institutions under the Federal Deposit Insurance Corporation must have a clear relationship with their customers to develop a “customer risk profile,” which is used to identify and report suspicious transactions to authorities.
That means banks and other financial institutions are required to have customers’ personal information in order to be insured. although the FDIC does not insure crypto, cryptocurrency exchanges operating in the US have adopted KYC standards. Both Coinbase and FTX.US require customers to confirm their identity. It is also worth noting that the FDIC, in conjunction with other regulatory bodies, is exploring new crypto asset laws.
Is Every Cryptocurrency Really Anonymous?
There are cryptocurrencies that people claim are 100% anonymous. However, any claim of completely anonymous transactions should be treated with skepticism.
“We know that we can always get to the bottom of things through forensic analysis,” Hou said. “So, to put it plainly, any cryptocurrencies claiming to be 100% anonymous should be taken with a grain of salt.”