Treasury Crackdown on Tornado Cash Punishes Honest Crypto Investors

A tornado is seen over a field in D’arcy, Saskatchewan, Canada on June 15, 2021.

Neil Serfas | via Reuters

The Treasury Department crackdown on Tornado Cash was aimed at stopping the criminals. But many ordinary crypto investors with honest intentions are now in danger.

“Every American will need to be very careful when it comes to transacting with Tornado Cash,” said Ari Redbord, head of legal and government affairs at research firm TRM Labs, in an interview. “Remember that sanctions are strict liability. Intent doesn’t matter.”

Tornado Cash is used by some people as a legitimate way to protect their privacy in the still nascent crypto market. When a buyer pays for something using a crypto wallet, the transfer recipient has access to the buyer’s public crypto wallet, viewing account details and history.

Using a crypto mixing service like Tornado Cash hides these details by anonymizing the funds and concealing the identity of the buyer.

“There’s a need for solutions that can help you cover your tracks, even when you’re not doing anything illicit,” said Tom Robinson, chief scientist at blockchain analytics firm Elliptic.

In blacklisting Tornado Cash on Thursday, the Treasury Department said it was going after criminals, who have used the service to launder more than $7 billion in virtual currency since its launch in 2019.

Even though the purpose of these sanctions by the Treasury’s Office of Foreign Assets Control (OFAC) is to prevent a state like North Korea from converting illicit crypto funds into more usable traditional currencies to fund arms proliferation, the ripple effect on everyday investors will be harsh, experts told CNBC.

In the past, OFAC has placed cryptocurrency wallet addresses on its “List of Specially Designated NationalsNow the Treasury is targeting the address of a smart contract that allows people to maintain their privacy, according to Peter Van Valkenburgh, research director at the Coin Center, a nonprofit cryptocurrency think tank.

“Target software”

“It’s fundamentally different because now you’re not targeting a specific person who is a known terrorist or a member of an enemy state,” Van Valkenburgh said. “You are targeting software that exists on a peer-to-peer network on the Internet.”

OFAC is something of a nuclear option when it comes to financial control, according to Van Valkenburgh. He said it is more commonly used to identify “a supporter of terrorism or a leader of an enemy state”.

Jake Chervinsky, head of policy at the Blockchain Association, said that this action marks a break with the previous for the US Treasury, which for years has “carefully distinguished bad actors from neutral tools” and “the technology that they (plus everyone in the world) are able to use”.

Elliptical says there is also a discrepancy between Treasury data and his own calculations. Elliptic found that at least $1.5 billion in proceeds of crimes such as ransomware, hacks and fraud were laundered through Tornado Cash, and claims the government’s $7 billion figure refers to the total value of crypto assets that were sent via Tornado Cash.

The repercussions are already apparent. Circle, the company behind the US dollar-pegged stablecoin USDC, reportedly froze around $75,000 in USDC that was connected to Tornado, according to Dune, a crypto data aggregator.

Crypto exchange Coinbase will also have to block its customers from sending funds to Tornado Cash, given new basic Treasury rules.

Learn more about technology and crypto from CNBC Pro

Redbord says crypto holders will eventually find a way to protect their identities.

“While today’s designation will affect Americans who conduct legitimate transactions, they will likely find other avenues,” he said.

But the problem for crypto users looking for an alternative mixing service is that no other has the scale of Tornado Cash, making it difficult to protect their identity.

“If nobody’s using them, it’s very easy to get over the mix and go through them,” Robinson said. “You need a big pot of cash for it to be effective as a mixer, and it takes time to gather that cash and make that use work,” Robinson said.

LOOK: 20% of crypto mining volumes disappeared

Robert D. Coleman