The United States and its allies have responded to Russia's invasion of Ukraine by imposing severe and unprecedented sanctions that isolate Russian-based financial institutions, President Putin and certain of his associates, and certain regions of Russia and Ukraine from the global financial and trade system. The sanctions measures, which we discuss in detail in prior Client Alerts,1 include sweeping financial sanctions that have had a profound impact on Russia's economy and financial system. As a result, certain features of cryptocurrencies and their underlying technologies, such as the ease of transferability, transaction anonymity, and decentralization may initially appear to make the asset class attractive to persons that are blocked from the traditional U.S. financial system.

These developments have led many to ask, to what extent can cryptocurrency be used to evade Russia sanctions?

This alert addresses the potential use of cryptocurrency to circumvent sanctions on Russia and provides recommendations to crypto-sector participants to aid compliance with U.S. sanctions prohibitions. Although large-scale sanctions evasion using cryptocurrency by the Russian government may well not be practicable, for the reasons discussed herein, there is concern among some U.S. policymakers that sanctioned persons in Russia will turn to cryptocurrency as they become more desperate for access to the global financial system. However, the design of many cryptocurrencies, including Bitcoin and Ether, is such that cryptocurrency holdings and transactions generate significant amounts of publicly available data that make it possible in many circumstances for centralized cryptocurrency exchanges to detect potential illicit activity and prevent persons located in certain geographical regions or persons targeted by sanctions (collectively, "Sanctions Targets") from converting cryptocurrencies into fiat currency. These exchanges are critical in the cryptocurrency ecosystem as they provide on-and-off ramps between cryptocurrencies and fiat currency. Thus, if exchanges prevent Sanctions Targets from converting cryptocurrencies into fiat currency, then cryptocurrencies become a less attractive asset class for Sanctions Targets seeking to evade sanctions. That being said, the Treasury Department's Office of Foreign Assets Control ("OFAC") has made clear that preventing sanctions evasion through cryptocurrency is a high priority for the agency, and it intends to use its sanctions authorities to counter the use of cryptocurrencies by Sanctions Targets and other malicious actors who abuse cryptocurrencies and emerging payment systems.

Overview of U.S. Sanctions

As detailed in our prior Client Alert discussing sanctions considerations for the crypto-sector more generally, OFAC administers and enforces various economic sanctions programs against geographical regions, governments, groups, and individuals. OFAC regulations generally prohibit U.S. persons2 from engaging in transactions, directly or indirectly, with Sanctions Targets. In addition, U.S. persons are generally prohibited from "facilitating" or assisting the actions of non-U.S. persons that would be prohibited for U.S. persons to perform directly due to U.S. sanctions. Under OFAC's definition of U.S. persons, cryptocurrency exchanges, technology companies, payment processers, and administrators located or organized in the United States are considered U.S. persons. In addition, any users of digital currencies who are U.S. citizens or "green card" holders, regardless of where such individuals are located, are U.S. persons under OFAC's definition. As a result, those persons are directly restrained by U.S. sanctions from providing benefits to a sanctioned jurisdiction or engaging in any transaction involving a designated person.

In the past few years, OFAC has increasingly designated persons that have used virtual currency in connection with malign activity, including several Russian persons. For example, in September 2021, OFAC designated SUEX OTC, S.R.O. ("SUEX"), a Russian virtual currency exchange, for facilitating financial transactions for ransomware actors. An analysis of SUEX transactions highlighted that over 40% of SUEX's known transaction history was associated with illicit actors.3 In addition, OFAC has designated various Russian entities associated with certain malware and malware-related cyberattacks, such as Evil Corp-the Russia-based cybercriminal organization behind the Dridex malware.4

More recently, the United States imposed comprehensive, territorial sanctions on the so-called Donetsk People's Republic ("DNR") and the Luhansk People's Republic ("LNR") regions of Ukraine. These sanctions, which closely mirror the comprehensive sanctions imposed on the Crimea region of Ukraine in 2014, broadly prohibit U.S. persons from engaging in virtually any transactions or dealings involving the DNR and LNR (directly or indirectly), unless exempt or authorized by OFAC.

Potential for Cryptocurrency to Evade Russia Sanctions

Some members of the U.S. government have expressed concern that cryptocurrencies may offer Sanctions Targets and other illicit actors an alternative means of facilitating transactions due to their ease of transferability, transaction anonymity, and decentralization features. These concerns have become even more urgent given the sanctions imposed on Russia after its invasion of Ukraine and reports that "Russian entities are preparing to blunt some of the worst effects" of the sanctions that have been levied on the country by using the array of "cryptocurrency-related tools at its disposal."5 Indeed, Russia's largest financial institution, Sberbank, reportedly just received a license from the Russian Central Bank to issue digital assets to clients, a significant departure from Russia's pre-war crypto stance.6 A recent report prepared by the U.S. Treasury Department noted how technological innovations, such as cryptocurrencies, potentially reduce the efficacy of American sanctions since crypto transactions offer malign actors opportunities to hold and transfer funds outside the traditional dollar-based financial system.7 In addition, on March 2, 2022, Senators Elizabeth Warren, Mark Warner, Sherrod Brown, and Jack Reed, wrote to U.S. Treasury Secretary Janet Yellen voicing concerns about the Treasury Department's progress in monitoring and enforcing sanctions compliance within the cryptocurrency industry, especially given the need to ensure the efficacy and integrity of U.S. sanctions against Russia.8

However, these concerns may not be as widespread as initial reports suggested. On March 8, 2022, during a background press conference on President Biden's recent executive order on the responsible development of digital assets, a senior Biden Administration official, when asked about the topic of sanctions, stated: "[On] Russia, in particular, the use of cryptocurrency we do not think is a viable workaround to the set of financial sanctions we've imposed across the entire Russian economy and, in particular, to its central bank."9 Moreover, according to Carole House, Director of Cybersecurity and Secure Digital Innovation for the National Security Council, the scale that the Russian state would need to successfully circumvent all U.S. and partners' financial sanctions would almost certainly render cryptocurrency as an ineffective primary tool for the state.10 In addition, Acting Director of the U.S. Treasury Department's Financial Crimes Enforcement Network ("FinCEN"), Him Das, commented on the potential for Russia to evade sanctions by the use of cryptocurrencies, stating: "[a]lthough we have not seen widespread evasion of our sanctions using methods such as cryptocurrency, prompt reporting of suspicious activity contributes to our national security and our efforts to support Ukraine and its people."11

Footnotes

1 Please see Willkie client alerts "State of Play: U.S. Sanctions Against Russia for the Crisis in Ukraine," "In a Parallel Rollout, the US, EU, and UK Sanction Major Russian Financial Institutions and Russian Sovereign Debt and Take Additional Measures," "United States Escalates Sanctions Against Russia, Targeting Major Russian Financial Institutions and Russian President Vladimir Putin" and "In First Response to Russian Intervention in Ukraine, President Biden Imposes Comprehensive Sanctions on the Donetsk and Luhansk Regions of Ukraine."

2 U.S. persons are defined to include: (i) United States citizens and permanent resident aliens, wherever located; (ii) all entities organized in the United States (including their foreign branches); and (iii) all individuals, entities and organizations actually located in the United States. For the U.S. sanctions against Cuba and Iran, all entities owned or controlled by U.S. persons, wherever organized or doing business (including foreign subsidiaries), are also generally required to comply with such sanctions.

3 Id.

4 Department of the Treasury, Updated Advisory on Potential Sanctions Risks for Facilitating Ransomware Payments, Sep. 21, 2021, available here.

5 Emily Flitter and David Yaffe-Bellany, Russia Could Use Cryptocurrency to Blunt the Force of U.S. Sanctions, The New York Times, Feb. 23, 2022, available here.

6 Will Daniel, Russian banks are so broke the biggest lender just got the go-ahead to issue digital assets like crypto, Fortune, Mar. 18, 2022, available here.

7 Department of the Treasury, The Treasury 2021 Sanctions Review, Oct. 2021, available here.

8 United States Senate, Letter to Treasury re OFAC crypto sanctions enforcement, Mar. 2, 2022, available here.

9 Press Briefing, Background Press Call by Senior Administration Officials on the President's New Digital Assets Executive Order, Mar. 8, 2022, available here.

10 Hannah Lang, U.S. lawmakers push Treasury to ensure Russia cannot use cryptocurrency to avoid sanctions, Reuters, Mar. 2, 2022, available here.

11 Immediate Release, FinCEN Provides Financial Institutions with Red Flags on Potential Russian Sanctions Evasion Attempts, Mar. 7, 2022, available here.

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