On March 27, the Commodity Futures Trading Commission (CFTC) announced a lawsuit against Binance, the world's largest cryptocurrency exchange, and Changpeng Zhao (CZ), the Canadian CEO and founder of the exchange, for allegedly allowing people in the U.S. to trade derivatives on its platform without proper regulatory approval.
In response to the lawsuit, a Binance spokesperson told the Legal Newsline that the company will continue to work with regulators and enhance its compliance program.
"The complaint filed by the CFTC is unexpected and disappointing as we have been working collaboratively with the CFTC for more than two years," the spokesperson said. "Nevertheless, we intend to continue to collaborate with regulators in the US and around the world. The best path forward is to protect our users and to collaborate with regulators to develop a clear, thoughtful regulatory regime. We have made significant investments over the past two years to ensure we do not have U.S. users active on our platform."
During the two-year period, "We went from approximately 100 people in our compliance team to around 750 core and supporting compliance personnel today, including almost 80 personnel with prior law enforcement or regulatory agency experience and approximately 260 personnel with professional certificates in compliance," the spokesman told Legal Newsline.
The company spent an additional $80,000,000 on external partners for transaction monitoring, market surveillance and investigative tools that support compliance programs, the spokesman said.
Binance implemented a robust "three lines of defense" approach to risk and compliance, including:
- Ensuring mandatory Know Your Customer (KYC) for all users worldwide.
- Maintaining country blocks for anyone who is a resident of the U.S. blocking anyone who is identified as a U.S. citizen regardless of where they live in the world.
- Blocking for any devices using a U.S. cellular provider.
- Blocking log-ins from any U.S. IP address.
- Preventing deposits and withdrawals from U.S. banks for credit cards.
Matt Levine, a former lawyer and investment banker, wrote in an opinion piece for Bloomberg that it is notable that the CFTC is not accusing Binance of stealing customer funds, as crypto exchange FTX did before its November collapse. Instead, Levine said, the focus of the lawsuit is that crypto exchanges are not allowed to offer derivative trading services in the U.S. without registering with the CFTC, "and it’s not exactly easy to do that."
One attorney who weighed in on the situation said in a Twitter thread that the lawsuit is a "nothingburger," with most of the accusations in the complaint focused on activities that took place in 2019 or 2020, which are now "moot" because of the know-your-customer (KYC) protocols Binance implemented in 2020.
"Half of these are just bogus allegations," the attorney said, adding that "any concrete allegations of market manipulation and violations of AML (anti-money laundering) provisions" are "notably missing."
CFTC Chairman Rostin Behnam said in a statement, “Today’s enforcement action demonstrates that there is no location, or claimed lack of location, that will prevent the CFTC from protecting American investors. I have been clear that the CFTC will continue to use all of its authority to find and stop misconduct in the volatile and risky digital asset market. For years, Binance knew they were violating CFTC rules, working actively to both keep the money flowing and avoid compliance."
The CFTC is seeking monetary penalties and trading bans through litigation.
Binance has taken several steps since the collapse of FTX to increase transparency and accountability, and one such step was the launch of its new proof of reserves (PoR) verification system earlier this year, according to a blog post. The new PoR system aims to prove to the public that Binance backs all user funds 1:1, plus additional reserves. Binance’s new zero-knowledge proof protocols resolve potential problems by ensuring that no users can have a negative balance in the Merkle tree and that all leaf nodes are contributing to the claimed total user balance of each asset, the post said.
The lawsuit, which was filed in the U.S. District Court for the Northern District of Illinois, alleges that Binance leadership was aware of the fact that some U.S. users used tools such as virtual private networks (VPNs) to circumvent restrictions that would have prevented them from trading crypto derivatives on Binance's platform, CoinDesk reported. "VPN use by customers to access and trade on the Binance platform has been an open secret, and Binance has consistently been aware of and encouraged the use of VPNs by U.S. customers," the filing said.