Introduction
While anti-money laundering laws have evolved in most industries, art has remained a consistent exception.1 Consequently, criminals have turned to art as an effective way to move illicit proceeds through an under-regulated market.2 Coupled with the concerning lack of external control is the expectation of privacy rooted in the art world.3 The acquisition of art can consist of a high-dollar purchase, and transactions involving prominent consumers and long-time collectors are often kept anonymous.4 Given the confidentiality between transacting parties, investigative procedures are often underperformed or even utterly ignored.5 The opacity of the art market is further characterized by valuation methods. Prices of artworks are highly dependent on subjective estimates and market trends, and the uncertainty surrounding art appraisals enables illicit behavior to go unnoticed.6
Though an established culture of secrecy and obscurity has long exposed the art world to money laundering tactics, the ability to exchange art in the digital space elicits far greater concern.7 The emergence of non-fungible tokens (NFTs) presents an additional layer of secrecy and aggravates the course of identifying illegal transactions.8 For example, users can buy NFTs with illicit funds or cryptocurrencies they own anonymously.9 Moreover, given the extraordinarily high value of some NFTs, buyers could exchange numerous tokens using coins that are linked to different accounts.10 The lack of scrutiny among art deals has been a long-standing issue, and transacting parties have taken advantage of this predisposed market to their financial benefit.11 Although anti-money laundering regulations have now been extended to include antiquities,12 NFTs remain unregulated.13 The emergence of NFTs exacerbates the problem by creating loopholes in the law, thereby generating a novel money laundering platform.14
The nature of NFTs makes them particularly difficult to understand, and the rise of new marketplaces, cryptocurrencies, and blockchain databases further complicates the picture.15 Therefore, lawmakers will inevitably face challenges when attempting to regulate NFTs under a defined body of law.16 These tokens have made an astonishing impact in the context of art, yet they are a type of digital asset that is purchased with cryptocurrency.17 Should NFTs be regulated in accordance with art laws or securities laws, or are they considered currency substitutions? Due to the foreseeability of increased illicit conduct, these ambiguities must be addressed.
This Note argues that the rapid development of NFTs should alert legislatures and administrative agencies to the foreseeable increase in money laundering activity. Part I of this Note discusses the history of the Bank Secrecy Act of 1970 (BSA) and illustrates how criminals can use art as an efficient money laundering tool.18 It also describes certain aspects of the art business that influence its susceptibility to criminal activity.19 Part I then turns to NFTs, providing a detailed explanation of their structure, valuation, and impact on the traditional art industry.20 Finally, Part I ends by considering the lack of anti-money laundering regulations imposed on the art market.21 Part II evaluates how NFTs could be read into existing cryptocurrency22 and securities regulations,23 while identifying the advantages, disadvantages, and potential issues of each interpretation. Part III proposes that the Financial Crimes Enforcement Network (FinCEN)24 should incorporate NFTs within the definition of antiquities25 under the BSA for purposes of combatting money laundering.26
I. Background
A. The Bank Secrecy Act of 1970
Money laundering is a process by which illegally obtained funds are made to appear as assets deriving from a legitimate source.27 First, there is an underlying crime that generates proceeds (dirty money) and triggers the money laundering scheme.28 Criminals then deposit the proceeds into financial institutions through wire transfers, checks, and other mechanisms.29 To conceal the illicit money, the assets are often moved through the financial system (e.g., by placing the funds in multiple accounts) to disguise their true origin.30 As a result, the criminal activity that produced the illegal funds becomes untraceable.31
In response to money laundering practices, Congress enacted the Bank Secrecy Act of 1970.32 The BSA established a framework designed to detect and apprehend money launderers in the United States.33 The BSA’s main objective is to identify “the source, volume, and movement of currency and other monetary instruments transported or transmitted into or out of the United States or deposited in financial institutions.”34 In 1974, the Supreme Court upheld the constitutionality of the BSA, and Congress has continuously amended the statute to expand the scope of its application.35 In 1992, the reporting requirements were extended to include wire transfers and other suspicious transactions.36 The Money Laundering Control Act of 1986 established money laundering as a federal crime.37 Congress later ratified the Patriot Act in 2001 to combat terrorism financing through customer verification procedures.38
The BSA imposes reporting and recordkeeping requirements on financial institutions to oversee transactions.39 The BSA delegates authority to the Secretary of the Treasury to issue regulations detailing the procedures for monitoring BSA compliance and specifying the financial institutions’ responsibilities.40 FinCEN enforces the BSA, offers interpretive guidance on satisfying the statutory requirements, and may seek civil or criminal action against violators.41 Pursuant to the Secretary of the Treasury’s regulations, banks must implement a BSA compliance program with adequate customer identification procedures42 and conduct risk-based due diligence that is “reasonably designed” to enable the institution to identify suspicious activity.43 Moreover, persons and entities within the scope of the statute are required to report monetary transactions over $10,000.44 These reports must include information detailing the kind of money, the amount, and its place of origin and destination, and must also contain the identities of all parties involved in the exchange, tracing the monetary instrument from the moment it leaves the hands of the seller to the moment it arrives at the hands of the buyer.45 For transactions below the $10,000 threshold, banks must only report those transactions that appear suspicious.46 Prior to 2021, the BSA did not cover the art industry.47 Therefore, players in the art market were not required to adhere to such stringent reporting requirements.48
1. Russian Oligarchs Case Study
Privately owned shell companies are one of the most common vehicles for money launderers because public exposure is limited, which in turn enables the concealment of beneficial ownership.49 The art market in and of itself is a medium by which criminals can launder money with adequate certainty that their chances of success outweigh the potential risks.50 Shell companies provide an extra level of security for buyers who intend to remain anonymous.51 When a buyer wishes to conceal their identity from the public eye, private dealers and other intermediaries have an interest in complying with the request.52 The purchaser can then acquire art using a shell corporation to mask their name and personal information.53 An individual purchasing art through a shell corporation can keep the transaction private unless it involves suspicious activity that would trigger an investigation of the company.54
When an experienced or sophisticated money launderer is the illicit source, it can take months, years, or a lifetime to identify such activity.55 In the renowned lawsuit against Russian oligarchs Arkady and Boris Rotenberg, the United States Senate’s Permanent Subcommittee on Investigations discovered that the Rotenbergs anonymously purchased high-value artworks from the United States art market despite being sanctioned by the United States.56 The Subcommittee traced over ninety-one million dollars in transactions back to a shell company owned by the Rotenbergs.57 However, the tracing process took years to complete because the oligarchs made every effort to cover their tracks.58 The Rotenbergs hired an attorney to get the job done, and the attorney used his firm, Markom Group, to operate a shell company on behalf of the Rotenbergs.59 The attorney also transferred title of one shell company to Arkady’s son, who at the time was not sanctioned by the United States.60 The sole purpose of the title transfer was to mask the Rotenbergs’ identities.61
An art advisor, Gregory Baltser, played a large role in facilitating these purchases.62 Before the Rotenbergs were sanctioned, Baltser would bid on artworks and purchase them for the Rotenbergs.63 Once purchased, Baltser would assign title to a Belize company, which was later discovered to be using the Rotenbergs’ funds to pay for the art.64 After the Rotenbergs were sanctioned in 2014, Baltser continued to purchase artworks from auction houses, including Christie’s and Sotheby’s, for the Rotenbergs.65 In compliance with their voluntary anti-money laundering policies, the houses only performed due diligence on Baltser and did not investigate the principal purchaser.66 Sotheby’s was aware that some of Baltser’s clients were Russian oligarchs yet nonetheless continued to conduct business with Baltser.67
The auction houses, despite potential suspicions and warnings regarding Baltser’s clients, did not engage in the deeper investigation that was required to discover a large-scale money laundering conspiracy.68 Despite the operation of in-house programs that aim to combat money laundering, auction houses are not implementing a sufficiently rigorous system to address crimes that are happening under their supervision.69 The Rotenberg case study demonstrates the willingness of auction houses to facilitate criminal exchanges and, in turn, contribute to the art industry’s money laundering issue. Without proper agency scrutiny, auction houses, dealers, and other liaisons will inevitably continue to administer illegal art sales.70
B. The Art Market’s Vulnerability to Illicit Activity
Money laundering practices are historically embedded in the art market.71 The art world’s appraisal process and general opacity make it an ideal means of concealing dirty money.72 Valuation methods are subjective, which makes it difficu to identify suspicious transactions merely based on the sums involved.73 Additionally, norms of anonymity and confidentiality between parties create challenges in determining who is behind a transaction, and the presence of intermediary actors disincentives proper inquiry.74 These factors make art a particularly attractive market for criminals who wish to move illegal funds while escaping rigorous inspection.75 The market’s secrecy invites a range of illicit activity, with money laundering being one of the most prevalent crimes to date.76
1. Subjective Valuation of Artworks
Money launderers are particularly drawn to art because it is an obscure, unpredictable market that constantly fluctuates.77 Supply and demand generally play a substantial role in determining price variations for a trendy market, but there are multiple factors that influence an artwork’s value.78 While some collectors are focused on the fashionable artists they notice in prominent galleries, others may solely invest in artists that have been admired since earlier eras.79 A particular artist’s works will vary in price as well. The works that best represent the artist’s style—defined by certain shapes, color palettes, or the date of creation—are the most sought-after and expensive pieces.80
Art is often valued according to what the buyer is willing to spend, and prices can increase or decrease at any moment.81 Since the cost of art is largely speculative, persons can exchange artworks for unreasonable sums of money, yet it would be difficult to identify such overvaluation by simply reviewing an invoice.82 But even in the case of a visibly irrational transaction, authorities, such as customs agents and administrative officers, are ill equipped to comprehend the price of quality art or accurately recognize a suspicious deal.83 For example, works from notable artists are known to be expensive collectibles, and therefore, the mere price of a prestigious artwork does not necessarily shed light on a questionable purchase.84 Since art has been characterized by such uncertainty, overpaying or underpaying for a work is not correlated to criminal behavior and generally will not spark an immediate concern.85 Enforcement officers do not have the appropriate familiarity to regulate art exchanges, and the professionals who do possess the required expertise are not encouraged to assist authorities in the reviewing process.86 As a result, the absence of both internal and external investigations allows price manipulation to remain undetected.87
2. Anonymous Transactions
The obscurity of valuation methods, coupled with the anonymity involved in art transactions, causes money launderers to leverage the market favorably.88 The presence of intermediary actors—such as gallerists, dealers, art advisors, and auction houses—advances a culture of strict client confidentiality.89 For a client who prioritizes anonymity, using an intermediary to buy or sell art is an effective way to maintain a private identity.90 As this is a frequent scenario, the market has become increasingly opaque—leaving most high-end deals undisclosed to the public.91 Such respect for a client’s privacy makes it difficult to identify who exactly has owned a particular artwork and who will hold title next.92
Since intermediaries are not subject to recordkeeping or reporting requirements, they possess broad discretion to keep their internal records sealed.93 As a result, individuals could successfully falsify an artwork’s provenance.94 However, it would be unreasonable for private dealers, such as small businesses, to implement comprehensive anti-money laundering programs.95 Private agents have every interest in fostering strong relationships with their clients, especially affluent ones, and the ability to administer deals without federal supervision facilitates their effort.96 This insulation eliminates any legal obligations that would otherwise create boundaries to an intermediary’s relationship with its client.97
The societal acceptance of anonymity in the art world is most prevalent in the context of buyer and seller, but it extends to agents as well.98 A lawsuit against Larry Gagosian exemplifies the issues involved in nondisclosure.99 When a collector sued the gallery owner, Gagosian, for selling her Lichtenstein painting without her consent, there were concerns about conflicts of interest, particularly over whether Gagosian was a player on both ends of the transaction.100 “In a deposition made public . . . Gagosian [testified] that he frequently represented both the seller and buyer in a deal without disclosing that fact to either party.”101 Gagosian further shared that he almost never gets asked whether he is representing both sides of a transaction.102 Such disclosure would become common industry practice if dealers were required to conform with federal standards when conducting business.103 With the appropriate administrative guides in place, unlawful behavior—such as Gagosian’s form of self-dealing—would be far less frequent among intermediaries.
Gagosian Gallery is one of the most prestigious galleries in New York City,104 and this lawsuit could potentially have a strong deterrent effect. While federal agencies tend to impose reporting requirements on large institutions, like Gagosian, in hopes that they will cooperate in fostering market transparency, the absence of federal regulation addressing intermediaries—and the art world as a whole—proves to be particularly concerning when galleries become involved in illicit activity.105 The lawsuit presents a scenario where a court could hold the gallery owner accountable for failing to disclose that he had a relationship with both the buyer and the seller, resulting in potential liability for self-dealing.106 Such an outcome would likely discourage other similarly situated galleries, museums, and auction houses from abusing the anonymous market. With the rise of a digital art era, this is especially important as NFTs rapidly gain popularity in moving money.
C. Emergence of NFTs
An NFT is a one-of-a-kind token stored on a digital ledger, such as a blockchain.107 The blockchain is a decentralized, immutable record that verifies, registers, and stores transactions.108 When an NFT is purchased, the transaction is stored via encryption codes.109 Once the exchange is documented, it will exist permanently on the database unless there is consensus among all users to eliminate the entire blockchain network.110 The blockchain database is a distributed spreadsheet, meaning that no single master copy exists.111 Therefore, its community of users can conveniently access and display the record on their computers at home.112
NFTs are bought and sold using cryptocurrency coins.113 They are most frequently exchanged with a coin called Ether (ETH) and stored on Ethereum’s blockchain.114 After buying the corresponding cryptocurrency coin (e.g., ETH), the purchaser must transfer the coins into their Ethereum wallet where they can manage their funds.115 Each NFT transaction is governed by a smart contract that records ownership and intellectual property rights on the blockchain.116 Since smart contracts essentially administer the terms of the exchange, NFTs can be acquired solely through digital ledgers that likewise support smart contracts.117 While each Bitcoin represents an equal value to the other, Ethereum is compatible with the tokens’ non-fungibility trait.118.
The first NFTs were created in 2017 by the software company Larva Labs.119 Larva Labs released a collection of “CryptoPunks”—10,000 editions of unique “Punks.”120 However, the rise of NFTs did not make a significant impact until early 2021.121 The arrival of NFTs represented a novel, unknown addition to the art industry, and although it came as a surprise to many, both established players and newcomers in the art world are visibly adapting to the surfacing of tokenized digital art.122 Christie’s Auction House announced that it was including an NFT as a lot in its Spring 2021 auction and thereafter sold digital artist Beeple’s work “Everydays: The First 5000 Days,” a digital collage consisting of 5,000 single images, for $69 million.123 The Beeple sale was a momentous occasion for the art world that sparked curiosity and confusion among long-time collectors.124 Controversially, there was a realization that NFTs were a permanent addition to the art business.125 Throughout 2021, auction houses continued to include the most sought-after tokens in their sales; houses benefited from staying up to date with market trends and indeed, the revenue guarantee.126 Christie’s reported over $100,000,000 in NFT sales by September 2021 and continues to remain active in the digital art space.127 The auction houses have generally collaborated with existing marketplaces to host their curated NFT auctions.128 Yet, it did not take long for Sotheby’s to launch its own NFT marketplace, Sotheby’s Metaverse, in an attempt to stay ahead of the game.129
Nonetheless, auction houses will not play the same role in the NFT business as they do with traditional art. Because the blockchain is a secured and reliable network, it eliminates the need for centralized third-party actors.130 After all, buyers are drawn to these tokens to benefit from decentralization, particularly the fact that they do not need to foster a connection with an auction house or important gallerist to obtain a valuable piece of art.131 Instead, they can rely on a trustworthy system that operates directly between creator to investor and buyer to seller.132
On its face, blockchain technology adds transparency to the conventional art market because all NFT exchanges are automatically recorded on a database made publicly available to everyone on the network.133 Users can view other people’s wallet address but no personally identifiable information is displayed.134 Since no third parties are involved in the transactions, there is technically no record of a purchaser’s name linked to a particular exchange.135 The coin used to purchase the NFT may contain identifying data, but it is possible to take advantage of the cryptocurrency network and use it as an additional layer of obscurity.136
Conceptual artworks (e.g., digital art, videos, and films) are deep-rooted in art history and, theoretically, NFTs are an extension of this sector.137 However, traditional art is priced at a significantly different scale than NFTs.138 What explains this disparity? The community of interested buyers is continuously expanding, which triggers an increase in NFT artists and marketplaces, resulting in more transactions.139 This rapid growth has brought attention to the class of NFT owners, revealing that millennials are highly involved in token exchanges.140 The audience consists primarily of people who are new to the art world and were inactive in the art collecting business before NFTs gained recognition.141 The same individuals who represented the early investors in cryptocurrency are now using their increased returns and putting massive amounts of funds into NFTs.142 Alternatively, some established collectors and respected artists have been reluctant to join the NFT movement as they fear the legal issues that may arise in the future.143 For example, shortly after Japanese artist Takashi Murakami launched his first collection of NFTs, he decided to withdraw the works and educate himself on the various platforms and ownership implications.144
Due to the novelty of these tokens, it is difficult to reach a definite conclusion on their true market value.145 Although NFTs are proving to be different from traditional artworks in several aspects, both traditional art and NFTs are subject to arbitrary pricing.146 Similar to conventional art, the popularity of digital artists and the availability of an NFT will affect a token’s stance in the market.147 However, the non-fungibility feature makes all NFTs equally scarce and unique, causing NFT developers to focus on utility as a distinguishing factor that increases their tokens’ price.148 In an effort to add real life value to their NFTs, project developers are now marketing their tokens as assets that offer more than just official ownership on the blockchain.149 The transaction also grants token holders access to certain benefits and opportunities that are shared exclusively among their NFT community.150 The most successful NFT projects to date—including, but not limited to, Bored Ape Yacht Club (BAYC) and VeeFriends—offer significant perks, such as admission to private events and the ability to mint additional NFTs for the token holder’s personal collection.151 For example, persons who buy into the VeeFriends community gain a three-year access pass to VeeCon, a business event hosted by the NFT project.152 BAYC is another sought-after NFT collection consisting of 10,000 avatars.153 BAYC is notorious for implementing significant benefits and is recognized as one of the largest and most prestigious NFT communities to join.154 The tokens were valued at approximately $190 when they first launched.155 A few months later, the digital Apes were being sold for well over $200,000.156 BAYC then gave its members the opportunity to create (mint) a bonus NFT free of cost.157 These newly minted NFTs, collectively known as Mutant Ape Yacht Club, are valuable tokens that could generate substantial profits for their respective owners.158
1. Art as a Self-Regulated Industry
Art is a self-regulated industry, making it a business more susceptible to criminals successfully transferring dirty money through million-dollar art sales without legal consequences.159 To offset the lack of external supervision, the four largest auction houses—Sotheby’s, Christie’s, Phillips, and Bonhams—have voluntarily implemented their own regulatory systems.160 Although they actively attempt to combat money laundering among in-house transactions, the Russian oligarchs case study proves that their efforts are ultimately insufficient.161 There may be client transactions that are not deemed suspicious as to require further investigation, and the extra layer of due diligence inevitably falls through the cracks.162 If the art industry continues to escape the BSA reporting requirements, auction houses will continue to rely exclusively on their voluntarily implemented programs.163 Even under the assumption that their client investigations were to reveal criminal behavior, auction houses are responsible for merely a fraction of art exchanges in the United States and thus would only address a minor portion of art-related money laundering cases.164 The power to tackle this issue lies in the hands of art dealers and small institutions.165
However, compared to larger entities, private dealers, small galleries, and other third parties lack the same incentives and resources to implement anti-money laundering practices.166 Dealers often conduct business without examining questionable behavior and instead rely on their counsel’s judgment—if such legal services are available to them—trusting them to search for inconsistencies and red flags.167 Additionally, dealers and other agents are not in the best position to recognize suspicious transactions, especially when their careers are based on selling artworks that yield large profits.168
The foregoing explanation highlighting the insufficiency of in-house systems, together with the unrealistic expectation that the most vulnerable intermediaries would detect the presence of money laundering, leads to the conclusion that even if auction houses and galleries independently enforce certain reporting and recordkeeping guidelines, their procedures are inadequate to identify high-level criminal schemes.
2. Real Estate: Legislative History
There are other industries that likewise have been historically insulated from federal oversight, one of the most prominent examples being real estate.169 Real estate involves price variations that are mainly determined by the constant movement in the market.170 Fluctuations in the value of real estate are difficult to flag, and the absence of uniform price tags allows money launderers to move their cash through the purchase of property.171 Although FinCEN has made an effort to address these issues, criminals are still able to use real estate as a way to cleanse unlawful proceeds because, just like the art industry, real estate continues to be largely unregulated.172
The BSA regulates “persons involved in real estate closings and settlements,” yet agents, title insurers, and other major players in the real estate business are not within the purview of the BSA.173 FinCEN has taken measures to impose specific reporting requirements beyond the vague language of the statute.174 In 2016, an increase in real estate money-laundering activity led FinCEN to issue temporary Geographic Targeting Orders (GTO) in Manhattan and Miami-Dade County.175 The GTO required title insurance companies to report all-cash transactions linked to high-end residential real estate.176 In 2021, FinCEN renewed its temporary GTO, thereby obligating title insurance companies to identify buyers who used shell companies to purchase residential real estate through all-cash transactions.177 However, the temporary nature and limited application of the orders suggest that they are simply a makeshift solution for the problem of shell companies.178 Similar to art, purchasers of commercial real estate may continue preserving their anonymity by using shell companies to mask their identities as beneficial owners.179 The exclusions from FinCEN’s regulations imply that, despite an extension of the BSA to antiquities, much of the art world may fall outside the scope of the statutory language.180
The opacity in markets like real estate and art already offer an appealing mechanism to launder money, and criminals have been able to engage in illicit conduct due to a lack of government control.181 This same rationale extends to the novel concept of virtual art, as the NFT business—particularly its abstract nature—provides assurance that illicit behavior will likely go undetected.182 Now, criminals will surely thrive in a world of unregulated dealings.183
II. Analysis
In a short span of several months, NFTs have gained widespread attention, which indicates that the digital marketplace is bound to continue expanding rapidly.184 The evolution of blockchain technology and NFTs generates serious apprehensions that the law simply cannot catch up at an equal pace.185 Since NFTs are a novel addition to the market, it remains unclear how exactly they fit into existing rules or whether they will be regulated at all.186
While the concept of intangible ownership continues developing across numerous industries, the difficulty in classifying these digital assets within the legislative regime is a growing concern.187 This Note surveys several existing anti-money laundering laws that could potentially apply to NFT exchanges and explores the likelihood of including NFTs into statutes as currently enforced.188 NFTs are technically a form of artwork, and their public attention surrounding the art business supports this classification.189 However, NFTs are stored on the blockchain and represent an extension to the innovative trend of virtual currencies such as Bitcoin.190 While the structure and presence of NFTs resemble cryptocurrency, their differences prove that federal agencies cannot regulate them under the same laws.191 Others have considered whether these intangible tokens are securities or commodities, but their non-fungible configuration suggests that NFTs may fall outside the scope of securities law.192
A. Bank Secrecy Act Extended to Antiquities
On January 1, 2021, Congress enacted the FY2021 National Defense Authorization Act (NDAA),193 which introduced the Anti-Money Laundering Act of 2020 (AMLA) establishing significant amendments to the BSA.194 Pursuant to Section 6110 of the AMLA, persons “engaged in the trade of antiquities, including an advisor, consultant, or any other person who engages as a business in the solicitation or the sale of antiquities” must comply with the BSA requirements.195
Through these amendments, the AMLA aims to increase federal scrutiny of the industry and address the grave lack of transparency.196 This marks the first time that transactions involving antiquities will endure such rigorous levels of review.197 “Antiquities” is not defined in the language of the amendment, as it is subject to regulations proscribed by the Secretary of the Treasury.198 FinCEN has yet to issue a proposed rule to enforce the amendment, but the agency’s advance notice of proposed rulemaking199 implies that “antiquities and art” will be treated as one and the same.200 FinCEN intends to refine the broad statutory language and determine whether any exceptions apply.201 This presents the ideal opportunity for FinCEN to include NFTs within the scope of antiquities and art.
The amendment indicates that money launderers who have been relying on shell companies and other layering methods will now face greater obstacles to avoiding federal investigation.202 The AMLA expansion should serve as a warning to individuals who are abusing the art market to transform their dirty funds and have managed to escape the legal repercussions thus far.203 Some are questioning how the AMLA will impact a business that is driven by its clients, particularly ones who appreciate privacy.204 If officials intend to enforce customer identification rules in an industry defined by confidentiality, cooperation may be an issue.205
B. NFTs Are Not Currency Substitutes
NFTs are an addition to the established blockchain network, and a look at the legislative history of cryptocurrency regulations could shed light on a future timeline for the emerging NFT space. Decentralized exchanges as we know them today date back to the creation of Bitcoin in 2009.206 Still, FinCEN did not address the implications of decentralized virtual currencies until 2013 when it released interpretive guidance clarifying their scope within the BSA.207 Section 5330 of the BSA specifies that persons involved “in the transmission of currency, funds, or value that substitutes for currency” must comply with the statutory requirements.208 However, the 2013 guidance established that Section 5330 only applied to persons engaged in “money transmission services.”209 The concept of a money transmitting service is commonly known as a mixing (or tumbling) service.210 A cryptocurrency tumbler combines diverse cryptocurrency funds to cause confusion in tracing the initial source of an illegal transaction.211 Given that blockchain operates as a peer-to-peer payment system, numerous users could participate in unsupervised dealings.212 The cryptocurrency movement advanced at an impressive pace, and “[c]rypto laundering” became the black market of cyber criminals.213
In 2019, FinCEN issued an updated advisory memo where the agency reviewed the issues presented by convertible virtual currency (CVC) and reestablished that individuals and entities operating cryptocurrency-based exchanges (P2P exchangers) are expected to register as a money service business.214 Moreover, the memo discussed the danger of darknet marketplaces, especially those that are only accessible through anonymous networks using special configurations.215 On its face, this language could theoretically embody blockchain databases and, consequently, Ethereum.216 However, based on FinCEN’s detailed descriptions and illustrations of the implicated darknet marketplaces, blockchain does not quite fit the title.217
NFTs are primarily sold through online platforms; most individuals trade tokens on OpenSea, Rarible, and Nifty Gateway.218 These websites provide universal accessibility by linking NFT creators to consumers who are interested in purchasing their works.219 These forums would not qualify as darknet marketplaces because they neither sell illegal goods or services nor directly support any type of illicit activity.220 Furthermore, FinCEN explained that large “trading platforms” connecting buyers and sellers are not expected to register as money transmitting businesses.221 NFTs are not illegal assets, and thus OpenSea, Rarible, and Nifty Gateway do not risk potential liability under the FinCEN advisory.222
The advisory memo also offers a set of red flags to guide companies in identifying suspicious transactions.223 For instance, the use of multiple virtual currencies as an attempt to intervene with tracing ownership on a blockchain triggers a deeper investigation of the source.224 This same method of concealment could be utilized when buying and selling NFTs; the coins used to purchase an NFT could be distributed among several accounts, making it difficult to link the token to its owner.225 Nevertheless, without a qualifying financial institution or money transmitting business, these activities will not be discovered.
Following the updated memo, FinCEN has demonstrated diligent enforcement of the AMLA against cryptocurrency exchanges.226 The agency recently filed a $100 million enforcement action against BitMEX, a long-standing cryptocurrency exchange platform, for noncompliance with reporting and recordkeeping requirements.227 BitMEX failed to implement an anti-money laundering program with proper customer identification procedures and due diligence efforts and likewise refused to report numerous suspicious transactions.228 Customers were solely required to provide an email address to participate in the cryptocurrency platform, and BitMEX did not take further steps to verify customers’ identities, nor were they planning to take such measures in the near future.229 BitMEX was only willing to adopt a more stringent customer information program as a response to governmental pressure.230 Absent such pressure, customers were able to engage in unrestrained activities that inevitably resulted in illegal transactions totaling $209 million.231
FinCEN has adapted to innovative platforms and products in the financial technology world, and their concerns regarding illicit activity in connection with convertible virtual currency may suggest that the agency is prepared to address NFTs. An NFT is not a currency substitute and thus cannot be regulated as such, but how long will it take to decipher what exactly is a digital token?
C. Securities Regulations and Fractionalized NFTs
Unlike paintings, drawings, sculptures, or other concrete artworks that can be displayed in a collector’s home, NFTs are wholly intangible.232 Their abstract configuration is comparable to stocks and bonds in form, and hence, a token could potentially be treated as a security.233 But NFTs ultimately do not meet the standard.234 In Securities and Exchange Commission v. W.J. Howey Co., the Court established a framework known as the Howey test to decide whether the Securities Act of 1933 and the Securities Exchange Act of 1934 apply to certain trades.235 The test provides that securities law governs an exchange if there is an investment contract.236 In 2019, members of the Securities and Exchange Commission’s FinHub released their own analysis of digital assets under the Howey framework; this analysis does not discuss NFTs specifically.237 NFTs are surely an investment of money, thus satisfying the initial requirement of the Howey test.238 Although regulators may not anticipate difficulties with the common enterprise prong, NFTs can complicate an analysis that otherwise seems simple when considering digital assets in a general sense.239 In particular, it is unfeasible to classify individual investors as part of a common enterprise due to the non-fungibility and sole ownership aspects of NFT purchases.240 Moreover, a buyer of digital assets likely does not have a reasonable expectation to derive profits from the efforts of others.241 The purpose of a non-fungible token is that each NFT is one of a kind and hence, someone who buys an NFT is not depending on others to gain profits.242 Finally, the value of an NFT, or any appreciation or depreciation that would occur, is not driven by the behavior of third parties, because the success of one investor is unrelated to and wholly independent from the success of another.243
Perhaps the only potential target for securities regulators are fractionalized NFTs.244 Fractionalized NFTs (F-NFTs) represent partial ownership in a larger asset, in the same way that owning a share in a company grants the shareholder a fractional right to that company’s profit.245 From that perspective, the value of the NFT will fluctuate as a whole, and each investor of the F-NFT would obtain assets that are part of a common enterprise.246 While F-NFTs may independently qualify as securities, the current industry is not structured as a stock market.247
III. Proposal
A. Regulate NFTs Within the Scope of Antiquities
After decades of rampant crime in the art world, Congress has finally included “antiquities” in the language of the BSA, yet the scope of that language remains unclear.248 An analysis of FinCEN’s advisory on the real estate market sparks concerns that certain actors in the art world will be excluded from federal supervision.249 If FinCEN adopts a similar strategy when imposing restrictions on art, money laundering activity will inevitably skyrocket.
The strongest, most reasonable approach for regulating NFTs is to interpret them as antiquities under Section 6110 of the AMLA.250 Treating NFTs as a form of art avoids the wide array of interpretations and uncertainties that would evolve if NFTs were labeled as a member of the cryptocurrency movement or as a security. It would be unsurprising for new forms of intangible art to join the market and make a similar impact. Therefore, this interpretation will avoid future ambiguities by setting the stage for transactions involving other digital variations regarded as art.
On the other hand, as this new digital asset class continues to emerge, it is stepping further away from the traditional art market. Creators are incorporating non-artistic features into their tokens, suggesting that NFTs may not be part of the art world after all.251 NFTs have had an effect on the gaming industry—token holders have the opportunity to play for profit and sell their gaming tokens to others.252 Musicians have minted their musical works into digital tokens and sold them for business, which has prompted questions about whether NFTs will challenge the music industry down the line.253 Moreover, the NFT audience consists primarily of those who are interested in decentralized finance, technology, gaming, and sports—among other categories—and active investors often lack traditional experience in the art world.254 This has led auction houses to detach from their typical procedures in reaching consumers, turning to Twitter and Discord to connect with their new digital audience.255 Such changes may be taken into consideration when lawmakers attempt to categorize NFTs as belonging to a certain legal category. Despite these counterviews, NFTs are widely understood as a form of digital art, an asset that is most prevalent among the artistic community.256 If NFTs are not considered antiquities, the existing loopholes will simply prevail for a longer period, and lawmakers will experience difficulties in attempting to interpret NFTs as a form of cryptocurrency or security. Either way, this new addition to the art market must be regulated.
Conclusion
Although art collectors have been trading Picassos, Warhols, and other high-value artworks for countless years, Congress did not subject the art market to anti-money laundering regulations until 2021.257 The presence of money laundering through art has been proven on multiple occasions, and certain market practices have enabled that illicit activity to continue.258 While auction houses have voluntarily placed anti-money laundering programs to combat criminal behavior in their institutions, such efforts have not sufficed for two reasons.259 First, only some art exchanges happen within auction houses.260 Others are facilitated through intermediaries including private dealers and galleries, which do not have the resources or the incentives to implement due diligence policies.261 Second, the Russian oligarchs case study demonstrates that even though auction houses make every effort to conduct investigations, some money laundering schemes may never be exposed.262
Considering NFTs’ rapid growth and expensive value, they must be regulated sooner rather than later because just as with the art industry, a continuing loophole in the law will attract criminals to use NFTs as a means of transferring unlawful funds. However, because NFTs represent such a unique type of transaction, it is unlikely that Congress would amend current laws to incorporate NFTs. Therefore, the tokens should be read into existing anti-money laundering laws. We should give a broad, comprehensive interpretation of the current regulations that address art transactions to encompass NFTs. Otherwise, history is bound to repeat itself.