Despite the public nature of Bitcoin, it has always been presented as a private way to make financial transactions without third-party intervention. However, with authorities’ increasing sophistication of techniques and tools to trace cryptocurrency payments, it has become clear that, although transactions on the blockchain are only linked to wallet addresses, these can be traced back to institutions or individuals.
This has led to new ways to obscure your bitcoin transactions, namely, bitcoin transaction mixing. But what is bitcoin transaction mixing? How does it work? And, is it legal?
What Is Bitcoin Transaction Mixing?
Bitcoin transaction mixing basically consists of mixing a sum of crypto, whose precedence and trajectory you are trying to hide, with a vast sum of other funds. People do this through a bitcoin mixer, otherwise known as a bitcoin tumbler.
Centralized vs. Decentralized Mixers
There are two main ways to mix your bitcoin: a centralized bitcoin mixer or a decentralized bitcoin mixer.
Centralized bitcoin mixers are actually companies that are willing to take your bitcoin and exchange it for other bitcoin for a service fee. These companies offer a simple solution to mixing your bitcoin.
These, however, still present a privacy challenge. The company will still manage a record of who got which bitcoin and where it came from. The problem is that the company could be compelled to publicize such records or hand them over to a third party.
Decentralized bitcoin mixers, on the other hand, make use of blockchain protocols such as CoinJoin, to obscure the provenance of funds. CoinJoin is basically an anonymization strategy used to add a layer of privacy to an otherwise public blockchain.
The CoinJoin protocol allows for a group of users to pool an amount of bitcoin together and then redistribute it so that everyone gets the same amount of bitcoin back. After the process, no one can tell who got what or where it came from.
Is Bitcoin Transaction Mixing Legal?
The ability to hide the provenance of funds has turned bitcoin mixers into a hotbed for money laundering activities. Now, whether bitcoin mixers are legal or not depends on the laws that govern where you live. In February 2021, in the wake of the arrest of Roman Sterlingov, the purported creator of Bitcoin Fog, then-US Deputy Assistant Attorney General Brian Benczkowski said that “seeking to obscure virtual currency transactions [through a mixer] is a crime.”
The Financial Action Task Force’s “travel rule” in the US, and the Fifth Anti-Money Laundering Directive in the European Union, now require that crypto exchanges store and share originator and beneficiary information alongside crypto transactions, virtually compelling popular crypto exchanges to ban “tainted” coins or coins that have been mixed.
The Tornado Cash Case
On August 8, 2022, the United States Department of the Treasury’s Office of Foreign Assets Control (OFAC) added Tornado Cash, one of the biggest cryptocurrency mixers, to the Specially Designated Nationals and Blocked Persons (SDN) list, making the use of the open-source protocol illegal. The news shook the crypto world as many major crypto markets and services moved to enforce the new rules.
Although this was not the first crypto mixer to be targeted by the US government, the difference lies in that, as opposed to the Bitcoin Fog case, Tornado Cash is not centrally run. It is a decentralized protocol; open-source software. The US Department of the Treasury’s press release is quite straightforward in its wording:
The power and integrity of OFAC sanctions derive […] from OFAC’s ability to designate and add persons to the SDN List
The issue arises when you consider the fact that software is not an entity or a person but rather code, as many developers have pointed out. But, why is the fact that software is code a problem? Well, according to both computer science and linguistics, data is language. And as some are being quick to point out, calling the move unconstitutional, language is a tool we use to speak, arguing that consequently, code, as a language, is protected under the First Amendment of the Constitution of the US.
Bitcoin transaction mixing offers a good layer of privacy to an otherwise private blockchain. This ability, however, has turned bitcoin transaction mixers into hotbeds for money laundering activities.
If you need to keep your bitcoin transactions private, bitcoin mixers offer a good alternative. Although you do risk association with criminal activity, and your coins will be considered “tainted” by many of the most popular crypto exchanges.