Possibly viewing Bitfloor, a popular Bitcoin exchange, as a risky money transmitting business, Capital One Financial Corp. has closed the exchange's bank account, prompting Bitfloor to halt operations. The incident may portend a growing wariness of businesses that handle virtual currencies.
Bitcoin, an anonymous digital currency, developed a following among consumers and businesses that were dissatisfied with the restrictions imposed on regulated banks and money transmitters. Even with the proper licensing, Bitcoin businesses still have a reputation as risky companies and are frequent targets of hackers.
"Retail banks are risk averse and geared toward a different set of clients than what is typically asked for from an exchange," says Roman Shtylman, founder of Bitfloor. "This would happen to any business which the bank decided was not part of its retail strategy and not worth the risk."
When contacted by Capital One, "I had very little time to act between receiving the account closure letter and the account being closed," says Roman Shtylman, founder of Bitfloor. "This is why trading suspension happened so suddenly."
Bitcoin exchanges facilitate the use of bitcoins by trading it for other currencies, such as the U.S. dollar. Bitfloor's trading operations ceased April 18, with a statement on the Bitfloor website blaming "circumstances outside of our control," but promising that funds will be returned.
One source from Capital One informed Shtylman the bank viewed the exchange as a money transmitting business. However, Shytlman says others at the bank would not confirm this. Capital One declined to discuss individual accounts or customers in response to a PaymentsSource inquiry.
"What happened to Bitfloor today has been happening to us Money Services Businesses for the past 20 years: Banks close our accounts out of fear that their reputation might be damaged if something goes wrong," said Juan Llanos, executive vice president of operations and compliance officer at Unidos Financial Services Inc. – a licensed MSB and money transmitter – in an online Bitcoin forum.
In March, the Financial Crimes Enforcement Network issued guidance on virtual currency, categorizing administrators and exchangers of digital currencies as regulated money services businesses. Thus, any company handling bitcoins needs to abide by Know Your Customer and Anti-Money Laundering rules and reporting.
"The moment that FinCEN said that administrators and exchangers were MSBs, the world of virtual currency changed," Llanos says in an interview. "It's new to Bitcoin, but it's very old to us traditional money transmitters."
Regulations and licenses could bog down the Bitcoin ecosystem and compromise the cryptocurreny's key cash-like trait – anonymity.
Some Bitcoin businesses have already begun the move towards mainstream with relationships with banks, including CoinLab Inc. which works with Silicon Valley Bank. In December, Bitcoin-Central, a French exchange, brought its business under French regulation.
Bitfloor is registered with FinCEN, but it has not obtained any state licensing yet. "Even if I was licensed, the account would still be closed," he says. "This is less about regulation and more about business risk and decisions."
And the constant stream of recent headlines demonstrates the risks Bitcoin companies face. A larger exchange, Mt. Gox, was the target of distributed denial of service (DDoS) attacks last week and had to halt operations, allowing smaller exchanges such as Bitfloor filled the void. Instawallet suffered a security breach at the beginning of April and remains shut down. A few days later, Coinbase apologized for the lapse that publicly exposed customers' email addresses.
And back in September, $250,000 worth of bitcoins was stolen from Bitfloor after being hacked. The exchange temporarily shut down to address the breach.
"Maybe one day I will make the news with some positive information," Shytlman said over Twitter April 18.
With its newest dilemma, "Bitfloor is shut down as I resolve the bank issues," he says. "Once these issues are resolved, I will be exploring how to bring Bitfloor back online."
It's not as simple as switching banks and opening a new account, he says.
While Shytlman says his main focus is returning funds to clients, he's also looking into what type of bank partnerships are needed to continue operations, calling on commercial and private banks to reach out if interested in working with Bitcoin companies.
Meanwhile, other virtual currencies are receiving bad press. Electronic Arts is shutting down certain games on Facebook, and the company has drawn criticism for not providing a way for users to exchange the virtual money they purchased for use within these games for cash.