Coinbase Lawsuit Will Decide if Treasury Can Sanction Open Source Code
The Block does a deep dive into the coming legal fight over Treasury’s sanctioning of Tornado Cash. In August, the Office of Foreign Asset Control used its nuclear option on the Ethereum coin mixer and associated addresses.
The crypto industry responded with outrage, as it was the first time Treasury ever used the blacklist reserved for international drug kingpins, rogue nations and terrorist organizations.
On paper the lawsuit being brought against Treasury and backed by Coinbase should be a slam dunk – federal courts have already ruled that source code is protected free speech. However, in reality, judges in cases where “national security” is invoked often defer to the state. The outcome of this suit will have significant implications for the crypto industry.
“The power that’s delegated to OFAC simply authorizes them to target persons or property,” Paul Grewal, Coinbase’s chief legal officer, told The Block. “The smart contracts that they’re talking about,” that enable Tornado Cash, “these are neither persons nor property.”
The U.S. government, which has yet to file a response, will likely want to preserve broad powers to cut off funds to criminals, which in this case, include North Korean government-backed hackers. According to Treasury, Tornado Cash was used to launder over $7 billion since 2019, including $455 million stolen by a group sponsored by Pyongyang.
Lawyers with backgrounds in national security expect the attempt to fail.
“OFAC will argue that Tornado Cash, decentralized or not, was the go-to money laundering mechanism for Lazarus Group which resulted in North Korea having funds for weapons proliferation," said Ari Redbord, a former Treasury sanctions attorney who is now head of legal and government affairs for TRM, a consulting firm for digital currency-related projects.
Still, Coinbase appears ready for a lengthy fight. The exchange sought out the most sympathetic plaintiffs it could find, including two of its own employees.
One, Tyler Almeida, says he used Tornado Cash to donate to Ukraine’s government following Russia’s invasion of the country. Former Amazon engineer Joseph Van Loon says he used Tornado Cash mixing pools—code that hides transactions from being public on Ethereum’s blockchain by pooling them with several other simultaneous anonymized transactions to create a sort of virtual safety deposit room—to keep from being targeted by hackers who could otherwise see where the ether moved.
Coinbase matched these six users—two of whom are employees of the company—with the chair of the Supreme Court and appellate practice group at international law firm Paul Weiss: Kannon Shanmugan. He is an ex-clerk to former Supreme Court Justice Antonin Scalia and lead counsel in a high-profile legal challenge over whether the president can replace the director of the Consumer Financial Protection Bureau at will–a challenge he won in a 5-4 Supreme Court decision.
Because of Coinbase’s bankroll, the plaintiffs, and Shanmugan’s legal pedigree, experts see the suit as having a chance of success, despite significant hurdles.
“I think that the plaintiffs that they have gotten are excellent, exactly who I would want, and the arguments that they have made are excellent as well,” said Jerry Brito, executive director of the D.C.-based nonprofit Coin Center, which is also weighing a legal challenge to the sanctions.
Treasury seemed to undercut standing for a lawsuit when, on Sept. 13, OFAC issued guidance for how Tornado Cash users who still have funds in the frozen pools but did not engage in illicit activities can apply for exemptions.
“OFAC would have a favorable licensing policy towards such applications, provided that the transaction did not involve other sanctionable conduct,” the guidance reads.
Brito rejected that Treasury’s notice would affect the case much.
“That shouldn’t change the case because there’s still an injury here,” said Brito. “It doesn’t change the fact that they sanctioned something that cannot be sanctioned under law.”