‘Underbelly of crypto’: World’s biggest crypto exchange accused of mishandling funds

The SEC has taken the position that most crypto tokens issued by exchanges like Binance and FTX should be treated as securities under federal law.

“US regulators are putting pretty huge speed bumps for Binance and are continuing to put the crypto world on notice,” said Reena Aggarwal, a finance professor at Georgetown University.

Binance was already under increasing pressure. In March, the Commodity Futures Trading Commission filed its own civil enforcement action against Binance and Zhao. The US Justice Department is also investigating the exchange for money-laundering violations. Binance lost its outside auditing firm late last year, and the company has seen its control of the crypto market shrink.

To improve its reputation, Binance has hired new compliance officials, including a former federal prosecutor who now heads its compliance operation.

The SEC complaint “exposes the underbelly of crypto,” and big global exchanges like Binance have “misled the public at large for years,” said David Silver, a lawyer who has sued Binance several times.

In all, the SEC filed 13 charges against Binance and Zhao, better known in the crypto world as CZ. It is seeking restitution from Binance and wants to bar Zhao from serving as an officer or director for any registered entity in the United States that issues securities.

Loading

“We allege that Zhao and the Binance entities not only knew the rules of the road, but they also consciously chose to evade them and put their customers and investors at risk,” said Gurbir S. Grewal, director of the SEC’s enforcement division.

The CFTC is also seeking to bar Zhao for life from doing business that falls under its jurisdiction. The agency also wants to permanently banish Binance from the United States.

The SEC and CFTC often coordinate the filing of enforcement actions when they are investigating the same company, but the agencies have been engaged in a turf battle to determine which would emerge as the primary regulator of crypto trading.

Binance has long been based outside the United States, offering high-risk trading options that are not legal for US customers. In 2019, it started a separate exchange in the United States that offered a smaller array of trading capabilities. The company said that the new exchange, Binance.US, would operate separately from Binance, under its own leadership.

But the SEC said the separate entity was really intended as subterfuge to conceal the fact that Zhao and his associates were actively enabling US customers to trade on Binance’s much larger, unregulated offshore exchange.

The SEC’s complaint accuses Binance of recruiting US customers to the international exchange, even though it was not supposed to operate in the United States. “On the surface, we cannot be seen to have US users but in reality, we should get them through other creative means,” a Binance executive wrote in an internal message excerpted in the complaint.

When Binance took steps to submit to a US regulatory regimen, it did so disingenuously, the filing said. Binance.US was supposed to be separate from its offshore parent, but “behind the scenes,” Zhao and other senior Binance leaders were “intimately involved,” the complaint said. That led one executive to remark that “the entire team feels like they’ve been duped into being a puppet,” according to the complaint.

The SEC said Zhao gave instructions to encourage so-called VIP customers to bypass systems meant to restrict US customers’ access to the platform. “Binance’s plan to retain lucrative US investors while pretending to restrict them was a success,” the complaint said.

Loading

Some of the allegations against Binance echoed the behaviour that brought down FTX, leading to criminal charges against Bankman-Fried for using customers’ deposits to conduct other business operations and make political and charitable donations. According to the complaint against Binance, the bank account of Merit Peak, the trading firm controlled by Zhao, has received more than $US20 billion, including customer funds.

FTX is accused of having used a trading firm called Alameda Research, controlled by Bankman-Fried, to improperly divert and use customer money.

“Sending Binance customer funds to Merit Peak placed those funds at risk, including of loss or theft, and was done without notice to customers,” the complaint said.

This article originally appeared in The New York Times.