Crypto Exchange Binance, Founder CZ Sued by CFTC Over Unregistered Derivatives Products

The US Commodity Futures Trading Commission (CFTC) sued crypto exchange Binance and founder Changpeng “CZ” Zhao on Monday on charges that the company knowingly offered unregistered crypto derivatives products in the US in violation of federal law.

The lawsuit, filed in the US District Court for the Northern District of Illinois on Monday, alleged that Binance ran a derivatives trading operation in the US, offering trades for cryptocurrencies including bitcoin (BTC), ether (ETH), litecoin (LTC), tether (USDT) and Binance USD (BUSD), which the suit referred to as commodities. The suit also alleged that the company, under CZ’s direction, directed its employees to falsify their locations using virtual private networks.

The price of bitcoin fell around $1,000 after the lawsuit was first filed, while Binance’s exchange token BNB fell around 3%. Crypto-related stocks also fell after the suit was published.

According to the CFTC, the global exchange, which has a US branch in Binance.US, created a system to hide its true reach and operations.

“Binance’s reliance on a maze of corporate entities to operate the Binance platform is deliberate; it is designed to hide the ownership, control and location of the Binance platform,” the filing said, adding that “Zhao answers to no one but himself.”

In a press release, CFTC Chief Counsel Gretchen Lowe called Binance’s actions “willful evasion of US law,” pointing to internal chats and emails.

In addition, the lawsuit alleged that Binance instructed US customers to use a variety of methods to avoid restrictions on US-based customers.

“Binance has instructed US customers to avoid such checks by using VPNs to hide their true location,” the lawsuit said. “VPNs have the effect of masking an Internet user’s true IP address. VPN use by customers to access and trade on the Binance platform has been an open secret, and Binance has consistently been aware of and encouraged the use of VPNs -is by American customers.”

The company instructed key clients such as trading firms to set up shell companies in places such as Jersey, the British Virgin Islands and the Netherlands to avoid restrictions, the filing said, and was fully aware of the scale of its US operations, the filing said.

“Binance knew that US customers continued to make up a significant portion of Binance’s customer base,” the filing said, citing internal monthly reports sent to Zhao that said that even as of June 2020 after controls had reportedly been implemented, 17.8 % of customers based in the US

The filing pointed to internal chats between Binance employees, including Samuel Lim, the exchange’s Chief Compliance Officer through January 2022 (who is also a defendant), in which Lim appeared to direct an employee to tell US customers to hide their location.

“On the surface, we can’t see that we have American users, but in reality we should get them through other creative means,” Lim reportedly said.

The CFTC is asking the court to enjoin Binance from further violations of the Commodity Exchange Act, as well as civil monetary penalties, trading and registration bans, and shutdowns.

The suit was likely expected by Binance. In February, the exchange’s Chief Strategy Officer admitted that Binance was being investigated by several regulators and was expected to pay fines to “make amends” for past violations.

Earlier this month, U.S. senators including Sen. Elizabeth Warren (D-Mass.) sent a letter to CZ calling his company “a hotbed of illicit financial activity that has facilitated over $10 billion in payments to criminals and sanctions evaders,” saying that it has been characterized by “increasingly disturbing allegations regarding the legality of the business.” The legislators demanded information about the company, its structure and balance sheet.

UPDATE (27 March 2023, 15:30 UTC): Adding details throughout.