What You Need to Know About Virtual Currency Fraud

A fictional example of how virtual currencies could lend themselves to complex fraud schemes in the near future.

What You Need to Know About Virtual Currency Fraud

By Walt Manning, CFE

October 2015

Juan looks at the transactions floating on one of his 3-D holographic displays. The numbers are showing real-time movements of virtual currency funds around the world. He is pleased with the level of activity, and everything seems normal, so he tells the display to close. He brings back the display of the movie he had been watching, which automatically starts where he had closed it.

Digital currencies like the old Bitcoin had been around for years. Physical “money” had been replaced years ago, when governments realized that it would be so much cheaper and easier to convert to digital. In the old days, there was a certain amount of anonymity as long as someone used cash. Now that everything is digital, every transaction can be tracked.

Governments had long used the volume of currency and interest rates to devalue their currency (and therefore the value of their outstanding debt). With digital currencies, they can now accomplish this even more effectively.

But almost anybody can create an alternative virtual currency. Groups of countries, anarchists and criminals have created and maintained different versions for their own funding purposes. As long as someone else recognizes the value of an alternative currency, then the ability to move funds internationally is still possible.

Juan took a different approach. He and a small group of friends created their own virtual currency that they named “Digitcoin.” They then set up several thousand virtual businesses that accepted this new currency, and even created some exchanges where users could convert other types of virtual currencies into Digitcoin and vice-versa.

But the relative value of a virtual currency is based only on the trust that other people have in the reputation and stability of one currency compared to another. Juan and his group actively promoted Digitcoin, and over time it had gained good reviews.

But their true goal was to make sure that enough Digitcoin was widely distributed and then exchanged for other types of virtual currency. As more people invest in Digitcoin, the group slowly converts these funds through other exchanges into safer (and valid) currencies in many different countries.

Today is the day for the big payoff. After Juan’s movie finishes, the members of his group connect on an encrypted Dark Net chat room. After they coordinate their final arrangements and sign off, each member carries out his or her assignments. Suddenly, all of the Digitcoin exchanges and related businesses disappear from the network. People holding Digitcoins are no longer able to spend or convert them. All of the funds in the missing virtual businesses and Digitcoin exchanges have vanished. The entire Digitcoin scheme had been fraudulent from the beginning.

Victims try to look for the founders of Digitcoin, but will discover that they had all used false identities. Tracing email addresses and physical business addresses will lead nowhere. The entire group has disappeared into thin air.

This type of fraud scheme is very possible today (although perhaps not with the holographic display technology that Juan used). It is extremely easy to create alternate identities on several Dark Nets, and to use anonymous and encrypted email and chat services for secure communication. Fake websites that appear to represent legitimate business are also simple and relatively inexpensive to set up. Any group willing to create such a fraudulent conspiracy has plenty of tools with which to work. All they really need is the time to “manage” and grow the scheme, and enough patience to wait until the time is right to execute the fraud.

There are hundreds of “cryptocurrencies” that already exist. Some are more popular than others, but Bitcoin would have to be considered as the leading example. Governments really haven’t decided how to deal with these alternative currencies. Some have banned their use, and others are making attempts to regulate or tax them, but there is no consistent policy or law.

Even if governments eventually convert to an all-digital currency system, there will always be “black market” versions like the fictional Digitcoin, and opportunities for frauds like this one. There have been many similar scams that have already occurred with fake exchanges and “virtual” banks.

Technology will continue to create new opportunities for fraud. Fraud examiners must maintain an awareness of evolving technologies, and should learn about virtual or cryptocurrencies. There has already been a kidnapping where the ransom payment was demanded in Bitcoin. Drugs and credit information are for sale on several Dark Nets and payment with virtual currency is the only type accepted. Can you imagine how cryptocurrencies might be used to launder money?

Virtual currencies can and have been used to evade capital controls and to transfer funds across national borders. Terrorists and transnational cybercrime groups have used them to transfer money all over the world. The anonymity built into many of the currencies will make it a challenge to trace these transactions. If you become involved in a fraud examination or a criminal case where a payment has been made in Bitcoin, would you know what to do?

However, fraud examiners should recognize that these challenges also create new business and career opportunities. Very few fraud examiners have significant expertise in this area, and as the usage of these virtual currencies increases, so will the need for new investigative services and expertise.