The global market in government bonds has been bleeding red lately. “Bond market screams for help but no one answers”, says Bloomberg. It is “the worst start to a year in bonds since 2015”, according to the Financial Times.Though bonds have been declining since last summer, the sell-off became a lot more violent in February.
This meant that the yield on ten-year US Treasury bonds, which is inversely related to the price, rose by around 60% to peak at over 1.6% a couple of days ago, before falling back to 1.5% at the time of writing.The US ten-year strongly influences the price of everything from mortgages to business loans in the US, and by extension around the world, so such a sharp rise has the potential to reduce borrowing and weaken the economic recovery from COVID –especially when there is so much debt in the global system.
The world’s rampant stock markets responded by going into reverse in February as they factored in higher interest rates, as well as higher production costs because of surging commodity prices.
Bond prices can fall for several reasons. It can mean that the market thinks that economic growth is going to pick up (meaning investors shift their money into riskier investments). But it can also reflect fears that inflation is on the way without much accompanying economic growth, meaning that interest rates need to go higher so that lending is still profitable.
In the present case, it is a bit of both: the rollout of the vaccination programmes has made many observers more optimistic about the prospects of a recovery. But the rise in the price of commodities like oil, copper and coffee is more about pandemic-related supply issues than because this optimism has prompted a step-change in demand.
When Fed Reserve Chairman Jay Powell failed to announce any immediate intervention to put a floor under the sell-off in bonds during a public appearance in early March, it appeared to trigger more selling – a sign that falling bond prices have been more a reflection of fears than optimism.
Interestingly, in the hours since the new US$1.9 trillion (£1.4 trillion) US stimulus package has been agreed by Congress, the bond market and stock market have both been rising. Though there have been fears that sending US$1,400 stimulus cheques to most Americans will cause a further surge in inflation, the extra consumer demand will also prop up the economy. On balance, then, this appears to have been received as a net positive by the markets.
QE and perverse consequences
Any attempt to explain what is happening in the markets needs to be in the context of quantitative easing (QE). Shortly after the first wave of lockdowns in early 2020, central banks stepped in to help their national economies. They announced huge new QE plans in which they would create new money with which to buy government bonds and other financial assets. This drove up bond prices and hence kept yields (and interest rates) at very low levels to encourage as much borrowing from consumers and businesses as possible.
Most central banks originally began QE programmes after the 2007-09 financial crisis (besides the Bank of Japan, which began a few years earlier). This was primarily to help companies get access to capital to boost their business, in the hope that they would then hire staff, which would help to reduce unemployment rates that had been sent soaring after the crisis.
However, some companies took advantage of these low interest rates in another way: they borrowed cheaply and invested it in the stock market. With investors doing likewise, this has helped to drive the relentless rise in global stock markets over the past decade. It also helps to explain why these markets have been mainly climbing ever since the COVID panic sell-off of March 2020.
In the coming months, economies are going to reopen, but interest rates are to stay low. Fed Reserve Chairman Jay Powell may have declined to announce any new interventions to date, but it is fairly clear that he will only let yields rise so far.
This gives investors a great opportunity to continue taking advantage of the situation. So long as the gain from your investment in stocks is greater than the interest rate you have to pay on your borrowings, you are a winner. Better still, buy stocks in a company such as Apple whose bonds central banks have been buying as part of their QE activities. Apple is still trading at over double the lows of March 2020, even after the February correction.
But if you are not in a position to take advantage of this one-way bet, you are a loser. The central banks have already created a situation where major institutions like the biggest hedge funds and investment banks are achieving record earnings while many families are sinking into poverty on the back of the pandemic.
The endless stimulus is in danger of creating an ever more divided society. While it is true that the latest US package (and the support measures announced in the UK budget) will temporarily help those struggling during the pandemic, the shot in the arm is also another way of propping up markets that seem too overvalued to fail.
And if they can no longer survive without central bank life-support to keep bond yields low, the question is how to prop up the markets without exacerbating inequality. It’s not clear that anyone has the answer. It might be that a shift to a much more redistributive politics to offset the widening gap between rich and poor is about the best that we can hope for.
Arman Hassanniakalager does not work for, consult, own shares in or receive funding from any company or organisation that would benefit from this article, and has disclosed no relevant affiliations beyond their academic appointment.
AD FOR U.S. SAVINGS BONDS.UNDATED.Bettmann Archive
The Bureau of Labor Statistics Thursday released inflation numbers for September. The Consumer Price Index for All Urban Consumers (CPI-U) rose by 0.4% in September on a seasonally adjusted basis, or 8.2% over the past 12 months before seasonal adjustment. The CPI numbers now allow us to calculate the inflation rate on I bonds that will take effect in November.
Using the month-by-month data, the new inflation rate will drop to approximately 6.47% starting next month. Keep in mind that we don’t yet know the fixed rate portion for November I bonds. The Treasury Department will release that information next month. The rate makes I bonds an excellent place to invest cash.
The projected 6.47% is a significant drop from the current 9.62% rate. At the same time, it’s still an excellent rate for a risk-free investment, particularly given the performance of both the stock and bond markets in 2022. And the lower rate beats some of the best interest rates on savings accounts and CDs. Still, there are several ways to lock in the 9.62% rate, even if you’ve already purchased I bonds this year.
If You Haven’t Bought $10,000 Of I Bonds This Year
For those who haven’t purchased I bonds this year, now is the time to do it. You can purchase up to $10,000 a year per person. If you make the purchase by October 28, 2022, you’ll receive the current 9.62% annualized rate for the first six months.
With Inflation Hot, Can Fed Stay The Course?
This confuses some folks. Even though the rate will change next month for new purchases, those who buy in October will first earn the annualized 9.62% for six months, and then the new November rate for six months.
Keep in mind two things about I bonds. First, you cannot cash them in for the first 12 months. Second, if you redeem an I bond within the first five years, you’ll forfeit 3 month’s worth of interest.
If You Have Purchased $10,000 Of I Bonds This Year
For those who have already purchased their limit in I bonds, there are still strategies available to buy even more.
First, those with trusts can buy I Bonds in the name of the trust. Many families have revocable living trusts, for example, which can purchase I Bonds subject to the $10,000 limit. In some cases, families may have more than one trust, thus increasing the limits they can purchase. You’ll find resources for trusts on the Treasury Direct website here.
Second, you can also purchase I bonds in the name of a business. The business can be a sole proprietor or an LLC. Even somebody with a side hustle can purchase I bonds.
Third, you can purchase I bonds as a gift. Parents or grandparents, for example, might purchase I bonds for their children or grandchildren. To purchase an I bond as a gift, you must know the recipients social security number, and the bonds are registered in the recipient’s name.
After an I bond is purchased as a gift, it remains in the buyer’s Treasury Direct account until transferred to the recipient. While it sits there, it earns interest and is subject to the same rules as any other I bond purchase. And the buyer can keep the I bond in their account for years before delivering it to the recipient’s Treasury Direct account.
As odd as that may seem, it actually presents a fourth strategy for maxing out the current 9.62% rate. Spouses, those with significant others, or perhaps close friends can buy each other a $10,000 I bond as a gift.
If purchased before the new rates take effect, the I bond will earn the annualized 9.62% rate for the first six months. There is one catch, however.
When the I bond is transferred to the recipient’s account, it counts toward the recipient’s annual limit. If they’ve already purchased $10,000 in I bonds this year, you would have to wait until next year to deliver the I bond. Given that it earns the higher return from the start, this shouldn’t present an issue.
In theory, one could purchase more than $10,000 in I bonds as a gift this month for the same person. Just keep in mind that one cannot deliver more than $10,000 a year in I bonds to the recipient, and that assumes they haven’t purchased I bonds on their own.
One final note. Treasury Direct made some updates to its site this month. That’s the good news. The bad news is that the update broke parts of the website. One part that isn’t working is the buying of I bonds as a gift. The hope is the website will get fixed before the 9.62% rate goes away.
Inflation bond: the ultimate protection against the rising cost of living. If you know what you’re doing, you get a real yield of 1.9% on these U.S. Treasury securities. If you don’t, you’ll get a lousy deal, a bond paying 0%.Why on earth would people buy a 0% bond when the 1.9% alternative is right at hand? Because they follow the advice of naïve personal finance commentators.
The naïfs are in love with I bonds. These are savings bonds that track the cost of living. There are negatives: They have a purchase limit of $10,000 a year, they have restrictions on early redemption and they can’t be put in a brokerage account.Worst of all, I bonds have a 0% real yield. Your interest consists of a nothingburger return plus an inflation adjustment. In purchasing power, you break even.
Smart money is going into the other kind of inflation-adjusted Treasury bond, called a TIPS (Treasury Inflation Protected Security). TIPS have no purchase limit, no restriction on your ability to get out early, and no trouble going into your brokerage account.Best of all, TIPS have a positive real return. The ones due in five years pay 1.92% annually. In purchasing power, you gain 9.6% over the five years.
I can forgive the experts who were gushing about I bonds back in January. At the time, the five-year TIPS had a real yield of -1.6%. At 0% for the real yield, the I bond was clearly the better buy, apart from the inconveniences attached to getting and holding the thing.
Since then there has been a bond crash. Yields on marketable bonds have shot upward. The yield on I bonds hasn’t budged. There is no excuse for recommending an I-bond purchase today.
I bonds can be held for 30 years, after which they stop accruing interest. You can’t cash them in during the first year. In years two through four, a redemption comes with a penalty equal to three months of inflation adjustments. After the five-year mark you can cash in whenever you want, collecting your full 0% return (that is, full recompense for inflation).
Where to get those TIPS? You have two options. One is to own a bond. The other is to own a bond fund. There are pros and cons to each. or the bond, arrange with your bank or broker to submit, close to the deadline, a non-competitive tender at the next auction of five-year TIPS. The tentative Treasury schedule, to be finalized on Oct. 13, is for the auction to take place on Oct. 20.
At Fidelity Investments there is no fee for an auction order placed online; the maximum buy is $5 million. Other financial institutions have similar deals. TIPS yields could go up or down over the next two weeks. If they go up, hurray. If they go down a lot, you could choose not to participate.
If you hold that bond until it matures, you are certain to collect the return set at the auction. If you cash in early by selling in the secondary market, you could be looking at either a windfall capital gain or a windfall loss, depending on whether interest rates go down or go up. That’s a fair bet, but selling would mean getting nicked by a bond trader, who will pay slightly less than the bond is worth. I’d recommend a direct bond purchase only if there’s a pretty good chance you can stand pat for five years.
The alternative is to own shares of a TIPS bond fund. Two I like are the Schwab U.S. TIPS ETF (ticker: SCHP, expense ratio 0.04%) and the Vanguard Short-Term Inflation-Protected Securities ETF (VTIP, 0.04%). The Schwab fund has bonds averaging 7.4 years until maturity; the Vanguard portfolio’s average maturity is 2.6 years. A 50-50 blend of the two funds would give you the same interest-rate excitement as a single bond due in five years.
The advantage to the funds is that they are very liquid. The haircut from trading is typically a penny a share round-trip (that being the bid/ask spread), a tiny percentage of a $50 stock.
The disadvantage to the funds is that you can’t nail down what real return you’re going to get between now and October 2027. The funds keep rolling over proceeds from maturing bonds into new bonds. The portfolios never mature.
What that means: You could wind up doing better or worse with the funds than you would have with a single bond due in five years. It depends on what path interest rates take. Again, it’s a fair bet, but you may not like this kind of uncertainty.
I’ll now address two supposed benefits to I bonds: that you can’t lose money and that you can defer tax on the interest. Can’t lose? Only in the sense that an ostrich with its head in the sand can’t lose. Savings bonds are not marked to market. You can’t see your loss.
Buy a $10,000 I bond today, and you become instantly poorer. If you plan on staying put for five years, your investment should now be valued at $9,100. That’s all your future claim on the U.S. Treasury is worth, given where TIPS yields are. If you have the sense to get out at the earliest possible date (12 months from now), then the damage is less, but it’s still damage.
The other supposed advantage to I bonds is the deferral of income tax on the inflation adjustment. This is not the bonanza you may think it is. Our current tax law is set to expire at the end of 2025. After that, tax rates are going up.
I aim to help you save on taxes and money management costs. I graduated from Harvard in 1973, have been a journalist for 45 years, and was editor of Forbes magazine
Both I bonds and TIPS adjust the interest they pay based on changes in inflation and are backed by the US Treasury, which means there is little risk of defaulting on those interest payments. But those similarities also come along with significant differences. The most important difference is that while you can buy up to $10 million worth of TIPS through Fidelity at auction, and an unlimited amount on the secondary market, I bond purchases are limited to $10,000 per person per year and are only available on the Treasury’s website, not through your brokerage account.
I bonds also require that you not touch the money you invest in them for a year and if you do so during the following 4 years you must forfeit the most recent 3 months of interest payments. These limits on both quantity and liquidity represent obstacles for both savers who want liquidity and for investors who want yield. While I bonds’ high interest rates may look appealing, a closer look at TIPS may reveal them to be more useful inflation fighting tools.
I bonds, TIPS, and taxes
Semi-annual interest payments on TIPS are subject to federal income tax, just like payments on conventional Treasury securities—or I bonds.
Any increase in the value of the TIPS principal is subject to federal tax in the year that it occurs—even though you won’t receive any income from the increase. On the other hand, when the TIPS matures or is sold, you will only pay federal tax on the final year’s increase in principal while receiving the full increase in principal since the date of initial purchase. Like all Treasury securities, TIPS and I bonds are exempt from state and local income taxes. Investors should consult their tax advisors regarding their specific situation prior to making any investment decisions with tax consequences.
Finding ideas
While I bonds are only available at TreasuryDirect.gov, investors interested in diversifying their portfolios with TIPS can choose from individual bonds, mutual funds, or exchange-traded funds. The approach you choose should reflect your ability and interest in researching your investments, your willingness to track them on an ongoing basis, the amount of money you have to invest, and your tolerance for various types of risk. There are pros and cons for both individual bonds and bond funds. In some cases, it may make the most sense to own both. Learn more about the differences between individual bonds and funds here: Bonds vs. bond funds
TIPS are also used by professional investment managers to help protect portfolios from specific risks, says Lars Schuster, institutional portfolio manager with Strategic Advisers, LLC. “While higher inflation can be problematic for some bonds, TIPS exposure might help protect the value of the fixed income portion of a well-diversified portfolio,” he says.
You can buy TIPS directly from auctions held by the US government and at Fidelity.com. TIPS are available in 5-, 10- and 30-year maturities, at auctions spread throughout the year. You can also buy and sell individual TIPS with various maturities and prices from other investors in the secondary market. Fidelity.com does not charge fees or mark-ups on these transactions. You can learn more at Comparison of TIPS and Series I Savings Bonds
Fidelity also offers research tools including the Mutual Fund and ETF evaluators on Fidelity.com. Below are the results of some illustrative screens using the search terms “taxable bonds” and “fighting inflation” (these are not recommendations of Fidelity).
When the Senate added a new corporate minimum tax to the Inflation Reduction Act (IRA), it almost added a clarification that private equity is a business that would be subject to the new tax. But two key Senators blocked the clarification.
Now, as Treasury writes regulations to accompany the new law, it must decide whether private equity is a business. The legal answer is easy: Yes, private equity is a business. But the policy answer is harder: Does Treasury want to potentially apply the minimum tax to thousands of smaller companies that are owned by private equity?
But Treasury also has a solution: It can require private equity firms to consolidate the many smaller companies in their portfolios into one tax return, and collect the new tax from their owners, the private equity funds.
Starting next year, the corporate minimum tax will apply to any corporation with more than $1 billion of book earnings that are reported on financial statements. The new tax also will apply to affiliated corporations with book earnings that aggregate to more than $1 billion. A corporate holding company typically owns these businesses and files a single, consolidated tax return on their behalf.
But partnerships such as private equity funds also own and operate sprawling groups of corporations that combined may have book earnings in excess of $1 billion. And partnerships, unlike corporations, do not file consolidated tax returns. So, the open question is whether Treasury will treat the many corporations a private equity firm owns as affiliated—and subject to the corporate minimum tax. And that question turns on whether a fund is a business or merely a passive investor.
While private equity funds treat themselves as passive investors, Congress tried to explicitly clarify the definition of business to ensure their companies were subject to the new tax. However, Senators Krysten Sinema (D-AZ) and John Thune (R-SD) blocked the effort, leaving current law in place.
But the proposed clarification was unnecessary, since current law establishes that private equity is a business. Private equity funds acquire, develop, and eventually sell the businesses they own. The funds’ operations fit the common definition of a business: They are continuous, regular, and substantial. And their large fees and immense profits reflect the size of their undertakings.
Given that case law, it’s simply not credible to contend that private equity funds are not businesses.
But, by taking the position they are merely passive investors, private equity funds, their investors, and the companies they own, gain a wide range of tax advantages. Exempting the funds and their companies from the minimum tax would add another. As Lee Sheppard, a leading tax analyst observed, private equity “groups could be competing with publicly traded corporate groups. Private equity funds already have tax advantages as business owners; they don’t need a new one.”
Treasury can, and should, clarify that private equity is a business that is subject to the minimum tax. By doing so, Treasury could treat a private equity fund’s group of portfolio companies like a holding corporation’s group of companies for purposes of the tax.
But subjecting a sprawling group of corporations to the tax could raise administrative and practical challenges. Poorly designed, a tax meant to apply to 150 corporations could hit, potentially, thousands.
However, Congress granted Treasury authority to create a “simplified method” to determine the scope of the new tax. Treasury can address the administrative problems by permitting private equity funds to consolidate their portfolio companies into one—and pay the resulting tax. That election would respect both law and policy. And, if a fund prefers to allow its corporations to be subject to the minimum tax separately, it still could do so.
I am a Senior Fellow in the Urban-Brookings Tax Policy Center. I research, speak, and write on a range of federal income tax issues, with a focus on business taxes.
The federal income tax rules that apply to private equity funds and investors have been the subject of much debate, mainly due to the perception by some members of Congress and the public that the rules include tax benefits that unfairly favor the wealthy.
Although President Biden’s campaign and Green Book agendas and recent House and Senate tax proposals included targeted changes that would have generally increased taxes on private equity investors, not all such proposed changes are included in the version of the Build Back Better Act (H.R. 5376) passed by the House on November 19, 2021 or the proposed updated text of H.R. 5376 released by the Senate Finance Committee on December 11.
As discussed below, H.R. 5376 would, if enacted, still make certain changes to the taxation of private equity. The current bill would also impose a 5% or 8% surtax on wealthy individuals – including wealthy fund investors (i.e., a 5% surtax on individual incomes over $10 million and an additional 3% surtax on incomes over $25 million).
As of the time of writing, H.R. 5376 is stalled in the Senate and the fate of the bill is uncertain. Private equity funds and fund investors should continue to monitor the proposed legislation – in particular, as it relates to the following tax considerations:
Taxation of Carried Interests
Managers of investment funds are typically compensated via allocations of gain upon the disposition of underlying investment property. Under current law, these “carried interest” allocations are generally taxed as capital gains at favorable capital gains rates (currently, at a top rate of 20% as opposed to 37% for non-capital gain compensation income).
The Tax Cuts and Jobs Act (TCJA) extended the holding period for long-term capital gain treatment of carried interest allocations from one year to three years beginning in 2018. Recent proposals in both the House and Senate have sought to either further extend the holding period requirement for long-term capital gain treatment from three to five years or effectively tax all carried interest allocations as ordinary income, except in the case of taxpayers with taxable income below $400,000.
These and other proposals to end the perceived carried interest “loophole,” however, are currently not included in H.R. 5376 as passed by the House or in the updates proposed by the Senate Finance Committee. Funds and investors should continue to monitor H.R. 5376 and other proposed legislation as bills make their way through Congress.
Regardless of proposals to change the rules for taxing carried interest allocations, there may be strategies available to minimize federal tax on carried interest allocations. These may include:
Limiting fund investments solely to operating partnership portfolio companies.
Waiving carried interest allocations in favor of subsequent appreciation in other portfolio investments.
Investing in Section 1202 qualified small business stock (QSBS), gain from the sale or exchange of which could qualify for a capital gain exclusion (see below).
Dispositions of Qualified Small Business Stock
Internal Revenue Code Section 1202 currently permits a qualified taxpayer other than a corporation to exclude up to 100% of the gain from the sale or exchange of QSBS held for more than five years. Dispositions of QSBS by a private equity fund (which is taxed as a partnership) may qualify for gain exclusion assuming all qualifications are met.
However, while the QSBS rules apply to capital interests in a partnership, there is less certainty surrounding the application of the rules to profits interests and, thus, carried interests. Private equity funds and investors should consult their tax advisors when determining whether it is possible to exclude gain from dispositions of QSBS allocated to carried interests.
Note that H.R. 5376 in its current form would limit the gain exclusion for QSBS to 50% for dispositions occurring after September 13, 2021, subject to a binding contract exception. Under the current 50% exclusion rules, the remaining 50% QSBS gain is taxed at 28%. The excluded QSBS gain is considered an alternative minimum tax (AMT) preference item, which when considered along with the net investment income tax on the taxable half of the gain, would result in an effective rate of 16.88% (plus any surcharge attributable to high-income taxpayers) for QSBS acquired after February 17, 2009 and sold after September 13, 2021.
Self-employment tax / Net Investment Income tax
Under current law, limited partners are not subject to self-employment tax on their distributive shares of partnership income, and limited partners who materially participate in a trade or business are not subject to the net investment income tax (NIIT). However, neither the tax code nor regulations define the term “limited partner.”
Private equity funds and fund investors should be aware that the IRS has successfully challenged positions that members of limited liability companies and limited liability partnerships were limited partners for purposes of self-employment tax and NIIT. In addition, the IRS has routinely disagreed with positions that a partner in a state law limited partnership should, by definition, be considered a limited partner.
H.R. 5376 would resolve these issues by ensuring that all trade or business income earned by high-income taxpayers (taxpayers with adjusted gross income in excess of $400,000) is subject to either the NIIT or self-employment tax. Under the proposed legislation, trade or business income that is not subject to self-employment tax would be treated as net investment income subject to the NIIT.
If enacted, the proposed legislation would result in fund managers earning more than $400,000 paying either self-employment tax or NIIT (which under the current proposal would be unlimited) on their distributive shares of partnership income at a likely rate of 3.8%. Additionally, as proposed, H.R. 5376 would result in incremental NIIT upon the disposition of trade or business assets.
State Pass-through Entity Elections
The Tax Cuts and Jobs Act introduced a $10,000 annual cap beginning in 2018 on itemized deductions of state and local taxes paid by individuals, also known as the “SALT cap.” The SALT cap does not, however, apply to state and local taxes imposed at the entity (e.g., partnership or S corporation) level that are reflected as a reduction in the partner’s (or shareholder’s) distributive share of income or loss.
Based on this distinction, at least 20 states have enacted potential workarounds to the SALT cap for their resident partners, by allowing a partnership to make an election (PTE tax election) to be taxed at the entity level. PTE tax elections present both state and federal tax issues for partners. Before making an election, care should be exercised to avoid state tax traps, especially for nonresident partners, that could exceed any potential federal tax savings. Considerations include:
If the PTE election is made at the fund level, would the expense be classified as an ordinary or necessary trade or business expense (under Section 162) or a nontrade or nonbusiness expense (under Section 212)?
Would the classification as a Section 162 or Section 212 expense call into question the characterization of other expenses at the fund level?
Is it possible to make special allocations of the partnership-level tax expense?
Notice 2020-75 states that a partnership is allowed a deduction for an entity-level tax “for the taxable year in which the payment is made.” Does this mean that even if a partnership is on the accrual method for income tax purposes, it cannot deduct PTE taxes until they are paid?
Are there negative consequences to partners who may not benefit from the PTE tax deduction?
When deciding whether to make a state PTE election, private equity funds and investors should also pay close attention to proposals in Congress that would increase or completely lift the SALT cap for certain individuals.
Schedules K-2 / K-3 Reporting
Partnerships, including private equity funds, that have items relevant to the determination of the U.S. tax or certain withholding tax or reporting obligations of their partners under the international provisions of the Internal Revenue Code must complete the relevant parts of new Schedules K-2 and K-3 beginning with the 2021 tax year. Penalties may apply for filing Form 1065 or furnishing Schedule K-3 to partners without all of the required information. Notice 2021-39 released on June 30, 2021 provides transition relief for tax years beginning in 2021 for eligible taxpayers.
How BDO Can Help
As discussed above, the taxation of private equity funds and their investors continues to receive scrutiny in Congress. BDO professionals can help taxpayers monitor and understand the various legislative proposals, as well as plan for the tax implications that arise from new developments. For more information, contact BDO.
The Treasury Department on Monday sanctioned a cryptocurrency firm with ties to a North Korea state-sponsored hacking group for allegedly facilitating malicious laundering—marking the latest retaliatory measures against so-called virtual currency mixing services, which effectively obfuscate cryptocurrency transactions to make them more difficult to track.
In a statement Monday morning, the Treasury announced it was sanctioning Ethereum-based Tornado Cash for allegedly helping to launder more than $7 billion worth of cryptocurrency since its creation in 2019, effectively freezing U.S. assets on the platform and barring Americans from using the service.
Laundered funds included over $455 million stolen by North Korea hacking ring the Lazarus Group in the largest known virtual currency heist to date—when North Korean cyberattackers stole some $620 million from an Ethereum-linked platform for NFT-based video game Axie Infinity in March—the Treasury said.
On its website, Tornado Cash says it has helped nearly 40,000 users obfuscate transactions through more than 150,000 deposits that help “achieve privacy” by using smart contracts to route funds to an address with no ether balance and then send it to a new public address that has no link to the original sender.
In a Monday statement, the Treasury’s Brian Nelson said Tornado Cash repeatedly failed to impose effective controls and “basic measures” designed to stop it from laundering funds for malicious cyber actors and pledged to continue to “aggressively” pursue actions against mixers that launder cryptocurrency for criminals.
The move follows the Treasury’s first-ever sanctions on a virtual currency mixer in May, when it designated Blender.io for allegedly also helping to carry out the Lazarus-backed crypto heist in March—to the tune of more than $20.5 million worth of illicit proceeds.
In addition to the heist in March, Tornado Cash was also used to launder more than $96 million of funds derived from a June hack of blockchain bridge Harmony and at least $7.8 million from an attack on Nomad, which lost about $190 million in a security exploit just last week, according to the Treasury.
Treasury officials this year have unleashed a wave of sanctions to protect against the potential use of cryptocurrency for sanctions evasion and money laundering. Shortly before the first mixer sanctions, the Treasury in April designated a cryptocurrency mining firm for the first time—targeting Switzerland-based Bitriver AG for operating in the Russian technology sector. Also that month, the Treasury designated Moscow-based exchange Garantex for “willfully disregarding” anti-money-laundering obligations and “allowing [its] systems to be abused by illicit actors.”
In a post on its website, crypto policy think tank Coin Center criticized the Treasury’s Monday decision for “sanctioning a tool that is not an alias of any person meriting sanction,” and said the move effectively limits “any American who wishes to use her own money and a freely available software tool to maintain her own privacy—including for otherwise entirely legal and personal reasons.” According to Coin Center, the sanctions also have uncertain legal ramifications because they potentially put Americans who are sent money through a Tornado address at risk of violating the Treasury’s rules—even though they can’t reject the transaction due to the nature of blockchain.
I’m a senior reporter at Forbes focusing on markets and finance. I graduated from the University of North Carolina at Chapel Hill, where I double-majored in business
Winners and losers. Tama2u
Bond prices can fall for several reasons. It can mean that the market thinks that economic growth is going to pick up (meaning investors shift their money into riskier investments). But it can also reflect fears that inflation is on the way without much accompanying economic growth, meaning that interest rates need to go higher so that lending is still profitable.
QE and perverse consequences
But if you are not in a position to take advantage of this one-way bet, you are a loser. The central banks have already created a situation where major institutions like the biggest hedge funds and investment banks are achieving record earnings while many families are sinking into poverty on the back of the pandemic.
