Introduction

Many cryptocurrencies tout their “anonymous” qualities and lure users with general promises of untraceable transactions. Users of cryptocurrencies seek anonymity, not necessarily because they want to deal in illegal activity (although there are plenty of criminals turning to digital currencies to hide transactions) but because they desire privacy and security in knowing that they control the release of their personal data and spending history. Bitcoin has gained the most traction as a digital currency and has arguably become the most recognizable cryptocurrency. Although Bitcoin users may feel secure in thinking their identities are secured, through rudimentary investigations and leaks via third party servicers (such as websites that allow for Bitcoin transactions), it may be easier to break through anonymity than one may think. Because of these weaknesses in Bitcoin’s design, other methods have been created to make tracing more difficult. There has also been a rise in other cryptocurrencies that may have a better system for ensuring anonymity.

How the Myth Started

Bitcoin, whose market cap surpassed a quarter of a billion dollars last year, and is currently worth $117 billion, has long given its users a sense that their transactions are “anonymous” through elimination of a centralized bank or any trusted third party. In the Bitcoin network, instead of having a general overseer who holds all the information, people can check a “public ledger” that records every exchange made and is available for all to see. With this lack of monitoring and regulation, traditionally performed by banks, people have assumed that their activity is untraceable to them. This isn’t a great stretch of the imagination, as although every transaction is recorded in the “public ledger,” the only immediately identifiable characteristic of the exchange is the pseudonym attached to the wallets transacting. No personal information is attached to these wallets and, apart from an email address, none is needed to set one up. Unfortunately, Bitcoins are easier to trace than many users suppose.

Breaking the Trance

Anyone who has had to buy Bitcoin would know that doing so requiresan online exchange, such as Coinbase. When creating an account on this site, a user must enter all government standard KYC and AML information including name, social security number, government issued identification, address, and phone number. Coinbase “complies with the Bank Secrecy Act, which the company says ‘requires Coinbase to verify customer identities, maintain records of currency transactions for up to 5 years, and report certain transactions,’ and the Patriot Act.” It should immediately call into question the “anonymity” of a currency that this kind of data must be provided to buy it. Despite more complex strategies through which a user could buy Bitcoin (providing all the above information) and place it into a wallet (which does not contain any personal information), then transfer those funds to a second wallet (adding a buffer between the online exchange transaction and the second wallet), the work needed to discover the true owner is slight. If one wished to trace a single bitcoin back to the online exchange, it would be easy to do so by looking through the public ledger. Every transaction in the history of Bitcoin is logged in and searchable. The second wallet’s Bitcoin would be traced back to the initial wallet and then to the online exchange. This sounds eerily like the trusted third party system that Bitcoin, and other cryptocurrencies today, sought to avoid and banish in the past. It is now up to the online exchange to securely protect its users’ personal data.

Although there is no easily identifiable information attached to these transactions once the Bitcoin has entered the wallet, there are still ways to figure out who does what on the Bitcoin network. There have been major busts by law enforcement cracking down on individuals using Bitcoin to engage in criminal activity. Companies such as Chainalysis use analytical tools to measure activity on the network and flag suspicious exchanges, acting as “blockchain detectives” over an ever-expanding list of cryptocurrencies.  Once they have located a shady transaction, they can log all of its actions and can correlate this activity with real world actions an individual has taken. For example, by watching the timing of the transactions of a particular wallet, investigators can match those times with periods where a suspected individual is online or can find emails that provide evidence pointing to the completion of a transaction (“just sent you the money”). Although seemingly circumstantial, the analysis can cover enough details for the evidence to pinpoint a single person. In the takedown of the Silk Road, investigators used a combination of server insecurities and old-school investigative techniques to link the founder of the Silk Road, Ross Ulbricht, to the TOR server handling the activities on the site. They searched Ulbricht’s emails and Facebook account for clues and used PEN registers to collect routing data to correlate Ulbricht’s online activity.

Is Anonymity Even Possible?

Through third party sites, Bitcoin users may be able to “launder” their coins using various methods including Bitcoin ATMs. This should make it much harder to trace the origin of a particular Bitcoin but, most likely, not impossible. What of other currencies? Is anonymity in the digital realm even attainable? Two digital currencies, Dash (by creating a feature called “PrivateSend”) and Monero (which uses a system called “ring signature”), seem to be some of the leaders of the pack in achieving anonymity on a blockchain currency. ZCash, which uses “zero knowledge proofs,” separates the transactions from the people who make them, so no one can reverse engineer the source of the funds by reviewing the blockchain. This process allows for information verification without revealing any identifiable information of the transactors, no longer disclosing which wallet sends or receives what. All that is shown is whether or not the funds were transferred in a positive or negative fashion. Even the amount transferred is kept private.

With Bitcoin becoming increasingly mainstream, the problems with its claim of anonymity are coming to light. Other digital currency makers are taking note. By changing the way data is stored or by creating intermediary steps, digital currency makers can help users attain as close to anonymity as possible, but there are no perfect guarantees.