PotCoin and DopeCoin: Are They Viable and Legal Ventures?

As newspaper headlines continue to mention the controversial “cryptocurrency” Bitcoin, new competitors are entering the scene. In the past few months, newcomers PotCoin and DopeCoin have emerged—billing themselves as alternative currencies for the buying and selling of marijuana. Both business ventures have an eye on the growing global marijuana market. So while Bitcoin is meant to be a universal alternative to government-issued money, new competitors are trying to cash in on niche markets.

These two ventures will be the first dedicated principally to marijuana merchants, who have been, until now, largely avoided by regular banks, even though the sale of marijuana is legal in some U.S. states. Despite their names and common focus on pot, the two business models are quite different.

PotCoin is aimed at the legal state-regulated marijuana market in the United States, be it medical or recreational, as well as similar markets in the Netherlands and possibly other countries that will choose to legalize marijuana sales. As a result, its business model is focused on transparency and traceability so that merchants, pharmacists, tax collectors, and others can keep track of sales. DopeCoin, by contrast, wants to establish itself as the currency for the multi-billion dollar drug market, licit or illicit, and as such has advertised its business model as catering to the black market. Its business model values anonymity and privacy.

In this column, I will outline how these new ventures purport to operate, and also evaluate whether there will be a sustained demand for such services. I will also look at the thorny legal questions that these new models raise—both about how they might be regulated and whether they are already running afoul of U.S. law.

Why New Business Models for Pot Sales?

The simple answer is money and expanding markets. At least 20 states and the District of Columbia allow the sale of marijuana for medical use. As of 2014, two states, Colorado and Washington, are permitting the legal sale of marijuana for recreational use—solely by licensed operators. States see this as a chance to license and tax this substance as a way of filling their empty coffers. Many pundits predict that other states will follow Colorado and Washington’s lead—making the marijuana market a potentially lucrative proposition—not only for pot sellers and growers, but for intermediaries like payment service providers, who help to facilitate the marijuana trade.

In their first month of operation, Colorado pot dispensaries made $14 million in sales. The Governor has estimated that Colorado will see sales of over $1 billion in medical and recreational marijuana in the next fiscal year, with a whopping $600 million of that total coming from recreational sales.

At the moment, however, marijuana still remains in a gray zone—legal in some cases, illegal in others, and prohibited under federal law as a Schedule 1 controlled substance. As a result, many sales of pot occur in the shadows and are not within the borders of traditional and licit commerce.

Also because of this gray area, both dealers who sell illegally and licensed medical or recreational marijuana sellers have had problems handling their customers’ payments. Customers tend to pay in cash, and as a result, sellers have lots of cash on hand. Licensed marijuana sellers need bank accounts in order to deposit their cash revenues, pay their bills, acquire new supplies, and pay employees. Licensed sellers also have to remit taxes to the state. But until recently, banks have refused to do business with pot sellers, even if they are licensed and regulated by the state.

The reason?

At present, federal law does not make a distinction between licensed pot dispensaries and sellers engaged in an unlicensed or black market trade. In both cases, banks fear that they will be prosecuted for assisting money laundering by virtue of their accepting and possibly moving the proceeds of crime. Banks are subject to federal anti-money laundering regulations and supervised by the U.S. Department of the Treasury (“Treasury”), making them subject to reporting of suspicious financial transactions, and also open to prosecution as possible accomplices to crime. It’s no wonder then that they would not want to handle money from legal state marijuana sales. Because marijuana sales are still illegal under federal law, banks have refused to open accounts for legal marijuana sellers, leaving them unable to accept credit cards or to deposit the cash proceeds of their sales.

This is where DopeCoin and PotCoin come in. They are not banks, and as such may feel that they can offer a service where banks fear to tread. As I will discuss below, they are presumably subject to the same strictures as banks when it comes to handling the proceeds of legal state pot sales. Without secure options, pot businesses are often cash-only businesses, making it difficult for them to pay their bills and taxes, and make payroll. According to NBC News, several Colorado pot dispensaries have been robbed since they opened for business in January because of the large amount of cash on the premises.

If marijuana sellers accept digital tokens instead of cash, they would not have the problem of having to store and transport large amounts of bulky cash. This is an attractive business proposition. And for consumers, the ease of paying using computer-generated tokens is also appealing: you don’t have to carry cash in your wallet and risk being mugged or having to go to the ATM to purchase marijuana.

Enter the Two Ventures: PotCoin and DopeCoin

PotCoin and DopeCoin attempt to solve the problem by allowing marijuana sellers to accept an alternative payment: these digital “coins,” which can then be converted into cash on various exchanges that can trade the coins for U.S. dollars. Alternatively, merchants could theoretically keep the coins and use them to buy additional marijuana or other services from merchants willing to trade in the alternative coin. (As I have discussed in prior columns on Bitcoin, a cryptocurrency is created through a process known as mining, where users solve complex math problems online to create these digital tokens, which are unique and verifiable via cryptography.)

PotCoin was designed to “empower, secure and facilitate the Cannabis community’s daily transactions.” As its website proclaims: “On every level of the Cannabis, Hemp and financial industries our users and supporters can entrust PotCoin to extend credibility, stability and security to this exponentially growing market and community.” These choice adjectives—credibility, security and stability—create a sense of legitimacy and of a business model designed to be part of a legal and trustworthy marketplace.

One of PotCoin’s founders, “mrjones” told the Huffington Post his partners expect their digital currency to be accepted as legitimate across the marijuana industry, from growers and dispensaries in Colorado or Vancouver, to cafes in Amsterdam, to buy cannabis and related products. Mrjones and his partner “smokemon” plan to reveal their identities in April 2014 when they launch their product at a cryptocurrency convention in New York.

Mrjones said it’s possible to use PotCoin to buy illegal drugs but expects most users won’t do that due to the transparency built into the business model. “I think that our technical transparency may be a turn off,” mrjones said. “Although like Bitcoin, accounts are anonymous, transactions are also traceable.”

Mrjones reports that PotCoin will deploy transparency to drive out the bad actors and criminals. “We’re building a network database for merchants to allow them to optionally link users with accounts. This can facilitate insurance claims and down the road, doctors’ prescriptions,” mrjones said. PotCoin claims that retailers have already committed to using its product.

Contrast PotCoin with Dopecoin. DopeCoin bills itself as an open-source peer-to-peer cryptocurrency. Created in January 2014, according to its Facebook page, “its purpose is to provide the black market with a safer and faster way of doing business.” Its website has faces of masked people wearing the Anonymous mask, highlighting the anonymity of the business and its founders.

DopeCoin’s developer, who has been identified only as “Dopey,” said DopeCoin is designed to be used to buy anything legal or illegal, from both black market marketplaces like Silk Road and above-board merchants, as well. DopeCoin’s website has a range of interesting features. One can gamble by making bets and rolling dice to win or lose DopeCoins; whether this is illegal or legal gambling is an open question depending on how you view betting with DopeCoins. There is a DopeCoin “faucet” that drips out small amounts of DopeCoins to visitors for their use—this seems to be powered or made possible by donors.

Dopey noted that DopeCoin is more than about purchasing drugs. DopeCoin will use “coin mixing” technology to provide anonymity. With the press of a button, DopeCoin users can mix their coins with those of other users, masking their coins’ trail. DopeCoin reports that presently four retailers accept DopeCoin: two brick-and-mortar businesses in Europe and two online merchants in the United States.

Will PotCoin and DopeCoin Fill a Market Void?

Both the PotCoin and DopeCoin teams expressed the need to give drug buyers—legal and illegal—an alternative payment mechanism that will be convenient, and may permit them to transact a bit out of the public’s gaze.

Like Bitcoin, these crypto “currencies” have low transaction fees for the merchants who accept them. Thus, they offer cheaper payment platforms for merchants and may be competitive for this reason alone. They have the potential to be secure, although as the Bitcoin Mt. Gox heist shows, that is not always the case.

But will the demand for these payment mechanisms fill a needed void? Perhaps for now, it appears that marijuana sellers cannot readily access bank accounts. The federal government, however, is taking steps to rectify that and has issued guidance saying that it will not target banks that provide services to legal state marijuana businesses.

Treasury and the U.S. Department of Justice (“DOJ”) recently issued guidance intended to give banks confidence that they will not be prosecuted if they provide services to legitimate marijuana businesses in states that have legalized the medical or recreational use of the drug, even though it remains illegal under federal law.

The guidance, which requires banks to vigorously monitor their marijuana-sector customers, was provided by Treasury and DOJ in two separate advisories. The policy does not grant immunity from prosecution or civil fines to banks that accept legal marijuana sellers as customers. But it directs prosecutors and regulators to give priority to cases only where banks have failed to adhere to the guidance, which involves due diligence and reporting to sort out legal sellers from illegal ventures.

In a three-page memo to prosecutors issued in conjunction with the new banking guidance, Deputy Attorney General James M. Cole wrote, in a document now referred to as the “Cole Memo”, that prosecutions may not be “appropriate” when banks do business with marijuana entities that are operating legally under state law. The Cole Memo states that such entities would not be prosecuted if they do not violate any of the eight priorities set forth in a prior DOJ memo. Those priorities include preventing: the distribution of marijuana to minors, the sale of marijuana across state lines, and the delivery of proceeds from the sale of marijuana going to criminal enterprises.

The Financial Crimes Enforcement Network, (FinCEN), an arm of Treasury, has noted that banks may still provide services to marijuana businesses while maintaining their obligation to comply with the federal anti-money-laundering law, the Bank Secrecy Act. In a seven-page document, FinCEN asked banks and other financial institutions to use “due diligence” in monitoring their marijuana customers, including reviewing their applications for state licenses and understanding their “normal and expected activity,” such as the types of products they sell and whether they have medical or recreational customers. Banks will also be under an obligation to monitor those accounts and to check public records and reports for news of any adverse activity by marijuana business account holders.

Since the financial transactions of a marijuana business are considered illegal under federal law, banks will still be required to file suspicious activity reports (SARs) on those entities. But according to a Treasury spokesman, new reports would be abbreviated versions referred to as a Marijuana Limited SARs. As long as the business does not appear to implicate one of the Cole Memo priorities or to violate state law, reports would be filed as a Marijuana Limited SAR. If a bank notices or suspects red flags, then it would file a Marijuana Priority SAR. The concept is to distinguish between legitimate businesses and those that are somehow linked to other illegal activity. Banks will have to initially file one suspicious activity report on a marijuana business, then three per year after that.

This relaxation of rules has not given banks complete comfort; only a change in federal laws and regulations will do that. But it shows that the federal government is slowly relaxing its stance to allow for state licensing and regulation of marijuana. As more banks decide it is safe to work with marijuana sellers, there may be less demand for PotCoin and DopeCoin. The void may close and the banks may recapture the business they have currently lost. Many customers may still prefer to pay by credit card, and it may be easier for marijuana sellers to pay bills and taxes from a bank account than with a cryptocurrency.

Are There Current Legal Risks for PotCoin and DopeCoin?

At present, DopeCoin and PotCoin presumably face the same risks of being prosecuted for money laundering as traditional banks do, to the extent that are providing financial services and accepting funds from marijuana sellers.

In addition, to the extent that their partner exchanges or other businesses provide wallet services and hold these “coins,” they may be required to register and be licensed as money transmitters under federal anti-money laundering laws. These registration requirements came into force as a reaction to the rise of Bitcoin. Federal licensing may also lead to states requiring some form of license to operate as well. PotCoin may already be talking to lawyers and regulators about such licensing, as it attempts to create an alternative but “credible” payment method.

DopeCoin, on the other hand, appears to flout the law by proffering its services for black market operations. Of course, it may not be easy to shut down such services if they are operating offshore and behind a veil of anonymity, but law enforcement will try and go after pot sellers and other intermediaries that transact with DopeCoin in an attempt to strangle its ties to commerce—licit or illicit.

So while both ventures are attempting to fill a void caused by the dissonance in federal and state law, they, too, are subject to the same laws and dichotomies that banks face.