Bitcoin transactions have limited anonymity and can be traced unless a user anonymizes his or her IP address.
Due to the limited anonymity it offers, donations to “disreputable groups” will likely remain one of the most popular uses of the virtual, peer-to-peer currency known as Bitcoin, the FBI says in an unclassified intelligence assessment.
The for official use only assessment (.pdf), posted online by cryptome.org, notes that Bitcoin transactions are only “somewhat anonymous,” since Bitcoin transactions are published online along with the Internet protocol addresses involved in the transactions. Unless a user anonymizes his IP address, “an interested party can identify the individual’s physical location,” the assessment notes.
It also cites July 2011 research (.pdf) from University College Dublin in Ireland that found that passive analysis could associate IP addresses with the recipient’s public-keys. Anonymity wasn’t necessarily meant to be a central feature of Bitcoin, but it’s nonetheless gained a reputation as “untraceable digital currency,” the FBI says, quoting a Gawker 2011 article about a website selling illegal drugs for bitcoins.
Anonymity is also defeated when Bitcoin holders want to exchange them for legal tender such as dollars. A third party service that qualifies as a money transmitter must register with the Financial Crimes Enforcement Network, the analysis notes, and must implement an anti-money laundering program.
“Since maintaining anonymity while using Bitcoin requires that users not exchange or transfer their bitcoins using third-party bitcoins services that require real world account information, the use of bitcoins to make donations to disreputable groups (which can be done within the Bitcoin P2P system) will likely remain one of the most popular uses for the virtual currency,” the FBI says.
Nonetheless, as long as there exists a way to convert bitcoins into legal tender, criminal actors will have an incentive to steal them, the analysis also states. Further, if it stabilizes and grows in popularity, “it will become an increasingly useful tool for various illegal activities beyond the cyber realm.” As examples, the FBI cites child pornography and Internet gambling.