Many cryptocurrency users have argued that bitcoin and other tokens need fungibility and anonymity. If a person uses 1 BTC to buy something, someone else should be able to use that same 1 BTC without consequences. This means there is no difference between tokens, and users can transact privately.
However, the reality is that blockchain transactions are not necessarily as private as we like to assume. With some investigative power, it can, in certain circumstances, be possible to trace a person or business that uses their crypto online to buy a product or service. And if the crypto in question was used for illegal activities, the currency holder might be in trouble.
This is where people began mixing their coins. They use a bitcoin mixer to obscure the token’s origin. For example, suppose you wanted your transactions to remain private. Before gambling at the best crypto casino, you might put your crypto through a mixer, also known as a tumbler.
Is Bitcoin Anonymous?
Many believe that bitcoin is an anonymous mode of payment. People transacting with BTC might not see their names on the public ledger, but others can see their public addresses.
Furthermore, people new to cryptocurrency think it is anonymous because bitcoin addresses are not linked to a user’s identity. This means anyone can create a new address without providing any personal information.
Lastly, they believe it is anonymous because transaction data is spread across multiple nodes in the blockchain network. This makes it difficult to trace which node a transaction occurred on and even more difficult to trace who made the transaction.
How Are Bitcoin Users De-Anonymized?
By now, you have guessed that bitcoin is not completely anonymous. There are methods for tracing users known as de-anonymising.
Firstly, users must adhere to the KYC protocol if they make a transaction on a regulated exchange. This means they have to provide the exchange with an ID document or even proof of address. From this, a hacker could determine a user’s identity by comparing the addresses on the exchange with the information stored in the exchange.
Next, multiple nodes handle transactions, but if a group owns most of the nodes on the network, they could use their collected data to determine which node the transaction came from.
Finally, anyone accessing the bitcoin blockchain can see all the transactions. All transaction data is open to the public, allowing bitcoin address clustering. This is where multiple addresses are grouped and belong to one user. So, if one address has personal information, all of them could belong to that user.
What Is A Bitcoin Mixer?
Bitcoin users can gain anonymity by using a bitcoin mixer. This is a piece of software that allows users to mix their coins with others and receive a random coin in return.
You get centralised bitcoin mixers. Here a service provider provides a platform where users can deposit their coins. They charge a specific fee, and then they mix the coins. Users then receive coins that have no links to the coins they deposited.
There is one disadvantage to centralised mixers. If one entity handles coin deposits, it could easily not return the coins and pocket all the funds. Additionally, the entity knows all the BTC addresses before the mixing. This means that the entity can record a user’s IP address and BTC address and then use this information for malicious purposes. A law enforcement agency could also get the information if the entity is investigated.
On the other hand, there are decentralised solutions too. For example, CoinJoin allows users to create pools where they deposit their funds, and no one controls any addresses. This gives users plausible deniability about where their mixed coins came from.
How Do They Work?
As we previously mentioned, one entity runs a centralised mixer, vulnerable to fraud and third-party de-anonymity.
A basic transaction on the bitcoin blockchain involves inputs and outputs. Users take their unspent transaction outputs (UTXOs) as input when they make their transactions. They state the output and sign off on the inputs. At the same time, they can state any number of outputs. A user needs to sign each input independently.
With CoinJoin, multiple users create inputs and outputs for a single transaction. For example, four users state which inputs and outputs they want to include.
Next, a coordinator takes the information and creates a transaction from it. The users then sign off on this transaction. The coordinator cannot keep the funds because they cannot modify the transaction after signing it.
This transaction now includes inputs and outputs from different users. The new transaction also has newly signed inputs, so another party cannot trace the origin of the coins. They can only trace back to the freshly made transaction.
There are a few disadvantages to the CoinJoin method. Firstly, crypto exchanges can easily spot when a user has used CoinJoin. There are recognisable patterns, and the exchange might suspend any account that uses it.
Furthermore, CoinJoin requires a big enough group of users to be successful. The idea is that the more users are involved in a CoinJoin, the more privacy each user has. The inverse is also true. If there are only a few users, the inputs can be traced back to the users.
The Most Popular Bitcoin Mixers
Wasabi Wallet has a built-in CoinJoin mixer. It has a centralised infrastructure because users deposit their coins to the Wasabi Wallet servers. But its design does not allow the operator to see Bitcoin addresses, and they cannot steal funds. This mixer is only available on desktop computers.
Another wallet, Samourai, has a mobile app. It uses the same CoinJoin protocol as Wasabi. And for users to maintain their privacy, they require their full-node bitcoin blockchain. This means they must download a copy of the entire blockchain onto their computers.
Next, JoinMarket uses CoinJoin too. Here it takes smaller transactions and merges them into larger transactions. Users need to pay a small fee to mix their coins on this platform, while coin providers receive rewards for offering their coins for mixing.
CryptoMixer is a centralised mixing service. Thousands of users have mixed their coins on the service. It can hold over 2,000 BTC at a given time, making it more trustworthy than other centralised mixing services. Of course, centralised mixers cannot guarantee privacy because they are single entities, but CryptoMixer is easy to use.
Users just need to send their coins to an address they receive after creating a mixing session. They pay a reasonable fee and deduct the payment from the deposited coins before mixing. Users then receive their mixed coins after a set time.
Is Mixing Legal?
Bitcoin mixing or bitcoin tumbling has received a bad reputation. This is because criminals use mixing to cover up their illegal activities.
But the reality is that there are other reasons someone might want to protect their privacy. Blockchains are inherently public, so a person with malicious intent could easily spot a cluster of Bitcoin addresses or trace a user with large holdings and target them.
Furthermore, only a small percentage of coins on the darknet is from bitcoin tumblers. Most coins come from exchanges.
Accordingly, this means that there is a perception that bitcoin mixing is illegal, but there is currently no law prohibiting the practice. However, a person could get in trouble for running a mixing service.
Larry Harmon ran the Helix mixing service and the Grams darknet market search engine. He was arrested for money laundering conspiracy, running an illegal money-transmitting business, and operating without a money transmission license.
This means that law enforcement agencies perceive bitcoin mixers as a tool for money laundering. The US justice department claims that they are looking at ways to have greater transparency regarding cryptocurrencies, which is likely to mean they will target BTC tumbler operators.
Another bitcoin mixer was shut down in 2019. BestMixer.io was a mixing service that was forced to shut down after an investigation by the Dutch authorities. They found that users had been using the service to launder money.
Although the Dutch Tax Authority has stated that bitcoin mixing is not banned, mixed coins will be flagged on exchanges. Their position is that mixing is used for money laundering, and any mixed coins will be investigated.
Why Are Exchanges Wary Of Crypto Mixing?
Exchange operators must monitor the exchange for any malicious activity. This could be users attempting to trade coins with themselves or hackers trying to access private keys.
From this monitoring, some exchanges use blockchain analysis to determine trade patterns. This practice goes all the way back to 2011 when bitcoin lost $500,000 to hackers. Also, MyBitcoins, a wallet service, disappeared and took all their users’ funds. Since then, there have been numerous crypto-related hacks.
Accordingly, in 2013, blockchain analysis firms began appearing. Many of them are currently large successful companies. They mainly aim to identify malicious activity on a blockchain and report it to the developers.
They continuously analyse every transaction on a given blockchain, monitor specific Bitcoin addresses, and add them to groups. This means that certain address groups are on a watchlist. They can also trace funds.
Furthermore, these firms ensure transparency on the blockchain. They check suspicious transactions and quickly report them to their clients. This allows them to prevent cryptocurrency fraud.
A large firm, Chainalysis, has a long list of government agencies as clients. These include the FBI, DEA, and others. It has provided services to Binance and Bitstamp.
Chainanlysis has a product called Know Your Transaction (KYT). Most illicit activities have patterns. KYT can spot these patterns and send real-time alerts to its clients.
Now, exchanges are wary of crypto mixing because it is connected to illicit activities. Users can bypass KYT if they mix their coins before performing transactions. This means that KYT can identify mixed coins and flag the users for suspicious activity.
Accordingly, users need to provide their personal information to popular exchanges, so it is easy for an exchange to suspend or even ban a user when they have used a bitcoin mixer. These exchanges do not need to consider a user’s privacy because a small proportion of the total coins in the exchange are not mixed.
Is Bitcoin Tumbling Safe?
Government agencies are shutting down centralised bitcoin mixers at an increasing rate. BestMixer and Bitcoin Blender both shut down over a short period. Regulators and blockchain analysis firms flag mixed coins on exchanges, so bitcoin mixers are unsafe.
These services generally do not have strong operational security and poor encryption implementations. Also, the crypto industry is full of scam artists wanting to defraud crypto holders.
Though mixers have a few disadvantages, criminals prefer exchanges with no KYC protocols. Government agencies and blockchain analysis firms are actively creating preventative practices that would curb the risk of criminals using mixers with more frequency.
Alternatives To Bitcoin Mixing
Currently, there are two opposing forces regarding bitcoin privacy. There are those looking to de-anonymise users efficiently. At the same time, there are other developing crypto-mixing solutions where you can use alternate methods to increase your privacy without mixing your coins.
Firstly, you can use software to hide your IP address. A user could install the TOR browser, which connects to the internet like a VPN. No one can see where the transaction came from if a user performs a transaction on the bitcoin blockchain using TOR.
Additionally, a user could create a new address for each transaction. This makes it difficult for someone to analyse transactions and link one of the addresses to an individual. Of course, a hacker could employ clustering to find a real identity, but this would take some time.
Crypto mixing is an excellent method for increasing privacy when transacting with BTC. A decentralised bitcoin mixer allows users to mix their tokens securely without providing personal information.
It is worth noting that government agencies and blockchain analysis firms see mixing as an illicit activity, so there is some risk involved.
Currently, bitcoin mixing is not illegal. But based on recent arrests and mixing service shutdowns, owning a mixing service might be.