Bitcoin Figure Is Accused of Conspiring to Launder Money

One of the most prominent players in the Bitcoin universe, Charles Shrem, was arrested by federal authorities on Sunday and accused of helping smooth the way for drug transactions on the now-defunct online bazaar Silk Road.

Mr. Shrem was a co-founder and chief executive of a popular website, BitInstant, where Bitcoins could be bought using dollars. At the age of 24, Mr. Shrem was a regular speaker on the Bitcoin convention circuit, and was also on the board of the Bitcoin Foundation, a nonprofit organization that educates the public on digital money.

The criminal charges unsealed on Monday by the United States attorney’s office in Manhattan claim that Mr. Shrem used his company to knowingly convert money into virtual currency for people interested in buying narcotics on the Silk Road site. He was also accused of personally buying drugs on the site. According to the complaint, the scheme was operated in cooperation with another man, Robert Faiella, known as BTCKing, who was arrested on Monday in Florida.

The case is already causing discomfort in Bitcoin circles, where the line between legal and illegal enterprises has long been somewhat blurry, hindering public acceptance of digital money. The price of Bitcoin dropped after the announcement of the arrests on Monday, and was down over 7 percent in the evening to around $810.

Even as the popularity of virtual currencies has exploded — the price of a single Bitcoin is up over 5,000 percent in the last year — government officials have not yet come up with clear regulation governing the use of virtual currencies under the law. That fact has made it easier for theft and fraud to occur even on legitimate websites.

BitInstant appeared to be firmly in the camp of legitimate virtual currency businesses earlier this year. The company won the backing of Winklevoss Capital Management, which is run by the Winklevoss twins, who were early players in Facebook.

After the arrests, the Winklevoss brothers put out a statement saying that they “are obviously deeply concerned about his arrest,” and “support any and all governmental efforts to ensure that money-laundering requirements are enforced.”

The brothers also said that they “look forward to clearer regulation being implemented on the purchase and sale of Bitcoins.”

The issue is likely to come up on Tuesday at the beginning of a two-day hearing on how regulators should deal with Bitcoin, organized by the New York State superintendent of financial services, Benjamin M. Lawsky. The Winklevoss brothers are both scheduled to testify.

When the Silk Road website was shut down last year, many Bitcoin fans cheered, arguing that the action was important in stamping out the illegal activity that had thrived in the early days of Bitcoin. Since then, the price of Bitcoin has risen and many mainstream investors have expressed interest in the currency’s possibilities.

But Mr. Shrem’s arrest may again raise questions about the distance between the legal problems in Bitcoin’s past and its legitimate financial opportunities.

The complaint unsealed on Monday suggested that Mr. Shrem and his business partners were themselves grappling with what was and was not allowed.

When a co-founder of BitInstant asked Mr. Shrem why he was working with someone with such clear affiliation with Silk Road, Mr. Shrem wrote in an email in 2012 that, “he has not broken a law and Silk Road itself is not illegal,” according to the complaint. Mr. Shrem added, “We make good profit from him.”

The United States attorney in Manhattan, Preet Bharara, said in a statement on Monday, “We will aggressively pursue those who would co-opt new forms of currency for illicit purposes.”

Mr. Shrem and Mr. Faiella were both charged with conspiring to launder money, and Mr. Shrem was also charged with “willfully failing to file any suspicious activity report” about Mr. Faiella’s work.

BitInstant stopped operating last summer for reasons that remain unclear. Customers later filed suit against the company, claiming that the company misrepresented its services, and sought class-action status. But the site was viewed as a pioneer in the industry, and Mr. Shrem recently said that he planned to restart it.

Mr. Shrem has also been an outspoken champion of the virtual currency. On the day he was arrested, he was scheduled to be a featured speaker at the North American Bitcoin Conference in Miami. He was arrested at John F. Kennedy International Airport.

On Monday, Mr. Shrem was still listed as a member of the Bitcoin Foundation’s board.

“We are surprised and shocked by the news today,” a spokeswoman for the foundation, Jinyoung Englund, said. “As a foundation, we take these allegations seriously and do not condone illegal activity.”