A federal judge decided on Thursday not to impose a prison sentence on the senior directors of E-Gold, an Internet-based digital currency firm, who had previously pleaded guilty to violations of money laundering and running an unlicensed money transmitting business.

The three directors of E-Gold, in addition to its Gold & Silver Reserve parent company, were indicted in April 2007 after federal prosecutors accused the online payment site of being a haven for criminal activity like processing investment scams and payments for child pornography. They said its loose verification standards for users' identity attracted criminals.

The three men and the companies pleaded guilty to the charges in July 2008.

U.S. District Judge Rosemary Collyer said the men deserved lenient sentences because they did not intend to engage in illegal activity. Even though, Collyer said, the U.S. Justice Department wanted to use the cases to show "this new day of Internet crime is going to be... vigorously prosecuted," that alone was not enough reason to incarcerate the defendants.

Gold & Silver Reserve CEO Douglas Jackson was sentenced to 300 hours of community service, a $200 fine, and three years of supervision, including six months of electronically-monitored home detention. He had faced a maximum sentence of 20 years in prison and a $500,000 fine.

Jackson was spared a heavier fine because, according to his attorney, he's deeply in debt. "Dr. Jackson has suffered, will continue to suffer, and may never be successful with E-Gold," the judge said.

Reid Jackson, Douglas Jackson's brother, and E-Gold director Barry Downey were each sentenced to three years of probation, 300 hours of community service. They also were ordered to pay a $2,500 fine and a $100 assessment fee each.

The defendants were also ordered to obtain licenses to do business in the states in which a license is required, something the company had already begun doing. In September, E-Gold hired KPMG to aid its development of an anti-money laundering program; it has already contacted every state to determine whether a license is needed.

E-Gold and Gold & Silver Reserve faced a maximum fine of $3.7 million but because neither company could pay that much, they were fined $300,000 with the condition that $10,000 be paid on November 24, with further monthly payments to start in May 2009.

Many of E-Gold's users turned to it as an alternative to a bank account denominated in U.S. dollars, which lose money due to inflation especially when interest rates are low. By contrast, gold has zoomed upwards from roughly $300 an ounce in 2002 to around $750 an ounce today.

Supporters of E-Gold and gold-denominated accounts have suggested that enabling nearly-anonymous transfers of money in and out of the banking system is what led the Feds to target the company. For his part, Jackson initially blasted the Feds, saying the Secret Service "deceived" a judge with "bogus testimony" so they could conduct a raid on E-Gold designed to put it out of business.

Federal prosecutors claimed there was no doubt the directors knew E-Gold facilitates criminal activity. An analysis in January 2008 of the 65 most valuable E-Gold accounts showed that more than 70 percent were involved in criminal activity, according to Laurel Rimon, a Justice Department prosecutor.

Furthermore, prosecutors said, the funds that flow through E-Gold, which launched in 1996, are significant. At its height, the site had more than 4 million accounts and facilitated more than $5 million fund transfers a day.

Though illegal activity continued on E-Gold well after Douglas Jackson acknowledged the company was under investigation in 2004, the defendants claimed that they received bad legal counsel, which convinced them the site did not have to be licensed as a money transmitting business.

"If he had thought it needed to be licensed, he would have done everything in his power to make that happen," Federal Public Defender Michelle Peterson said about Reid Jackson.

The court also accepted the argument that Downey was unaware of the company's need for a license, even though he is a practicing lawyer.

The defendants also argued they have worked to the best of their abilities to cooperate with investigators, but the prosecutors provided evidence that the directors may have been trying to circumspect government interference.

The company was incorporated in Bermuda, for instance, even though its operations are based out of Melbourne, Fla. Barry Pollack, Downey's defense attorney, said the site's offshore registry did not impede the directors from responding to subpoenas. (If the site had been entirely overseas, as GoldMoney.com is, it wouldn't have had to worry about the Feds. On the other hand, GoldMoney does demand proof of identity.)

Douglas Jackson founded the site on a philosophy opposed to government regulation, prosecutors said. "Dr. Jackson was very candid about his vision to create a version of a financial institution that didn't have regulations," prosecutor Jonathan Haray said.

Intentions and philosophies notwithstanding, the defense said, the defendants should remain out of jail so they could keep the site up and running and continue to help investigators track criminals. E-Gold's records of IP addresses and timestamps provide a trail to criminals--and proof the company had no intention of inviting criminal activity, the defense said.

The prosecution questioned how useful E-Gold's cooperation really was.

"The vast majority (of IP addresses from E-Gold) don't have good identifying information," said Rimon. "If an IP address leads to a P.O. Box on a street corner in Estonia, that doesn't do us much good, and that's what we found in many cases."

E-Gold remains open for business today, though Jackson said in an announcement on November 14 that it was still figuring out how to comply with the registration process for new accounts now that it's subject to regulation as a "financial institution." New account creation is "temporarily suspended."

By Stephanie Condon - news.cnet.com