Any crypto trader or investor will know the rigorous, albeit essential, process of completing KYC practices before being able to buy or sell Bitcoin and other cryptocurrencies. In this article, we're debunking the myths and highlighting the reality of why these Know Your Customer processes are necessary, and how it fits in with AML (anti-money laundering) laws.
As cryptocurrency exchanges continue to solidify their position in the greater financial landscape, the need for strict and regulatory practices has increased. Due to the nature of cryptocurrency transactions being pseudonymous, the need to weed out illicit activities is imperative.
With little regulation in place, the market remains vulnerable to all kinds of criminal activity, from terrorist financing to ransomware attacks. While regulators were scrambling to change this, a whole new industry within the crypto space evolved. From the even more decentralised nature of DeFi to entirely unregulated NFT dealings, both financial regulatory bodies and institutional investors have joined forces to create more structured frameworks to fight blockchain crime. The results have proven to be successful.
With fast-changing landscapes and increasing innovation, regulating the crypto markets comes with a need to match the pace. Considering that the current financial regulatory frameworks were created based on fundamentally different economic principles, regulatory bodies have their hands full when it comes to building and implementing regulations that can support, while not extinguishing, this financial services revolution. Not to mention the laws required from an insurance standpoint.
Anti-money laundering encompasses a range of regulations, procedures and laws to stop criminals from disguising illegally obtained funds as legitimate income. These measures were not implemented into big exchanges in the early stages of the crypto timeline, but are rather now making their way into platforms' due diligence processes as per tighter regulations. These generally involve traders confirming their identity before being able to conduct any payments when buying digital assets or executing any crypto transactions.
As noted in the banking and crypto industries, when individuals or businesses attempt to conceal unlawful earnings this is typically done in three stages: placement, layering, and integration. The placement layer involves the money being deposited on the crypto exchange.
The layering stage is when the illegitimate funds are mixed with legal funds making it challenging for authorities to keep tabs on them. In the final stage, the laundered money is "cleaned" and returned to the beneficiary. This is how criminals circulate illicit income and manage to launder money undetected.
In the decentralised world of cryptocurrencies keeping tabs on such activities has its own set of challenges. Hence why AML measures and controls are vital to the industry's operations as well as reputation.
However, as mentioned above, these measures need to be carefully implemented so as not to kill the nature of why people are attracted to cryptocurrencies in the first place (being free from third parties or central authorities). The regulations need to respect the decentralised nature of cryptocurrencies while still providing the opportunity for policing should illicit activities be happening, and then needs to be built into the business model of the company providing the crypto services.
While there are plenty of anonymous means of transacting your crypto, such as privacy-focused cryptocurrencies, there are still several aspects that traditional cryptocurrencies possess that trigger red flags when it comes to AML.
The estimated amount of money laundered in 2021 is $800 billion - $2 trillion, with roughly 50% of money laundering going undetected. According to a Basel System Report, 62% of compliance officers in business crime say that this type of criminal activity is becoming more difficult to spot. With this in mind, here are the top AML red flags that are present across the board:
Obscured identity of transaction makers
Unclear transaction size
Obscured geographic location
Unofficial profiles of parties involved
Lack of information on the source of funds
Withdrawing funds from a wallet with no transaction history
Consecutive high-value transactions
As crypto exchanges work toward integrating cryptocurrencies into the mainstream financial landscape, they are required to work hand in hand with regulatory bodies. These actions vary around the world, with many countries opting to embrace different methods of imposing AML practices.
Here is a look at how 5 countries imposed varying rules:
Governed by the Financial Transactions and Reports Analysis Centre (FINTRAC) and Financial Crimes Enforcement Network (FinCEN) the country has strict regulations when it comes to AML and KYC regulations. It continues to work on the legal framework.
Following an investigation with crypto exchange Bithumb revealing that $1.45 billion worth of funds were illegally moved through the platform, the country is working on imposing more defined AML and KYC rules.
Taking a rare approach to crypto regulation, the financial hub of Asia and a key player in the development of the blockchain and crypto industries, Singapore is choosing to educate people on the technology rather than impose stringent policies.
The country recently imposed regulations under the guidance of the FINTRAC unit that mandates the same KYC requirements as traditional financial institutions.
The Thai regulatory bodies have implemented regulations to keep foreign investors out of their local markets by upgrading their KYC regulations with in-person verification and microchips in their ID cards.
Today, most modern nations have implemented rules that demand businesses to use sophisticated technologies to prevent crypto from being utilised to finance unlawful activities and protect their investors.
Cryptocurrency compliance is an industry that has its own set of rules. Every year, businesses must demonstrate greater levels of security and minimise risks in order to stay compliant. KYC/KYB/AML processes are taken very seriously by reputable cryptocurrency firms. They might be subject to huge penalties if they fail to comply with this requirement.
In Conclusion: AML Is Here To Stay
While these new financial transparency measures might go against the very nature of cryptocurrencies, it is important to ensure the security of crypto users, and for the overall adoption of the industry. They also play an imperative role if crypto wants to live alongside fiat currencies in the global financial landscape.
The introduction of new global regulations contributes to the growth of the cryptocurrency industry. Despite a widespread misconception, digital currencies are traceable and do not account for most financial crimes.
Reputable cryptocurrency platforms collaborate with law enforcement to assist in the prevention of illegal activities. They also safeguard their users from fraud and other potential risks.