Times of uncertainty: KYC, AML in crypto

GLOBAL uncertainty has intensified with international payment systems being disrupted daily by new innovations and technologies. With sanctions on payment systems becoming a powerful weapon for foreign policy implementation among global superpowers, alternative payment systems such as cryptocurrency are gaining traction.

However, money laundering continues to be one of the biggest problems on a global scale. Governments and law enforcement agencies are working at their best to eliminate it but it seems there is a long way to go. It not only encompasses conventional money but also appears to be a huge vulnerability within the crypto space.

Today, digital currencies have become way easier to purchase and due to their decentralised nature, the industry is continuously going through significant criticism in terms of funding unlawful activities and money laundering.

To stay ahead of this rising concern, regulatory bodies are now introducing a universal set of anti-money laundering (AML) legislation which will help them to prevent money laundering within the cryptocurrency exchanges and their related services.

Know Your Customer(KYC) is a prominent client guideline within the global financial services segment. According to this guideline, the financial experts should make appropriate efforts to confirm and verify the identity and financial risks of the client for a business relationship. This guideline extends the scope to the financial institutions’ anti-money laundering policy.

 It requires both broker and dealer to make enough efforts to assess each other’s identity, purpose, and financial profiles to avoid any type of violation of the stated law. Now, the world has entered into the digital era where things are quite different but, still, most ideas rely on the conventional fundamentals.

In the crypto space, KYC guidelines are almost the same as in the conventional system. To set up a crypto exchange account, the user is typically required to go through a Know Your Customer procedure as the standard identity verification for the system. It is required by all major crypto exchanges and is considered important to understand for crypto trading. This includes the date of birth, the social security number, and the physical address of the applicant.

In addition to that, some exchanges also ask for a copy of a valid government-issued ID, driver’s licence, or passport. Within a few years, cryptocurrency has revolutionised the global financial market. It has been constantly transforming from a so-called financial bubble into a prominent reality with huge potential to grow.

This not only gave rise to the number of people getting involved in it but the demand for controlling money laundering within the system. Therefore, crypto exchanges now require a well-defined anti-money laundering policy and a set of guidelines to follow so that they can be easily controlled. This includes all the legislation and regulations that prevent unlawful and criminal activities within the cryptocurrency space.

 The Financial Action Task Force (FATF) appears to be the authority to define anti-mon[1]ey laundering (AML) policies. In addition to that, the European Commission has also introduced several unique and new AML policies for cryptocurrencies.

To comply with the stated policies, virtual asset service providers (VASPs) are required to make every effort that can restrict money laundering. Some of the most common VASPs include Stablecoin Issuers, Cryptocurrency Exchanges, NFT Marketplaces and DeFi Protocols.

They have dedicated compliance officers who look into these matters and manage KYC and suspicious activity monitoring within the system. The crypto space is facing a few but critical challenges in terms of money laundering.

 This requires VASPs to adopt intelligent and effective approaches such as enhanced due diligence and the use of diverse media sources to identify potential risks. The current AML rules of the industry aim to ensure maximum compliance on both local and international levels. These rules are based on a specially developed and structured approach to data.

 In addition to that, these rules further expand to monitoring the transactions and ensuring that they avoid suspicious activity within the system. To completely overcome these challenges, VASPs are required to conduct in-depth adverse media screening, increase focus on KYC, monitor transactional activities, and conduct risk analysis on public records.

These and many others are a few top trending and most discussed approaches to avoid money laundering in the crypto space. It is also evident that the lack of education with[1]in the governmental and regulatory level is also a huge barrier.

According to most industry leaders within the crypto space, authorised people and institutes are also required to gain a thorough understanding of digital currencies and the dynamics in which they exist.

Digital currencies, especially Bit coin, have huge potential and space for money laundering. Therefore, it seems to be easy to access an autonomous way to pursue unlawful flow of money. According to The National Law Review, Bitcoins are based on a fully autonomous, decentralised, and online structure, which is why they are quite vulnerable in terms of money laundering. 

According to the article, it is even easier to convert these digital coins into cash compared to transferring physically existing bags of money. In addition to that, the level of anonymity within the system further encourages ease and flexibility within the system for those who want to funnel money to unlawful and criminal activities.

While not 100% of the system depicts similar attributes, only a minute percentage of a flaw within the system has the potential to breach the law easily. The third and most important factor to consider here is that all the transactions are stored on block[1]chains that allow access of the transaction to only the person making it and the one receiving it.

Therefore, this attribute appears to be a big challenge for the law enforcement agencies to track a digitally funded unlawful activity and identify the real person behind it. If you think AML is the most important thing to consider before starting your crypto journey, then you need to take care of several elements. First of all, you should seek expert advice on Initial Coin Offering (ICO) and Security Token Offering (STO).

These are tokens used in the finance industry to support crowdfunding projects, carry out financial transactions, etc.

Along with that, you need to learn the various internal and external AML regulations of the country where you live and where you trade to. Lastly, stay connected with reliable crypto communities and sources that deliver valid industry insights.

*About the writer: Tinashe Kaduwo is a researcher and economist. He writes in his personal capacity. Contact kaduwot@gmail. com whatsapp +263773376128