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Initially, cryptocurrencies exploded as a viable way to trade currency. Due to its nature and the initial lack of regulation, it resulted in a large influx of illegal activities – that is, money laundering.
Due to the increasingly strict security measures adopted by crypto companies, regulators and financial institutions, illegal transactions now account for only a very small percentage of total transactions. For example, today less than 1% of all Bitcoin transactions involve illicit activities, compared to 35% in 2012.
In this blog post, we will address the risks of money laundering with cryptocurrencies and the key factors that affect them, as well as the solutions that companies can take to reduce these risks.
- Cryptocurrency money laundering risks
- Regulator responses to existing AML risks
- Using Blockchain to Prevent Money Laundering
Cryptocurrency money laundering risks
In 2019, criminal entities laundered approx $2.8 billion through crypto-asset exchanges. Using cryptocurrencies to transact funds has its advantages, but also its disadvantages, and through these disadvantages, criminals find ways to take advantage of the system for their own benefit and fraudulent use. Fortunately, regulators have increasingly been able to identify these deficiencies and address them.
Any cryptoasset system or exchange has the potential to present exploitable risks. For example, many money laundering operations are enabled by the relative anonymity of cryptocurrency transactions or by security vulnerabilities present in some of the systems used to facilitate those transactions.
Essentially, while banks have a separate and highly regulated global system of legal protection and obligations, the crypto-asset market is not as universally protected or regulated. While many companies and jurisdictions make sure their territories are safe and secure, not all jurisdictions can boast the same.
Risks can be consolidated into the following categories:
Source of funds
Sources of cryptoassets may be potentially linked or directly linked to illegal activity. For example, funds may be transferred from a platform with little or no AML or Know Your Customer (KYC) regulations, which is a possible red flag about the origin of the funds.
Similarly, one crypto wallet can be tied to multiple banks and credit cards, indicating a group of people using one wallet to move funds.
Suspicious transaction patterns
In some circumstances, the risk of money laundering may be related to the actual pattern of transactions taking place.
For example, criminal groups will repeatedly transfer without a commercial explanation, raising the question of why these transactions occur. Other suspicious patterns may include:
- High-frequency transactions of large amounts from multiple wallets to one account during one period.
- Crypto wallets that don’t match user profiles.
Risks within Certain Jurisdictions
In some geographic areas, only a fraction of the required AML or KYC regulations exist. This, along with the lack of full implementation of preventive measures and/or the existence of regulatory bodies, creates opportunities that can be exploited by criminal groups.
In higher risk jurisdictions, users will potentially see a higher volume of suspicious transaction patterns or suspicious sources of funds. Due to the relative lack of protection for legitimate traders, these areas should be avoided.
Transaction frequency and size
The frequency and size of transactions should also be carefully monitored as they can also be used as a cover for illegal activities including:
- Clearing transactions in amounts below reporting thresholds
- Consecutive high-value transactions in a short period of time
- Fast transfer of deposits from regulated jurisdictions to non-regulated jurisdictions
To explore more information on Bitcoin money laundering, read our detailed study on Bitcoin money laundering here.
Regulator responses to existing AML risks
Legitimate organizations are potentially at risk of their platforms and services being used for money laundering, for example:
- Multi-use debit cards
- Initial Coin Offerings (ICO)
- Video game payment portals
- PEP bribery
- Securities trading
- Money service jobs
Regulatory and financial authorities are aware of these risks and continue to develop regulations to minimize risk and increase compliance in the constantly and rapidly growing crypto-asset industry. For example, financial institutions can implement measures recommended by the Financial Action Task Force (FATF) and stay compliant with new and up-to-date regulations.
National governments also work with regulators to assess potential risks leading to money laundering violations and apply sanctions where appropriate.
However, there is still a significant amount of work to be done by the government, financial industry bodies, crypto businesses and financial institutions to make the crypto market more regulated and compliant. Meanwhile, how do legitimate traders using cryptocurrencies stay risk-free?
Using Blockchain to Prevent Money Laundering
Crypto asset transactions are powered by blockchain technology. One of the key drivers of security in cryptoasset transactions is the fact that the blockchain is an ‘immutable ledger’ – a record that cannot be changed. Each ‘block’ contains records of entire chains of transactions, which can be compared with records of other blocks to identify anomalies. This means that all information contained in the blockchain is reliable and accurate.
This ‘immutable ledger’ records the crypto wallet identification behind each transaction. If an illegal transaction is linked to a wallet, that wallet can be used to identify the owner, meaning any illegal activity can be stopped through legal action.
Other blockchain technologies enable automated detection of AML fraud, developing requirements that would block or flag suspicious transactions before they are implemented. In the future, governments will have to make such requirements mandatory in order for financial institutions and crypto-asset businesses to operate.
There are already organizations working on the blockchain and providing a more secure space for cryptocurrency transactions. Partnering with these organizations can help crypto businesses and financial institutions stay safe and risk-free in their transactions.
Working with Blockchain analytics providers
Companies like Elliptic can help crypto businesses and financial institutions involved in cryptocurrencies analyze and track transactions through the blockchain, identifying where illegal activities such as money laundering have occurred and warning of potential risks. Our blockchain analytics products and solutions deliver consistency AML compliance and crypto asset risk management for our clients.
Blockchain analytics offers an end-to-end trail of transaction data that crypto companies and financial institutions can use to ensure compliance with AML standards and regulations.
You can learn more about how Elliptic helps its clients investigate user activity and “follow the money” to ensure the legitimacy of cryptoassets here.
Report on financial crime and typologies
Money laundering is a common financial crime in global crypto markets. For more information on these issues and expert advice on how to stay alert and compliant, download and read our Typologies Report.
This guide covers the types and typologies of illicit activities that exist on the blockchain, activities that pose a risk to your compliance efforts, and general financial security.
Inside, you’ll find information about the red flags these activities show so you’re better prepared to operate risk-free in the cryptoasset markets.
To download your guide, click the link below.
