How money laundering is messing up the world of cryptocurrency

How money laundering is messing up the world of cryptocurrency

Virtual assets. Cryptocurrency. Bitcoin. Litecoin. Ethereum. These concepts or words are in trend nowadays across the world. People are using these digital assets as investment vehicles or for the exchange of value. There is a sudden rise in its adoption. Parallelly, there is a rise in innovations in financial infrastructure for securing cryptocurrencies.
But, money launderers and financial criminals are not far behind. They have found ways to exploit this supposedly safer currency for money laundering activities. Though the volume of crypto laundering is low, it is the newest and trendiest venue for hiding illicit funds.
Crypto supporters believe that money laundering will not affect the cryptocurrency market much. This is because there is more transparency and accountability in the transactions. Also, laundering money in cryptocurrency is a more complex and riskier process than in other currencies.

But, we are witnessing the reality of cryptocurrency money laundering in the world. And, global regulators, countries, and the financial world need to do something about it. They need to understand the reasons, identify the red flags, and develop mechanisms to counter them. In this article let’s look at the cryptocurrency money laundering risks and ways and means to mitigate them.

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Reasons for money laundering in cryptocurrency

People love cryptocurrencies because they make transactions faster, easier, and safer. But, certain demerits of it make them vulnerable to attacks by money launderers. The major reasons why cryptocurrencies are an easy target for financial crime are:

Total online nature of cryptocurrency

Technology developments are happening at a faster rate across the world. But, at a higher rate, criminals are exploiting the shortcomings of technology for the wrong use. The full online nature of cryptocurrencies makes them an easier target for laundering money.

These virtual assets are stored, transacted, and conducted online. Full online nature with the anonymity of the owner creates the possibility of laundering activities. Whether placing illicit funds or layering money with structured transactions or putting it back in the legal system, crypto is at high risk.

Lack of regulation or government control

Generally, the financial infrastructure and systems of any country are highly regulated. Such a regulated environment ensures safe and secure transactions across the globe. But, that is not the case with the world of virtual assets.
There are little to no regulations in place for the cryptocurrency market. Some of the governments do not even encourage the use of cryptocurrency, let alone framing any legal protection rules. The absence of regulations is the key attraction for financial criminals to use it for layering of illicit funds.

Basic characteristics of cryptocurrencies

The best feature of cryptocurrencies is they are global and accepted everywhere. You can use these virtual assets for cross-border transactions. Also, these are more autonomous because no intermediaries are involved.
These features of cryptocurrencies make them more attractive to financial criminals. It is easier, faster, and convenient to process these virtual assets across borders. Also, the crypto transfer transaction from one owner to another is not centralized, leading to higher risks.

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Ways in which crypto laundering happens

Placement of illegal money

Money launderers buy one cryptocurrency through one of the online cryptocurrency exchange houses. This exchange is the one with lesser or no compliance with AML regulations. The cash or cryptocurrency used for buying is the illegal money that enters the ecosystem. This is the first stage of money laundering – placement.

The layering of illegal money

The second stage of money laundering is layering. Financial criminals use a structured transaction to layer the illegal money. They enter into buying and selling transactions of cryptocurrency on crypto exchanges. They also transfer their virtual assets to other countries to move them away from the actual source.

Entry of illegal money as clean in the financial system

The third stage is integration where illegal funds enter the financial system as legal money. Herein, money launderers sell cryptocurrencies to other buyers through over-the-counter brokers.

Online gambling transactions

Generally, gambling sites accept cryptocurrencies as the mode of payment. They buy chips for gambling using illegal cryptocurrency. Then, they encash it using clean money.

Decentralized fund transfer networks

The cryptocurrency transfer network is decentralized. Generally, people transfer cryptos to other people in countries that have no or weak AML regulations. Next, they buy other goods or services with those illegal virtual assets to convert them into clean money.

Cryptocurrency tumbler

There exists cryptocurrency mixing services or tumbler that pools cryptocurrencies from many users. Then, the tumbler is split and distributed to each owner as per the proportion received. This is how crypto launderers put illegal money into the system, which may go to any participant of the tumbler.

Abuse of crypto ATMs

Many private companies have installed cryptocurrency ATMs in many countries. On these ATMs, you can buy cryptocurrency using cash, or debit/credit cards. But, these ATMs have no regulatory structure or legislation controlling them.
Because of all these red flags, AML watchdogs must keep a focused eye on the world of cryptocurrency. They must identify the various money laundering risks and how they affect these virtual assets. And, most importantly, they need to find ways to eliminate or lessen these risks.

Global regulations for the cryptocurrency world

The time has come for financial watchdogs to frame regulations to stop the misuse. Financial criminals are exploiting the high technology used in cryptocurrency to launder money. Similarly, the regulators must use technology to detect these activities as well. They must find out technological innovations that can prevent the occurrence of money laundering.
Many countries have implemented regulations for KYC and reporting suspicious activities. They have also come up with laws for conducting cryptocurrency transactions through key channels. Some countries are even considering digital versions of their national currency. All these ways will help economies to reduce the risks of money laundering.

FATF, the global AML agency, released updated guidance for virtual asset service providers (VASPs) in October 2021. The guidance was originally released in 2019. The updated version subjects VASPs to similar AML regulations as applicable to financial institutions. It covers areas such as peer-to-peer transactions, decentralized finance, stablecoins, and non-fungible tokens.

AML regulations for cryptocurrency in the UAE

The UAE market is quite active in regulating the money laundering activities in cryptocurrency. The country does not ban crypto assets. But, it has implemented measures to protect them from financial criminals.
It has introduced the following regulations:

DIFC in October 2021

The Dubai International Financial Centre (DIFC) introduced a new regulatory framework for virtual assets in October 2021. These regulations, implemented by Dubai Financial Services Authority (DFSA), apply to investment tokens. Investment tokens may take the role of a security or derivative depending on the rights and duties of their holders.

These regulations allow individuals to carry out activities related to investment tokens in or from DIFC. But, such individuals must take approval from DFSA before carrying out these activities. DFSA also plans to introduce more laws for cryptocurrencies and utility tokens.

UAE in September 2021

In September 2021, UAE adopted a regulatory framework for the protection of cryptocurrencies from ML risks. The law was adopted in the meeting of the National Committee for Combating Money Laundering and Financing of Terrorism and Illegal Organizations (NAMLCFTC).

The framework is in regards to Recommendation No. 15 of FATF on AML/CFT. This recommendation talks about having strict regulations for virtual assets and VASPs. It requires a country to have rules for licensing, registration, monitoring, and compliance of VASPs.

The regulation developed initiatives to protect the infrastructure of virtual assets against ML risks. It also intends to adopt guidelines for the implementation of financial sanctions against criminals. The implementation responsibility lies on the Securities and Commodities Authority (SCA) and the Central Bank of UAE.

Onshore UAE in November 2020

In November 2020, the SCA released Decision No. 23 of 2020 concerning Crypto Assets Activities Regulation. This law governs the listing, offering, trading, and issuing of digital assets in or from onshore UAE. The law defines the types of virtual assets included and excluded in this definition.
The regulation applies to marketplaces, ICOs, custodian services, exchanges, and crowdfunding platforms. It also includes the financial services related to these crypto assets. It differentiates between commodity tokens and security tokens. It also makes provisions for approval requirements for both.
SCA must license these crypto assets providers. For obtaining a license, they must follow the country’s AML/CFT, data protection, and cyber security compliance requirements and laws. Relevant regulators must incorporate these providers only in onshore UAE, DIFC, or ADGM.
Besides, there are provisions on cloud computing, data residency, and employees for these crypto-assets providers. Crypto assets can be offered to qualified investors who must file documents with SCA for approval. In the case of non-qualified investors, they must take approval from SCA before being offered crypto assets.
SCA also stresses the point that it considers all potential investors highly risky. This means conducting enhanced due diligence for all customers becomes essential. This includes checking ultimate beneficial ownership, geographical risks, sanctions, and political exposures.

ADGM in 2018

The Financial Services Regulatory Authority (FSRA) of Abu Dhabi Global Market (ADGM) provided regulations for crypto assets. It amended the Financial Services and Markets Regulations (FSMRs) to factor in the regulation on operations of crypto-asset businesses. Under this legislation, FSRA regards crypto assets as commodities.
Accordingly, operators in the market of virtual assets (intermediaries or custodians) must take approval from FSRA. Once they get the approval, they will operate as a financial service permission holder. So, anyone operating in these virtual assets must comply with the same regulations as applicable to securities, derivatives, and funds in ADGM.

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Thus, we see that the UAE government has made many provisions for protecting crypto assets from money laundering. But, money launderers are at a higher pace of exploiting technology for illegal activities. This surpasses even the pace at which technological innovations are happening in the crypto space.
Nonetheless, the global and national regulators are making good progress with relevant protection laws. The key lies in identifying the red flags at the right time. It is also crucial to hire AML consultants who can help you with achieving AML compliance in the UAE.


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About the Author

Pathik Shah


Pathik is a Chartered Accountant with more than 25 years of experience in compliance management, Anti-Money Laundering, tax consultancy, risk management, accounting, system audits, IT consultancy, and digital marketing.

He has extensive knowledge of local and international Anti-Money Laundering rules and regulations. He helps companies with end-to-end AML compliance services, from understanding the AML business-specific risk to implementing the robust AML Compliance framework.