While the ethos of cryptocurrency may be partly rooted in anonymity, mass adoption and subsequent fraudulent activities, such as money laundering and terrorism financing, has forced legislators to step in and fill the regulatory void.
Binance and Coinbase, both leaders in crypto trading worldwide, are just two major players that have decided to enforce strong KYC policies, in order to comply with AML and KYC regulations, along with upcoming regulatory framework, MiCA. When registering on one of those platforms, users need to provide a government-issued ID, take a photo identification selfie, as well as provide additional personal data.
People bypass KYC requirements for multiple reasons:
• Some users believe identity verification goes against the ethos of cryptocurrency;
• Others may want to avoid sanctions, embargoes, or PEP screening lists;
• Illicit organizations looking to access crypto exchanges to launder money;
• Other users may want to evade tax;
• Underage users looking to trade cryptocurrencies.
For these reasons and more, some users may resort to dubious methods to avoid KYC checks.
However, bypassing KYC and identity verification is likely to have not only serious consequences for crypto users, but also cause regulatory difficulties for crypto operators.
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Regulatory risks of missing KYC.
While KYC processes prevent most users from signing in without proper screening, these restrictions have created a business opportunity on the black market. Indeed, for a small amount of money, marketplaces on different dark webs now offer vetted accounts on crypto exchanges and other payments services
For prices ranging from $150 to $500, you can now buy an approved account on peer-to-peer trading platforms, professional crypto exchanges, or mainstream payment services. These accounts are either created with a fake name, address, and identification documents, or with genuine data obtained by illicit means.
In an investigation from specialized news outlet, CoinDesk, fake accounts on the exchanges Binance US, Coinbase Pro, and payment services Cash App and Wirexwere were reviewed by a reporter. Analysis revealed that most accounts belonged to genuine United States and European citizens, and came with instructions on how to use VPN networks. Most importantly, it was also found that credentials for email addresses were linked to Google Voice numbers, which is sometimes used as a tool by fraudsters to create fake accounts.
Some users went to extraordinary lengths to adopt specific behavioral patterns, for example matching the geolocation of victims, or keeping to transaction limits. It is therefore likely that some users were able to access crypto wallets by using other individual’s accounts, thus evading KYC checks. Fake crypto exchange accounts are just a small subset of the global black ID market; an industry boasting more than 15 billion different types of credentials, as reported by cyber consultancy firm Digital Shadows.
Fraudsters leveraging data for illicit purposes represent a major risk for cryptocurrency platforms and service providers. Regulators including the U.S. Office of Foreign Assets Control (OFAC) have already fined cryptocurrency exchanges like BitGo for violations of U.S. sanctions programs, alleging the platform had allowed – even though not knowingly – individuals from Syria, Iran, Sudan, and Cuba to access and use its trading services.
KYC as a support for crypto market development.
Despite the popularity of the black market trade in verified accounts, it is still possible to mitigate those risks by leveraging robust KYC processes. However, to increase the likelihood of customer adoption, onboarding processes must remain as simple, safe and secure as any other financial service. The robustness of KYC processes must be analyzed and put to the test.
Although crypto enthusiasts might see KYC processes as a diminishing factor for adoption, Binance’s CEO Changpeng Zhao told Bloomberg that implementing such rules had had only little impact on business; just 3% of customers were lost after implementing a robust KYC process.
We have chosen to go with full compliance, full mandatory KYC for global users, for every feature. We feel that being compliant will allow more users to use us. Most people do feel more comfortable using a licensed exchange. Most people – 97% of users – go through KYC. We lose only 3% of users.
Changpeng Zhao, CEO at Binance
By using a layered approach and combining different identification methods, KYC processes can be drastically improved. While a selfie in isolation may not keep the fraudsters at bay, when combined with video identification, in addition to collecting official documents, it forms part of a much solid and robust KYC process.
Straightforward and rapid, this procedure must also be painless for the user, and take place in a user-friendly environment to keep the onboarding experience as seamless and intuitive as possible. Automated system powered by artificial intelligence and combined with screening mechanisms and geolocation checks, provide an unparalleled solution to mitigate risks brought by fraudsters trying to circumvent KYC processes.
Respecting these conventions will allow exchanges to participate in the democratization and mass adoption of cryptocurrencies, while deterring fraudsters.
Cryptocurrency platforms & KYC mechanisms.
Although it is still possible to buy crypto without completing a KYC check, it is a more complicated and risky thing to do (as such platforms offer no protection if something was to go wrong), when compared with an exchange that complies with KYC requirements.
Fintechs that have implemented eKYC will be sure to testify how transparent and painless KYC checks can be.
Crypto actors evolving on the European market now have to comply with the European Union’s Fifth Anti-Money Laundering Directive (AMLD5). For this reason, it may be the best time for these platforms to re-think and enhance KYC and AML procedures (see our Crypto KYC Page), which will ultimately bring a benefit to both the users and the platform itself.
What can traditional banking learn from crypto exchanges? Check out our Fintech Spotlight Interview with crypto and compliance consultant, Brandi Reynolds, CAMS-Audit, CCI, CCCE at Bates Group.
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By
Francisco Martins
Senior Identity Consultant, Financial Sector UK/I at IDnow
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