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March 17, 2022

AML Regulations for Crypto Exchanges and Why They are Important

Cryptocurrencies which have been in our lives for a while might be used for illegal purposes as well. Find out why and how you should protect your business with AML regulations for crypto exchanges.

Why AML Regulations are Important for Cryptocurrency

Money laundering is the illicit method of making substantial amounts of money produced by criminal action, such as drug trafficking, fraud, corruption, tax evasion, terrorist funding, human trafficking, etc. appear to have come from a legal source. Money laundering is an enormous issue in the world that’s why there’s also a term called “anti-money laundering”. Anti-money laundering includes a variety of policies, regulations, procedures, and technologies to lessen and prevent money laundering. Anti-money laundering (AML) regulations are not only needed for the money we’re all familiar with but also needed for digital cryptocurrencies. AML regulations for crypto exchanges are extremely crucial as well.  

money laundering cycle

A cryptocurrency is a mode of exchange which is digital, decentralized and encrypted. In other words, cryptocurrency is decentralized digital money that’s based on blockchain technology. The greatest criticism against cryptocurrencies is their use for criminal aims. Therefore, many governments are hesitant to permit the usage of cryptocurrencies. In fact, some governments even ban the use of cryptocurrencies.  

Crypto exchanges became an essential ground of unlawful actions. Because crypto exchanges are relatively recent markets, countless system gaps have been discovered. Criminals have used these gaps to commit crimes. As a result, the authorities noticed this and have decided to take preventive measures. Criminals commit crimes such as bribery, money laundering, and terrorist financing via cryptocurrencies.  

AML Regulations for Crypto Exchanges As A Way to Stop Criminal Activities  

Cryptocurrencies’ pseudonymous character and capability to perform operations outside the traditional financial system are attractive for various kinds of criminals. Thus, cryptocurrency has begun playing a bigger role in almost every form of criminal activity. This is not shocking at all as criminals have always been initial adopters of technology and cryptocurrency isn’t an exception for them. These criminal activities need to be detected and prevented by AML specialists.  

Through crypto exchanges, some crimes might occur like drug trafficking, fraud, terrorism financing, corporate extortion, and child sexual abuse material. According to Reuters, crimes linked to cryptocurrencies broke a record in 2021 with illegitimate addresses getting $14 billion in cryptocurrencies. The value was $7.8 billion in 2020 so there’s a 79% increase in digital currency usage while criminals commit a crime.  

That’s why it has become more crucial than ever for firms and authorities to apply AML regulations for crypto exchanges. Even if AML regulations for crypto exchanges can’t stop cryptocurrency-related crimes completely, it is evident that they’ll help decrease criminal activities significantly.  

Where does the KYC Stand for Crypto Exchanges?

Know your customer or know your client (KYC) is a practice to confirm a financial services user’s identity and other credentials. KYC process is an inseparable part of anti-money laundering (AML) and it helps prevent money laundering. Many countries, financial institutions and businesses execute KYC practices to make sure that the clients are truly who they’re claiming to be. Besides, executing KYC processes assist firms to know their clients better. With KYC compliance, companies can detect suspicious or criminal people without giving them a chance to commit a crime.  

In other words, thanks to KYC compliance, companies can discover if or how risky their clients are. Therefore, applying KYC regulations in place is extremely important to prevent crimes related to money laundering. These crimes may be fraud, tax evasion, corruption, drug trafficking, and terrorism financing, etc. as mentioned before.  

Since cryptocurrencies are digital money to buy and sell goods and services, cryptocurrency networks and firms that enable crypto exchanges are like financial institutions. Unfortunately, criminals use these platforms to clean their illicit money. Hence, most crypto exchange platforms benefit from AML and KYC compliance. Even if they don’t prefer complying with AML and KYC procedures, numerous countries make those organizations to comply with AML rules and regulations to prevent crime before it happens.  

Another purpose of the governments is to protect the crypto market. Consequently, these corporations usually comply with KYC processes willingly. They don’t want to risk their reputation if there’s a crime committed through their platform. KYC processes for crypto exchange firms are no different than other businesses and financial organizations’ KYC processes.

There are 3 main steps of KYC verification:

  1. Customer Identification Program (CIP),
  1. Customer Due Diligence (CDD),
  1. Ongoing monitoring.  

What are the AML Regulations for Crypto Exchanges Worldwide?  

In several countries, there are AML regulations for crypto exchanges. For example, there’s Fifth Anti-Money Laundering Directive (5AMLD) in European Union. According to 5AMLD, EU’s anti-money laundering regulations apply for crypto exchanges as well. Companies should perform KYC/CDD on their clients. In December 2020, 6AMLD started to be executed: this regulation made cryptocurrency compliance stricter by adding cybercrime to the list of money laundering base crimes.  

Furthermore, the US gives significance to AML regulations for crypto exchanges. In the US, Financial Crimes Enforcement Network (FinCEN) requires cryptocurrency exchanges to complete KYC and provide efficient AML compliance programs. The Financial Crimes Enforcement Network (FinCEN) is a unit of the United States Department of the Treasury. FinCEN provides a system to analyze financial transactions with the objective of identifying and acting against financial crime. This consists of money laundering, terrorist financing and other crimes related to money laundering. It applies to both national and global cases.  

There are also some countries which totally ban cryptocurrencies. These countries are China, Algeria, Oman, Tunisia, Qatar, Bangladesh, Egypt, Morocco and Iraq. These countries claim that cryptocurrencies are being used to channel money to criminal sources. In addition, they argue that increase of crypto might weaken their financial systems. Even though numerous countries don’t fully ban use of virtual currencies, they search for methods to organize use of these digital currencies. Thus, they mostly execute AML regulations for crypto exchanges as if it’s the real money.

All in All...

The anonymity cryptocurrency market has provided for people who use cryptocurrencies is causing money laundering related severe crimes to rise considerably. The solution for this is applying necessary AML and KYC regulations and laws to combat these crimes. A quality AML software and tool will help firms which do business with virtual currencies.