Cryptocurrency has become incredibly popular since bitcoin’s founding in 2008. It is widely accepted on many online marketplaces and currently valued at $32,200, with some experts predicting thT it could hit an all-time high of $55,000 per coin by the end of the year. Bitcoin may be the more widely-known household name, but there are thousands of different cryptocurrencies in circulation, such as Ethereum, Ripple and Monero.
This also means that money launderers have boundless opportunities to make off with ill-gotten gains. Billions of dollars in illicit funds flow through cryptocurrency exchanges each year, exploiting the anonymous nature of such transactions, but exchanges — either of their own volition or at the urging of government regulators — have taken significant steps to implement AML and KYC procedures and slow the movement of these funds. Cryptocurrency’s very nature makes these initiatives a breeze in some cases, according to Caitlin Barnett, U.S. chief compliance officer at Luxembourg-based bitcoin exchange Bitstamp.
“Historically, cryptocurrency has gotten a bad rap, because when people first heard of it, it was synonymous with its use on the dark market and being used for illicit activities,” she explained. “But what is coming to light more recently — but obviously still needs to become more mainstream — is that it’s actually way easier to trace cryptocurrency than it is to trace fiat currency. There are a number of blockchain analytics providers that most cryptocurrency companies utilize to essentially follow the money when it comes to crypto.”
Barnett detailed in a recent interview with PYMNTS how Bitstamp works to verify its users’ identities and trace these transactions to ensure that they are not being used for money laundering, and offered a snapshot of the threats and challenges facing the industry’s future.
How Bitstamp Fights Money Launderers
Bitstamp divides its AML/KYC procedures into two distinct halves: user authentication during onboarding and transaction analysis that looks for ongoing signs of money laundering among current users. The user verification protocol leverages a number of different data points to ensure that the users are who they say they are, and that they have not previously been involved in any criminal activities, according to Barnett.
“We’re collecting photo IDs, names, addresses, dates of birth and Social Security numbers, and are screening against sanctions lists, negative media lists, et cetera to ensure that our customers are not known to be involved in illicit activity,” she said. “We utilize a third-party vendor to help with our identity document verification. We’ll also do a live video and require the customer to say specific numbers or words. That’s reviewed to ensure that the person who is onboarding is actually the person behind the ID.”
A customer could easily pass an onboarding check in good faith and later turn to money laundering, however, making it critical that firms continue examining transactions after the onboarding stage. There are a variety of signs that money laundering could be taking place, too. “If you see high dollar amounts coming in and you’re unable to get the customer to explain the source of [the] funds, that would be a red flag that we would probably investigate a little bit further and potentially file suspicious activity reports,” explained Barnett.
The blockchain structure that bitcoin and many other cryptocurrencies utilize gives exchanges like Bitstamp an edge in this analysis, according to Barnett. The blockchain keeps a far more accurate transaction history than can be provided by fiat currency, enabling Bitstamp’s analysts to quickly ascertain if it has been in the hands of any suspicious sources.
“On the blockchain analytics side, you can see where the funds are coming from [and] are going to — both indirectly and directly,” she explained. “So, we have clear sight as to whether or not the funds are coming or going from a dark [web] market, for example. Other times, it might not be directly from [a dark web market], but the customer may be trying to obfuscate the source of funds, and based on recognition of those patterns, we can identify that there is potentially illicit activity going on.”
These techniques can go a long way toward preventing money laundering at Bitstamp and other exchanges. Fraudsters — like the security experts themselves — are constantly innovating, and users’ security expectations are changing as well.
Future Challenges From Both Fraudsters And Legitimate Users
One of the biggest challenges that exchanges like Bitstamp face in their AML/KYC efforts is resistance not from fraudsters, but from legitimate cryptocurrency exchange users who value their anonymity. Exchanges must undergo a constant balancing act of fighting fraud while also respecting users’ privacy concerns.
“[Original] bitcoin believers are really hesitant to provide any of that [KYC] information,” Barnett said. “They like the thought of having crypto be anonymous, but there are certain things that we are mandated to collect under our respective regulatory regimes. I do think the crypto industry has done a really good job of explaining why we are requesting that information from our customers, so at least they know that we’re not just collecting it for the sake of collecting it.”
AML professionals must also constantly catch up to fraudsters’ latest strategies. Every successfully blocked money laundering stratagem is immediately replaced with a new one, forcing fraud-fighting teams to anticipate threats before they occur.
“The fraudsters out there are really sophisticated, and anytime you figure out how to put a control in place, their next job is to figure out how to get … around it,” Barnett said. “I describe it as whack-a-mole, where you hit all the moles and they’re quiet for a little bit, and then something else pops back up. So, it becomes about staying on your toes and watching for industry trends.”
User authentication and transaction analysis may be the name of the game now, but new money laundering techniques could easily make these systems irrelevant. AML/KYC developers will have to keep their fingers on the pulse of new trends and proactively develop countermeasures if they want to keep money launderers off their platforms.