Financial Crime with Cryptocurrencies

The emergence of cryptocurrencies is arguably one of the most fascinating stories of the 21st century. The idea of having peer-to-peer internet-based money that can be transacted without the involvement of central banks has been growing among people at a rapid pace. Since the origination of Bitcoin, dozens of other cryptocurrencies have appeared on the market. Crypto has become a widespread means of payment, investment, and fund transfer with their overall value hitting the cap of $3 Trillion in 2021. Although blockchain assets were primarily created to reduce the reliance on central banks and override censorship or asset confiscation, they have given rise to the new era of financial crime with cryptocurrencies.

What makes cryptocurrencies successful?

The key to crypto’s significance and success is decentralization. The decentralized nature makes them an incredible financial tool, especially for those under authoritarian and less developed financial regimens. Besides being borderless and decentralized, crypto provides other benefits as well including universal access and self-custody. It is unarguable that the potential of digital currencies is enormous, yet their uptake unfolds new challenges for today’s world.

Challenges with Cryptocurrencies

In recent years cryptocurrencies have increasingly been used to launder criminal proceeds or engage in illegal activities. Given the overall value of blockchain transactions, financial crime with cryptocurrencies still represents a very limited portion of the criminal economy – approximately 0.34% of the entire pool. Yet, this might rapidly change. The use of virtual money in illegal activities has been growing both in terms of value and sophistication.

Such an uptake largely owes to deferred regulatory and legislative response towards crypto assets. However, given their revolutionary nature, this is quite understandable. Standard AML and KYC procedures weren’t designed to cater to financial crime with cryptocurrencies. Thereby, cybercriminals took advantage of a favorable environment and started trading using crypto on the dark web or utilized them for defrauding and extortion.

Privacy Coins and Crypto Exchanges

As the pioneer of cryptocurrencies – Bitcoin had always been traceable. To make use of their profits, criminals started exchanging virtual currencies for flat ones. As more types of cryptocurrencies emerged, Bitcoin started sharing the market with plenty of its peers. Some of these altcoins took a specific focus on encryption and a high level of anonymity. For example, Monero is one of the predominant privacy coins along with Dash and Zcash that are frequently used for committing financial crime with cryptocurrencies. These privacy coins provide no information regarding the sender or a receiver, nor it is possible to identify the amount sent. However, as regulatory responses evolved in many countries, privacy coins started to become delisted from exchanges.

Alongside the development of crypto, exchanges, and trade mechanisms also evolved. For example, within the scope of the EU, the exchange of virtual currencies into flat currencies against a specified fee is a legal activity. Such service providers are regulated with the frameworks common to banks and other financial service providers. They must fulfill certain due diligence requirements, identify users, and report suspicious activities. However, criminals have been shown to engage in unlicensed exchanges with loose KYC processes. What’s more, some exchanges have been known to engage in money laundering and other illicit transactions using fake or stolen identities.

The criminal use of Cryptocurrencies

Money laundering is the primary criminal activity associated with crypto. They are being used as a payment method for illegal goods and services as well as fraudulent investments and cybercrime. Using cryptocurrencies, criminals can obfuscate the origin of illegal assets. Virtually all kinds of criminal proceeds can be laundered this way. The reported cases of money laundering in Europe alone exceed $5 Billion. Nearly 1 in every 4 users of crypto is potentially associated with some illegal activity.

Fraud is another offense associated with the use of crypto. For example, a crypto named VITAE was dismantled by Belgian and Swiss authorities. It operated as a Ponzi scheme, where people were tricked into investing in the altcoin and asked to pay a specified monthly fee for account activation. An investment in VITAE following the recruitment of three other people could cover this fee – turning the coin into a classic pyramid fraud scheme. Over 200 000 people in over 177 countries fell victim to this artificially inflated crypto fraud.

Other fraud cases have involved the creation of fake trading platforms for cryptocurrencies luring victims into purchasing different altcoins via call centers. Manipulated software was showing gains in investments, motivating the victims to invest more and more. On other occasions, fraudsters pooled the capital to initiate a non-existent cryptocurrency.

In addition, cryptocurrencies have become the means of payment on the dark web for different illegal activities including ransomware payments, sexual abuse material, drug trafficking, and similar.

What can be done to crime-proof the Crypto?

Although there are a number of challenges with cryptocurrencies, there are ways to resolve them. One of the key issues to address is the identification of those involved in illicit activities. As blockchain is publicly accessible, the digital footprints of anonymous traders can still be traced.

Introducing tighter regulations for the crypto marketplace is another way for combatting the crime associated with its use. The EU’s anti-money laundering regulations are a clear example of how this can be translated into practice. The use of digital currencies is becoming more and more aligned with AML and CFT legislations. More and more countries are set to follow this example with many of them already announcing their stipulations on regulating crypto.

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