Are Cryptocurrencies a Real Threat to Anti-Money Laundering Monitoring?

Are Cryptocurrencies a Real Threat to Anti-Money Laundering Monitoring?

Cryptocurrencies have been idealized as the currency that will replace all other payment instruments, payment platforms, and paper money.  Further, cryptocurrencies have been seen as an investment opportunity where large profits may magically be made (A Short History Of Bitcoin And Crypto Currency Everyone Should Read by Bernard Marr; 12 Russians Charged: Major Highlights of the Indictment and Rod Rosenstein’s Statement by The New York Times; Mueller indictment details Russian spy’s preference for Bitcoin by Alex Lielacher;  Here’s What Deputy Attorney General Rod Rosenstein Said About Indicting Russian Intelligence Officers for Election Hacking by Alejandro de la Garza; Cryptocurrency Played Key Role in 2016 Election Interference by Russia: Prosecutors by Valentina Pasquali).  However, when a new platform allowing fund transfers enters the marketplace, criminals assess the utility of that instrument for money laundering and terrorist financing.

Cryptocurrencies have previously been used as a money laundering tool because they eliminated the need for financial institutions to make fund transfers (What are the Advantages and Disadvantages of Bitcoin? by CoinReport).  Regulation of this new payment method was initially limited and didn’t require the collection of the usual background information on its users.

 

How Anonymous are Cryptocurrency Transactions?

Cryptocurrencies are becoming better understood over time with the increase in dissemination of comprehensible information.  However, the falsehood that cryptocurrencies offer complete anonymity among individuals transferring funds persists.  The recent indictment (“Indictment”) of twelve Russians (“Defendants”) as a result of Special Counsel Mueller’s investigation of Russian Interference with the 2016 Presidential election, highlights the lack of complete anonymity in cryptocurrencies (Indictment).

The Indictment describes an elaborate scheme that includes the Defendants laundering funds using the cryptocurrency, bitcoin, to facilitate the hacking of the Democratic Congressional Campaign Committee and the Democratic National Committee’s computers.  The Defendants allegedly used Bitcoin to purchase computer servers, register domains, and to support a hacking infrastructure.  The Defendants created fake email accounts with fictitious names and addresses in an attempt to obscure their identity, the origin of money, and the Defendants’ ties to Russia.  Hundreds of fake email accounts were subsequently used to transfer Bitcoin, make purchases, and transfer money.  The funds were laundered using peer-to-peer exchanges of Bitcoin and other virtual currencies, and by transferring funds to pre-paid credit cards.  The Special Counsel described a money laundering scheme that was meticulously developed to avoid detection.  However, despite the multiple steps undertaken to mask the origins and destination of the Bitcoin funds, investigators were able to trace the funds back to the accused hackers.

As lawmakers and regulators become more aware of the use of cryptocurrencies in money laundering and terrorist financing, they are beginning to act.  In July of 2018, the FinCEN Improvement Act of 2018 was introduced in the House of Representatives (FinCEN Improvement Act of 2018) to specify that FinCEN should include anti-money laundering efforts in “matters involving emerging technologies or value that substitutes for currency, and similar efforts.”  The amendment’s purpose was to ensure virtual currencies, including cryptocurrencies, are included in FinCEN’s scope of review of financial transactions for potential suspicious activity.

 

To What Extent Will Cryptocurrencies be used in Money Laundering and Financing of Terrorism?

Even if cryptocurrencies offer more anonymity than banks or traditional money service businesses, this new currency may not be the ideal platform to facilitate money laundering.  The scheme committed by the Defendants was highly complex, requiring advanced computer knowledge, fraud, and money laundering experience.  Large crime organizations have access to sufficient resources to create an elaborate system similar to that created by the Russian Defendants to avoid fast detection.  However, without the knowledge and resources, individuals will more likely use the traditional methods, including, payment platforms, pre-paid credit cards, and regular bank accounts to launder funds.  Similar schemes to that described in the Indictment would take a level of expertise and commitment that most people attempting to launder money are looking to avoid.  Further, the fluctuating worth of cryptocurrencies would introduce an additional risk to laundering money.  Whereas, using a payment instrument or payment platform with standard fees provides individuals the ability to predict how much of the funds will be laundered.

 

What Unique Procedures and Red Flag Monitoring Should be Used for Cryptocurrency Transactions?

Although cryptocurrencies may not be as desirable a vehicle for money laundering as once imagined, there are enhanced due diligence procedures and red flags for institutions to be aware of to further mitigate the associated risk.  The Federal Reserve Bank of Atlanta provided useful guidance for financial institutions in monitoring cryptocurrency related businesses and businesses that allow cryptocurrency transactions (Banking Bitcoin-Related Businesses: A Primer for Managing BSA/AML Risks by Douglas King).  Included in the guidance, the Federal Reserve Bank of Atlanta suggests financial institutions monitor businesses with cryptocurrency transactions as the financial institutions monitor other high-risk businesses.  Specific guidance for cryptocurrency payment processors suggests financial institutions should understand a customer’s motivation for allowing cryptocurrency transactions.

The red flags of money laundering and terrorist financing previously identified by FinCEN apply to cryptocurrencies, however, unique red flags have been identified in cryptocurrency transactions (FFIEC Bank Secrecy Act Anti-Money Laundering Examination Manual).  For example, a red flag with cryptocurrency processors is if a merchant is unable to process other electronic transactions as “[t]his could be the result of the merchant selling illegal items or having a large volume of chargebacks, returns, or customer complaints stemming from deceitful sales tactics or poor product quality“ (Banking Bitcoin-Related Businesses: A Primer for Managing BSA/AML Risks by Douglas King). Further, as was described in the alleged Defendants’ money laundering case, the purchase of computer servers and payments to register domains using cryptocurrency should be a red flag.

In conclusion, even the most elaborate money laundering schemes are traceable with sufficient resources and time, as evidenced by the Special Counsel Mueller investigation.  Although initially it was believed that cryptocurrencies would provide a money transferring system that would provide anonymity and was out of the reach of regulators, lawmakers are taking an interest in oversight of this new currency.  It is generally expected that cryptocurrencies will be used to facilitate money laundering and criminal activity.  Therefore, financial institutions should monitor cryptocurrency transactions for red flags.  However, as individuals learn of the reduced anonymity and increased oversight of cryptocurrencies, criminals may not use cryptocurrency as frequently to launder funds as once was expected.

 

At AML RightSource, our Financial Crimes Advisory professionals can help build an effective AML program designed to mitigate the risk associated with cryptocurrency exchange.  Please visit our page for more information.

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Christine Demeter

Christine Demeter

Ms. Demeter serves as Associate Analyst II in the AML RightSource Cleveland office. She has experience with transaction monitoring, alert resolution, case investigation, Enhanced Due Diligence ("EDD") reviews, Suspicious Activity Reports ("SAR"), and other AML/BSA projects. She is a licensed attorney in the State of Ohio and has multiple years of experience in the anti-money laundering, fraud, banking, and legal sectors. Ms. Demeter obtained her Juris Doctor from Cleveland-Marshall College of Law at Cleveland State University and a Master of Arts in Psychology with a specialization in Experimental Research from Cleveland State University.

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