Crypto AML Compliance Overview - 2023 Update - Part 2

Bitcoin. What started as a brilliant idea for reducing costs and simplifying peer-to-peer financial transactions has become much more complicated. Crypto companies operated below the radar for several years, weathering massive volatility and eventually gaining enough traction, fraud activity, and market cap volume to attract regulatory attention.

The uneven progress of governments integrating cryptocurrency into regulatory frameworks reflects a slow-motion clash of titans. Jurisdiction-specific TradFi regulations run against cryptocurrency's borderless, decentralized, anonymous ethos.

Let's just say it's not a match made in heaven.

Crypto businesses now must comply with various AML and KY-everything regulations, and this is likely only the beginning. To learn more, you can check out our post, Crypto Compliance Overview - 2023 Update - Part 1.

Compliance is complex. Remember that regulations are all working to prevent and detect money laundering, straightforward system criminals have used for decades.

Source: Formica.ai

Given the anonymous nature of crypto transactions, buying and selling crypto in unregulated markets was a massive boon for criminals and a huge red flag for governments.

AML compliance is just one area of overall cryptocurrency compliance. For tax and securities compliance information, check out these ZenLedger posts:

The Ultimate Guide to Crypto Taxes

What is the Cryptocurrency Act of 2023?‍

Who Needs a Crypto AML Compliance Plan?

Businesses that buy, sell, exchange, or store cryptocurrencies, are subject to crypto AML compliance regulations. These businesses include the following:

1. Cryptocurrency exchanges: Platforms that allow users to buy, sell, and trade cryptocurrencies.
   
   
2. Cryptocurrency wallets: Digital wallets store, send, and receive cryptocurrencies.
   
   
3. ICOs (Initial Coin Offerings): Fundraising where new cryptocurrencies are sold to investors in exchange for established cryptocurrencies or fiat currencies.
   
   
4. Cryptocurrency brokers: Individuals or entities that facilitate transactions between buyers and sellers of cryptocurrencies.
   
   
5. Miners and Mining pools: Individuals or groups of miners who collaborate in mining cryptocurrencies.
   
   
6. Merchants: Businesses that accept cryptocurrencies as a form of payment for goods and services.

Key Crypto AML Compliance Challenges

Several significant areas complicate cryptocurrency compliance. Businesses can use the list below as a prompt for creating contingency plans to mitigate risks.

1. Evolving regulatory landscape: The regulatory landscape for cryptocurrency is constantly changing, with new regulations and guidance being issued regularly. This evolution can make it challenging for businesses to stay up-to-date and ensure compliance.
   
   
2. Cross-border transactions: Different countries and even states within countries have different regulations. Cryptocurrency transactions are often conducted across borders, making it challenging for businesses to comply with multiple regulatory regimes.
   
   
3. Anonymity and privacy concerns: Users may not want to share KYC information with every crypto service they use. At the same time that governments are developing crypto regulations, many are also strengthening privacy laws.
   
   Cryptocurrency transactions were designed to be anonymous. Compliance with customer identification and anti-money laundering regulations requires businesses to request and store sensitive information, meaning they must be careful not to violate privacy laws while complying with financial regulations.
   
   
4. Security risks: Cryptocurrency stored in digital hot wallets online can be vulnerable to hacking and theft. Businesses need to ensure that they have appropriate security measures to protect their customers' assets.

Best Practices for Crypto AML Compliance

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The (mostly) good news for crypto firms is that financial companies have had to comply with heavy regulations for decades. Crypto firms don’t have to reinvent the wheel regarding best practices for financial regulatory compliance. Below are suggestions tailored to crypto, rooted in TradFi financial compliance best practices.

1. Recordkeeping is everything: Recordkeeping is the foundation of effective compliance. Job one is to be sure that your recordkeeping system is bulletproof and securely documents all relevant transactions and customer interactions, including transaction amounts, dates, and parties involved.
   
   
2. Stay up-to-date with regulatory developments: The regulatory landscape for cryptocurrency is constantly evolving, so it's essential to stay informed of new regulations and guidance that may affect your business.
   
   
3. Hedge your risk with expert counsel: Work with legal and compliance experts with cryptocurrency industry experience to ensure your compliance program is effective and up-to-date with regulatory requirements.
   
   
4. Systemize regular risk assessments so they actually happen: Identify potential risks and vulnerabilities, and develop policies and procedures to mitigate those risks.
   
   
5. Establish strong Know Your Customer (KYC) and Anti-Money Laundering (AML) processes: Implement robust customer due diligence processes to identify and verify customers and monitor transactions for suspicious activity.
   
   
6. Leverage technology solutions: One insider advantage crypto businesses have is that
   blockchain is ideal for automating and scaling secure transactions. Use blockchain analytics and compliance software to monitor transactions and identify potential risks.
   
   These solutions can also help automate compliance processes, making it easier for your business to comply with regulatory requirements. Below is a generalized example of a sample flow.

7. Don’t forget the human factor: All tools work better if the humans using them understand the desired outcome. Educate employees on compliance policies and procedures and provide ongoing training to ensure they are aware of regulatory changes or updates.
   
   
8. Regular audits with key stakeholders: Conduct regular audits of your compliance program to ensure that it is practical and up-to-date with regulatory requirements.

Best practices are a valuable conceptual starting point. The next step is to look at their deployment order, marshal the troops, and set up systems to support maintenance and avoid breakdowns.

Developing a Crypto AML Compliance Program

AML compliance involves multiple stakeholders, millions of transactions, and various reporting requirements. The graphic below is a helpful visual to help you understand the different variables.

Here are some steps businesses can take to develop an effective crypto AML compliance program:

1. CY-everything by engaging legal and compliance experts from the start.
   
   Cover your liability bases and work with legal and compliance experts with experience in the cryptocurrency industry. These experts can guide regulatory requirements and help companies develop effective compliance programs.
   
   
2. Get clarity on your current position by conducting a risk assessment.
   
   The first step in creating a crypto compliance program is to conduct a risk assessment to identify potential risks and vulnerabilities. This program will help businesses determine what areas of compliance they must focus on and what measures to implement to mitigate risks.
   
   
3. Establish policies and procedures.
   
   Based on the risk assessment, establish policies and procedures that address compliance requirements, including KYC, AML, and other regulations. Clear, comprehensive documentation is essential.
   
   
4. Activate the human factor - implement training and education.
   
   ‍Set up employee training to get your people behind implementing the firm’s policies and procedures. This ongoing training should cover customer due diligence, transaction monitoring, and reporting requirements.
   
   

5. You got this - implement technology solutions.
   
   Blockchain analytics and compliance software can help businesses monitor transactions and identify potential risks. These solutions can also help automate compliance processes, making it easier for companies to comply with regulatory requirements.
   
   
6. Stay ahead of issues - set up a schedule for ongoing monitoring and review.
   
   Companies must regularly review and update compliance programs to remain practical and current with regulatory requirements. Ongoing monitoring and assessment can help businesses identify potential risks and take proactive steps to mitigate them. 

Moving Ahead

The cryptocurrency industry is moving out of the shadows and into the mainstream. While the jury is still out on what the final versions of cryptocurrency will look like in the global financial system, we can be confident that integrating more regulation into crypto’s use is a necessary part of the journey.

If you have crypto assets, ZenLedger can help you aggregate transactions across exchanges, compute your capital gain or loss, and auto-fill the IRS forms you need yearly. You can even use our tax loss harvesting tool to identify ways to save throughout the year.

Get started with ZenLedger for free today!‍

Cryptocurrency businesses and stakeholders should regularly consult with legal and compliance experts in their countries and states to ensure they comply with all applicable regulations.

The above is for general info purposes only and should not be interpreted as professional advice. Please seek independent legal, financial, tax, or other advice specific to your particular situation.