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The critical importance of KYC and AML in a crypto exchange

The critical importance of KYC and AML in a crypto exchange

Wednesday July 15, 2020,

4 min Read

Know your Customer (KYC) and Anti-Money Laundering (AML) are the two key guidelines to be followed by every cryptocurrency exchange in their daily operations. It helps in the verification of customers and authentication of investors before participating in a token sale. The regulations vary from country to country. 

KYC refers to verification of identity, addresses of customers, their respective financial activity and the risks that they can impose. The details provided by the customer will be verified against any government-issued ID proof and utility bills. KYC procedures in a crypto exchange vary across companies and jurisdictions. Criminals and high-risk users can be identified and kept out of the platform.  It helps in building trust and improves transparency. KYC also prevents incidents of hacks, scams and phishing.  

 AML means regulations put in place to identify and prevent profit from illegal activities such as trading in banned goods, not paying tax, misappropriation of public funds and manipulation of market conditions. By complying with KYC and AML guidelines issued by bodies, such as the European Union and Financial Action Task Force, suspicious activities of users on a crypto exchange can be reported on time.

Adhering to KYC and AML norms by crypto exchanges can also prevent hefty fines imposed by regulatory authorities.

In this article, let us see some steps taken by major ICO’s for ensuring complete compliance

  • Abolishing investors from the US - Due to increasing scrutiny by the Securities and Exchange Commission (SEC) to protect investors, many exchanges are banning U.S citizens from availing services related to token sales. This regulation is enforced by verifying each customer’s phone number and checking any document of identification such as a passport. There are exemptions for accredited investors who are recognized by the SEC and have fulfilled the requirements related to minimum net worth. These investors are permitted to acquire tokens through an exchange post the completion of the token sale. 

  • Retaliation from investors - The personal information of existing investors can be shared with certain third-parties for promotional purposes, marketing, advertising and strategic retargeting. Companies have too much control over investor’s data. Investors don’t have many rights to oppose efforts against sharing of their data. Through the application of blockchain technology, trust can be created between two strangers to identify the private information that should not be shared. However,a firm must follow all KYC regulations laid out by respective governments. To prevent seizure of assets, cancellation of licence, closure of operations, and filing of criminal cases against the founders, it is better to follow KYC norms. 

  • Investing in security measures for Private Data -  As ICO’s grow faster and spread their operations across borders, they falter in handling sensitive information of investors. Most of the data get leaked from their weak internal servers and can sometimes even be stolen by hackers. Companies must realize that acquiring KYC data is simple, but handling their large volume is difficult. Firms must invest heavily in data security measures by having a dedicated team. Multiple levels of verification and authentication can safeguard data and prevent any breaches.

  • Regulations that govern exchanges - It is not easy to get approval for exchanges. Most governments have different rules which can complicate the mechanism for meeting compliance. Though governments are a bit slow in regulating ICO’s when compared to cryptocurrency exchanges, the laws are changing fast. Exclusive guidelines are being formed for each aspect such as banking, asset management, buying/selling of securities, and dealing in foreign currency. Exchanges that accept fiat currency such as the US dollar, Euro etc will have to deal with more regulations than platforms that accept only cryptocurrencies. Fiat exchanges that deal with banks and financial institutions also have to keep in mind the government guidelines before accepting deposits from users. Crypto- to- crypto exchanges do verification via documents, photos and videos. 

Though KYC and AML may conflict with Blockchain’s nature of decentralized technology, it exists mainly to prevent frauds and mismanagement of funds. So, every company has to comply with the regulations laid down by each country according to its scope of operations.  Additional efforts must be devoted towards checking the country of origin for each investor. 

Though cryptocurrencies ensure faster settlement of transactions, mandatory compliance with KYC and AML guidelines will prevent any sort of criminal activity that can be attempted on the platform.