A Guide to Anti-Money Laundering for Crypto Firms

Will Sanctions Drive Russia into the Arms of Cryptocurrencies?

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The attack on Ukrainian soil by Russian forces has not only triggered a new phase of international relations, but has transformed the international financial system. G7 members, including the European Union (EU), and like-minded partners released a flood of sanctions and pledged to remove strategically important Russian banks from the SWIFT messaging system used to process bank to bank payments. This has led many to wonder: With many strategic Russian banks thrown off the international banking system, is the country likely to lurch towards cryptocurrencies? And if so, what does this mean for businesses that are holding and/or using crypto?

Crypto and sanctions evasion

Although crypto transfers are traceable, there is a possibility that designated Russian persons and entities could turn to cryptocurrencies to try to evade sanctions.  This is particularly true for decentralized exchanges (DEX) and decentralized finance (DeFi) platforms, which use smart contracts to execute transactions. DEX and DeFi are not currently regulated for anti-money laundering or counter-terrorist financing (AML/CFT), meaning that no customer due diligence, sanctions screening, monitoring of transactions or any other related measures are carried out. Crypto transactions are pseudonymous and without identity verification, it is difficult to know who the actual holder of a crypto wallet is. The use of virtual private networks (VPNs) further complicates this, as does the existence of privacy coins. 

There is precedent for using crypto to evade sanctions in Iran, where a study by Elliptic shows that approximately 4.5% of Bitcoin mining takes place. A report by a think tank attached to the Iranian presidency has highlighted how Bitcoin can be used to circumvent sanctions. Reports indicate that Russia has the world’s third largest crypto mining industry, and there is the possibility that, as with Iran, Bitcoin and other cryptocurrencies could be used to pay for imports.  Additionally, both Chainalysis and Solidus Labs have indicated that Russia could turn to cyberwarfare and ransomware to raise funds in cryptocurrencies. However, experts from TRM Labs have flagged that there is not enough liquidity in the crypto market to process the size and value of transactions required to prop up the Russian government.  

An additional question is whether Russian actors subject to sanctions, many of whom are billionaires, would be able to access cryptocurrencies of sufficient value to process their high-value transactions undetected. There are, for example, “whale watchers” who track and publish the details of high value transactions on the Ethereum and Bitcoin blockchains, alerting the community to unusually large payments.  

Crypto for the citizenry 

There is a much higher possibility that ordinary Russian citizens will turn to crypto to try to safeguard their wealth in the face of massive inflation, extreme currency fluctuations and an inability to access cash, make payments, or move funds in and out of Russia. There is currently a ban on the use of cryptocurrencies to make payments in Russia and earlier this year, the Central Bank of Russia proposed an all-out ban on cryptocurrencies and mining. That, however, has not stopped Russian citizens from holding cryptoassets: “According to the Russian government, $5 billion in transactions are conducted using cryptocurrencies every year in the country, and its population of 144 million owns about $26.5 billion worth of crypto in over 12 million cryptocurrency accounts.”  

However, converting crypto to fiat currency remains a challenge due to the sanctions in place and banks’ wider reluctance to risk processing payments originating from Russia. This may all make it challenging to pay for real world goods and services from vendors that do not accept crypto.  

The regulatory landscape in Russia could soon change. In late February 2022 Russia introduced a draft crypto bill to apply FATF AML/CFT standards to VASPs, with the Finance Ministry laying the groundwork to regulate crypto. This could lead to wider adoption by vendors, enabling them to get paid even as the value of the Russian ruble tumbles. Russia has also recently successfully piloted a central bank digital currency (CBDC), the digital ruble, which is expected to go live in late 2023. Plans to roll this out in mainland Russia are underway. and is moving forward with plans to roll this out in mainland Russia.  

What does this mean for firms holding and/or using crypto?   

For businesses that are holding/using crypto, it is essential that transactions are made with known counterparts via centralized exchanges that are subject to AML/CFT regulations. Firms should also make an effort to check the public wallet addresses of incoming/outgoing payments where possible, so that they do not fall foul of sanctions themselves. In the coming weeks there will be a need to strike the right balance between legitimate, non-sanctioned businesses and access to funds by civilians not involved in the conflict.

Immediate measures that firms operating in the crypto space may wish to consider include:

  • Sweeping customer bases against sanctions lists 
  • Understanding beneficial ownership structures and limits on the ownership and control of legal entities to identify entities that may not be directly sanctioned but owned and/or controlled by a sanctioned entity/individual 
  • Identifying customers who have a high volume of business in industries subject to sanctions in Russia or who have large Russian exposure
  • Identifying any sanctions licensing opportunities 
  • Identifying Russian exchanges and carrying out enhanced monitoring of value transfers
  • Spot testing blockchain monitoring technology to ensure that is effectively working 
  • Identifying suspicious activity such as hops, the use of mixers and tumblers, transactions linked to ransomware, or discrepancies between the IP address associated with a customer’s profile and the IP address where transactions are being triggered  
  • Checking wallet addresses against sanctions lists
  • Turning on geolocation tools and IP addresses to identify and investigate IP addresses in cities identified in sanctions designations subject to a risk-based approach
  • Identifying other metadata associated with transactions and logins that could be screened such as mobile device information (IMEI)
  • Blocking the assets of sanctioned persons
  • Identifying reporting authorities in different jurisdictions 
  • Developing templates to report identified blocked transfers, customers and assets to relevant reporting authorities in different countries
  • Reporting blocked virtual currency and identified transactions to the relevant authority within the specified timeframe
  • Reviewing record keeping arrangements to ensure that full and accurate records are held on transactions, customers and licenses subject to sanctions for the relevant time required to keep records by the sanctions issuing authority
  • Assessing whether there are dual reporting obligations to national financial intelligence units  (FIUs) to comply with anti-money laundering laws 
  • DeFi and DEX firms should consider exploring ways to prevent their services being used to facilitate sanctioned payments – depending on where they are incorporated or the nationality of their directors, beneficial owners and employees, they may also be subject to complying with sanctions as nationals of countries issuing designations
  • Maintain copies of reporting to senior management and board discussions related to sanctions risk management

Reporting 

Firms must ensure that they report blocked property and rejected transactions to relevant authorities within a specific timeframe.

For example, in the US:

  • Initial blocked property must be reported within 10 days after the property is blocked
  • Rejected transactions must be reported within 10 days of the transaction being rejected

The table below includes details of the designating and reporting authorities in many of the G7 countries:

 

Country  Body Responsible for Issuing Sanctions Designation  Report Frozen Assets to
US OFAC OFAC                   

https://home.treasury.gov/policy-issues/financial-sanctions/ofac-reporting-system

UK FCO OSFI

https://www.gov.uk/guidance/suspected-breach-of-financial-sanctions-what-to-do

EU Relevant competent authority in each EU country (Central Bank or Ministry of Foreign Affairs equivalent) Dependent on jurisdiction – law enforcement authority, FIU or Central Bank
Australia DFAT AFP

https://www.afp.gov.au/contact-us/report-commonwealth-crime

Canada Global Affairs Canada RCMP

https://www.international.gc.ca/world-monde/international_relations-relations_internationales/sanctions/faq.aspx?lang=eng#a18

 

Certain countries may require that blocked property to be reported on an annual basis.

Firms should remain aware of requests from authorities for ad hoc requests for information from sanctions issuing authorities.

Stay on top of the evolving sanctions regimes around the Russia/Ukraine crisis.

SWIFT, BIC and Russia’s removal – the significance.

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Produced in collaboration with Denisse Rudich, CCO & Co-Founder at ELEMENTARYb, and Founder & Executive Director at Rudich Advisory

Originally published March 7, 2022, updated June 10, 2022

Disclaimer: This is for general information only. The information presented does not constitute legal advice. ComplyAdvantage accepts no responsibility for any information contained herein and disclaims and excludes any liability in respect of the contents or for action taken based on this information.

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