VASP AML: Virtual Asset Service Providers

Background of Virtual Asset Service Providers and AML

Blockchain, Bitcoin, cryptocurrencies, virtual currencies are part of today’s innovative technologies for the rapid transfer of value around the world. These rapidly evolving technologies have the potential to radically change the financial landscape.

However, their speed, global reach, and anonymity also attract some risks. These include criminals using virtual assets to launder the proceeds of a range of crimes, including drug trafficking, illegal arms trafficking, fraud, tax evasion, cyberattacks, sanctions evasion, child exploitation, and human trafficking.

The Financial Action Task Force (FATF) has taken action to respond to the risk. They are cracking down on legitimate services offered by virtual asset providers being abused by criminals and terrorists to launder money and fund terrorist attacks. It has strengthened its global standards to combat money laundering and terrorist financing. This will ensure transparency of transactions involving virtual assets and keep funds with links to crime and terrorism out of the cryptosphere. At the same time, this reinforces confidence in blockchain technology as the backbone of a robust and viable means of transferring value.

Virtual Asset Service Providers Definition

According to the Financial Action Task Force (FAFT), virtual asset service provider means any natural or legal person who is not covered elsewhere under the FAFT Recommendations, and as a business conducts one or more of the following activities or operations for or on behalf of another natural or legal person:

• Exchange between virtual assets and fiat currencies
• Exchange between one or more forms of virtual assets
• Transfer of virtual assets
• Safekeeping and/or administration of virtual assets or instruments enabling control over virtual assets
• Participation in and provision of financial services related to an issuer’s offer and/or sale of a virtual asset

Virtual Asset Service Providers Examples

VASP examples are businesses working in/with:

• Cryptocurrency (Bitcoin, for example)
• Non-fungible tokens (NFTs)
• Utility tokens (like Filecoin)

How can criminals abuse virtual assets and which role do VASPs have?

How virtual assets can be abused is illustrated by an example from 2017. That’s when the Wannacry ransomware attack found thousands of computer systems held hostage until victims paid the hackers a ransom in Bitcoin. The cost of the attack went far beyond the ransom payments, causing an estimated $8 billion in damage to hospitals, banks, and businesses around the world.

The following is the progression of the attack:

1. Virus: computers are infected with a virus that paralyzes operations until a ransom is paid
2. Ransomware: Victims pay a ransom in bitcoin to the hackers to decrypt their computer and resume operations
3. Hackers receive a wallet: each ransom payment goes into a publicly known Bitcoin wallet
4. Layering: through multiple transactions, payments are converted from one virtual asset to another to remove all ties to the crime
5. Virtual asset service provider: the hackers send the “cleaned” Bitcoins to a service provider or bank, which converts the virtual asset into fiat money
6. Conversion to regulated currency: the hackers receive the bitcoins in the currency of their choice and can deposit and spend them at a bank

Red Flag for Virtual Asset Service Providers

The FATF has identified red flag indicators for Virtual Asset Service Providers that to help virtual asset service providers identify suspicious activity. Individually, each of these indicators does not necessarily point to a criminal act, but must be considered in context and lead to further monitoring and investigation.

Size and frequency of transactions

• Conducting very many transactions with small amounts below the thresholds for recording or reporting
• Conducting multiple transactions of high value
• Immediate transfer of virtual assets to multiple virtual asset providers, including those registered or operating in other countries

Transaction patterns

• High initial deposit from new users
• Transactions involve multiple virtual assets or multiple accounts without any logical business explanation.
• Frequent transfers within a certain period of time to the same account by more than one person, from the same location, or for large amounts.

Technological features that increase anonymity

• Transactions that involve more than one type of virtual asset
• Virtual assets that offer greater anonymity, such as anonymous cryptocurrencies or privacy coins
• Virtual assets that are moved from a public, transparent blockchain to a centralized exchange and then immediately traded for anonymous cryptocurrency or privacy coin.
• Customers operating as unlicensed providers of virtual assets on peer-to-peer exchange websites
• Unusual transactional activity of virtual assets from wallets connected to the peer-to-peer platform without a logical business explanation
• Virtual assets traded into or out of wallets that indicate the use of commingling or tumbling services or peer-to-peer platforms

Geographical risks

• Funds originate from or are sent to an exchange that is not registered in the customer’s country of residence or the exchange is registered
• Client uses a virtual asset exchange or foreign-based money transfer service in a high-risk country

VASP FAFT: Regulations for Virtual Asset Service Providers

The FATF standards require virtual asset service providers:

• Take the same preventive measures as financial institutions, including customer due diligence, record keeping, and reporting suspicious transactions
• Obtain, retain, and securely transmit originator and beneficiary information for wire transfers

How can Virtual Asset Service Provider stay compliant?

Regulation of virtual asset service providers is a challenge for everyone. Virtual asset service providers need to familiarize themselves with the financial regulations that now apply to their sector.

To overcome this hurdle, it is helpful to enlist outside help. They can provide software to stay compliant and detect suspicious transactions.

Customer check for new customers and changes to customer profiles

Know Your Customer (KYC) policy: the first step of the customer check is to verify a customer’s identity. The information collected may include data such as name, date of birth, address and identification number, as well as more detailed information about his transactions such as location, expected transaction patterns and more. All of this information helps assess the risk associated with the customer.

PEP Screening: Politically Exposed Persons (PEPs) are individuals who hold or have held an important public position. This function may, for example, give them influence over the use of taxpayer funds or the awarding of contracts by state-owned enterprises. As such, they are considered by the Financial Action Task Force to be a category of individuals more susceptible to bribery, corruption, and money laundering than most others.

Sanctions Screening: Financial sanctions include asset freezes and prohibitions on offering funds and services. Individual countries and multinational organizations (e.g., the EU and the United Nations) impose sanctions to pressure other countries or organizations to change their behavior. Sanctions can be directed at individuals, specific companies, or entire nations.

Monitoring transactions

Monitoring transactions is an essential part of identifying transactions that are potentially suspicious. As a result, regulated entities must continuously monitor their customers’ transactions.

For Virtual Asset Service Providers, where large volumes of transactions occur on a regular basis, automated AML transaction monitoring systems are the only realistic method of monitoring transactions. However, even when automated systems are deployed, institutions must understand their operating rules, regularly review their integrity, and ensure they cover identified ML/TF risks.

SAR Reporting

When a customer’s activity is deemed suspicious, a Suspicious Activity Report (SAR) must be filed by VASPs  to relevant authorities.

Ongoing monitoring

In addition to specific transaction monitoring, ongoing monitoring goes even further. Monitoring also includes identifying changes in the customer profile (e.g., change in information, use of products) and updates that may require the application of new or additional CDD measures.

How does DX Compliance can help Virtual Asset Service Providers?

DX Compliance is an AML and Compliance firm helping our clients identify, prevent and report financial crime. DX Compliance help Banks, FinTech’s and Payments Providers to continually monitor their risk and detect the threat of money laundering to ensure compliance and reduce fines.

DX Compliance offers two products to support our Clients in Europe, the UAE and beyond. A world class real-time AI Transactions Monitoring system and an instant AML Check Platform called CheckAML.

Curious? Please contact our experts!