Cryptocurrencies have introduced the world to a new decentralized financial system, which offers participants the chance to enjoy executing transactions in an anonymous manner. On the other hand, they have facilitated money laundering, thanks to their innate anonymous nature, which has increased the rate of various money laundering activities at an alarming rate.
Even though cryptocurrencies are associated with the typical three-step process of money laundering, placement, layering, and integration, they have led to the emergence of new laundering schemes including the usage of tumblers and mixers, as well as utilizing cryptocurrency exchanges. Some have also utilized the dark web in money laundering.
A recently published paper delves into the dynamics of cryptocurrency-based money laundering and the new methods associated with emerging schemes. Throughout this article, we will take a look at some of the information related to cryptocurrency-based money laundering, which has been introduced via this research paper.
Why are cryptocurrencies used in money laundering schemes?
Anonymity is the main reason cryptocurrencies are currently being used in money laundering. Furthermore, cryptocurrency transactions are executed without having to go through retails, banks, or any other form of third parties. Even though cryptocurrency transactions are stored publicly on the blockchain, this information cannot be used to monitor participants by law enforcement agencies without knowing the real-world identities of transacting users. Accordingly, the FBI spends around 75% of its man-hours, which are allocated for financial crimes, in investigating various forms of digital currencies.
The industry is still unregulated, which results in low levels of reliability associated with reporting suspicious criminal activities. Even though many cryptocurrency exchanges have begun implementing AML and KYC rules, this is far from enough to monitor activities related to money laundering.
Bitcoin is not fully anonymous, which fueled the development of the so-called “privacy coins” that are designed to conceal users’ information and details associated with transactions. These coins, e.g. Monero, Zcash, and DeepOnion, facilitate money laundering much better than bitcoin.
How is cryptocurrency used in money laundering processes?
There are three separate steps involved in the traditional money laundering process: placement, layering, and integration. Through the placement step, where cash represents the currency being laundered, the dirty money, which was generated via illegal activities, is first presented to the financial system. While this can be performed in a myriad of ways, it is also the step in which the launderer is most likely to be busted, as depositing large money amounts can raise suspicions.
During the layering step, the money is moved between multiple accounts, products, financial entities, and even countries and currencies, to render it difficult to trace the money back to its original source. Finally, during the integration step, the cleaned, “laundered” money is then returned to the criminal with the funds now appearing to have been earned through legal means. These steps are illustrated via the map in figure (1).
Figure (1): A money laundering scheme
The aforementioned three-step process also applies to cryptocurrency-based schemes, yet the details associated with each step are somewhat different. For instance, throughout the placement step, funds are transferred from a retail bank, to an account on a cryptocurrency exchange platform in order to buy primary coins, e.g. bitcoin and/or ethereum. Thereafter, the layering step involves exchanging the primary coins to multiple altcoins, aiming at obfuscating the paper trail and rendering it difficult for law enforcement agents to trace the money’s origin. This procedure is also referred to as “chain hopping.” Then, during the integration step, the launderer can exchange the primary coins back to fiat money.
Even though the aforementioned description is summarized and simplified, it highlights the scheme most law enforcement agents look for. With increasing popularity of cryptocurrency as an investment vehicle, it becomes much harder to identify placement activities or to recognize suspicious transactions on a cryptocurrency exchange platform. This problem can be even more complicated if cryptocurrency exchanges have insufficient KYC rules.
Schemes of cryptocurrency-based money laundering:
It is important to note that money laundering has been taking place long before the advent of cryptocurrencies. There are many schemes that criminals utilize to evade scrutiny and elude law enforcement agents, and some of these schemes are still being used nowadays. For instance, in 2018, a British man was busted in the Netherlands for laundering cryptocurrencies via his personal bank account. The scheme involved the launderer accepting bitcoins from criminals and then using his own bank account to sell bitcoin for cash. Once sold, the cash was withdrawn from the account and refunded to the criminals, with an obvious fee subtracted.
Another common scheme is smurfing, which represents the process of utilizing multiple individuals to execute transactions on behalf of and for the benefit of the money launderer. The idea behind smurfing is that multiple individuals executing small transactions at different geographical locations is far less suspicious than one individual making a single transaction involving a large amount of money. Smurfing is not a new scheme but has become more popular due to the ease and speed via which cryptocurrencies can be transacted across the globe.
Another common scheme for money laundering is via gambling at an online casino. Theoretically, a criminal purchases chips at a casino with their ill-gotten money, plays a few game rounds, such as poker or blackjack, and then withdraws the funds for clean money from the casino. If the individual loses money in the process, this is generally acceptable as it is the cost of doing business. However, if the launderer wins, the money will still be cleaned, and an unexpected profit is generated. Even though online casinos have a number of procedures in place to identify and prevent this form of activity from taking place, it can be much harder to detect with cryptocurrency casinos.
One of the most exclusive money laundering schemes related to cryptocurrency is a process called “mixing,” or “tumbling.” The concept is similar to that of a mutual fund through which disparate persons are able to collectively pool their funds for the benefit of the entire group. Nonetheless, rather than investing, the pooled funds are moved between exchanges, ultimately rendering it extremely difficult to trace back specific transactions.
ICOs can be also used in money laundering schemes. The launderer decides to pick ICO tokens that are available on exchanges and can be easily sold, because some ICOs lock investors’ tokens for various periods of time to prevent extreme price swings. After purchasing an ICO token and holding it for a short period, the launderer sells it and clean money is generated.
The anonymity offered via cryptocurrencies has rendered them enticing to money launderers. Improving exchanges’ KYC/AML rules and speeding up crypto’s legislation procedures in various countries can limit the usage of cryptocurrencies in money laundering. The bottom line is that crypto needn’t be banned to prevent crime, we only need to adapt to this amazing technology.