UK Money Laundering Guidance - is a DeFi Showdown on the Horizon?

By Hipdibby | Terms and Coinditions | 13 Aug 2020

Recent guidance from the UK Joint Money Laundering Steering Group clarifies the scope of the UK anti-money laundering ('AML') regime for crypto firms and raises concerns that national regulators may be set to collide with the growing DeFi sector.

How do the AML regulations apply to UK crypto firms?

The UK's Money Laundering Regulations 2017 have applied to "Cryptoasset exchange providers" and "custodian wallet providers" conducting business in the UK since 10 January 2020.

For consumers, the effect of the regulations is mainly seen in the requirement for such companies to conduct "Know Your Customer" checks (e.g. submission of a passport/driving licence etc.) However, the regulations do go further and require undertake enhanced due diligence where necessary to mitigate the threat of money laundering or terrorist financing.

Key Takeaways From Current Guidance

The recent guidance has helped to clarify various aspects of the UK money laundering regime in the realm of crypto, such as:

  • Non-custodial platforms are unlikely to fall within the regulations. This is positive news for any firms that store cryptographic keys but are not directly involved in their management and transfer. This would include, for example, hardware wallet manufacturers and cloud storage providers.

  • In most cases, only firms with a physical presence in the UK will be caught by the regulations (though note that this would include operating a crypto ATM in the UK).

  • The "customer" (e.g. the individual against whom the firm is obliged to conduct KYC checks) will be the person requesting an exchange of crypto or, in the case of wallet providers, the person for whom the crypto is being held or stored. The guidance therefore clarifies that firms are not expected to conduct any checks against the transferee of cryptoassets.

  • The guidance clarifies that firms cannot rely on a particular blockchain's immutable record as evidence of the customer's source of funds. This may serve as additional evidence, but is not a replacement for the regulatory obligation to conduct full KYC checks.

DeFi in the spotlight

An interesting aspect of the guidance is that the UK Steering Group specifically highlighted the funds originating from "decentralised systems" as a key risk arising in the cryptocurrency sector.

In this way, the guidance serves as a reminder that money laundering laws and decentralisation are seemingly incompatible. How can KYC checks be carried out without a centralised actor to govern the process (and to be penalised if the rules aren't followed)? Indeed, decentralised finance is intentionally used by many as means of circumventing these national identity checks and regulatory obligations.

Given the exponential growth of decentralised finance in the cryptocurrency sector, it is perhaps not long before regulators around the world have the unenviable task of having to apply local anti-money laundering regulations to a rapidly expanding amount of funds seeking to enter their national economies via decentralised finance.

The question is whether DeFi can effectively be regulated by national laws and, if so, how?

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Terms and Coinditions
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