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This project has received funding from the European Union’s Horizon 2020 research and innovation programme under grant agreement No101022004

Crypto-asset trading business: links to Money Laundering and Terrorist Financing?

The crypto-asset trading business facilitates increasing illicit money flows, inter alia, for terrorist financing purposes. Decentralised exchanges allow users with unhosted wallets to exchange crypto-assets without a centralised party, which would normally conduct Know Your Customer (KYC), Client Due Diligence (CDD) and AML/CTF checks, and thus pave the way for layering crime proceeds on the blockchain. P2P transactions of virtual assets also pose a significant Money Laundering/Terrorist Financing (ML/TF) risk – with illicit actors exploiting the lack of an obliged intermediary to obscure illicit proceeds. Additionally, there are 1,263 crypto ATMs in Europe and 34,477 worldwide that allow individuals to exchange cash for crypto-assets. Depending on the ATM operator, users may deposit up to $20,000 in cash per transaction without being subject to KYC/CDD checks. Some operators also allow purchased crypto-assets to be sent to unhosted wallets – giving rise to increased ML/TF risks.

In July 2021, the European Commission presented a new package of legislative proposals to combat money laundering and terrorist financing with a focus on the impact of new and emerging technologies and the need for monitoring financial transactions of crypto-assets in particular. In this context, anonymous/unhosted wallets shall be prohibited and EU AML/CTF rules shall be fully applied to the crypto sector. This package consists of four legislative proposals:

• a Regulation establishing a new EU AML/CTF authority to be operational in 2024,
• a Sixth Directive on AML/CTF that will replace Directive 2015/849/EU,
• a Regulation on AML/CTF rules in the areas of CDD and beneficial ownership, and
• the revision of the 2015 Regulation on Transfers of Funds to trace crypto-assets.

Considering the cross-border nature of crypto-assets, the speed with which they can be exchanged and the sheer amount of data to be tracked in the Distributed Ledger Technology, additional tools have to be developed to combat money laundering and terrorist financing.

Europol has recently urged the EU Member States to enhance information exchange by making it easier and more secure for law enforcement agencies (LEAs) to share information in real-time, making processes more agile and utilising the latest technological advances to fight terrorist financing.

Against this backdrop, the TRACE project aims to develop Artificial Intelligence (AI) solutions to assist LEAs in detecting, tracing and disrupting illicit money flows. To attain this goal, the TRACE consortium:

• collects and analyses user requirements from LEAs;
• analyses and compares cross-border investigations and prosecutions involving illicit money flows to identify gaps and practices as well as to propose ways of harmonising information formats across EU Member States; and
• assesses the scope and efficacy of European cyber forensics and produces recommendations to improve capacities and policies.

In doing so, it also conducts ethical, social, legal and human rights impact assessments of the TRACE technology on a regular basis.

TRACE’s timing is of central importance, as the EU is getting ready to face the ML/TF challenges posed by the crypto-asset business. This requires not only a solid legal framework, but also efficient and future-proof tools like the TRACE technology to combat promptly terrorist financing.

Author: NOVA School of Law (NSL)

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