Abstract
KYC (know your customer) and AML (anti-money laundering) practices have been designed and implemented in traditional financial transactions for some years now. However, it has been complicated to find a balance between business efficiency, innovations, financial inclusion, and compliance, both in the specification of what should be done and in the implementation of a risk-based approach that satisfies the required specification during real business operation. This chapter presents a survey of traditional practices to KYC/AML, highlighting a subset of existing challenges in these practices, taking into consideration the innovation of cryptocurrencies transactions and related innovations, such as digital identity, and the financial inclusion of unbanked people without identity papers. The authors finish this chapter by discussing existing solutions to these challenges both by adopting new KYC/AML practices and by using innovative technological solutions.
TopBackground
This section introduces essential concepts like KYC, AML, FATF, and digital identity. It also presents current KYC/AML practices in traditional financial institutions. Finally, it gives the details of a standard cryptocurrency transaction.
Key Terms in this Chapter
Virtual Asset Service Provider (VASP): Any natural or legal person who, as a business, conducts activities or operations with virtual assets, for example, cryptocurrencies or crypto-tokens, for or on behalf of another natural or legal person.
Customer Due Diligence (CDD): The process to identify and continuously verify customers during the business relationship with a financial institution or with other designated non-financial businesses and professions.
Anti-Money Laundering (AML): The process to continuously try to forbid identified customers to launder money.
Know Your Customer (KYC): The process to identify and continuously verify customers during the business relationship with a (financial or non-financial) institution with a primary goal to comply with a set of regulatory requirements.
Cryptocurrency: A digital representation of value that is owned and secured using asymmetric cryptography and blockchain to ensure its authenticity and prevent modification or tampering without the owner’s consent as well as forbidding the owner to double-spend.
Blockchain: A distributed ledger among a large number of peers that is secured by a chain of information blocks linked together via the hash of the previous block and synchronized thanks to a consensus algorithm.
Travel Rule: The requirement of VASPs to exchange information about senders and receivers of cryptocurrency transactions when executing a transaction on behalf of a user.
Asymmetric cryptography: A crypthography system whereby the user owns a key pair. The private key must remain private to sign and decrypt. The public key can be made public to be able to identify the user, most often based on a hash of the public key, and encrypt information for the owner.