During a speech at Consenus 2019, Sigal Mandelker, the U.S. Treasury’s Under Secretary for Terrorism and Financial Intelligence, reiterated the projection that the Financial Action Task Force (“FATF”) will adopt international standards for cryptocurrency-based services in June 2019. FATF (also known by its French name, Groupe d’action financière) is an independent inter-governmental body that develops global standards for anti-money laundering and counter-terrorist financing.
In 2014 and 2015 FATF began expressing concerns that the potential benefits of cryptocurrency platforms and services—such as faster transfers and settlement, global reach and increased anonymity—appeal to criminals, rogue regimes and terrorists. Consequently, FATF endeavoured to establish international standards for regulating what it refers to as virtual asset service providers (“VASPs”).
Why FATF Standards Matter:
While FATF’s standards are non-binding and its members must enact corresponding legislation or rules to give the standards legal effect, FATF’s 36 member nations, such as the U.S., the U.K., Germany and Japan, include some of the largest financial systems in the world. The formal adoption of the standards by even a few member countries results in a global shift in how international financial institutions must conduct business. Countries that do not follow suit risk being placed on a graylist or a blacklist based on the degree of deviation from the FATF standards. Blacklist status effectively restricts the access of financial institutions operating within those countries to the global financial system.
What the June 2019 FATF Standards Are Likely to Contain:
The standards are expected to focus on regulation of cryptocurrency exchanges and custodial-type wallets. More specifically, the standards will likely contain requirements for these VASPs to not only monitor and record information about its customers but also share that information during a transfer with another VASP. The identification of the source and recipient of the funds is considered crucial in combatting money laundering and terrorism finance. Indeed, the recording and sharing of identifying customer information during transfers, the so-called “travel-rule” is common practice in the traditional banking system.
For example, the U.S. Financial Crimes Enforcement Network (FinCEN) issued guidance on May 9, 2019 (see our recent blogpost) that adopts the travel-rule for cryptocurrency transmission subject to the U.S. Bank Secrecy Act. The U.S. is currently serving its term as president of FATF. Thus, the recent guidance from the U.S.’s FinCEN likely foreshadows the standard to be set forth by FATF.
The travel-rule set forth under regulations and Guidance adopted by FinCEN requires the transferring and receiving financial institutions to exchange and maintain records relating to a transfer, such as the account numbers and addresses of the parties involved. These regulations do not necessarily require immediate disclosure to governmental authorities but maintaining these records ensures sufficient information would be available to investigators if the need arises.
Commentators have been vocal about how the intrinsic nature of cryptocurrency transfers will make compliance with the travel-rule overly burdensome, if not impossible. For example, traditional IBAN numbers indicate key characteristics about the transferring or receiving accounts, such as the country in which the institution is located, bank code, branch code, and the actual account number. Whereas, cryptocurrency transactions involve an address that was a randomly generated series of characters intended to be pseudo-anonymous. Consequently, commentators assert that there is no reasonable means for a VASP involved in a transfer to independently verify the identity of the other party.
What this Means for Exchanges and Custodial Wallets:
Regardless of the challenges, cryptocurrency-based exchanges and custodial wallets will not be able to ignore the standards set forth by FATF. The current global trend has been to implement rules that largely treat the cryptocurrency industry similarly to the traditional financial industry—such as the previously noted guidance issued by the U.S. FinCEN. FATF member countries will likely follow this trend. Failure to follow such standard implemented by FATF member countries could result in public condemnation and loss of access to global markets. Consequently, cryptocurrency-based exchanges and custodial wallets should consider a proactive strategy now to prepare so as to maintain a competitive advantage over those that wait to react.