What’s money laundering?
In the world of finance, money laundering refers to transferring cash obtained from illegal activities into legitimate financial institutions. Criminals can’t directly deposit large funds into banks or centralized fintech apps without triggering alarms. Therefore, money launderers devise complex transfer methods that make their cash appear to come from “clean” sources.
There are many ways money launderers funnel cash into bank accounts, but a popular method is to create a sham company. For instance, a criminal gang may open a business account and make it appear like money from drug trafficking is from a fake restaurant.
Money launderers may also use alternative assets like fine art, precious metals, or casino chips to hide their transfers. Some criminal organizations set up international networks to transfer money to foreign countries with lax security policies.
Although the concept of money laundering has been around for millennia, it was only in the latter half of the 20th century that global leaders introduced significant anti-money laundering (AML) laws. The name originated in the 1920s because the mob used laundromats as sham companies in the U.S., but the concept dates back to 2000 BCE.
Since the 1970s, any bank operating in the U.S. must report any cash transaction of more than $10,000. Organizations like the FATF and the Financial Crimes Enforcement Network also monitor money flows for suspicious activity.
How can crypto facilitate money laundering?
Criminals can use cryptocurrency to hide funds, but that doesn’t mean digital assets are inherently illegal. Cryptocurrencies simply represent a new vehicle money launderers can potentially use to fund illicit activities.
Gangs interested in crypto may request funds in a specific digital token or transfer their fiat currency into crypto. They can then store these virtual currencies in a crypto wallet or transfer them into other assets.
Money launderers can convert their crypto into privacy coins to conceal their operations. Digital assets like Monero and ZCash are deliberately difficult to trace on their blockchains. While many exchanges and governments ban the use of privacy coins, money launderers may find ways to transfer these tokens and hide their funds.
Tech-savvy criminal organizations may prefer to use DeFi (decentralized finance) to transfer their crypto funds. Since DeFi isn’t as regulated as centralized financial institutions, it’s easier for users to evade detection. Users need to interact with decentralized exchanges (DEXs) or decentralized crypto lending sites.
Some money launderers have also begun using play-to-earn video games or NFTs (non-fungible tokens) to hide their funds. The research firm Chainalysis reports that the amount of NFT money laundering in 2021 was roughly $1 million per quarter. Criminals may use high-end NFTs like CryptoPunks to hide funds.
Lastly, it’s possible to exchange crypto for cash on centralized crypto exchanges (CEXs). However, this method is risky since most reputable CEXs require KYC (know-your-customer) documentation. Plus, CEXs constantly monitor the trading activity on their platforms.
How good is crypto as a tool for money laundering?
Cryptocurrencies are relatively new to the world of finance, but they’ve already been involved in many money laundering cases. Nevertheless, that doesn’t mean digital tokens are the preferred option in any organized criminal activity. Interestingly, many features make bitcoins in money laundering unattractive.
Most cryptocurrencies have a distributed ledger, which means anyone on the internet can verify every transaction on a token’s blockchain. It’s easy to spot large transactions on Bitcoin’s or Ethereum’s blockchains. Blockchain analytics firms and cybersecurity experts can track down who owns a wallet associated with suspicious transactions.
It’s also challenging to transfer crypto into fiat currencies without alerting centralized authorities. Most CEXs have strict KYC and AML rules customers need to pass to use their trading platform. These reputable exchanges will constantly monitor transactions and alert authorities if they see anything suspicious.
Even if money launderers transferred their crypto into stablecoins on a DEX, their digital assets aren’t necessarily safe. Centralized companies issue reserve-backed stablecoins like USDC and USDT. These companies can freeze crypto assets at a moment’s notice. For example, USDC’s founder Circle blocked multiple Ethereum addresses in 2022 to comply with federal regulators.
Another disadvantage of using cryptocurrencies is their price volatility. If money launderers hold their crypto for too long, they can lose a significant amount of their purchasing power. Plus, cryptocurrencies are susceptible to hacks and bugs, and many promising projects have gone to zero.
Despite all these drawbacks, some organizations still choose to use crypto for money laundering. However, these crypto criminals often focus on privacy coins or crypto mixers.
Privacy coins for money laundering
Privacy coins are cryptocurrencies that aim to make all transaction data anonymous. You can’t view the transaction history on a privacy coin’s blockchain as you would on Bitcoin’s ledger. While privacy coins transfer between wallets like any other crypto, outside observers can’t tell where they’re going.
Monero (XMR) is the most prominent privacy coin. However, some coins like ZCash, Dash, and Litecoin have optional privacy features.
Since these cryptocurrencies are more difficult for regulators to detect, they’re often preferred in criminal circles. According to a 2021 study, more ransomware hackers now only accept XMR as a form of payment.
While privacy coins aim to protect user privacy on the internet, they’ve become controversial due to their association with money laundering. Most regulated CEXs like Gemini, FTX, and Coinbase still don’t offer coins like XMR.
Crypto mixers in money laundering
Crypto mixers are DeFi protocols that deliberately scramble crypto transactions. The point of “mixing” these transfers is to make it difficult for others to see where you’re sending crypto. This extra privacy feature has made crypto mixers a popular option for money launderers that deal with highly liquid cryptos like Bitcoin or Ethereum.
Crypto mixers gained mainstream prominence in 2022 when the U.S. Department of Treasury banned the use of Tornado Cash after North Korean hackers allegedly used it to launder millions in crypto. Since the sanction of Tornado Cash, it has become increasingly risky to use crypto mixers in DeFi.
What percentage of crypto is used for money laundering?
Analysts at Chainalysis suggest $8.6 billion in crypto was related to laundering in 2021. That’s up from 2020’s figure of $6.6 billion, but it’s down from 2019’s estimate of $10.9 billion.
While these are significant amounts, Chainalysis points out that 2021’s total crypto transaction volume was $15.8 trillion. That’s an increase of 567% from 2020’s number. Of this 567% increase, 79% was related to illicit activities.
In a separate report from CipherTrace, the total volume of illicit crypto transactions was between 0.1% and 0.15% in 2021. This number was closer to 0.62-0.65% in 2020.
Cash remains the most common medium of exchange used in money laundering. According to the United Nations, roughly $800 billion to $2 trillion of fiat is used for laundering yearly.
Measures against crypto money laundering
In response to the rise in crypto money laundering, an increasing number of companies and institutions have taken the following measures to prevent illicit transfers:
- AML crypto tools: Many blockchain firms are developing tools that help businesses track suspicious crypto transactions. Notably, Chainalysis now offers Know Your Transaction (KYT) software that can monitor, alert, and freeze crypto accounts it deems suspicious. Most payment gateways that accept crypto use services like KYT to prevent money laundering.
- Requiring KYC on-ramps and off-ramps: Most CEXs require customers to submit personal information to trade crypto. Since most people transfer crypto to cash on CEXs, it’s an optimal place to catch suspicious transactions.
- Blacklisting crypto mixers and privacy coins: More governments and crypto companies are making it challenging to use privacy-focused tools like crypto mixers and coins like Monero.
- Monitoring transaction size and frequency: Blockchain analytics firms, governments, and exchanges frequently monitor transaction data and flag suspicious transfers.
- Obtaining licenses for businesses dealing with crypto: Most governments that allow crypto require all legal companies to obtain licenses and abide by AML laws.
Famous crypto money laundering cases
Many estimates suggest crypto worth billions is used for money laundering. Here are a few major crypto money laundering cases:
- Tornado Cash: Tornado Cash is an Ethereum-based crypto mixer that facilitates funds transfer across DeFi. In 2022, the U.S. government banned Tornado Cash due to its connection with money laundering. Recent reports suggest North Korean hackers frequently used it to transfer millions in crypto.
- The Ren Bridge: The Ren Bridge is a cross-chain bridge that helps people send their crypto between blockchains. In 2020, analytics firms like Elliptic revealed that roughly $500 million passing through the Ren Bridge was associated with money laundering.
- Lichtenstein and Morgan: In 2022, the U.S. Department of Justice looked inside the Bitcoin laundering case of Ilya Lichtenstein and Heather Morgan. According to the DOJ, Lichtenstein and Morgan laundered $4.6 billion in crypto from a 2016 hack of the CEX Bitfinex.
Despite stringent government regulations and AML laws in place, it’s challenging to put a stop to cybercrimes and hacks. However, at Worldcoin, we aim to address the rise in cryptocurrency money laundering with our Orb technology. Through our advanced eye-scanning tools, we can verify crypto wallets have unique owners without invading a user’s privacy. To learn more about how our technology can improve crypto regulations, subscribe to our blog. We’re also airdropping free DAI to anyone who downloads our app.