For quite some time, financial institutions have needed KYC and AML tests. These mandatory checks, which are mandated by a number of financial regulators around the world, have aided in the prevention of identity theft and other financial crimes.
The conventional financial sector has been targeted for KYC and AML audits. With the advent and development of the crypto industry, however, questions about whether or not to provide these tests emerged. The key source of concern was the lack of regulation around cryptocurrencies. Several exchanges, on the other hand, now follow the numerous KYC and AML regulations in effect. However, the question remains as to how these audits have affected the cryptocurrency industry.
KYC
Know Your Customer, or KYC, is a series of enforcement procedures used by financial institutions and other businesses to collect confidential information from new customers. These certificates assist businesses in determining a customer's legitimacy and preventing money laundering, terrorist financing, and other illegal activity from occurring over the course of the business relationship.
In the conventional finance sector, for example, new customers are required to have identity documentation before opening a bank account.
There are two types of KYC checks: manual and automated. Customer Due Diligence and Enhanced Customer Due Diligence are the two types of due diligence. The CDD protocol is needed to authenticate new clients. ECDD, on the other hand, performs extra tests on high-risk clients by profiling and interviewing them further.
The Crypto Industry and KYC Checks
No one knew much about cryptocurrency in the early years of its existence. Since most financial regulators didn't know what controls to put in place, cryptocurrencies were largely unregulated. For certain crypto enthusiasts, this was a positive aspect of the industry because it helped to preserve anonymity. The anonymity, combined with the decentralised existence of digital currencies, made the entire industry lucrative for some of the crypto space's main decision-makers.
Financial regulators started to turn their attention to the crypto industry as it grew in popularity. As a result, the conflict emerged, because the crypto industry has always prioritised privacy.
KYC checks are often misunderstood as posing a threat to the decentralised existence of digital currencies. Despite the fact that KYC is mainly provided to and for centralised entities, the tests do not centralise cryptocurrencies via monitoring. Instead, KYC checks aid in the tracking of blockchain transactions, enabling cryptos to be used legitimately as fiat currencies.
Cryptocurrency Exchange Procedures
It's worth noting that the KYC checks used by crypto exchanges differ from those used by conventional financial institutions. The main distinction between the two is that crypto exchanges perform KYC checks after a user has already registered.
KYC checks are not performed by all exchanges. The majority of them employ a tiered structure that allows each consumer to provide additional details before depositing or withdrawing significant sums of digital currency. Here are some of the procedures used by cryptocurrency exchanges:
Users will sign up for an exchange without having to complete any checks. They are, however, restricted to a few features, such as no withdrawals.
Users must upload some identification documents, such as an ID and a photo, as part of the basic KYC process. They also have deposit and withdrawal limits that are set in stone.
Full KYC – Before depositing or withdrawing significant amounts of digital assets, users must go through the entire verification process.
The Importance of KYC Checks in the Cryptocurrency Industry
ICOs/IEOs/STOs are one of the most important impacts KYC tests have had in the crypto industry. The growth of initial coin offerings (ICOs) has increased the number of cases of cryptocurrency fraud. As a result of the KYC regulations in effect, US investors are barred from participating in ICOs.
To avoid dire consequences with financial legislation, ICOs must check the position of their investors.
Crypto exchanges, even more than ICOs, must comply with the audits. Exchanges that primarily accept fiat currencies are required by law to record all of their transactions in detail. Exchanges that only conduct cryptocurrency transactions are subject to less regulations.
It's worth noting that KYC and AML checks can differ depending on the base country of an exchange. Almost all states, on the other hand, have taken steps to ensure that investors entering the crypto industry are honest.
KYC has aided the crypto industry in attracting further investors. Some investors who were previously wary of the industry are now more willing to invest in digital currencies. Smaller businesses, on the other hand, have come to a fork in the road as a result of these inspections.
Consider the following scenario. A small business that deals with cryptocurrency must collect and store sensitive information about its customers. The company's data is at risk if it doesn't have adequate security measures in place, as any hacker might gain access to it. As a result, requiring such a company to conduct KYC checks would put investors' information at risk, potentially driving them away.
Final Thoughts
In the crypto industry, KYC checks are a double-edged sword. On the one hand, these tests aid in the protection and safety of digital assets in an environment where confidentiality and uncertainty are critical. On the other hand, they impose limitations on investors and put their data at risk.
However, we cannot deny that KYC checks will benefit the crypto industry and help these currencies gain mass acceptance. Key players in the crypto room, on the other hand, would have to devise ways to ensure that investors and clients are screened while protecting their anonymity and the industry's decentralisation.
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