Crypto Compliance Guide: Best Practices for Customer Due Diligence (CDD)

Crypto Compliance Guide: Best Practices for Customer Due Diligence (CDD)

Eliminating every risk is impossible, especially in an industry like cryptocurrency, but developing a robust customer due diligence (CDD) process is the best way to protect your company's interests. In many countries, CDD isn't a matter of choice. It's a requirement that cryptocurrency exchanges, platforms, and other businesses have to follow to comply with anti-money laundering (AML) regulations.

CDD involves assessing risks associated with clients, verifying their identities, and continuously monitoring activity on the blockchain. In combination, these steps help reduce the odds that cryptocurrency companies will inadvertently become part of criminal activity, such as money laundering, terrorist financing, and fraud. This compliance guide walks you through the best practices for implementing and maintaining CDD processes, including know your customer (KYC) checks, risk management, and ongoing transaction screening.

KYC and AML Standards

Performing CDD is critical to complying with national and international standards for AML. Just as with other types of financial institutions, crypto companies have to take steps to make it more difficult for criminals to carry out money laundering using their services.

AML Standards

AML requirements for cryptocurrency are a fairly recent development, but many regulators base their standards on the Financial Action Task Force (FATF) guidelines. The FATF developed a set of recommendations for regulators to use with virtual asset service providers (VASPs), including crypto exchanges, wallets, and decentralized exchanges (DEXs). They include determining customer identities, detecting and reporting suspicious activity, and assessing user and transaction risk levels.

KYC Checks

KYC checks are a core component of the FATF's recommendations and crypto regulations around the world. In general terms, KYC checks are steps that cryptocurrency businesses take during onboarding. They allow them to verify a customer's identity and determine how much of a threat of criminal activity they might present. While KYC requirements vary significantly depending on where your company operates, they are a consistent feature of CDD policies and AML standards and regulations.

CDD Processes

The goal of CDD is to assess client risk levels and respond to them appropriately. This means not only conducting KYC checks but also putting together a broad picture of a client's conduct and transaction history.

Customer Identification and Verification

The first step in a cryptocurrency CDD process is typically confirming a customer's identity. You can complete this task with KYC checks, during which you collect vital information, such as:

  • Personal data, including the customer's name, birthdate, and address
  • Proof of address
  • Government issued identification
  • Photos or videos

Some crypto companies require all these forms of verification, while others may have more limited processes. No matter what types of information you collect, make sure you develop a strategy for data protection and privacy concerns and communicate it clearly to customers. Because you're asking for sensitive personal information, you have an obligation to keep it safe using strong cybersecurity measures.

Customer Due Diligence

Although they're interrelated, KYC and CDD usually refer to two slightly different aspects of your process. Most companies conduct KYC checks to verify a user's identity, but it's less common for them to carry out this verification past the initial onboarding.

CDD, on the other hand, usually continues throughout the customer relationship. You'll create risk profiles for customers based on identity verification, transaction records, and asset sources. These checks can occur at any time during the transaction process, not just when a customer first begins using your services.

Transaction Monitoring

In addition to regularly assessing a customer's risk level, CDD also involves constantly monitoring cryptocurrency transactions and flagging any unusual or troubling behavior. Using AML technology, a crypto company can analyze every transaction, examining the source and destination of funds and any associated wallets, to determine whether they're likely to have connections with financial crimes, including money laundering and terrorist financing.

Risk Management

Identity verification, CDD, and transaction monitoring all contribute to a larger risk management strategy. It allows you to detect potential risks early and apply necessary measures to eliminate or reduce them. In a risk management process, you'll categorize customers based on their risk levels and determine whether you need to take further steps to protect your business.

In some cases, crypto companies address high-risk customers with enhanced due diligence (EDD).When you identify a customer who poses an especially concerning risk, you can request additional documentation proving their identity or verifying the source of the assets involved in the transaction. If the customer is unable to provide you with satisfactory documentation, you can stop the transaction, preventing criminal activity before it has the chance to occur.

CDD Best Practices

Every cryptocurrency business has to develop its own CDD process, but these best practices are key:

  1. Use reliable KYC and AML tools and solutions: Although there are many AML and KYC solutions available, they offer different levels of protection and automation. Selecting a strong solution, such as AMLBot, keeps your compliance costs down and makes your CDD strategy more successful.
  2. Implement a risk-based approach: Carefully consider the potential risk of every user and transaction. Employ additional protections and diligence procedures as necessary to keep your customers and company safe.
  3. Provide employee training: Educate your employees on the importance of due diligence and AML compliance and how to carry out critical screening and monitoring processes. Explain the consequences your business and customers might face if you fail to conduct thorough due diligence.
  4. Regularly update your CDD policies: AML standards continue to evolve, and your policies should do the same. Regularly review and update your approach to CDD based on changes in regulatory compliance, emerging threats, and data you collect about the strengths and flaws of your existing policies.

These steps can't guarantee that your cryptocurrency company will entirely avoid criminal activity. However, they allow you to create a comprehensive CDD program designed to root out fraud and money laundering on the blockchain.

CDD Recommendations for Companies and Customers

Although it's clear that CDD and AML strategies are necessary to create a safe and successful crypto market, putting them into practice can be challenging. Cryptocurrency companies and users both have a part to play in minimizing the threat of criminal activity.

Implementing CDD for Your Company

The effectiveness of your CDD process hinges on your ability to accurately assess customer risk levels. To get a clear understanding of what risks they might pose, check every customer against a wide range of factors, including:

  • Sanction and watch lists
  • Connections to terrorist organizations
  • Media coverage
  • Criminal records

As you roll out your CDD policies and procedures, strive to build a culture of compliance within your company, starting at the top. Show your commitment to protecting customers and maintaining global compliance through your behavior, policies, and procedures. Conduct regular audits and compliance reviews to confirm that everyone within your organization is following the CDD process you've laid out for them, and be ready to make adjustments to your approach in response to issues that develop along the way.

It's also vital that cryptocurrency companies understand and correctly interpret the regulatory landscape as organizations adjust their standards to reflect shifts in the market. For example, in January 2024, the European Union (EU) reached a provisional agreement on a bill that will force all crypto firms under their jurisdiction to conduct due diligence checks on customers. Periodically research requirements for your jurisdiction to stay on top of these kinds of changes, consistently follow cryptocurrency regulations, and achieve the best possible investor protection for your customers.

Protecting Yourself as a Crypto Customer

Crypto companies need CDD for the sake of regulatory compliance and long-term financial viability, but that doesn't mean customers are completely off the hook. Crypto users can also take steps to safeguard themselves against potential fraudulent activity.

One of the most important recommendations for customers is never to assume that a transaction is safe. Instead, take responsibility for your crypto activity by carefully reviewing any crypto wallets, custodial services, exchanges, or other platforms based on factors such as:

Keep in mind that blockchain technology is an excellent vehicle for lucrative investments and safe monetary exchanges. However, bad actors have also made cryptocurrency a popular avenue for fraud, theft, and scams. For that reason, it's vital that customers conduct their own due diligence using tools like AMLBot, which offers wallet and transaction checks to help you stay away from illicit activity.

Make Due Diligence a Priority With AMLBot

Many cryptocurrency companies worry about accidentally violating an AML regulation and putting their reputations and financial standing at risk. A solid CDD strategy is crucial to your efforts to maintain compliance and earn the trust of customers. With the proper system of risk management, KYC checks, and transaction monitoring, you can help ensure the security and transparency of the cryptocurrency market.

AMLBot can support your CDD efforts with automated verification processes and optimized AML and KYC procedures. Reach out to learn more about how AMLBot's solutions can benefit your business and customers.