The Role of NFT Platforms: Preventing and Combating Money Laundering

What are NFTs?

NFT stands for “Non-Fungible Tokens” and is a type of cryptographic asset that represents real-world assets such as art, music, digital game assets, and videos. NFT, unlike other cryptocurrencies, has a one-of-a-kind quality that makes it incompatible with any other token. In 2023, revenue in the NFT market is expected to reach $1,601.00 million. However, revenue is expected to grow at a rate of 18.55% per year, reaching a total of US$3,162.00m by 2027. This distinction gives each NFT a distinct character, similar to an individual identity or digital passport. NFTs are also expandable, allowing them to be combined with other NFTs to create new and distinct brands. NFT, as a physical currency in the cryptocurrency space, facilitates exchange and provides a haven for digital economy transactions.

Are NFTs Used for Money Laundering?

According to the United States Financial Crimes Enforcement Network (FinCEN), the “Emerging Digital Art Market” poses a significant risk of money laundering and financial crime. From July 2021 to July 2022, more than $100 million in NFTs were stolen. The largest robbery in a month occurred in July 2022, when 4,600+ NFTs were stolen. The traditional principles of placement, layering, and integration are used to launder money through NFTs. The legal and regulatory risks associated with NFTs and money laundering are largely determined by their use and the nature of the assets involved. Concerns have been raised by US banks about the withdrawal of NFT funds, particularly in the technical sector, citing the ease with which NFTs can be transferred globally and instantly, making them vulnerable to those seeking to illegally launder money.

Despite the lack of clear evidence of widespread NFT money laundering, some industry experts contend that NFTs can be used to facilitate money laundering and tax evasion, particularly for high-net-worth individuals seeking less regulatory scrutiny.

• Phishing and virus attacks, identity fraud, and crime are all examples of NFT money laundering scenarios.
• One common NFT money laundering example is wash trading. It has emerged within the NFT market. A seller orchestrates trades on both sides of an NFT transaction to create a false impression of the asset’s value and liquidity. This repeated speculative behavior artificially inflates the virtual asset’s value, attracting potential buyers who buy it at an exorbitant price. The seller essentially “sells” the asset to a new wallet that they also control, making their NFT appear more valuable than it is. The relative anonymity provided by many NFT platforms, where users can conduct trades by linking their wallets without undergoing identity verification, facilitates wash trading with NFTs.
• Another NFT money laundering example is that criminals can use cryptocurrency wallets that do not require verification to conceal their identities during the money laundering process. This allows them to transfer large sums of money from one wallet to another while remaining anonymous.
• NFTs can be transferred instantly between digital wallets, providing an unprecedented level of speed and flexibility in the digital realm. This rapidity presents difficulties for law enforcement agencies, as it becomes difficult to quickly track down and seize criminal assets and funds.
• Money launderers can profit from the exchange of fake NFTs, such as the recent Banksy print forgery. In addition, criminals can compromise user accounts on the NFT platform, peddle illicit tokens, and then launder their illicit proceeds.

Trump NFT Money Laundering

In December 2022, Trump launched his first NFT collection, which included a series of digital “trading cards” featuring cartoon depictions of himself in various heroic roles and attire. Despite the initial mockery surrounding the announcement, these 45,000 cards were sold out in less than a day. Trump insisted that the NFT collection had nothing to do with any political campaign. Trump reported income from NFTs ranging from $100,000 to $1 million in his 2022 financial disclosure.

A TikTok user raised concerns that Trump’s trading cards could be more than a business venture. He pointed out that Trump made 45,000 cards but only sold 44,000 for $99 each on the website, resulting in a net profit of more than $4.3 million. What’s more, cryptocurrency was listed as one of the accepted payment methods, and the FAQ section stated a “strict limit” of 100 Trump merchant cards per shopper or household. It is noted that 100 cards at $99 each equal $9,900, which is just $100 less than the $10,000 threshold required by the Bank Secrecy Act for reporting transactions. This could allow Trump to amass more than $4.3 million while not disclosing any of the transactions.

Furthermore, the fine print on the NFT sales website states that the funds will not be used for political purposes, ensuring that the money remains Trump’s to spend as he pleases.

The involvement of a Delaware-registered shell company that licenses the cards, which conveniently uses Trump’s Trump International Golf Club in West Palm Beach as its postal address, fuels these speculations even more. While these claims lack hard evidence, they cast doubt on the transparency and truthfulness of the system.

What are NFT Money Laundering Regulations?

There are challenges in regulating cryptocurrency and due to its ephemeral nature, NFTs also present unique challenges for regulators. Their unique character frequently places them outside of existing laws, creating a grey area of law and order. This demonstrates the importance of standardized guidelines and standards in NFT.

The Financial Action Task Force (FATF), a global organization that establishes standards for combating financial crime, has issued directives concerning virtual assets and the service providers with them. These guidelines emphasize the importance of Anti-Money Laundering (AML) compliance and risk mitigation strategies in NFT marketplaces. They also urge countries to establish strong regulatory frameworks and effective oversight of these platforms.

The European Union has taken an important step in broadening the scope of anti-money laundering (AML) legislation to include cryptocurrencies with the implementation of the Fifth Anti-Money Laundering Directive (5AMLD). Furthermore, as part of the future cryptoasset regulation, the EU is in the process of establishing the Cryptocurrency Market Regulation (MiCA). The regulatory landscape for NFTs in the United States remains somewhat perplexing. Although there is no specific regulatory guidance at the federal level, some individual states have taken steps to introduce laws that can bring NFTs under their regulatory oversight.

However, In April 2022, J5 (The Joint Chiefs of Global Tax Enforcement) issued a warning to banks, legal authorities, and private collectors highlighting the escalating risks associated with money laundering and fraud in the NFT space. This consortium comprises various governing bodies, such as the IRS in the United States, HMRC in the UK, and agencies from Australia, Canada, and the Netherlands. This collaborative initiative represents a global effort to address and mitigate illicit activities associated with NFTs, emphasizing the importance of regulatory oversight and enforcement in this emerging digital asset sector.

Measures for Preventing and Combating NFT Money Laundering

The NFT system recognizes the importance of keeping the environment clean and employs a variety of measures to prevent and combat financial crime:

KYC/AML Procedures:

To ensure that user identities are verified before transactions are initiated, many platforms are improving Know Your Customer (KYC) and Anti-Money Laundering (AML) procedures. This helps to keep malicious users away from the platform. The following KYC/AML measures can help in combating NFT money laundering

• To prevent identity fraud, NFT platforms should require reliable user identification via government-issued IDs or passports.
• To verify user residences and reduce fraudulent activity, NFT marketplaces may request proof of address, such as utility bills.
• Assess user risk profiles based on transaction volume, funding sources, and jurisdictional risks.
• For high-risk users or transactions, use Enhanced Due Diligence via additional verification steps and background checks.
•  For auditing and investigations, keep detailed records of user information, identification documents, transactions, and communications.

Transaction Monitoring:

NFT platforms invest in sophisticated transaction monitoring tools that can detect suspicious activity. These tools examine business processes and behaviors to detect possible financial fraud.

Two-factor Authentication

It is a critical security measure for preventing malicious actors from accessing crypto wallets and NFT collections. It adds an extra layer of security during the login process by requiring users to provide additional information in addition to their password. Security questions, one-time codes, or biometric data can all be included. According to Google, implementing 2FA significantly improves account security and can effectively thwart automated bot hacks, making it a highly recommended step for user protection.

Reporting system:

The Platforms implement a reporting system that allows users to report suspicious behavior, allowing them to work together to keep the environment safe.

Education and Training:

Some platforms take a proactive approach, educating their users on the risks of withdrawing funds and the value of fair NFT trading.

Bottom Line

As the popularity of NFTs grows, addressing these challenges and ensuring transparency will be critical to their continued growth and credibility in the digital realm.