Everything You Need To Know About NFT Money Laundering

Everything You Need To Know About NFT Money Laundering

September 21, 2023 by Diana Ambolis
The market for non-fungible tokens (NFTs) is now witnessing significant disruption. According to Reuters, sales of non-fungible tickets surpassed $25 billion in 2021, and individual goods were allegedly sold for as much as $90 million. However, high-profile scams in 2022, including the $600 million hack of NFT gaming company Axie Infinity in March and the theft
Everything You Need To Know About NFT Money Laundering

The market for non-fungible tokens (NFTs) is now witnessing significant disruption. According to Reuters, sales of non-fungible tickets surpassed $25 billion in 2021, and individual goods were allegedly sold for as much as $90 million. However, high-profile scams in 2022, including the $600 million hack of NFT gaming company Axie Infinity in March and the theft of $2.8 million worth of NFTs from the Instagram account of the Bored Ape Yacht Club in April, have produced market uncertainty. But what is NFT money laundering?

What are NFTs precisely?

Non-fungible tokens, or NFTs, are digital representations of tangible items that collectors often acquire and trade online. They feature built-in authentication, which may be used as proof of ownership, and are supported by blockchain technology, most often the Ethereum blockchain. NFTs have existed since 2014, but it is becoming more likely that businesses will become aware of them via their customers’ transactions. Similar to actual art pieces or collectables, NFTs are either one-of-a-kind or have a limited manufacturing run; hence, their value is debatable.

What does “NFT Money Laundering” involve?

The regulation of non-fiat currencies is in its infancy now, as authorities and international organizations continue to research how NFTs are utilized and how widespread their adoption has become. Concerns have been expressed regarding the prospect that non-fungible tokens (NFTs) might circumvent expanding anti-money laundering (AML) restrictions on traditional art since the quantity of money — often cryptocurrency — used to purchase NFTs continues to increase. For instance, in line with the EU’s Fifth Anti-Money Laundering Directive, anybody involved in buying or selling artwork for more than €10,000 has AML obligations to do Customer Due Diligence (CDD) and report any suspicious behaviour.

Non-financial transactions (NFTs) may be considered works of art and be subject to anti-money laundering and combating the financing of terrorism (AML/CFT) rules under this ruling. Nevertheless, the Directive does not define “work of art” and does not encompass NFTs.

Despite this, in 2020, the EU proposed a law that might be applied to NFTs. The Markets in Crypto-assets Regulation defines NFTs as “a digital representation of value and rights that may be transferred electronically using distributed ledger technology or analogous technologies” (MiCA). Under the rule, it is possible that non-fungible tokens would be classified as “other crypto-assets.” This would imply that issuers would not be subject to special licensing requirements; nonetheless, they would be required to be a legal organization (even if founded outside of the EU) and comply with specific business and governance behaviour criteria.

Despite the absence of formal regulatory rules for NFTs in the United States, several states have introduced legislation that would put NFTs under their authority.

How Does the Money Laundering Process Work Using NFTs?

Although criminals may utilize several ways to launder money, the core ideas of money laundering, such as placement, layering, and integration, also apply to the washing of NFTs.

According to Financial Action Task Force (FATF) recommendations, a substantial percentage of the risk and regulation connected with non-traditional currencies (NFTs) and money laundering will rely on how they are used and the nature of the exchanged asset. The United States Treasury Department issued a warning in 2022 on the possibility of non-traditional money laundering in the art business. “Because the transportation of wealth may be achieved without incurring possible financial, regulatory, or investigative expenses of physical shipment,” the research noted, “digital art is vulnerable to abuse by those attempting to launder illegal profits of crime.”

In addition, the Treasury Department revealed that criminals might be able to clean their own money by purchasing an NFT, transferring ownership of that NFT to themselves via a variety of digital accounts, establishing a sales record before selling the NFT to a buyer unaware of its illicit origins, and then emerging unscathed from the transaction.

Also read: What is Money Laundering and Wash Trading In NFT?

Why do non-traditional currencies lend themselves so well to money laundering?

Even if there are no indications that individuals are utilizing NFTs to launder money, specific characteristics of the trading of NFTs will sound enticing to criminals. Identifying the prospect of trade-based money laundering, for instance, is as simple as establishing if the price of a transaction is following the item’s genuine market value. Due to the volatility of the NFT market, it may be challenging to determine a fair price for an item or service, which facilitates the possibility of NFT-based money laundering. And although NFT transactions have unique codes recorded on a public ledger, purchasers may still keep anonymity. This is a massive advantage for those who prefer to wash their possessions privately.

In addition, no structure stops money launderers from creating several accounts and transferring assets to cover their tracks even more thoroughly. Non-traditional financial instruments (NFTs) offer a significant danger of being used for money laundering, according to some industry analysts, since they are susceptible to less scrutiny from regulators and legislators. According to analysts, affluent people may utilize NFTs to aid money laundering and tax evasion. In a money laundering scenario, including NFTs, phishing and virus attacks, identity fraud, and forgeries may all be possible.

What precisely does “NFT Wash Trading” mean?

The practice of “wash trading,” in which a seller participates on both sides of a deal to create a false impression of an item’s worth and liquidity, is a continuing worry for cryptocurrency exchanges. Some of these exchanges have sought to exaggerate their trade volumes artificially. When it comes to non-fungible tokens (NFTs), wash trading exploits the fact that many trading platforms allow users to trade by simply attaching their wallets to the site. In this situation, traders do not need to identify themselves.

The American comedian and cryptocurrency investor Isaiah McCall, who in 2021 launched a website named “How to Launder Money with NFTs,” warned that it is conceivable to spend $1 million in illegal funds on your own NFT, resell it for free, and pocket the profits from the sale.

According to a Chainalysis analysis from 2022, some suppliers have engaged in hundreds of NFT wash agreements. The majority of NFT wash traders were not successful, according to the study results; nevertheless, the top 110 profitable NFT wash traders produced a total profit of $8.9 million. Numerous transactions on NFT marketplaces were determined to have originated from unlawful addresses, used stolen funds, or came from sources that presented a risk of fines.

NFT Money Laundering Risks

Where do the threats reside?

Constantly, new risks linked with money laundering using NFTs are identified. Separate from decentralized finance, the Financial Action Task Force (FATF) is currently creating a strategy for dealing with non-fungible tokens (NFTs) (DeFi). It is anticipated that this technique will affect how several major financial markets address the issue.

One of the solutions advised for reducing the possibility of NFT money laundering is more information exchange in the private sector to increase openness in the art industry. Another measure is to implement AML/CFT rules to art market players, such as submitting suspicious activity reports and Know Your Customer (KYC) procedures. These are examples of anti-money laundering procedures. The Royal United Services Institute (RUSI), a security think tank, has pointed out that most non-fiat currencies (NFTs) are acquired using cryptocurrencies on internet markets. The dangers of anti-money laundering linked to cryptocurrencies should also apply to NFTs. RUSI also warns of the possibility of an NFT “art heist,” in which a criminal actor breaches user accounts on NFT markets and transfers NFTs to their chosen accounts.

Does There Exist a Risk of Money Laundering Associated with Non-Fungible Assets? Whether so, in what way?

Companies that have not yet included NFT management in their risk assessments and risk-based anti-money laundering strategies should do so. The RUSI guidance on reducing the risks of money laundering linked with NFTs lays a regulatory foundation upon which businesses may begin to build.

Among the several strategies that may aid in preventing money laundering using NFTs are the following:

  • Establishing a starting point for companies that want to focus on NFTs
  • Implementing Know Your Customer (KYC) requirements and maintaining continuous supervision, similar to how the traditional art market and respectful cryptocurrency exchanges operate.
  • Priority is placed on ensuring that consumers have access to a two-factor authentication solution.
  • Confirming the adoption of many cyber security measures to prevent cyberattacks
  • Creating a register of non-circulating tokens stolen or acquired unlawfully, modelled after the global Art Loss Register, is feasible.