Source of funds where virtual assets and cryptocurrencies are involved

At the beginning of any new matter, we are required to establish the source of funds. In this modern age, a client's source of funds can be varied and may increasingly include income or gains in cryptocurrency.

If the client says that crypto assets are within the source of the client's funds, then we need to assess them separately. By default, on account of the possibility to earn crypto assets secretly, they are considered a medium risk factor by the Financial Action Task Force.

You need to record in your source of funds document why you are satisfied the inclusion of crypto assets amongst the source of funds is not in and of itself suspicious, and that the nature and source of the crypto assets do not present any money laundering red flags.

Your evaluation as to the source of funds should be risk based. You might be able to use www.blockchain.com or you might need to bring in a colleague to advise on the source of funds risk posed by the use of crypto. Remember, it is an elevated risk factor if the client has used a wallet that makes the source of funds hard to track.

Your note should address:

• What are the assets?
• How and when were the assets acquired/earned?
• Were these assets acquired peer to peer, via an exchange or by some other method?
• Why were the assets acquired?
• What was the source of funds/assets used to acquire the crypto assets in the first place?
• The kind of wallet/custodian/exchange used to hold the crypto assets, and that you have identified the wallet address(es).
• The client's confirmation they are the legal and beneficial right/controller of all private keys relating to those wallets, i.e. there are no other joint controllers.
• Any crypto-custodian and whether they are on the FCA register (or in the register in the appropriate jurisdiction). Custodians should have a policy of AML compliance.
• If crypto assets have been sold at a profit, then has tax been declared and paid in time?

You should include in your answers why you find the responses adequately compelling, and you should consider requesting evidence of statements where the risk is more pronounced for any reason.

Possible sources of evidence include (without limitation)

• Bank statements showing the funds being traded into tokens and then on to crypto currency
• Screenshot or similar of the account/exchange records and identity of all crypto wallets used to acquire hold/trade in the crypto assets.
• Extract from FCA register or other foreign equivalent showing the crypto exchange used.
• Tax return declaring profits on crypto assets

Red flags to look out for

• Are the crypto assets "obfuscated" or have the tokens held by the client been derived from tumblers or exchanges which do not engage with FAFT-compliant AML standards and are known conduits for washing illegal transactions?
• No commercial practical or other reason to be using Crypto assets
• Little/no other source of funds/wealth, i.e. all/most funds are coming from crypto
• Disproportionate percentage of wealth in Crypto assets
• Crypto asset wallets/custodians/providers from high risk sources/locations (Google the providers)
• Unable to show Crypto assets being purchased using fiat currency from a bank account in the client's name or other credible explanation for receipt
• Use of crypto cash machines (ATMs) for significant amounts
• No understanding that any sale or exchange of a crypto asset is a taxable event
• A change of email address/phone number
• Use of offshore/shell companies

If in any doubt, contact the MLRO.

For further information see https://www.fatf-gafi.org/media/fatf/documents/recommendations/Virtual-Assets-Red-Flag-Indicators.pdf