How will upcoming changes to the EU AML directive affect cryptocurrency exchanges?

The European Union's AML directive sets the basis for anti-money laundering and counter-terrorist financing provisions in financial institutions within Europe. But how could upcoming changes to this directive impact cryptocurrency exchanges?

Policymakers are currently seeking to provide clearer rules for exchanges and other actors in the crypto space as the growth of the digital currency market gains pace.

One EU official said, "We must adapt our rules to new technologies to have proper oversight while also supporting innovation."

The upcoming revisions to the AML directive are likely to hit cryptocurrency exchanges directly through an extension of due diligence and reporting requirements.

Herein, we consider the proposed changes and how exchanges will need to adapt processes to remain compliant.

Background Information on the EU AML Directive

The EU AML directive was adopted in 1991, and since that time, it has been updated many times, primarily to enhance the regulations.

It requires that financial institutions, banks, payment service providers, and cryptocurrency player exchanges conducting business within the European Union have measures in place to fight money laundering and finance terrorism.

The same can be addressed by implementing customer due diligence programs and transaction monitoring systems and notifying certified authorities if an activity is found to be dubious.

The overall proposal is to implement the overall European anti-money laundering Directive and at the same time, provide a harmonized framework throughout the European Union.

As of 2024, more than 15,000 entities within the European Union directly affect the proposal of the directive.

Revision on AML requirements

The European Commission is presenting an update to tackle new technologies and emerging risks better.

It would be the sixth amendment that the AML directive passed by the EU has to go through.

Among the changes are the widening of the scope of regulated entities, increased toughening of customer due diligence standards, and new rules for cryptocurrency transfers and anonymous wallets.

These changes fill in the gaps and any loopholes that may exist now so that no such money can find its way into the financial system through these new technological means.

This will increase the compliance cost for a regulated entity by 30% or more for implementing changes.

Impact on customer due diligence

Amendments are expected to have direct implications on how cryptocurrency exchanges will conduct customer due diligence.

As is currently the case, exchanges are required to verify and identify any customer at the time of onboarding, together with the ongoing monitoring of transactions.

It could be that new rules will require more in-depth background checks or limit the maximum amount of anonymous transactions that can be allowed per week.

Exchanges may need to update verification processes to remain compliant under the EU AML directive and Anti-Money Laundering Directive once revisions take effect.

These new regulations will reduce the threshold for identifying a beneficial owner to 10% ownership from 25% ownership, tightening the controls significantly.

Bonus: With the regulatory landscape continuously in a state of flux, cryptocurrency exchanges need to keep an eye on proposed changes that will impact their businesses to maintain compliance. Contact one of our financial compliance consultants to help review your processes.

Changes to standards related to monitoring transactions

The EU AML already obliges exchanges to monitor customer transactions and report any suspicious activity.

Proposed amendments could argue for tighter thresholds on reporting or even more enhanced monitoring powers.

Exchanges must be prepared to implement a higher order of transaction-tracking systems to support any revised standards of surveillance from the EU AML and associated European Directives.

Tighter controls of this nature could increase the monitoring costs for many exchanges by some 20%.

Prohibition of anonymous wallet addresses

One area under attack is that of anonymous cryptocurrency wallet addresses, which could be banned under new rules from supporting transactions sent from or to an anonymous address.

This aims to hamper the potential for illicit activity, which is currently very hard to trace in the existing EU anti-money laundering Directive. Exchanges would then have to alter any wallet services, allowing transfers that are currently unverified.

Implementing the new regulations

Upon the updating of exchanges, processes and protocols would have to be adjusted to meet all requirements of the revised EU AML directive.

This may involve procuring new compliance technologies, extending verification procedures, or changing the way data on transactions is collected and monitored.

Ample time would have to be provided to enable exchanges to implement all the relevant changes in their systems and policies.

For most exchanges, full compliance could take up to 18 months at best after the publication of final regulations.

Challenges Facing Cryptocurrency Exchanges

Though the amendments aim to bring transparency, exchanges may need help to shift gears under the new regime.

Upgrades of the technological platforms may entail heavy costs. Tracing the transactions on public blockchains takes work, too. Exchanges will have to examine the proposed amendments carefully for any clause that is not reasonably possible to fulfil.

With new EU AML directives just around the corner, it's time for exchanges to begin taking steps towards upgrading their network and reviewing procedures.