• Kirsten Saliba
  • 17 January 2022
  • 6 mins
  • 301 views

Non-Fungible Tokens (NFTs) have burst into the public eye as an innovative and highly lucrative method for artists and other creators to monetise their designs.

To put it into perspective, an industry that was worth just $13.7 million in the first half of 2020 now stands at a value of $2.5 billion, an impressive growth on any scale of measurement.

This blockchain-based approach to authenticity and ownership represents a revolutionary new way to reward physical and digital media for the creative industries.

In the wider prospect of things, NFTs are also strengthening intellectual property (IP) protection through decentralisation, levelling the playing field by providing greater access to art markets and stimulating digital innovation.

Sounds great, right? What could the downside possibly be? Unfortunately, like most industries and technologies, NFTs have a downside: in this case, the vulnerability to fraud and exploitation through money laundering.

While the art world has long been known as a hive of money laundering and fraudulent activity, it seems this new art world is leaving itself open to the same issues.

The problem here is that, although many blockchain-based innovations of recent years have been brought into the regulatory fold to varying degrees, most authorities and regulatory bodies have yet to develop clear guidelines and methods for NFT regulation.

What are NFTs?

NFT stands for Non-Fungible Tokens; non-fungible means unique. An NFT is a unique token whose value derives from the fact that it is mathematically provable as unique, and its ownership can be verified undoubtedly on the blockchain.

So, a digital graphic is converted into an NFT and then sold online via a smart contract. If the person who bought it wants to sell it on, they can prove without a doubt they own it and transfer that ownership to another buyer, who can then do the same. The verifiable record makes selling easier as it is easier to prove and can easily weed out fakes.

Using smart contracts is another revolutionary aspect of NFTs. Built-in rules on its use can predetermine its use, sold and any other interaction with the wider world. NFTs aren’t just collectables but a way to bring foundational business concepts such as ownership and contracts into the developing web 3.0 metaverse.

By using blockchain technology to verify ownership of a piece of art, artists and other creators now have access to a powerful means of being rewarded for what they create. While it’s easy to copy and distribute a piece of digital media, having a certificate of ownership that is verified and sold by the true creator of the art adds a new layer of credibility to artistic ownership.

What are the Risks Posed?

As the popularity of NFTs continues to soar, these platforms will attract more hackers, thieves and other criminals looking to benefit from exploiting them. While 2021 was the year that NFTs ascended into the mainstream, 2022 will be the year people will try to take advantage of that newfound popularity.

So how can NFTs be used for money laundering? Let’s look at a couple of simple examples to illustrate our point.

For example, say you bought a piece of art from yourself, using two separate user accounts, for $1 million. Then you sell that art at a loss to somebody else (or to yourself a second time).

The result is you are left with a similar amount of money you had before the sales took place, but records will indicate that you have made a significant loss, meaning you can escape paying taxes on those funds.

Alternatively, you can use illegally acquire funds to make the purchases and “launder” them by making it look like you received it legally through profitable NFT trades.

Another example is the real-world case of how thieves sold NFTs of a dead artist’s work, exploiting her legacy and life’s work for personal gain.

You can even perform an art heist within the NFT realm. Criminals can hack into user accounts on NFT marketplaces and transfer the NFTs to their own accounts. After the transfer, they can then sell the NFT quickly and launder the proceeds.

These vulnerabilities are made possible by lacking adequate KYC and AML measures on NFT platforms.

Mitigating the Risk

When it comes to regulation, authorities are still playing catch up with NFTs. Even global regulatory bodies like the Financial Action Task Force (FATF) still haven’t explicitly identified NFTS and their traded platforms as assets and spaces needing regulation.

This is mostly down to the fact these bodies tend to take their time in developing adequate responses to complex technological, political and economic issues such as this one

That makes NFTs and their platforms still somewhat of a grey area. As a result, depending on the jurisdiction, NFTs can be classified as:

·       Virtual Assets (VAs)

·       Artworks

·       Investments

 

For the time being, there are three effective KYC processes to secure a good reputation in the sector:

·       Create a customer identity

·       Recognise the nature of the customer’s actions (the primary purpose is to ensure that the source of the customer’s finances is lawful).

·       Evaluate the money laundering risks connected with that customer to monitor the customer’s activity.

These procedures, coupled with a strong overall AML compliance program, can aid in mitigating the risks and show authorities and consumers the seriousness with which companies treat preventing criminals from taking advantage of their services.

With NFT platforms themselves showing a reluctance to address the problems a lack of regulation can present, it has been left up to other technology platforms to pick up the slack. These platforms can help develop tighter protocols and more comprehensive AML and KYC requirements before governments start being heavy-handed with their regulations. Developing “compliance-as-a-service” as an internal industry solution can not only help prevent criminal activity but represent blockchain-based innovations as a more reliable and viable global solution for those still unconvinced.

If you or your project need an effective and dynamic AML solution, why not get in touch? We’ll be happy to discuss how we can make our tech work for you.

Today, technology is evolving at a faster rate than at any point in human history. Since the invention of the microprocessor in 1971, the accelerating growth in technology has been increasing exponentially, revolutionising the way we live and work over and over again.

One of the greatest innovations of the 20th century was the creation of the internet. In just a couple of decades, the internet became an indispensable tool to our way of life and now governs what we do and how we do it in an unprecedented way.

One of the reasons for this is that it is constantly adapting, growing and developing to meet the needs of the modern world. This development led from Web 1.0 to Web 2.0 and now sees us stand on the cusp of the advent of Web 3.0.

About Sekuritance

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