FCA Dear CEO letter on cryptoassets – a warning to firms

28 June 2018

On 11 June, the UK Financial Conduct Authority (FCA) issued a “Dear CEO” letter on how banks should deal with the financial crime risks associated with “cryptoassets”. The FCA defines cryptoassets as publicly available mediums of exchange that feature a distributed ledger and decentralised system for exchanging value, such as Bitcoin and Ether. These assets are more commonly known as cryptocurrencies.

Cryptoassets can be used for many legitimate reasons, such as funding technological development or as high-risk speculative investments; however, the nature of cryptoassets means they can also be used to facilitate financial crimes. Cryptoassets offer a degree of anonymity and are a method of transmitting money across jurisdictions in a way which makes it difficult for regulators and law enforcement agencies to monitor. The FCA states that banks should take reasonable and proportionate measures to reduce the risk of cryptoassets being used to commit financial crimes.

The FCA advises that banks offering services to clients whose business activities or revenues are derived from cryptoassets increase their scrutiny of these clients and their activities. Steps that banks could take include:

  • Developing staff knowledge and expertise on cryptoassets to help them identify the clients or activities which pose a high risk of financial crime
  • Ensuring that the existing financial crime frameworks adequately reflect the cryptorelated activities which the firm is involved in, and that they are capable of keeping pace with fast-moving developments
  • Engaging with clients to understand the nature of their businesses and the potential risks
  • Carrying out due diligence on key individuals in the client business
  • For clients offering forms of crypto-exchange services, assessing the adequacy of those clients’ own due diligence arrangements
  • For clients which are involved in Initial Coin Offerings  (ICOs), considering the issuance’s investor-base, organisers, the functionality of tokens and the jurisdiction

Clients using cryptoassets should not all be treated in the same way. Banks are advised to adopt a risk-based approach and manage the level of risk appropriately. The risks posed by these clients should be assessed using the same criteria that would be applied to clients whose wealth or funds come from other sources.

While cryptoassets differ from other sources of wealth in that there can be an evidential difficulty in linking user accounts to real-life individuals, the FCA does not consider that this justifies applying a different evidential test. Instead, firms are expected to exercise particular care in these cases.

The letter adds that if a bank identifies that a client is using a state-sponsored crypotoasset designed to evade international financial sanctions, the FCA would consider this to be a high-risk factor.

The letter concludes by referring to the review that its predecessor, the Financial Services Authority (FSA), carried out in 2012 of  how banks handled the risk of investment fraud. As retail clients which contribute large sums to ICOs may be at a higher risk of falling victim to investment fraud, banks are advised to consider the FSA’s review to see good and poor practice which may be relevant to ICOs.

Whilst a “Dear CEO” letter does not create a specific FCA rule, it may be taken into account by the FCA when considering the shortcomings of a firm. Where a firm has failed to implement the advice given in a letter, it may be viewed as an aggravating factor in any subsequent FCA Enforcement action against it.

This letter should therefore be taken as a warning to financial institutions to ensure that they have the appropriate systems and controls in place to identify and prevent the misuse of cryptoassets.  With the FCA’s continued focus on financial crime it is likely that in future, firms who have failed to put in place appropriate controls may be the target of Enforcement action.

Further information

Should you have any questions about the issues covered in this blog, please contact a member of our Criminal Litigation team.

See also our other recent blogs on the topic:

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