A record number of crypto hedge funds launched in 2018, which means they’re getting more attention every day. While cryptocurrency hedge funds aren’t mentioned in the Bank Secrecy Act (BSA), experts recommend that all hedge funds develop comprehensive BSA compliance programs to reduce risk and money laundering (AML).
The reality is that BSA/AML compliance programs will most likely become mandatory for crypto hedge funds in the near future. At this point, the fact that they’re not explicitly mentioned in the BSA is just an industry quirk.
With that in mind, crypto hedge funds that haven’t already developed their BSA compliance programs should do so as soon as possible. Here are some suggestions to help you get started.
Basic Compliance Requirements For Crypto Hedge Funds
The BSA outlines specific regulations that money services businesses (MSBs) must follow to help law enforcement agencies and the government detect and prevent money laundering and terrorist financing. These regulations are administered by the Financial Crimes Enforcement Network (FinCEN), which is part of the U.S. Treasury Department.
MSBs that fail to comply with BSA regulations can face sizable fines and jail time. In recent years, crypto hedge funds and investment advisors have found themselves in legal trouble as a result of money laundering schemes, so smart crypto hedge funds should make sure they put in place the five required pillars of a BSA compliance program described below.
A Designated BSA Compliance Officer
BSA regulations require that MSBs have a designated BSA Compliance Officer whose job is to develop the crypto hedge fund’s compliance program, train employees, monitor the program, choose tools to manage the program, and handle all reporting.
This is a big job, and you need to hire someone who has experience and expertise in cryptocurrency as well as all relevant regulations that your crypto hedge fund must comply with. For example, in addition to the BSA, your BSA Compliance Officer should also fully understand the USA Patriot Act.
Internal Controls Specific To Your Business Model
Developing and implementing internal controls that are specific to your business model includes a variety of steps. You need to create policies, procedures, and processes to meet all of the requirements of the BSA related to:
- Identifying high-risk operations
- Reporting suspicious activities
- Monitoring changes to regulations
- Performing customer due diligence (CDD)
- Training employees
- Monitoring employee performance
- Separating duties
- Implementing dual control mechanisms
As a crypto hedge fund, you’re also required to designate an administrator whose role is to clear investors by ensuring they’re accredited. Hiring this person and putting processes in place for clearing investors is an essential part of developing comprehensive internal controls.
Your crypto hedge fund’s internal controls should lower your overall risk, so this is an area where it helps to work with a company that has expertise in cryptocompliance (particularly for crypto hedge funds), BSA regulations, and compliance program development.
The third pillar of a BSA compliance program covers anti-money laundering training. All of your employees must receive adequate and appropriate training so they understand the policies and procedures they’re expected to follow to detect, report, and prevent money laundering.
Training should be conducted when employees are onboarded, again on an annual basis, and again whenever regulations change, so every employee understands the current laws, their responsibilities, and the fines and penalties they could face if they don’t follow the policies of the BSA compliance program.
Independent Testing Of Your BSA/AML Program
Your BSA compliance program is only effective if it works. Therefore, MSBs are required to have their BSA/AML programs tested each year by a third party who fully understands all applicable laws and BSA requirements.
It’s important to choose an experienced third party to test your program so you get an objective evaluation of its effectiveness. The third party should analyze all aspects of your cryptocompliance program, including your internal controls, training, and results, so you can learn if your procedures are working and if your employees are adhering to them.
The goal of independent testing isn’t to get your crypto hedge fund in trouble. The purpose is to identify weaknesses in your BSA/AML program so you can improve it and reduce your overall risk. That’s why it’s so important to work with a cryptocompliance company that can put your program through adequate testing and give you a clear picture of its strengths and weaknesses.
Customer Due Diligence
The fifth pillar of your BSA compliance program involves taking extra steps to research customers in order to reduce your risk. Specifically, these customer due diligence (CDD) steps are meant to reduce the risk associated with transactions involving beneficial ownership.
An important part of CDD is knowing your customer (KYC), so your internal controls should include detailed processes for CDD/KYC. However, since crypto hedge funds deal with large amounts of money, enhanced due diligence (EDD) is required.
Beneficial owners include anyone who benefits from investing in your crypto hedge fund based on specific criteria, and EDD procedures are used to identify all beneficial owners of any accounts. EDD includes taking additional steps to research and verify customer identities and beneficial owners, creating customer risk profiles, monitoring accounts, and reporting suspicious activities.
Key Takeaways For Crypto Hedge Funds
Remember, even though crypto hedge funds aren’t technically financial institutions and aren’t specifically mentioned in the BSA, it’s important to develop a BSA/AML compliance program sooner rather than later.
The reason is simple. It’s only a matter of time until crypto hedge funds are specifically named and required to implement the policies and procedures of the BSA in order to reduce money laundering and terrorism financing. Many crypto hedge funds trying to stay ahead of regulators have already created and implemented their programs.
Have you developed a BSA compliance program for your crypto hedge fund? Is your program as strong as it should be? Does it adequately reduce your risk?
The cryptocompliance experts at BitAML can help you with your compliance challenges and questions as well as your BSA compliance program development and testing. Schedule a free consultation to get started.