3 Reasons Why Gaming Industry Might Soon Face Strict KYC & AML Regulations

Updated 27.08.2020
3 Reasons Why Gaming Industry Might Soon Face Strict KYC & AML Regulations

If you are running an online marketplace for video games or in-game items, then you have certainly dealt with fraud. In this article, we will take a look at 3 reasons why regulators are likely to impose new AML rules in the gaming industry. We will also discuss how you can prepare for that by proactively setting up a KYC process for merchants.

Read a relevant case study

What is money laundering?

Money laundering is a process of concealing the origin of funds that were obtained illegally, for example, by selling drugs or other items on a black market.

Money laundering consists of 3 steps.

  1. Placement of funds.
    Placement of funds means inserting illegally obtained money into the financial system. Usually, it is done by placing the funds into a company that only exists on paper.
  2. Layering.
    Layering means involving the funds in many transactions and bookkeeping tricks to conceal the origin to the point when it’s impossible to trace.
  3. Integration.
    During the integration phase, criminals withdraw the money, which appears clean and legitimate. Hence, they can use it in whichever way they want without worrying about getting detected.

In most cases, criminals are caught during the placement step, as inserting large sums of money always looks suspicious and gets reported to the authorities.

Traditionally, money laundering happens through legitimate cash-based businesses, real estate, shell companies, or offshore accounts. For instance, criminals can insert large amounts of cash into their restaurant as if they had more customers than they did.

With the mass adoption of cryptocurrency and online gambling, digital assets have also become a popular tool for money laundering.

However, monetary authorities were quick to impose strict regulations on such services. KYC is now a must-have for gambling websites and financial services, and creating a shell company or laundering money through a legitimate business is even harder, as monitoring algorithms get more advanced and spot even the smallest suspicious activities.


Video games – a new safe haven for criminals?

As traditional ways of laundering money become more difficult, criminals use their creativity to find new ways to wash the “dirty money.” One of such modern means of laundering cash has become the gaming industry. Criminals have found ways to utilize the fact that the gaming industry is not as regulated for their benefit and have successfully managed to launder money through it.

The gaming industry is one of the biggest ones in the world. It is estimated that there are more than 2.5 billion active players in the world who have spent $152.1 billion on games in 2019 alone. The gaming industry is predicted to hit an outstanding $196 billion by 2022.

The fraudulent activity is already tremendous in the gaming industry, and it will only expand with the growth of the sector.

Currently, there are approximately 7.5 fraudulent transactions for every legitimate operation when we look at in-app purchases. Fraudulent transactions mean virtual good exchanges or downloads, while revenue doesn’t change hands. China has the highest fraud rate, with 273.2 stolen goods per 1 legitimate transaction. Therefore, 50%-99% of virtual good purchases are linked to illicit activity.

Let’s take a look at how fraudsters use microtransactions and in-game currencies for criminal activities and reasons why the gaming industry is the next to face strict AML regulations.


Reason 1. Laundering money through video games is as easy as 1-2-3.

So how does one launder money through video games?

There are two ways:

  1. Microtransactions
  2. In-game currencies

Microtransactions are a way to purchase additional gaming content such as in-game currencies, skins, levels, extensions, etc. Those transactions range from a few cents to hundreds of dollars. Microtransactions are very common in mobile games, free-to-play model games (League of Legends, Fortnite), as well as games that require an initial purchase (Overwatch, CS:GO).

In-game currencies are virtual currencies used in a video game. In-game currencies are usually obtained by playing, for example, looting an enemy, completing challenges, selling in-game items. In many cases, in-game currencies may also be purchased for real money.

There are two types of in-game currencies. Convertible – coins, which can be exchanged for fiat and back. And non-convertible – virtual money, which can be bought for real money but cannot be traded back for fiat.

Convertiblecurrencies are less common because they often face regulations from monetary authorities. In such a way, the United States Financial Crimes Enforcement Network (FinCEN) has labeled Lined Lab, a company that developed Second Life, as a Money Services Business (MSB). Hence, users are subject to KYC and AML requirements.

Although game developers and publishers usually limit the exchange of the in-game currencies (including the non-convertible ones), many third-party websites allow users to re-sell in-game items, games, or accounts. This opens an enormous opportunity for money laundering.

Let’s look at an example. A criminal creates or hacks into an account. Then he or she can use illegal funds (eg stolen credit cards) to buy in-game items, loot boxes, keys, virtual currencies, etc. Then the criminal makes several trades or transactions to conceal the origin. Afterwards, he or she can sell the account or in-game items on one of the grey marketplaces such as eBay, G2a, or iGVault. Many of the trading platforms allow you to withdraw funds in BTC and other cryptocurrencies, making the proceeds invisible to the authorities.

Let’s come back to the three steps of money laundering.

  1. Placement. Topping up the account with illegal funds.
  2. Layering. Making several transactions or trades.
  3. Integration. Selling the account for clean money.

As you can see, the lack of regulations makes it very easy to launder money through video games seamlessly.

In October 2019, it was discovered that loot boxes (cases) in CS:GO are used to launder significant sums of money. Loot boxes can be opened with a key, which can be purchased in the official store, and contain a variety of weapon skins.

Valve commented: “At this point, nearly all key purchases that end up being traded or sold on the marketplace are believed to be fraud-sourced.”

90% of all transactions that were related to loot boxes were completed to launder illegal funds. Criminals preferred keys as their price remained most stable over time.

Since then, Valve has suspended the trade of the keys for the loot boxes. Now each key is connected to the buyer’s account. However, this was only one of the hundreds of ways to launder money. Any other in-game item can be still be used.


Reason 2. Trading in-game items is (almost) gambling.

Many criminals choose online gambling platforms to launder money. It has been a go-to place for many years now. However, monetary authorities know that, and they have placed lots of regulations on such websites. Online gambling is subject to very strict AML and KYC rules, making it very hard for criminals to launder money. As most of the online gambling platforms follow AML compliance platforms, it is difficult for fraudsters to stay anonymous, and they are usually caught during the placement of the funds. Gambling websites report suspicious activity to the authorities right away thanks to the extensive KYC software solutions, strict AML compliance programs, and reporting systems.

In many legislations, loot boxes are considered a form of gambling as well. This label is set because users pay real money to open loot boxes, which give them a random item with it’s market value.

Because of the fact that loot boxes resemble real-life gambling, many countries started thorough investigations on this matter. Belgium has stated that loot boxes violate the gambling legislation and has banned loot boxes in the country. If a publishing company fails to comply with such law, they might face a 800,000 EUR fine and up to 5 years in prison.

The Netherlands has also prohibited loot boxes in case the items from them are transferable to other accounts.

Netherlands Gaming Authority told that they want to work and act together with other European regulators. Hence, it’s very likely that other EU members will conduct their studies and consider banning loot boxes too.

However, we see the ban of the loot boxes as only a temporary measure. The members of the European Union and other countries will likely develop regulations concerning loot boxes without prohibiting them. The rules will likely include similar measures to gambling websites, meaning that game publishers, as well as online marketplaces, will need to set up AML compliance programs and integrate an identity verification software.


Reason 3. Game publishers are starting the cooperation with authorities.

Online marketplaces have a higher chance of fraud compared to brick-and-mortar stores. The difference is the anonymity and the absence of physical presence in the online store.

Because of the simplicity, low price, and the speed of online marketplaces, they have become very attractive for criminals to perform money laundering. Often they don’t need to create a complicated fake identity or have an appearance of legality (like with shell companies). In addition to that, there are lots of new alternative payments, such as cryptocurrencies, which promote anonymity and make life even easier for fraudsters.

Currently, it’s only up to game publishers to prohibit and detect inappropriate currency transactions. However, there are no governmental regulations in place.

Most companies do forbid trading accounts and in-game assets. However, it is usually performed through 3rd party marketplaces. Hence, it’s difficult to track for the game publishers, yet not impossible. Game publishers have machine learning algorithms in place that can find fraudulent accounts.

The issue is that companies can only ban this account in the worst-case scenario. Such bans do not get any legal consequences, and they are not even reported to the authorities.

Loot box bans from Belgium and Netherlands might be the first step in the possible cooperation between game publishers and governments.

Besides, in June 2019, FATF published an interpretive note to Recommendation 15 in association with virtual asset activities and service providers, which is related to money laundering and terrorist financing. The letter suggests approaches to regulating and supervising virtual asset service providers (VASPs). That means marketplaces that trade virtual assets, as well as particular games, will be subject to AML compliance and will have to implement a KYC software solution into their product. 

Monetary authorities already regulate many games that use convertible in-game currencies, as we have already seen happen with Second Life. It’s only a matter of time until non-convertible virtual currencies and other digital assets will fall under AML regulations.

Read a relevant case study


Being proactive. Protecting your business from fraud.

Although new regulations concerning the video game industry are published each year, there’s still no certainty or unity in fraud preventing efforts among governments and organizations. Because of that, in-game assets remain one of the favourites ways for criminals to wash the “dirty money.”

It doesn’t matter if you are a game publisher or an online marketplace; it is safe to say most of your transactions are likely performed as a part of the money laundering process. It might generate additional income, however, possible penalties in the upcoming regulations are very severe. In addition to that, fraudsters negatively impact your company’s reputation.

There’s a way to protect your business from fraud while keeping legitimate customers happy. Modern identity verification software, which is offered by KYC service providers, is easy to set up and customer friendly. The widget from BASIS ID allows you to onboard sellers, buyers, or both within minutes. It is proven to raise trust and conversion rates.

This widget can be integrated within a few minutes, and it’s fully customizable. You can create the onboarding process entirely based on your risk appetite, while BASIS ID will make sure that you stay compliant with all of the regulations. Besides, BASIS ID goes after each user and doesn’t let them drop during the onboarding process.

Integrating an AML compliance program together with the KYC software is a proactive step that will increase the trust and prevent any fraud happening on your platform.

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