What is KYC in Crypto and Why Do Exchanges Require it?

Financial service providers in most jurisdictions must collect certain information about their customers to comply with regulatory requirements. Collectively, these requirements are called Know Your Customer (KYC) and include identity verification. KYC in crypto follows similar rules to those for opening a bank account.

In this guide, we’ll answer the question, “What does KYC mean in crypto?” We’ll also detail the basic steps involved as well as some alternatives, including decentralized exchanges and peer-to-peer transactions. Let’s start with an overview of KYC itself and how the process works when buying crypto through exchanges.

What is (Know Your Customer) KYC?

KYC is part of a larger set of compliance rules centered around anti-money laundering (AML) and combating the financing of terrorism (CFT). At its core, KYC verifies the identity of customers. However, additional compliance rules also require enhanced due diligence and ongoing monitoring.

Rules and governing bodies differ by jurisdiction, although many countries require financial services providers to collect customer information and verify their identity. For example, in the US, the Bank Secrecy Act (BSA) requires a financial institution to complete KYC. FINRA (Financial Industry Regulatory Authority) members are also governed by FINRA Rule 3310, which defines KYC requirements regarding AML.

Know Your Customer requirements serve a goal of making transactions and markets safer by reducing unwanted behavior like financial crime, money laundering, and terrorism financing.

How Does The KYC Process for Crypto Exchanges Work?

So, what is KYC in crypto, and does it differ from KYC processes in other financial services? In the US, centralized crypto exchanges are money services businesses (MSBs), a category of businesses that includes money transmitting. Coinbase, the largest publicly traded exchange, is registered as an MSB with FinCEN.

Under the Bank Secrecy Act, MSBs must comply with KYC regulations, which means that these companies need to collect information about their customers and verify each user’s identity. In March 2024, the US DOJ charged the Kucoin exchange with violations of the Bank Secrecy Act and charges related to unlicensed money transmission.

While the KYC process varies slightly from one exchange to the next, they all follow a similar flow because they collect similar information. Let’s walk through the basic steps.

1) Collect Basic Personal Information

When you buy crypto through a KYC-compliant exchange, the first questions during the signup process center on basic personal information, including your name and address.

Age 18 is the minimum age to buy crypto in most jurisdictions around the world. However, this requirement centers on contract law rather than KYC regulations. The age of 18 is the age of the majority in most countries.

2) Perform ID Verification

Next, you’ll need to provide a valid government-issued ID, such as a passport or driving license. Each platform uses its own upload method, with some using phone cameras and others allowing image uploads.

Follow the instructions carefully, as ID verification is often the biggest stumbling block. Off-center images or blurry photos can add time and frustration to the process. Some platforms carry out an enhanced customer due diligence test and use a “liveness” check to verify the person is real and resembles the ID provided.

3) Ongoing Monitoring and Reporting

In addition to verifying the customer’s identity, KYC compliance requires ongoing monitoring and risk assessment. This step aims to identify potential criminal activity for established customers. For example, a new customer makes a small Bitcoin purchase through an exchange, a normal transaction. If that customer later makes a much larger transaction above a defined threshold, it may generate a suspicious transaction report (SAR). Exchanges must also watch for financial transactions potentially linked to OFAC sanctions.

What Are the Advantages of KYC Compliance in Crypto?

Governments around the world enforce similar KYC regulations. Compliance helps ensure that your favorite exchange will still be there tomorrow. From a consumer perspective, KYC also provides enhanced trust for the exchange, knowing they are taking steps to provide a safer trading environment.

KYC exchanges also attract more liquidity compared to No-KYC exchanges. This added trading volume helps ensure more efficient trading and reduces the ability of bad actors to manipulate trading action.

Regulatory Compliance

Although KYC regulation brings additional cost and complexity to crypto exchanges and brokerages, the cost of not complying with regulations can be far more expensive. Companies like Binance and Kucoin offer two high-profile examples of exchanges that allegedly operated on the edge of the rules. Both companies faced charges brought by the US Department of Justice.

As a result, nearly all larger crypto exchanges now comply with KYC regulations and require new customers to verify their identity.

Enhanced Trust and Security

While the KYC process can be time-consuming, the end result for customers is a safer trading environment. Most platforms have streamlined the process, cutting ID verification times from days to minutes. The enhanced trust seen with KYC exchanges also promotes growth, enabling a healthier business over the long term.

Improved Market Stability

KYC exchanges tend to attract a larger trading base. This larger market reduces the risk of market manipulation. Smaller exchanges may see more price manipulation due to a smaller order book and lower average trading volumes. Whales or bad actors can more easily manipulate pricing in less active markets.

Concerns Regarding KYC in Crypto

We detailed some advantages of KYC compliance. However, not everyone in the crypto market is a fan of these requirements. From a consumer perspective, privacy concerns and verification inefficiencies become leading gripes. Exchanges also now face additional costs. Let’s look at the common criticisms of KYC.

Privacy Considerations

In the 2008 Bitcoin Whitepaper, Bitcoin’s anonymous founder described it as a peer-to-peer electronic cash system. KYC was not mentioned in the whitepaper for Bitcoin or Ethereum, the second-largest cryptocurrency by market cap.

Cryptocurrencies were initially developed as an alternative to traditional currencies and as utility tokens that allowed uncensored access. KYC requirements enforced by most exchanges prevent equal access and allow censorship.

The secure storage of sensitive data is also an important consideration. In 2024, a breach of National Public Data led to the release of sensitive data for billions of people worldwide. Any entity that stores identification information or other sensitive data, such as social security numbers, can be a target for bad actors.

Lengthy Verification Process

KYC verification has come a long way, with many exchanges completing the process in minutes. However, in some cases, verification can take hours or even days. Coinbase advises new users that ID verification can take up to 48 hours.

These delays can frustrate new users eager to start trading cryptocurrencies. They may also affect open trades. One vocal Coinbase customer took to X to voice a complaint after Coinbase allegedly froze the open trades due to missing KYC information. Crypto markets can change rapidly. According to the post, the delays led to a loss of nearly six figures because the positions couldn’t be closed.

Additional Compliance Costs

The costs involved in KYC compliance and ongoing monitoring can get expensive for crypto exchanges and brokerages. As a publicly traded company, Coinbase provides financial statements in its 10-Q. While Coinbase’s 10-Q reports don’t specify KYC costs, the company’s P&L details indicate slim profits in many quarters and occasional losses. KYC adds to operating costs.

Like all businesses, these costs must be recouped in other areas. To maintain profits, one of two things must happen: cost-cutting in other areas or revenue increases. For most exchanges, trading fees drive revenue. KYC requirements often result in higher fees or the inability to reduce trading fees.

Are There Alternatives to KYC Crypto Exchanges?

Crypto can be used in countless ways without KYC. However, acquiring crypto for transactions can be more challenging or less cost-efficient compared to using KYC exchanges. Let’s discuss some alternatives to KYC exchanges and how they work.

Decentralized Exchange (DEX) Platforms

A decentralized exchange, also known as a DEX, allows you to swap cryptocurrencies without using a centralized exchange (CEX), such as Coinbase or Kraken. Rather than trading on a traditional exchange, users “swap” cryptocurrencies through liquidity pools provided by other users. These DEXs are powered by smart contracts, which are computer programs that run on the blockchain and set prices based on algorithms designed to keep the pool balanced.

The most popular DEXs don’t require KYC at all. However, to make a swap from your crypto wallet, you need a supported cryptocurrency. For example, you can swap ETH for USDC or a popular meme coin. To make the swap, you’ll need ETH. Many DEXs offer a way to buy ETH or other cryptocurrencies using a debit card, although this part of the process requires KYC.

No-KYC Crypto Exchanges

Although becoming rare, certain exchanges don’t require KYC. Typically, these exchanges are located in regions with less regulation and may restrict access to users in more regulated regions, such as the US or Canada.

In other cases, exchanges may offer “tiered” limits based on KYC competition. For instance, The MEXC exchange offers two levels of KYC verification, with different withdrawal limits for each level.

However, the exchange does not support users from the US and several other countries. As on decentralized exchanges, users face the same question: How do I get the crypto in the first place so I can trade?

MEXC and similar exchanges integrate with third-party providers that allow users to buy with a debit card or other payment methods and then send the crypto to a crypto wallet address or directly to the exchange. Again, this part of the transaction requires KYC.

If you already have crypto and aren’t in a prohibited country, you can use No-KYC exchanges to make trades. Looking for a crypto exchange that combines privacy, security, and ease of use? You can sign up for Margex to trade without mandatory KYC or choose to verify your account for increased limits and security.

Visit Margex

Crypto ATMs

Often seen in gas stations and convenience stores, crypto ATMs offer another way to buy or sell crypto without KYC. These machines look and work much like automatic teller machines. Most machines only require a phone number and a supported payment method. However, crypto ATMs come with at least two caveats: cost and transaction limits.

Fees for crypto ATMs tend to be much higher compared to crypto exchanges or even third-party providers common to no-KYC exchanges and DEX platforms. In some cases, you may pay up to 20% or more in various fees, making ATMs one of the costlier ways to buy crypto. Some ATM providers also require KYC information once the transaction reaches a certain value.

Crypto ATMs are also heavily regulated in many countries. For example, although there were previously crypto ATMs in the UK, the FCA has clamped down and there are no longer any available in the country.

Peer-to-Peer Crypto Exchanges

Peer-to-peer (P2P) exchanges allow crypto users to buy and sell crypto for other currencies. Binance offers an active peer-to-peer platform, as does MEXC. Several popular apps, such as Bisq, also provide a platform for buying and selling cryptocurrencies. Expect a limited number of supported cryptocurrencies. You’ll need to swap on a DEX or trade on a No-KYC exchange if you want to trade into a less common crypto asset and stay KYC-free.

The Future of KYC in Cryptocurrency

Is KYC here to stay? Given the robust international framework of laws and regulations surrounding financial markets, KYC will be a part of crypto trading for the foreseeable future. We’re likely to see more No-KYC exchanges relent and start requiring identity verification from customers. While on the other hand, non-KYC casinos will be growing in numbers.

At present, decentralized exchanges remain KYC-free with the exception of third-party providers that allow direct purchases. For example, you can use Uniswap, a leading DEX, without providing your name, address, or any identification. However, Uniswap’s third-party providers require KYC to buy crypto using traditional currencies like the US dollar.

A controversial new addition to the code in Uniswap V4 now also allows liquidity providers to require KYC verification before users can swap from KYC-protected pools. KYC may be coming to decentralized exchanges as well, at least in a limited form.

Conclusion

Know Your Customer regulations take a similar form in many parts of the world. These requirements center on identity verification for customers of financial services providers but also extend to ongoing reporting and risk assessment. In many jurisdictions, crypto exchanges fall under these requirements as money services businesses or similar entities and are subject to regulation. As a result, KYC in crypto is becoming more prevalent, and many exchanges that previously did not require identity verification have changed their policy.

Despite some valid criticisms, KYC also brings advantages, including enhanced safety for traders and more vibrant trading markets.

FAQs

What does KYC mean in crypto?

KYC stands for Know Your Customer, a name for regulations and guidelines that require financial institutions to collect information and verify the identity of their customers.

Is it illegal to buy crypto without KYC?

No. You can buy crypto without KYC in many jurisdictions without KYC. However, your options may be limited to peer-to-peer exchanges or crypto ATMs. Once you have a supported cryptocurrency, you can trade on No-KYC exchanges or decentralized exchanges.

How do you avoid crypto KYC?

Most crypto exchanges and large third-party providers now require KYC. As an alternative, you can consider crypto ATMs, peer-to-peer purchases, or even transacting in crypto for providing products or services.

Is crypto KYC safe?

The KYC process itself can be safe but faces challenges similar to those faced by any financial services provider in the secure storage of sensitive data. In industries ranging from health providers, retailers, banks, wireless service providers, and even crypto exchanges, sensitive data storage becomes a consumer risk, with countless breaches reported each year.

Why do people avoid KYC in crypto?

Not all people who avoid KYC do so with nefarious intent. Instead, many simply believe that crypto transactions should be private. Others may be using crypto to circumvent anti-money laundering efforts or engage in criminal activity.