Layer 1 protocols like Ethereum, Polkadot, Optimism and Apto are underlying blockchain networks in the cryptocurrency space. These protocols, which come with their own unique features and consensus mechanisms, serve as the foundation for various decentralized applications (DApps) and cryptocurrencies.
Ecosystems built on these protocols consist of developers, users, and businesses creating and interacting with decentralized applications, smart contracts, and digital assets within the blockchain network.
Foundations or organizations in these ecosystems often provide financial support to projects which contribute to the growth and development of the ecosystem. These grants can be used for various purposes such as funding research and development, supporting open-source projects, creating educational resources, or organizing community events. By providing grants, these foundations stimulate innovation and help expand the capabilities of their blockchain ecosystem.
The due diligence process
Foundations providing grants in the blockchain space need to exercise careful due diligence to ensure that the entities receiving funding are legitimate and align with the goals of the foundation. Outlined below is the typical process to handle screening and verification while also adhering to Anti-Money Laundering (AML) regulations, Know Your Customer (KYC), and Know Your Business (KYB) compliance:
- Application and proposal review: Foundations usually set up an application and proposal process where interested entities submit their ideas and plans. These applications are thoroughly reviewed to understand the project’s objectives, team background, and feasibility.
- Background checks: Foundations conduct comprehensive background checks on the individuals and teams behind the projects. This involves verifying identities, professional backgrounds, and past project involvements. KYC procedures are applied to ensure the legitimacy of the individuals involved.
- Project viability: Foundations assess the viability and potential impact of the proposed project within the blockchain ecosystem. They evaluate the technical feasibility, market demand, and innovation factor of the project.
- Legal compliance: To comply with AML regulations, foundations ensure that the receiving entities have robust AML policies in place. They may require entities to provide documentation proving they have implemented adequate AML measures.
- KYB compliance: For business entities applying for grants, foundations perform KYB checks to confirm the legal status, ownership structure, and business activities. This is crucial to prevent funding entities that might be involved in illicit activities or fraud.
- Monitoring and reporting: After grants are provided, foundations often establish monitoring mechanisms to ensure the funds are used as intended. Regular reports and updates from the funded entities help foundations track the progress of the projects.
By implementing these rigorous screening processes and complying with AML, KYC, and KYB regulations, foundations can mitigate the risk of fraudulent activities and ensure that the grants are allocated to deserving and trustworthy projects within the blockchain ecosystem. This approach not only safeguards the foundation’s reputation but also contributes to the overall integrity of the blockchain industry.
Challenges for proper due diligence implementation
Carrying out KYC (Know Your Customer) and KYB (Know Your Business) procedures for grant applicants pose several challenges for foundations, especially when done manually. Some of the current hurdles include:
- Time-consuming manual processes: Verifying the identities of individuals and businesses manually is an extremely time-consuming task. Collecting, reviewing, and validating documents submitted by applicants can take a significant amount of time, especially if done meticulously to ensure accuracy and compliance.
- Multiple resources required: KYC and KYB processes often require cross-referencing information from multiple sources such as government databases, financial institutions, and commercial databases. Gathering information from these diverse sources can be complex and time-intensive.
- Need for additional staff: The complexity and volume of KYC/KYB checks may require the hiring of additional staff to handle the workload. Trained personnel are needed to interpret the data, verify documents, and ensure compliance with regulations.
- Data security and privacy concerns: Handling sensitive customer information raises concerns about data security and privacy. Foundations need to invest in secure systems and protocols to protect applicant data, ensuring it does not fall into the wrong hands.
- Application review delays: The time spent on manual KYC/KYB checks directly impacts the overall application review process. Delays in verifying applicant information can lead to longer wait times for applicants, slowing down the decision-making process for granting funds.
- Implementing regulatory changes: Compliance requirements can change, necessitating constant updates to internal processes. Foundations need to stay abreast of regulatory changes to ensure that their KYC/KYB procedures remain compliant.
How compliance technology can help
To address these challenges, foundations are increasingly exploring technological solutions such as AI-powered identity verification tools and blockchain-based KYC and KYB platforms. These technologies can automate the verification process, significantly reducing the time and resources required for KYC/KYB checks. Automation not only expedites the application review process but also enhances accuracy and compliance, making it a crucial step toward overcoming the hurdles associated with manual verification methods.
In conclusion, for foundations looking to expand their ecosystem and allocate funds effectively, implementing a robust AML framework is paramount. Adhering to compliance regulations is not just a legal requirement but also a crucial step in ensuring the integrity and security of the entire ecosystem. By embracing technological solutions that automate necessary checks, foundations can drastically reduce onboarding time for grant applicants.
This streamlined process frees up resources, allowing foundations to focus on project and idea validation. Consequently, this accelerated approach to granting funds means that innovative projects can swiftly enter the ecosystem, attracting new users and contributors. Ultimately, these efforts contribute significantly to the growth and success of protocols, bringing them closer to their ultimate goal of fostering a vibrant and thriving user base.