How we learned to fall in love with KYC
Introduction
The words “love” and “KYC” are never usually seen in the same sentence — especially in the NFT community. The bar eases into a hushed silence as soon as anyone whispers “Know Your Customer” — bringing an uneasy sense of discomfort. Satoshi would be rolling in his, her, or their grave — if we knew who he, she or they were, and indeed, whether he, she or they were still alive. Even this reflects the challenge of the entire cryptocurrency and NFT space — anonymity.
Anonymity, or strictly speaking, pseudo-anonymity, defines the cryptocurrency space. It also explains the reasons why scammers are so prevalent in the NFT space.
NFTS Scams and Frauds
The incidence of NFT scams and frauds is on the rise. In their report, Elliptic highlighted that the volume of NFTs scams in the 12 months to July 2022 was of the order of $100m, with the average scam size being around $300k. While scams are constantly evolving and changing, they can be broken down into 4 key categories:
- Copyminting. Where your NFT art is copied from one decentralized marketplace to another. Typically these marketplaces will be on different blockchains where the two blockchains cannot talk to each other (…yet). Because of this lack of communication, scammers believe they can get away with copyminting. So often, it is only after someone complains that their images have been copyminted that they are taken down. It might already be too late, however, as some of the pieces may already have been sold and the scammer has disappeared into the decentralized ether with your funds.
- Phishing. A scammer typically sends out a fake email pretending to be a marketplace or something similar, making an offer that just seems too good to be true — and, it generally is. These offers often attract unsuspecting newcomers to the NFT space, who are too easily tempted by the opportunity to make quick money.
- Pump and Dumps — NFTs are bought at the mint when an NFT collection is launched. A group of bad actors then pumps up the price of the NFTs they have purchased, creating fake trades between group members and causing the price to rise. The scammers then unceremoniously dump all their NFTs on unsuspecting buyers who have bought into the FOMO of seeing the rapidly rising prices.
- Rugpulls — where an anonymous team behind an NFT collection aggressively sells their NFT collection and then disappears, leaving buyers holding worthless jpegs.
The above examples are the very tip of an ever-increasing fraudulent iceberg that is hindered by the excessive learning curve of those entering the NFT space.
The Struggling Artist — NFT style
The cliche of the struggling artist still holds today, but with a different, crypto twist. For those that are “OGs” in the crypto or NFT space, it is very easy to forget your first experience with cryptocurrencies:
- first setting up your metamask wallet,
- securing your seed phrases as if your life depended on it and
- sending and receiving your first cryptocurrency.
Looking out for scams was probably the last thing on your mind. Now, with more experience, you see scams as just an occupational hazard. Gary Vee perhaps summarised this best in his advisory tweet to newcomers to the space in August ‘21.
The homework new NFT artists have to endure is not only vitally important to their own well-being, but it is also a massive point of friction. It is also a scammer’s dream.
Scammers know the learning curve places newcomers at a disadvantage, and they lie in wait to embrace their new-found prey. The question is why do the scammers feel they can get away with it?
NFTs are Pseudo-anonymous
NFTs are part of the cryptocurrency family and are identical in that they are also pseudo-anonymous. One of the beauties of the blockchain is that every single transaction, whether buying or selling, is available for everyone to see on the public blockchain with full transparency. What cannot be seen, however, is the personal data associated with those transactions. Scammers know this, and they hide behind this layer of pseudo-anonymity. Historically, cryptocurrency exchanges faced this same problem and progressively dealt with it, with a little help from global regulators.
Today, if you want to exchange cryptocurrency into fiat currency, e.g., US dollars, you typically go through a cryptocurrency exchange. In order to comply with local and global regulators, crypto exchanges require all customers to now go through the “KYC” process, which links your cryptocurrency wallet held on the exchange to your identity and your address. This has made it increasingly hard for scammers to hide on cryptocurrency exchanges.
If a scammer has stolen funds in their wallet and that wallet is on an exchange, the authorities have an opportunity to see exactly who owns it. So, does it not make sense to implement this same process for NFTs to reduce the incidence of scams? There is a barrier, however, and that is decentralization.
Decentralization
Most of the major NFT platforms try to define themselves as decentralized, where there is no centralized authority proactively monitoring every transaction on their marketplace. While in theory, decentralization has some strengths, those same strengths also present weaknesses.
The Delicate Balance between Privacy and Secrecy
There is always a delicate difference between privacy and secrecy. Under both, your identity is hidden. On the positive side, privacy is where you might wish to buy a particular NFT but don’t wish to reveal your identity because it might mean, for example, that the selling price might be pushed higher if you are known to be a celebrity investor. On the flip side, secrecy is the negative side of privacy, where your identity is completely hidden from everyone — no exceptions. This tends to suggest there is something underhand, even criminal, going on.
How KYC could remove many scams.
By having your identity built into the ownership of an NFT and built into the NFT marketplace on which they are sold, it makes it harder for scammers to get away with their ill-gotten gains. Bad actors could be traced, making it very difficult to sell stolen items. So, for an NFT artist, this means there is more protection in both the short-term by protecting your direct income from NFT sales or your ongoing royalty streams. It doesn’t mean scams will be completely removed, but it will make the game far harder for the scammers.
So, how do we ensure privacy is maintained but secrecy is stopped?
Perhaps there Is a Happy Medium?
At Zeitls, we think we have found this happy medium.
When we create digital twins of museum artefacts, we make them into 3-D models. We link the non-physical rights associated with the original museum artefacts to their respective 3D models in the form of an NFT. In this way, the museum keeps the original artefact in the museum but has the flexibility to make the non-physical rights available separately.
We have created a structure whereby we do KYC on all sellers of non-physical that sell their digital rights and all buyers that buy the 3-D models as NFTs. The KYC details are never revealed, but we have access to those details in the event of inappropriate transactions. In this way, privacy is maintained by both buyers and sellers, but if there were a need to reveal the identity for legal or regulatory reasons, those details are available to view.
Our Artificial Intelligence systems alert us to potential bad actor behaviour, which we then investigate and, in the appropriate circumstances, can identify the perpetrators.
Conclusion
By embedding KYC into NFT transactions, the opportunities for scammers are reduced as it reduces the levels of anonymity. At the same time, by hiding the KYC details from public scrutiny gives privacy to those that wish to maintain it. This is why we have fallen in love with KYC, and as the NFT marketplace begins to grow faster in line with the rise in the Metaverse more and more NFT artists and publishers will fall in love with KYC too.
About Zeitls
Zeitls is a digital platform that helps museums and art galleries to preserve history while at the same time generating precious additional funding through the sale of the non-physical rights digitally linked to the museums’ artifacts. We do this by creating digital twins of museums’ artifacts in the form of 3-D models as NFTs. These NFTs have clearly defined non-physical rights coded within them.
With Zeitls, museums can preserve the historical importance of artifacts and pieces of art for years to come by transferring valuable non-physical rights to the pieces into the digital world of the Metaverse and beyond. If you are a museum, art gallery or looking to partner with us, please get in touch!
About the author
Tim Lea , our external staff writer, is a strategic content creator and author of the book Down the RabbitHole, a book on the blockchain in plain English, an international keynote speaker on the strategic application of the blockchain, and an investor in NFTs.
