What Are Nested Exchanges and Why Should You Avoid Them?

TL;DR

A nested cryptocurrency exchange provides its customers with crypto trading services through an account on another exchange. It does not facilitate trading directly itself. Instead, it acts as a bridge between users and other service providers. Nesting is commonly used in traditional banking to provide services a specific bank can’t, such as international transfers.

In the crypto space, nested exchanges often have lax KYC and AML processes or none at all. This lack of compliance is often explored by cybercriminals. Nested exchanges support money laundering, scammers, and ransomware payments.

When you trade with a nested exchange, you are trusting it with the custody of your assets. They provide less security and fewer guarantees than a compliant centralized or decentralized exchange. You can also face legal issues for dealing with sanctioned nested exchanges.

If you use an exchange, make sure it has proper KYC and AML checks. These often take days to process. If the exchange allows you to trade almost instantly without limits, you should investigate it further. A legitimate exchange won’t hide how trades are made, and you can easily view the source of your funds on a blockchain explorer.

When you’re buying and selling crypto, it’s essential to trade using a trusted website. However, you need to have patience when completing KYC and AML checks to keep yourself safe. For this reason, some users choose to use exchanges that offer little or no sign-up checks and instant trading. 

While some may be legitimate decentralized exchanges, others could be nested exchanges that handle stolen and laundered funds. Your funds are never guaranteed to be safe with a nested exchange. To make sure you keep your crypto secure, it’s important to understand what nested exchanges are, what they do, and how you can recognize them.

Nesting occurs when a financial service provider creates an account with another financial institution to use their services. The account holder then acts as a bridge, offering services to their customers via the nested account. This happens for many reasons. For example, a bank in one country would provide its banking services and ecosystem to a bank operating in a different country, known as correspondent banking.

Imagine a customer who wants to transfer money to a bank account in Australia. Their bank might not be able to do this, but they could use a correspondent bank to transfer the funds for them. The customer’s bank would process the transfer request through its nested account with the correspondent bank. The correspondent bank must take care and conduct due diligence on the bank they work with. The correspondent bank essentially serves customers they don’t know, so they need to trust the nested account holder.

When it comes to traditional finance, one of the biggest problems is the risk of money laundering. As the correspondent bank only deals directly with the underlying respondent bank, they cannot be sure exactly who they are dealing with. This is why nesting requires enhanced due diligence checks on the underlying bank. Individuals or whole countries may be blacklisted and have sanctions placed on them. If an underlying bank doesn’t abide by these, the respondent bank may end up supporting illegal activities, such as avoiding sanctions or money laundering.

As the cryptocurrency industry is still developing robust regulations, it’s easier for nested exchanges to operate under the radar. A nested exchange could open an account with a large crypto exchange without them easily knowing.

When you use a nested cryptocurrency exchange, it doesn’t just hurt centralized exchanges. You and your funds are also in danger for several reasons:

1. Your deposits have fewer guarantees on their safety than with a regulated exchange.

2. You might be supporting illegal activities that fund crime and terrorism.

3. Regulatory authorities may shut down the exchange, causing you to lose your crypto or other funds.

4. You could face legal repercussions from law enforcement if you knowingly work with an exchange that is involved with illicit activity.

The best way to avoid these is not to use nested crypto exchanges. Spotting them can be tricky as it’s not always obvious. Follow our tips later on for the best chance to protect yourself.

Let’s take a look at a real-world example. On 21 September 2021, the Office of Foreign Assets Control (OFAC) sanctioned the Suex cryptocurrency exchange incorporated in the Czech Republic and operating out of Russia. Suex OTC provided a nested cryptocurrency exchange service using Binance and other large exchanges to serve its customers. Suex offered little to no KYC and even provided in-person cash exchanges for crypto.

Nested exchanges typically won’t make the fact they are a nested exchange obvious. The following points are a good start in spotting a nested exchange and keeping you and your funds safe:

2. The UI doesn’t clearly show where trading takes place.

3. There is no clear statement that the exchange is facilitating trades. A legitimate exchange will state trading takes place directly through its platform and not a nested account.

4. The exchange aggregates different rates you can choose from. This means that the exchange is using nested accounts with multiple exchanges.