Cryptocurrency Scams Unmasked: Protecting Yourself in the Digital Age

Introduction

The cryptocurrency industry has grown exponentially in recent years, with the total global market capitalization of all cryptocurrencies at approximately $934.85 billion in Q3 2022 (Coinmarketcap, 2022). The rise of decentralized finance (DeFi) and the use of smart contracts on blockchain networks have increased the potential for financial innovation and democratization of finance. However, the industry has also been plagued by security issues such as concerns over money laundering, stolen funds, and scams. These security issues have caused significant financial losses for investors and have called into question the credibility of the industry. Therefore, it is important for individuals to thoroughly research and understand the risks associated with investing in cryptocurrencies, and to be vigilant in identifying and avoiding scams.

The purpose of this article is to provide an overview of scams in the cryptocurrency industry and to educate individuals on how to identify and protect themselves. We will highlight different types of scams along with methods for detecting and reporting them. By understanding the tactics used by bad actors, individuals can make informed decisions when evaluating cryptocurrencies and protect themselves from potential financial losses.

Cryptocurrency scam history

The history of scams in the cryptocurrency industry can be traced back to the early days of Bitcoin. One of the earliest known scam events occurred in 2013 with the Ponzi scheme known as "Pirateat40," which resulted in the roughly $5 million worth of Bitcoin being stolen from investors. As the market for cryptocurrency continues to grow, so do the number of scams. In a report by Solidus Labs, they observed a rate of 15 new scam smart contracts created an hour and according to 2023 report from Chainalysis, "despite the market downturn, illicit transaction volume rose for the second consecutive year, hitting an all-time high of $20.6 billion." As with any new technology, attackers will follow the money and look for ways to take advantage of unsuspecting victims and cryptocurrency is no expection.

Types of cryptocurrency scams

Cryptocurrency scams come in many different forms and variations, each with its own set of warning signs and red flags. Some of the most common types of scams include:

Ponzi schemes: These scams promise high returns on investment but they use funds from new investors to pay off earlier investors. These schemes often collapse when there are not enough new investors to keep the scheme going.
Pump and dump schemes: These scams involve artificially inflating the price of a token through coordinated buying and then selling off the tokens at the artificially high price, causing the price to crash.
Exit scams: AKA Rug Pulls, these scams involve the founders or developers of a project suddenly disappearing with the funds raised during an Initial Coin Offering (ICO) or another fundraising event. The scammers will encourage victims to invest into their coin and once it reaches the desirable amount will drain the funds and disappear.
Clone scams: These scams involve creating a copy of an existing successful project and using it to raise funds through an ICO or another fundraising event.
Token burning scams: These scams involve the creators of a token announcing that they will "burn" a large portion of the total supply to increase the scarcity, causing the price to rise. However, the burn never actually happens and the creators sell their tokens at the artificially high price.
Trading scams: The scammers will offer trading signals and showcase fake profits on their website to promote some level of confidence for their victims. Next, they will urge their potential victims to create an account and transfer cryptocurrency coins to the scammer's token addresses. The victims will engage in imitation trading, believing they are earning substantial sums of money, however after a few days of imitation profits, some part of process will intentionally fail so the scammer can request additional funds to process transactions. By using this tactic, scammers can win the trust of the victim to drain all their coins and funds. By the time victims realize they have been scammed, the scammers will have locked out the accounts and ignore all communication from the victim.
NFT scams: As NFTs become increasingly popular, scammers look for ways to take advantage of the hype. These scams typically start with false claims about the value of an NFT, advertised as lucrative investments set to be sold for millions within days. They may also promote substandard NFT projects as the next big thing and persuade potential victims to purchase and mint them. Driven by the promise of profits, people may fall for these tricks and purchase the NFTs, only to realize later that they are unable to sell them for a profit.
Crypto Recovery Scams: Following their victimization, those who have fallen for a crypto scam will often look for ways to recover their lost funds. In doing so, they may disclose details about the scam, sometimes including their personal information in online forums. Scammers can socially engineer their way into posing as a recovery agent, with the promise of helping a victim recover lost funds. These scammers may provide fabricated recovery details and request a fee from the victim or use other high-pressure tactics to extract more money from their victims.

Techniques used by bad actors

While some of scammers techniques are unique to cryptocurrency, many follow a similar pattern that has been observed for many years in finanacial scams. Some of the most common types of scams include:

Misrepresentation of project details: Bad actors may present false or misleading information about their project, such as fake partnerships, overhyped technology, or unrealistic returns on investment. Bad actors may create fake partnerships with well-known companies or organizations to lend credibility to their project and attract more investors.
Concealing team identities: Bad actors may use fake identities or conceal their true identities to avoid accountability for their actions.
Pre-mining tokens: Bad actors may pre-mine a large percentage of the total token supply, allowing them to dump their tokens on unsuspecting investors once the price has been artificially inflated.
Social media: Bad actors may use fake social media accounts, fake testimonials, and fake partnerships to create the illusion of a successful project. They will create fake social media accounts and use them to gain popularity. They may also use bots to artificially inflate engagement and create the illusion of a highly active and engaged community.
Fear, Uncertainty, and Doubt: Using fear, uncertainty and doubt (FUD), bad actors may use tactics such as spreading rumors or misinformation about a project to create FUD among investors, causing them to sell their tokens at a lower price.

Identifying Scams and Reporting

Some of the scams we mentioned above will have warning signs like phishing attacks that we've become quite familiar with. We break this section up into some basic and advanced ways to identify scams along with how to report them.

Identifying scams - Basics

Website Content and Quality

Website and domain are very new and hosted a common provider that makes it easy to spin up new sites. Be cautious.
Using the http protocol only. This is less common with the introduction of LetsEncrypt and Web Browser warnings but still something to watch for.
Website is a mirror of a genuine project but with a different URL.
Site may have typos. Humans make mistakes, so a small typo here and there is expected but when the entire site includes many typos and/or significant grammatical errors be cautious.
Dead links. Links that either do not work or all redirect back to the same place.
Website only contains content about their token address.
Website asks for your wallet seed phrase. Don't do it, they will have complete access to your wallet.
Website immediately requests access to your web3 wallet. Don't do it, they will programmatically drain your wallet.

Project Member Identities

They won't provide identity of their team.
They won't have much update in their social media profiles, you may only see a few posts on release day, and interactions appear to be from bots.
Team will be forcing you to buy it now by providing false details like getting double coins, whale pump coming, price will increase in 5 mins, offer will close in 1 hour, etc.
Social media groups may be full of bots asking people to buy ASAP.

Identifying scams - Advanced

Identification of scams at a technical level can be complex so we will give some general indicators which can help you avoid being scammed.

Review the token out on a public block explorer tool. The tool will vary based on underlying blockchain (Ethereum, BNB Chain, Polygon, Cosmos) but most will support review of the following.

Make sure count of holders and transfers are more than 1000. Less than 1000 transactions isn't necessarily a scam but be suspicious.
Check reputation score if available.
Check top 10 holders in chart. If an address has more than 30% of the token that isn't necessarily a scam but be suspicious.
Navigate to comments section and go through the comments if it's a scam, honeypot or rug-pull.
Make sure project code is audited and code is available to public.
If you can perform a smart contract code audit yourself, some items to look out for are:
- functions that enable transfering the entire liquditiy pool with an "emergency withdraw".
- use of "SetApprovalForAll" as this allows for broad access to your web3 wallet.

Research the project social profiles on public sites like Twitter, Facebook, WhatsApp, Discord, Telegram, etc. If others are claiming the token is scam be suspicious.
Look into the project details. Legitimate projects will have well defined use cases, tokenomics, and a whitepaper available for review.
Use the websites below to check for warnings.

Reporting scams

If you come across any scams and want to report them, below are some of the ways to file a report.

Raise a complaint to the Federal Trade Commission
Raise a complaint to the Securities and Exchange Commission and Internet Crime Complaint Center (IC3)
You can also report to local law enforcement.

To help prevent other people becoming victims to these scams:

Comment on the contract address in the appropriate blockchain explorer. The tool will vary based on underlying blockchain (Ethereum, BNB Chain, Polygon, Cosmos).
If funds were transferred from an exchange, create a support ticket with them. They may not help you get funds back but might help prevent others.
Raise a complaint on the social media profiles.
If funds were transferred from your bank, contact the customer care team.

Conclusion

Scams have had a significant impact on the cryptocurrency industry and its investors. These scams not only erode trust in the industry but also discourage potential investors from participating. Lack of participation has a detrimental effect on the adoption of legitimate projects and technologies, as well as impacting overall liquidity and stability of the market making it more difficult for startups to innovate.

The role of the community and industry organizations in preventing cryptocurrency scams is critical, as we all play a vital role in raising awareness and sharing information about potential scams. The community at large can provide education and training about the risks and warning signs of scams as well as promoting best practices for conducting due diligence on projects. We hope that by reading this article you are better informed to spot red flags and prevent being scammed.

Disclaimer: The information contained in this article is not intended as, and shall not be understood or construed as, legal or financial advice. We expressly disclaim all representations and warranties and shall have no liability for losses or damages arising out of the use of, or reliance on, the contents of this article.

Updated Feb 22, 2023

Version 3.0