The security of financial assets is the top priority of every organization. In the retail or insurance sectors, the security is provided by the terms of the agreement, however, in financial technology (FinTech) the software itself should include the tools and processes that mitigate the risk of financial fraud.
In this article we cover the bits and pieces that go into building a robust anti-money laundering system. Besides, we will take a look at when and why AML became so crucial for financial security and which institutions govern the AML laws.
KYC & AML – principles of customer identification
Today the world is shifting away from the anonymity of financial interactions. Any financial institution that cares about the security of the financial relations it has and respects the principles of AML should perform appropriate Customer Due Diligence (CDD). It is usually done by identifying customers and assessing how likely they may (or may not) commit financial crime.
The reasons for creating a robust CDD process are simple:
1. Companies don’t want to lose their money.
While it might seem to be expensive to create CDD, the risks that accompany the lack of this are usually more costly. In addition to more than $600 million, which are accounted for money laundering each year, banks and other financial institutions that do not follow proper regulations possess a risk of being penalised.
2. The global unified effort against money laundering and terrorist financing.
Financial institutions and governments are fighting illegal money flows and terrorist financing by joining forces. Organizations such as FATF are creating a safe financial environment. However, it’s only achievable if enough governments and businesses agree to follow certain regulations. Even a small business that doesn’t follow regulations might become a loophole for criminals, therefore compromising global security, and ruining their own reputation.
That’s why abbreviations Know Your Customer (KYC) and Anti Money Laundering (AML) have appeared in the common business vocabulary.
What is KYC?
KYC – Know Your Customer or Know Your Client is the principle for the operation of financial institutions. It consists of the identification of the natural person or a legal entity, before engaging into financial operations. The goal is to identify clients and monitor their behavior and financial transactions to mitigate the risks as well as fight bribery and corruption.
The first cases of money laundering and tax evasion were recorded more than 4000 years ago in China where merchants would hide their wealth from rulers and, therefore, avoid payments. The modern term “money laundering” was invented in the 1920s when the Italian mafia in the US was purchasing laundromats to make their illegal proceeds look like legal profit. You have probably heard the infamous name Al Capone, who was behind this literal laundering. The modern KYC laws started appearing in the 1950s.
4 steps of KYC
1. Customer profiling
Organizations have the right to have customer acceptance criteria and reject certain groups of people. The risk of the client may be determined by such factors as his or her geographical location or past records of criminal activity.
2. Customer identification
Obtaining personal data such as copies of valid identity documents, birth certificates, proof of address, and income documents to verify the identity of a customer.
3. Transaction monitoring
Tracking the transactions of the customers while registering the source of income and ultimate beneficial owners. Reporting customers to proper authorities if suspicious transactions are found.
Assessing customers and assigning them a risk score based on their profiles, background information, and transaction data. Refusing service and reporting customers with abnormal or suspicious activities.
Newest tools to perform KYC
KYC technology is ever-developing. One of the newest tools used in modern KYC is biometric identification.
Nowadays fingerprint technology is more accessible than ever. Most of the flagship smartphones have fingerprint scanners. While many of the internet banks and e-wallets such as Apple Pay are using this technology for customer verification instead of string passwords. Fingerprint scanners are by far the most accurate and the fastest authentication method.
- Facial recognition
Facial recognition technology is used by many eKYC providers to match a video or a photo of a person with their picture in the document. Facial recognition is also used for unlocking your phone and some of the financial services. This technology is developing rapidly especially among top-tier smartphone manufacturers.
- Voice recognition
Voice recognition is yet to see its wide use among KYC providers and FinTechs. It is not as secure just yet, however, solutions such as automatic video call interviews can benefit from such technology.
What is AML?
AML – Anti Money Laundering. To be more specific, this abbreviation should be written as AML CTF CWMDF – Anti Money Laundering and Counter-Terrorist Financing and Counter-Weapon of Mass Destruction Financing. Its task and function are clearly defined by the very name.
Customer identification (KYC) is the key to performing effective counter-measures to laundering of dirty money, avoiding taxes, financing terrorism, and various fraud, yet it’s just one of the parts of AML.
KYC can be considered as a set of tools and procedures, one of the features of a complex global AML/CTF policy, just like CDD – Customer Due Diligence, EDD – Enhanced Due Diligence and KYCC – Know Your Customer’s Customer.
The EDD was first introduced with the US Patriot Act back in 2001. It was implemented in order to minimize risks and the cost of the KYC, by expanding the information stored about a customer and keeping it up to date.
The percentages show how many institutions collect this data from the total number of institutions participating in the study.
The data was provided by the Association of Certified Anti-Money Laundering Specialists (ACAMS).
Principles of KYC and AML are applicable to all financial institutions no matter how big or small they are.
What’s in common?
Often, KYC and AML are used as synonyms, but it’s not quite correct and sometimes brings confusion in business conversations.
- Governmental and international regulatory authorities are more often using AML/CTF when talking about the subject.
- Merchants, vendors, service providers, and financial institutions more often use the term “KYC obligations”.
At the same time, when you perform customer identification, therefore, follow the principles of KYC, you may find information that will reveal fraud, which will allow you to restrict this client from using your service and comply with the AML policy.