Good compliance practices are essential for any business. Knowing the regulations and making sure your compliance team is in the loop is key to staying compliant. With the various financial regulations to be aware of, understanding Know Your Customer (KYC) and anti-money laundering (AML) requirements are among the most important.
If you're looking for an easily digestible guide to compliance with KYC and AML, you've come to the right place. In this article, we'll refresh your knowledge on the basics of KYC and AML, including the essentials for your compliance team to keep the business on top of its regulatory obligations. We'll also look at practical risk management strategies that you can implement in your compliance program.
KYC vs. AML: Key Differences
To be clear, KYC and AML are processes you need to implement and maintain to ensure the regulatory compliance and financial security of your organization, especially for third-party risk management. KYC is a core component of the AML compliance process, which are both terms used to describe the process of verifying a customer’s identity and monitoring their financial activity.
In the United States, the Financial Crimes Enforcement Network (FinCEN) governs the two frameworks, but the main difference between them is that KYC is used for collecting and verifying a potential customer’s identity information, while AML is the wider compliance program used for investigating suspicious activities that could point to fraud and money laundering.
Still with us? Let's dive into both concepts in more detail.
The Facts on KYC
We've already covered what a detailed KYC verification process looks like for potential business engagements, whether you're planning to work with an individual or a business.
To recap, it's typically used in financial services to screen potential customers who are buying or selling assets as part of the mandatory Customer Due Diligence (CDD) final rule, but you can also use the process to screen any entities that have significant interaction with your business — including your third-party service providers and vendors.
Best Practices for KYC
When it comes to KYC requirements, there are three main aims to meet:
- Your potential counterparty must be able to provide proof of identity or basic information about their business operations. This can include items like company registration details or government-issued ID. If your organization works in the financial services sector, your team will also need to keep a record of all the checks you perform using a defined Customer Identification Program (CIP) — the USA PATRIOT Act outlines these specific requirements.
- After proof of identity checks, your compliance team needs to do a deep dive into the entity's background and financial history to put together a customer risk profile, so you can decide whether to proceed with the transaction. If your team comes across something suspicious, you'll need to take appropriate action, such as suspending or withdrawing the onboarding process.
- Depending on how the first stage of your research works out, you may need to step it up and carry out enhanced due diligence (EDD) checks. These are likely to be necessary when you're dealing with counterparties from high-risk countries on various government watchlists or people in positions with significant political influence (politically exposed persons, or PEPs).
While the KYC process can often seem like a heavy administrative burden during the customer onboarding process and with your potential partnerships, we can't understate its importance in helping to protect your business from shady characters. By verifying the identity of your potential customers and partners, you can ensure that they're who they say they are and that they're not associated with any criminal activity that could put your business at risk.
The Scoop on AML
In a nutshell, AML is all about detecting and preventing criminals from "cleaning" their dirty money through your business, so your company stays compliant with the regulatory requirements for your jurisdiction.
In the U.S. in particular, the AML compliance requirements you'll need to follow are set out by the Anti-Money Laundering Act (AMLA) of 2020. Most businesses are legally required to report all details about their company's beneficial owners and people with significant powers of control.
The sanctions for failing to comply with AML regulations can be steep. Non-compliance could cost you a $1 million fine per failure or a 10-year stint in jail, if not both. In 2021, Capital One had to cough up $390 million for a series of AML failures to report suspicious transactions under the Bank Secrecy Act (BSA) between 2008 and 2014.
Best Practices for AML
For an effective AML compliance program, your business must have a robust (and regularly audited) policy that outlines how your team will identify, monitor, and report suspicious activity. Then, you need to make sure that all of your employees are trained on how to follow the AML requirements.
Second, your business also needs to appoint a compliance officer to oversee the AML process and take responsibility for keeping up-to-date with regulations. This is a non-negotiable if your business is a fintech company or a financial institution, or it deals in antiquities or cryptocurrency.
Once these core components are in place, other elements you'll need for an effective AML program include:
- Detailed risk assessments for creating risk profiles on your counterparties and highlighting the types of activities that could be used to launder money. This includes things like suspicious financial transactions, unusual customer behavior, and unusual business activity.
- Easy-to-use reporting systems for ongoing monitoring, like Certa's all-in-one platform, to help you centralize and integrate all your existing third-party risk management processes, so your compliance team works more efficiently with technology.
- A team of trained professionals who can carry out KYC checks, enhanced due diligence, identify suspicious activity, and take appropriate action.
Essentially, your business's AML procedures will stand you in good stead for taking swift, appropriate actions to protect the organization from the adverse media and general fallout that will come from unwittingly participating in terrorist financing or drug trafficking activities.
Benefits of Implementing KYC and AML Compliance Strategies
Complying with KYC and AML regulations can be a complex and daunting task for businesses. But the regulatory burden ultimately shields your company from getting caught up in illegal activities and protects the economic stability around you.
There's no one-size-fits-all strategy when it comes to your approach to implementing KYC and AML, as the compliance process will vary depending on your company's specific needs. With that being said, the benefits of implementing effective KYC and AML solutions include:
- Increased customer trust and security, as you can be confident that your customers and business relationships are legitimate
- Reduced reputational and financial risk by detecting and preventing potential bad apples before they spoil your operations
- Reduced compliance costs, as you avoid fines by ensuring that your business keeps up-to-date with current regulations and stays ahead of the curve
- Increased business efficiency, especially when you use technology to streamline your processes and make life easier for your team