When we contemplate banks and financial institutions, our minds often meander through the intricate maze of regulatory requirements they navigate. In 2021, North American financial entities shelled out nearly $50 billion to stay compliant. These institutions aren’t just pillars but architects of economic development, their influence stretching from local markets to the global stage. Recognizing their pivotal role, governments and regulators diligently oversee them, aiming to harness their economic clout for collective progress.
According to the announced data, criminals carry out 97% of money laundering activities through financial institutions. These entities find working within the set boundaries a very tough job as non-compliance lead to penalties and reputational risks. Global enforcement fines increased to $5.65 billion in Q3 2023, up by 30% since the start of the year, according to a new report released by Corlytics. The complexity of the rules and regulations comes into the picture as we try to understand overlapping with the jurisdiction.
Regulatory compliance underpins stability for banks and financial institutions, steering their operations according to established conduct standards. These rules and operational procedures are meticulously crafted to uphold the integrity of the financial system, from the local level to the global stage. In the banking and financial services, where trust is the currency, even a whisper of instability can trigger panicked “bank runs,” threatening to dismantle the intricate structure of financial stability like a precarious tower of Legos.
The most critical piece of the puzzle that banks and financial must tackle day in, day out is the AML Compliance. From the moment a customer seeks to open an account to every transaction they undertake, ensuring AML compliance is paramount. It’s the frontline defense against the infiltration of illicit funds into the financial bloodstream, a vital shield in the ongoing battle to safeguard the integrity of the financial landscape.
The Bank and FI implement AML by means of addressing these phases:
Know Your Customer (KYC): This initial phase involves capturing and verifying customer details to establish their identity. It’s a critical step where numerous leads may fall through due to factors like document unavailability or validity issues. Once a lead is successfully converted into a customer, it’s imperative to periodically update their KYC details according to their risk profile.
Customer Due Diligence (CDD): In this phase, customer information undergoes thorough verification against databases containing politically exposed persons (PEPs), government records, watchlists, and sanctions screening details provided by regulatory authorities. This meticulous process ensures compliance with regulatory standards and helps identify any potential risks associated with the customer.
Customer and Transaction Screening: Here, banks continuously monitor customer transactions to ensure they do not involve sanctioned or banned individuals or entities. By staying vigilant and screening each transaction, banks mitigate the risk of inadvertently facilitating illicit activities.
Suspicious Activity Reporting: This phase involves promptly reporting any transactions that raise suspicion of money laundering or other illegal activities to the relevant regulatory authorities. Timely reporting plays a crucial role in combatting financial crime and upholding the integrity of the financial system.
In the sector of financial oversight, various regions have distinct arrays of players under the vigilant gaze of anti-money laundering (AML) measures.
United States:
Regulated financial institutions include banks (except bank credit card systems), brokers or dealers in securities, money services businesses, telegraph companies, casinos, card clubs, and any person subject to supervision by any state or federal bank supervisory authority.
United Kingdom:
AML regulations apply to financial and credit businesses, independent legal professionals, accountants, tax advisers, auditors and insolvency practitioners, trust and company service providers, estate agency businesses, letting agency businesses, casinos, high value dealers, article market participants, crypto asset exchange providers, and custodian wallet providers.
European Union
Obliged entities subject to AML regulation include credit institutions, financial institutions, certain natural or legal persons acting in the exercise of their professional activities (including auditors, external accountants, tax advisers, notaries, and other independent legal professionals engaged in certain activities), trust or company service providers, estate agents (including when acting as intermediaries in the letting of immovable property for transactions for which the monthly rent amounts to €10,000 or more, or the equivalent in the national currency), persons trading in precious metals and stones, providers of gambling services, and crypto asset service providers.
In the past, identifying potential money launderers relied heavily on rule-based AML triggers. These triggers would flag transactions crossing certain thresholds for further investigation. While effective, these rules were complex, considering factors like transaction amounts, whitelisting, and specific exclusion criteria.
Let`s take for example in a saving bank account the total cumulative deposit should not cross $100,000 but the rule excludes the Trusts. The main benefit of such a trigger is that it is easy to roll out. In general, less than 5% of investigations lead to a customer being reported to the regulator. But of course, the remaining 95% still need to be investigated, demanding time and effort from the AML team.
AI-based AML triggers is a game-changer in the fight against financial crime. These triggers operate on multiple fronts:
Anomaly detection– They catch events like customers transacting above their usual limits.
Network analysis – They examine transactions within broader networks, uncovering suspicious patterns.
Risk scoring – By comparing patterns with historical cases, they pinpoint potential money laundering activity.
The adoption of AI triggers has brought about a significant reduction in false positives, empowering AML teams to predict suspicious transactions more accurately. However, challenges remain, particularly regarding the lack of visibility into the system’s inner workings. Unlike rule-based systems with clear guidelines, AI systems lack explicit rules for regulators to scrutinize.
Nonetheless, leveraging data from legacy rule-based systems offers a means to assess the effectiveness of AI-based approaches. In this ever-evolving landscape, AI holds promise for enhancing AML surveillance and enforcement, paving the way for a more secure financial future.