TO TACKLE money laundering and terrorist financing, financial institutions and banks are being forced to rewrite the KYC (Know Your Client) playbook.Revised rules, new technologies, and now, pressure to unshield beneficial ownership through central registries, are all part of a global push for transparency and governance.
Uncovering the trail of money laundering and terrorist financing is crucial in protecting the integrity of the international financial system.
Case in point: The Panama Papers, an unprecedented leak of 11.5 million documents pointing to influential businesspeople, heirs, and political leaders who masked their identities behind offshore companies, ‘dummy’ owners and nominees. With the sheer magnitude of personalities and structures involved, the industry is undergoing a period of introspection — identifying gaps in determining the true owners of a company and whether standards are robust enough to prevent banks from becoming vehicles of financial crime.
Why is it important we get this right? Corporate vehicles – companies, trusts, foundations, partnerships – are the engines of commerce.
The United Nations Office on Drugs and Crime estimates that US$2 trillion (5% global GDP) is laundered annually.
The impact of money laundered under the guise of corporate vehicles is that fewer jobs are created, prices are artificially inflated and economic activity is dampened.
In order to curb money laundering, it is mission critical that banks correctly identify beneficial owners – the real McCoys who exert control in a company.
A Know Your Client Primer
The concept of ‘beneficial ownership’ recognises the reality of business, that the person in whose name an account is opened may not be the individual with ultimate control over such funds. In legal entities such as trusts, foundations, personal investment companies, most countries require that the trustees or individuals who are able to exert significant control over its activities be made known.
It needs to be stressed that ‘control’ goes beyond mere signatories or legal titles. The ultimate beneficial owner may exert power through ownership or other means such as entitlements. By uncovering the individuals who exert ultimate control, we are able to deduce the source of wealth and whether such monies were obtained through proper and legal means.
Generally, an individual is considered to be the beneficial owner if he or she:
- Controls more than 25% of the company’s shares or voting rights (though some countries have imposed more stringent quantitative thresholds).
- Exerts influence over the company or its management such as the ability to appoint or remove directors.
Why is this important? The ability to synergise beneficial ownership information with other data sources allows us to detect unusual or suspicious activity including discrepancies between disclosed information, actual sources of funding and how sums were utilised. Through this process, banks are able to gauge if the client is a money laundering risk.
Knowing the identity of beneficial owners lays the foundation to a strong anti-money laundering and counter-terrorist finance (AML/CFT) programme. Most governments have expressed the level of transparency that it expects when disclosing beneficial ownership. Financial institutions (FIs) must formally declare that they have conducted sufficient checks and know their customers well enough to mitigate exposure and reputational risks.
KYC is the formal process of enquiring, establishing and verifying the client’s business and individuals who manage it. The process is conducted as part of onboarding the client. Once the business relationship is formally established, periodic risk-based monitoring must be maintained to ensure client information is kept current.
KYC procedures involve the timely submission of statutory and transaction documents by the client which the bank will then use to corroborate against other existing data sources such as credit history, watch lists, news reports and financial data.
One of the more challenging aspect of this for the private banker is to identify persons who may warrant further due diligence into their source of wealth or business activity. For instance, relationships with politically exposed persons will automatically trigger the enhanced due diligence process where the banker must procure documentary evidence on the client’s source of wealth and income. If any unusual or suspicious activity is detected, AML/CFT protocols must be launched and investigations will follow.
This process is sensitive and requires the utmost discretion. When the alarm bell is raised on possible ML/TF activity, banks’ standard operating procedures necessitate a ‘lock down’ to avoid raising any suspicion to the companies or beneficial owners that an investigation is underway.