Understanding Enhanced Due Diligence
Financial institutions carry out KYC (Know Your Customer) checks when opening new accounts. This usually involves background checks, creditworthiness checks and checks against money laundering and counterterrorism financing sanctions lists.
Enhanced due diligence provides an even greater level of scrutiny by obtaining the customer’s identity and address and evaluating their risk category, usually for high-net-worth customers or larger transactions that pose greater risks for financial entities.
Screening customers using EDD methods can go a long way towards preventing money from corrupt political parties, not to mention terrorist or criminal activities, from flowing through your ecosystem. Building in EDD safeguards protects businesses against fraud loss, reputational loss and compliance fines and even criminal prosecution.
What Makes EDD different to KYC?
EDD is generally more “rigorous and robust” than KYC procedures, requiring even more evidence and detailed documentation. Regulators should have immediate access to all enhanced due diligence reports and will scrutinize how data is captured and validated. EDD requirements call for reasonable assurance when calculating a risk rating, including completing necessary research and demonstrating professional skill and care when reaching a judgment.
Which Clients Require Enhanced Due Diligence Checks?
As EDD takes a risk-based approach, it’s only necessary for certain high-risk clients, including:
- Politically exposed persons (PEPs), including people with high-profile political roles and their families,
- Clients who have a known history of involvement with financial crimes (even if they have not been convicted of a financial crime),
- Clients who have featured in a high volume of adverse media reports,
- Clients with a high net worth
- Clients who are involved in unusual or complex transactions that do not match their stated business or occupation,
- Clients who are linked to countries with sanctions/embargoes against them, or who are listed on the Financial Action Task Force’s greylist or blacklist, high-risk third countries, or countries containing proscribed terrorist organizations,
- Clients who use private or correspondence banking or have relationships with shell banks.
These clients are considered high risk for money laundering or terrorist financing. Bear in mind that industries with a higher risk of money laundering, such as gambling, often have EDD requirements, and some jurisdictions have threshold limits for transaction amounts that trigger EDD if exceeded. Knowing the exact details of your jurisdiction is vital.
How To Implement Enhanced Due Diligence
While Enhanced Due Diligence is a complex process, it will reduce a financial institution’s risk of reputational damage or regulatory fines considerably. In some instances, regulators do not publish prescriptive rules for EDD but instead rely on the regulated entity to have proper internal risk assessment and control procedures in place. (In the US, FinCEN states that due diligence measures may vary on a case-by-case basis and that institutions should have programs that can distinguish between risk variations). Using EDD software can free up the workload of staff by automating manual tasks like Sanctions list, PEP, and Adverse Media checks.
In general, to implement Enhanced Due Diligence, an organization should:
- Adopt a risk-based approach
Assess your customers for risk factors and assign each client a level of risk. This forms part and parcel of a robust AML compliance program and is the best way of preventing penalties from authorities.
- Obtain additional verification
Create a checklist for your high-risk customers, including obtaining extra external documentation for identity verification. It’s important to establish the nature of the customer’s business, their location, the purpose of their transactions, the pattern of activity (in terms of transaction types, volume, amount and frequency), the expected origin of payments and their expected method of payment, their customers, their articles of incorporation and more.
- Analyze the Origin and Ultimate Beneficial Ownership of funds (UBO)
Understanding the origin and legitimacy of a customer’s wealth is essential. Inconsistencies between earnings, wealth source and net worth should be investigated, while subsidiaries and shareholders of businesses should be checked in determining the Ultimate Beneficial Ownership of a business.
- Track Ongoing Transactions
Analyze your client’s transaction history, including transaction processing times and the purpose and nature of their transactions. Mismatches between the projected value of goods and the amount paid/received are usually cause for suspicion. It’s important that these checks are carried out regularly over time to remain compliant and aloof.
- Perform Adverse Media Checks
Media coverage may provide more information about a client’s track record and reputation. If there was a past accusation of financial crime, even if the person was never convicted, it is sufficient to cause closer scrutiny and future monitoring.
- Develop an Ongoing Monitoring Strategy
Due diligence checks should not just occur when new customers are onboarded but should be carried out over time. Software should be deployed to alarm businesses whenever a customer is involved with a suspicious transaction, based on their risk profile.
Enhanced Due Diligence checks are designed to protect financial institutions as well as the communities they serve. While this may seem like a time-consuming and complicated task, identity verification and screening technology have made it easier for financial institutions to perform enhanced due diligence checks quickly and with minimal disruption to their staff and their clients.
sanctions.io can help you with your Sanctions & PEP screening needs. Book a demo and learn more about how we can help you streamline and automate your EDD process.