qLegal students Dena and Dayhun explore how the UK financial sector has reacted to AML and KYC, and the basic requirements for complying with these new frameworks.
Anti-Money Laundering Regulations
The issue of enforcing robust Anti-Money Laundering Regulations (AML) has remained high on the UK’s legal and regulatory agenda since it adopted the Fifth Anti-Money Laundering Directive (5MLD) in January 2020. The 5MLD imposes tighter AML controls and introduces enhanced due diligence obligations on businesses that carry out certain financial activities.
While most frameworks and regulations do, to some degree, aim to combat money laundering and terrorist financing, they do not necessarily regulate transactions with third parties who have been disadvantaged by money laundering and the crimes associated with it. Indeed, regulations alone are not always enough to ensure good behaviour and compliance. Last year, the UK’s financial regulator, the Financial Conduct Authority (FCA), fined Commerzbank AG £37 million for lapsing in its commitment to implement robust AML systems and controls. Therefore, regulators have put the onus on businesses to ensure that they develop and implement the necessary policies, controls, and procedures to identify, report, and prevent money laundering activities resulting from the use of their products or services.
What is Money Laundering?
In its simplest form, money laundering is the process whereby criminals integrate the proceeds of criminal activities into the legitimate economy by concealing its origin. The term “money laundering” is not confined by one process; rather, it is wide enough to encompass various methods of carrying out money laundering activities. It is worth noting that money laundering does not necessarily need to involve actual money and can also include tangible or intangible property or securities. These can range from the purchase and resale of real estate to the movement of money through shell companies — these types of activities can be carried out in three phases. It includes: Placing the criminal funds back into the financial system, either directly or indirectly; using complex layers of financial transactions to disguise the source of money; and integrating the fraudulent funds back into the legitimate economy.
Start-up companies undertaking financial activities should ensure that AML checks and procedures do not simply become a perfunctory ‘tick the box’ exercise. Strengthening internal policies and controls through effective AML measures and frameworks may be an essential prerequisite of achieving and maintaining effective AML measures and fostering a culture of AML compliance that extends beyond carrying out customer identification.
AML Compliance Checklist
- Ensure that all staff are aware of and understand AML requirements and offences. This can be achieved by educating your staff about the various risks associated with money laundering. Ensure that staff are aware of and comply with compliance obligations relevant to their roles and responsibilities.
- Stay up to date with changes and the latest developments in AML regulations. This will help ensure you stay abreast of potential changes you need to make due to regulatory updates. Check out the FCA’s money laundering regulation publications and gov.uk to stay up to date on this subject.
- Enforce robust and accurate policies, controls and procedures that are followed effectively and consistently.
- Assess AML compliance performance by establishing and monitoring a set of measurable targets to ensure effective compliance and performance. For example, maintain a record of AML checks and concerns.
- Carry out timely and periodic due diligence on customers and the necessary KYC checks.
Several issues connected with implementing robust internal AML systems and controls will require attention by senior managers and decision-makers. Above all, it is important to have a thorough understanding of AML regulations and procedures in order to be informed about the challenges your business could face, and in order to implement an effective risk management process capable of managing and reducing internal and external risks.
KYC, which stands for ‘Know Your Customer’ is a process to collect and verify the identity and other credentials of your customers and the other third parties with whom your company interacts . The importance of KYC has grown significantly over the years as risks of terrorist attacks as well as money laundering crimes have increased across the globe. Here, we will explore how KYC may become necessary for your company and how to successfully conduct KYC.
Is KYC necessary?
One may think that KYC is a matter only relevant to banks. However, the importance of KYC has expanded to other relatively non-traditional industries, including but not limited to fintech, outsourcing, and insurance.
KYC is important for start-up companies for a number of reasons. First, KYC may be required because of the nature of the business that is conducted by the start-up company. In the UK, there are certain KYC requirements, also known as customer due diligence requirements, imposed on businesses covered by the UK money laundering regulations. For example, if a company provides money services, such as online lending, then the business is likely to fall under the money laundering regulations. A case-by-case analysis is necessary to determine whether a business falls under the money laundering regulations, so that it will be helpful to visit the government website to find out more.
Even if a business is not covered by the money laundering regulations, one may determine that KYC is necessary because of possible negative consequences of dealing with suspicious customers. Conducting KYC will help the business to understand who its customer is and assess risks of dealing with that customer, such as reputational risks of getting involved with customers who support terrorist activities or narcotics traffickers. KYC will also help the business to spot any risks of dealing with a bankrupt customer, who may be unable to pay for the services rendered by the business.
In summary, KYC is important not only for companies directly linked to money services but also for those who want to have sufficient information about their customer as a matter of a good business practice.
What is required for KYC?
To conduct KYC, it is necessary to take certain steps to identify who the customer really is. In practice, this means the following information will need to be obtained:
- photograph on an official document which confirms identity
- residential address and date of birth
To obtain the above information, it will be necessary to ask for government issued documents such as passport, photo card driving license, photo card national identity card, official bank statement dated within the last three months and other official documents. It is also a good practice to check the electoral register and information held by credit reference agencies such as Experian and Equifax. In addition, when you are dealing with a company, it is necessary to do the KYC screening for all the persons who ultimately own or control the customer entity and/or the person on whose behalf the transaction is being conducted.
The KYC measures will need to be taken whenever a new business relationship is established. Even when you have already completed KYC for an existing customer, it is necessary to do an additional KYC when circumstances change, such as when a person who in effect controls the customer company is changed or when an illegal activity (i.e. money laundering or terrorist financing) is suspected. Therefore, it is important to keep up-to-date information about your customers.
More detailed information about KYC requirements can be found here on the UK government’s website.
In brief, start-up companies need to take the necessity of an effective KYC system seriously and think about which steps will be necessary to protect the company from unforeseen risks of dealing with an unreliable customer.
This article was written by Dahyun Kim and Dena Anee, student legal advisers at qLegal. qLegal is an award-winning pro bono service providing free legal advice to start-ups and entrepreneurs on intellectual property, data protection, corporate and commercial law. More details on how to book your appointment are available on the qLegal website. Follow us on Twitter and LinkedIn for regular updates on issues relevant to your business.