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KYC: 3 effective ways to prevent fraud and other financial crimes

July 21, 2020 - 4 min read

For over a decade governments have been implementing and adjusting AML and KYC regulations. There have been some significant changes over the years. Meanwhile, in 2017, the current regulations were implemented by the Swedish government. The Act on Measures against Money Laundering and Terrorist Financing was introduced to better combat financial crimes. This anti-money laundering (AML) regulation required financial institutions to perform regular risk assessments on products and customers.

The intention of AML is to help financial institutions determine their vulnerability for use in money laundering and terrorist financing. With millions of transactions performed daily, banks and financial institutions take an active role in combating financial crimes.

What is KYC?

An abbreviation of the term Know Your Customer, KYC is a set of identification processes. KYC processes validate vital information such as customer identity, status, and address. For financial institutions, collecting and analysing such data forms the backbone of a strong compliance culture. These processes enable financial institutions to better manage risk exposure by gaining a deeper insight into the background of customers. This protects banks from becoming involved with illegal activities such as money laundering and tax evasion. Moreover, such information allows banks to better understand their clientele’s needs – an essential part of superior customer service.

KYC is an important part of any financial business. It just makes sense to make the KYC process as simple as possible. In todays digital world that means online. To do this financial institutions must have methods for remote identification in order to be aligned with KYC standards. So, it just makes sense to make the KYC process as simple as possible just makes sense.

Why is KYC important?

Firms that fail KYC compliance checks run the risk of facing severe financial and legal penalties. From 2007 – 2015, the Estonian branch of Danske Bank laundered at least €200 billion of illicit funds from Russia, Estonia, and other parts of the world. To put this into context, Estonia’s GDP in 2017 was about €29 billion.

In the wake of Europe’s largest money-laundering scandal, Danish authorities investigated and prosecuted several top executives from Danske Bank. Amongst those charged for their roles in the scandal were CEO Thomas Borgen and finance director Henrik Ramlau-Hansen.

The Danske Bank scandal is a perfect example of why KYC plays a significant role in combating of financial crimes. According to a report by the Danish law firm, Bruun and Hjejle, the success of the money laundering was due to the improper implementation of adequate AML procedures. The scandal would have been prevented by implementing proper KYC procedures.

Hampering the entry of black market money into the financial system obstructs the flow of illicit funds to criminals. At the same time, it discourages criminal activity by reducing the channels by which to launder illegally earned cash.

How KYC reduces fraud, terrorism and money laundering

With all of that in mind, we now take a look an in-depth look at KYC. Why is KYC an integral part of the war against fraud, terrorism, and money laundering. How can it help your business?

1. KYC helps track tax evaders

Tax evasion is a form of fraud in the sense that perpetrators are defrauding the government of taxes owed. To do so, specific high-income individuals may sometimes make use of banks to conceal their actual incomes. This allows said individuals to avoid the high taxes levied by their governments.

AML and KYC procedures prevent this by verifying and confirming the identity of all customers. Compulsory document and compliance checks gather and store referential data from customers. This information can then assist authorities should a future investigation become necessary.

2. KYC Facilitates Continuous Monitoring of Transactions

Regular transaction monitoring and compliance checks are an essential part of effective KYC management. Tracking and reporting potentially suspicious customer transactions, i.e. transfers of large sums of money can deter terrorist financing or money laundering. Doing so hinders the entry of black-market funds into the financial system and prevents the flow of funds to terrorist organizations.

These precautions serve to instil trust in the financial system – which in turn encourages members of the general public to act with integrity and report any instances of misconduct.

3. Background checks

Background checks allow financial institutions to assess a potential customer’s risk classification as well as an individuals status on any government watchlists. This eliminates the organisation’s risk of becoming unintentionally involved in financial crime.

Ultimately, KYC is good for business because it reduces fraud cases and it builds trust. Adopting stringent KYC procedures means a financial institution is only concerned with doing lawful business. This translates into a good business reputation and improved trust.

KYC guidelines for risk and compliance

Strong KYC practices ensure financial institutions remain compliant with Global AML requirements. It is vital that the members of an organisation as a whole, understand and work together as a team to inculcate a culture of integrity and accountability. Clear-cut guidelines and well-defined culture of transparency serve to eliminate indecision and any lack of surety. This discourages criminals from misusing financial institutions and inspires confidence in customers.

Besides obtaining in-depth customer information, stringent KYC procedures allow those working with KYC and compliance to act freely without fear or favour. The proper implementation of KYC allows financial institutions to provide top-notch customer service and minimises the occurrence of money laundering, fraud, and other financial crimes. In a highly-regulated industry, such measures are especially important if a business is to remain sustainable.

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