The costs of compliance and of non-compliance
One of the greatest challenges banks face today is complying with Anti-Money Laundering and Financial Crime regulations. There is immense pressure to reduce the costs of onboarding and KYC efforts. To achieve this, banks are increasingly embracing technology, although overall costs remain high and have shown a significant increase in certain countries. In the UK, the financial services industry spends a staggering £34.2bn per year on financial crime compliance, equating to an average of £194m per bank [International Banker - Oxford Economics and LexisNexis Risk Solutions research]. Despite these costs, the repercussions of not properly conducting AML due diligence can be even more costly.
In 2023 we have seen the U.S. Federal Reserve and the Department of the Treasury’s Office of Foreign Assets Control (OFAC) levy fines of $97.8m on Wells Fargo, while U.S. regulators imposed a $186m fine on Deutsche Bank as a consequence of AML regulatory violations. [source: “Fintech Global” - Fenergo report]
This article will focus on AML measures in the context of correspondent banking where special due diligence measures are required. This is due to the higher risks associated with executing payment transactions around the world on behalf of financial institutions where visibility of the end-client may be lacking.
A global framework for correspondent banking due diligence
The recommendations of the Financial Action Task Force (FATF), established by the G7 nations in 1989 to combat financial crime, serve as a worldwide benchmark for compliance, KYC, and the first-line of defense of correspondent banking teams in conducting due diligence on their counterparties. The recommendations set forth the measures that each country should require their banks to adopt. There are currently 40 members of FATF, including all of the G-20 countries, except Russia.
Correspondent Banking is addressed specifically in Recommendation 13. Doing business with another bank is inherently risky from an AML standpoint, because a respondent bank will be acting on behalf of its own customers who are not known to the correspondent bank that is providing services to the respondent. Recommendation 13 specifies that correspondent banks must “gather sufficient information about a respondent institution to fully understand the nature of the respondent’s business.”
This requirement indicates the need for the correspondent conducting due diligence to have a thorough understanding of the scope of the relevant bank's business, including its global presence. One way to begin is by identifying the countries in which the bank has branches, subsidiaries, significant shareholders, and stock market listings.
“Nested relationships” or downstream respondents
It is essential to recognise that simply understanding the geographical reach of a banking group is insufficient in preventing money-laundering transactions, as they may occur through correspondent banking relationships. It is crucial for correspondent banks to have a thorough understanding of these connections. Furthermore, a respondent bank may also be acting as a correspondent for its own downstream respondents, known as "nested relationships," who have their own clients. This adds another layer of complexity and decreases the correspondent bank's insight into the customers of these downstream respondents. FATF addresses this situation with specific guidance: “The correspondent institution should be informed about the existence of nested relationships and the operations/transactions of the customers of the nested institutions, that the locations in which the nested institutions conduct business are transparent to, and understood by, the correspondent institution…”
The guidance clearly outlines the importance of understanding "nested relationships" and their geographic locations. An effective risk-based approach suggests prioritising the identification of high-risk countries from an AML standpoint and conducting further due diligence on customers of relevant banks within those jurisdictions.
At BankCheck, we streamline the initial stage of this process through our "Global Footprint" feature, which not only detects countries with a correspondent banking relationship, but also pinpoints those with a respondent, combined with the AML country risk score.
Detecting undisclosed “nested relationships”
In accordance with FATF guidance, “the correspondent institution must have measures in place to detect potential, undisclosed nested relationships provided by the respondent and take appropriate follow-up action when a respondent does not disclose the existence of a nested relationship”. Therefore, it is insufficient to solely send a questionnaire or inquire about a respondent's "nested relationships" and assume that the response will be thorough and honest.
The guidance recommends using independently sourced information, such as the correspondent banking relationships that are accessible to all members of SWIFT's global payments messaging service, instead of directly approaching the bank.
BankCheck's Global Footprint reveals the countries where "nested relationships" exist and highlights those where recent payment transactions have taken place, along with the corresponding AML country risk score. While not completely exhaustive, since a bank may have undisclosed correspondent banking relationships with SWIFT, this data provides a comprehensive view of a bank's correspondent banking connections and the majority of these relationships can be identified by this method.
Internal transaction monitoring
Many banks now utilize systems that analyze payment messages to detect transactions initiated by the customer of a downstream respondent bank. While this is a valuable method for monitoring existing exposure, it may not provide insight when onboarding a new correspondent banking partnership. In this case, having a comprehensive understanding of existing correspondent banking relationships in the global market is more beneficial.
The larger and more active correspondent banks have typically invested in the necessary systems to analyse their own payment traffic, leaving smaller respondent banks facing an information asymmetry. As a result, they may be unaware of the information their correspondent bank is able to access about them, or why the correspondent banking relationship may be terminated.
BankCheck provides respondent banks with the capability to review their own KYC profile, which includes a comprehensive overview of their global network of correspondents. This enables banks to have a clear understanding of the information that will be accessed by their correspondents during the due diligence process, and also allows for any necessary actions to be taken or information to be corrected, without incurring any initial expenses. Ultimately, this transparency benefits the entire banking community.
Conclusion
Understanding the responsibilities and regulations set forth by the Financial Action Task Force (FATF) is key to navigating the complex and costly world of AML compliance. In the context of correspondent banking, compliance with AML requirements means having a good understanding of the global presence and correspondent banking relationships of your counterparty including their downstream correspondent activities, obtained from independent sources.
We have sought to address this requirement with BankCheck’s “Global Footprint” feature that enables correspondent banks to access detailed information on the geographical presence of their counterparties and their correspondent relationships, as well as a country risk score to help identify high-risk areas for further due diligence. “Global Footprint” also allows respondent banks to monitor their own KYC profile and take action if necessary, promoting transparency and reducing risk for the entire banking community.
Want to see our “Global Footprint” feature in action? Book an online demo now.
