Overview:
Definition of EDD:
Enhanced Due Diligence (EDD) is a comprehensive set of measures applied in situations that signal a higher risk of money laundering and terrorist financing. It goes beyond standard Customer Due Diligence (CDD) procedures and involve obtaining specific customer information, determining beneficial ownership, and understanding the purpose and nature of the business relationship.
Purpose of EDD:
EDD is a crucial component of Anti-Money Laundering/Combating the Financing of Terrorism (AML/CFT) efforts, mandated by the Financial Action Task Force (FATF) for specific business relationships and transactions presenting higher risks.
Differences Between CDD and EDD:
For customers of average risk, Customer Due Diligence (CDD) focuses on basic identity verification and fundamental risk factors. In contrast, EDD is implemented for high-risk customers, requiring a more detailed investigation. EDD involves additional details such as the source of funds, background and purpose of transactions, and official records.
Regulatory Framework:
FATF Recommendations on EDD:
The Financial Action Task Force (FATF) provides key recommendations regarding the implementation of Enhanced Due Diligence (EDD) for effective Anti-Money Laundering (AML) efforts.
New Business Relationships:
EDD is advised for establishing new business relationships, emphasizing the importance of enhanced scrutiny when initiating connections with new clients or partners to ensure a comprehensive understanding of potential risks.
Occasional Transactions:
EDD is deemed necessary in cases of occasional transactions when suspicion arises regarding money laundering or terrorism financing, emphasizing the significance of enhanced diligence for transactions that deviate from the norm.
Unreliable Documentation:
EDD measures are highlighted as essential when dealing with unreliable documentation.
Continuous Monitoring:
The emphasis on continuous monitoring as an ongoing obligation is a key aspect of EDD. This section provides a detailed overview of essential Anti-Money Laundering (AML) requirements linked to Enhanced Due Diligence (EDD), serving as a valuable resource for financial institutions engaging in high-risk transactions.
Enhanced Due Diligence AML Requirements
Record Maintenance:
Financial entities are typically mandated to maintain records for a minimum of five years, covering identification documents and business-related records, highlighting the importance of thorough documentation for a comprehensive archive of customer interactions and transactions.
Prompt Reporting:
In situations where suspicion of criminal activity arises during Customer Due Diligence (CDD) procedures, the document underscores the necessity for immediate reporting. This involves submitting a Suspicious Activity Report (SAR) to the financial intelligence unit (FIU).
Implementation Considerations:
Jurisdictional Differences:
Understanding and adapting to diverse regulatory frameworks across jurisdictions is crucial in the realm of Anti-Money Laundering (AML). Firms are advised to synchronize their practices with specific regulations in each location to ensure compliance with varied AML structures.
Best Practices Recommended by FATF:
Outlined by FATF, these practices focus on risk management and due diligence in financial transactions.
Risk-based Approach:
Implement a risk-based approach that tailors the level of diligence to the specific risk presented by each customer.
Customer Risk Profiling:
Draw up and update customer risk profiles to identify and monitor potentially high-risk customers.
Enhanced Identification:
Obtain additional identifying information from a wider variety of reliable sources, beyond basic documents.
Information Verification:
Conduct additional searches and due diligence to confirm the accuracy and validity of customer information.
Source of Funds Verification:
Thoroughly verify the legitimacy of the source of funds to ensure they are not proceeds from crime.
Business Relationships:
Gather additional information from the customer about the purpose and nature of their business relationships.
Intelligence Gathering:
Consider commissioning an intelligence report on high-risk customers or beneficial owners for deeper insights.
Ongoing Monitoring:
Regularly update customer information, monitor transactions, and screen against sanctions lists to detect suspicious activity.
Identifying High-Risk Customers:
Risk-Based Factors:
Enhanced Due Diligence (EDD) is crucial for specific categories of high-risk clients:
Politically Exposed Persons (PEPs):
Individuals holding prominent public positions susceptible to corruption or illicit financial activities.
Clients with a History of Financial Crimes:
Individuals or entities with a documented history of engaging in financial crimes.
Clients Featured in Adverse Media Reports:
Customers negatively highlighted in media reports, suggesting potential involvement in controversial or unlawful activities.
High Net Worth Clients:
Individuals with substantial financial assets posing a higher risk due to the complexity and scale of their financial dealings.
Clients in Unusual or Complex Transactions:
Individuals or entities involved in transactions deviating from typical patterns or exhibiting a level of complexity raising suspicion.
Clients Linked to Countries under Sanctions:
Customers associated with or conducting transactions involving countries subject to international sanctions, indicating potential financial risk.
Clients Using Private or Correspondence Banking or Linked to Shell Banks:
Customers utilizing private or correspondence banking, as well as those connected to shell banks, indicative of attempts to conceal transactions.
Customer Risk Factors:
Certain customer characteristics serve as distinctive risk factors requiring specific attention during the due diligence process:
Cash-Intensive Businesses:
Recognition of businesses dealing primarily with significant cash transactions, indicating a higher risk due to the potential for money laundering or illicit financial activities.
Close Relatives of a PEP (Politically Exposed Person):
Identification of individuals closely related to Politically Exposed Persons, demanding enhanced scrutiny due to their potential proximity to influential figures and associated risks.
Non-Resident Customers:
Detection of customers who do not reside in the same country where the financial institution operates, necessitating additional attention and due diligence to manage cross-border risks effectively.
Country or Geographical Risk Factors:
Recognition of countries subject to international sanctions or exhibiting notable levels of corruption. These conditions elevate the risk associated with financial transactions originating from or involving entities in such regions, necessitating tailored due diligence processes.
Product, Service, Transaction, or Delivery Channel Risk Factors:
Specific risk factors associated with the product, service, transaction, or delivery channel.
Other Indicators:
High Net-Worth Individuals:
The involvement of High Net Worth Individuals introduces unique risks that require careful consideration in risk management processes.
Clients in Unusual or Complex Transactions:
Identifying and scrutinizing complex transactions are essential for detecting potential financial misconduct or illicit activities.
Conducting Enhanced Due Diligence:
Implementation involves a flexible set of measures tailored to allocate resources effectively, utilizing a risk-based methodology, and ensuring precision in assessing a customer’s risk level. Additional identifying information is gathered for corporate clients, involving thorough details on ownership structure, stakeholders, and business operations.
Enhanced Identity Verification:
This step focuses on reinforcing identity verification by employing more rigorous methods, demanding additional documentation and verification steps to ensure a higher level of accuracy and security in confirming the customer’s identity.
Source of Funds and Ultimate Beneficial Ownership (UBO) Verification:
Ensures the legitimacy of the customer’s wealth sources, verifying they are not derived from illicit activities. Additionally, it aims to identify individuals ultimately owning or controlling the customer entity, mitigating risks associated with hidden ownership.
Ongoing Transaction Monitoring:
Involves comprehensive assessment of transaction history, particularly crucial in cryptocurrency, to identify anything suspicious.
Adverse Media and Negative Checking:
Conducting online research to scrutinize media for reputation insights and regularly checking press articles, reports, and social media for customer reputation. Focus is on forming a comprehensive profile and taking heed of negative findings indicating high risk.
On-Site Visits:
Involves physically verifying addresses through on-site visits, especially for legal entities. Ensures alignment with provided information, crucial as a mismatch may signal a high risk for business engagement. Verification of the physical address aims to reduce the risk of false information.
Report Writing and Documentation:
Involves establishing a foundational understanding of implementing a risk-based approach, creating industry-specific risk factors, and generating report papers on customer activities using AML compliance software.
Benefits and Importance of EDD:
Risk Awareness and Mitigation:
EDD increases awareness of associated risks, aiding in the detection and mitigation of suspicious activities. It serves as a super magnifying glass for banks, ensuring customers are who they claim to be and their money is clean.
EDD strengthens sanction screening by comparing customer information against global lists, ensuring compliance with regulatory requirements. Regular screening is necessary to prevent engagement with individuals on global sanctions or criminal watchlists.
Improved Compliance:
EDD enhances AML compliance by gaining additional insights into customers’ financial assets and activities. It ensures that banks follow financial rules, comply with regulators, and proactively manage risks associated with financial transactions.
Protecting Institutions from Financial Crimes:
EDD acts as a guardian against financial crimes, identifying possible fraudulent and criminal activities in advance. It is a meticulous process that helps institutions manage risks effectively and comply with AML regulations, safeguarding against money laundering and funding terrorism.
Final Thoughts:
Enhanced Due Diligence is a proactive approach, identifying and managing risks in financial transactions, ensuring AML compliance, and protecting institutions from potential financial crimes. Integrating EDD contributes to global efforts against money laundering and terrorist financing. EDD aligns with global efforts to combat financial crimes, ensuring businesses play a crucial role in maintaining the integrity of the financial system and preventing illicit activities worldwide.
