A guide to AML for fintechs

March 16th, 2023

As fintechs continue to innovate and transform the financial industry, they also become vulnerable to money laundering and other financial crimes. That's why Anti-Money Laundering regulations exist to ensure the sector's stability and safety.

In this article, we will delve into the basics of Anti-money laundering and discuss how businesses can stay compliant with the regulations.

What is AML?

Anti-money laundering (AML) is a system of regulations, laws, people, systems, and procedures designed to prevent criminals from disguising the proceeds of illegal activities as legitimate funds.

AML initiatives include customer identification and verification, transaction monitoring, and reporting doubtful activity to the relevant authorities.

As an example, The Financial Action Task Force (FATF) was set up in Europe to ensure anti-money laundering checks are in place, while helping to eliminate financial crime.

What information is required for AML checks?

To conduct an effective AML check, several types of customer information are typically required:

Name
Photograph from an official document like a driving license or passport for identity verification
Proof of residential address
Date of birth

In addition to these standard requirements, other information may be necessary depending on the circumstances, such as:

Purpose and intended nature of the customer relationship
Details of the customer's business or employment
Source or origin of funds
Relationships between signatories and any beneficial owners
Expected type and level of activity

Furthermore, identifying the beneficial owner as part of third-party due diligence may be necessary. A beneficial owner is an individual who ultimately owns, controls, or is entitled to over 25% of shares or voting rights.

The 3 stages of AML

The process of introducing laundered funds into the legal financial system typically involves three stages, which are:

Placement

Placement is the crucial first stage in the process of money laundering, where illegally obtained funds enter the legitimate financial system. This initial step presents the highest risk for criminals, as they must move significant sums of money without arousing suspicion. Anti-money laundering checks heavily concentrate on detecting unusual cash inflows during this phase.

To successfully place their illicit funds, criminals commonly employ the following strategies:

Dividing and conquering – Large amounts of cash are broken down into smaller deposits across multiple accounts. This technique, known as "smurfing," often involves using money service businesses.
The art of deception – Criminals create fictitious invoices to justify the movement of cash or intertwine illegal funds with legitimate business income, making it harder to detect.
Going global – By opening foreign bank accounts or establishing offshore companies, criminals can distance themselves from the origin of the funds, making it more challenging for authorities to trace the money.
Unconventional investments – To obscure the source of the funds, criminals may convert cash into assets such as securities, insurance policies, or even gambling winnings.

Layering

After placing illegal funds into the system, criminals engage in layering, the second stage of financial crime. This stage aims to disguise the origin of the money by breaking it down into numerous smaller transactions, often across borders, to avoid triggering A.

Key Layering Tactics:

Fracturing the sum – Large amounts are split into smaller transfers via international markets, money orders, currency exchanges, or luxury asset purchases.
Crossing borders – Transactions occur in jurisdictions with weaker AML regulations, further distancing the money from its illicit source.
Financial instruments – Funds are cycled through investments, real estate, high-value goods, or even cryptocurrencies, adding layers of complexity.

Remember, placement introduces illegal funds into the system, while layering hides their origin through various transactions.

Integration

The final stage of financial crime, integration, involves seamlessly blending the "cleaned" funds back into the criminal's legitimate finances. This typically involves a series of smaller transactions to avoid suspicion, often masking the illicit origins through seemingly legitimate purchases.

Common Integration Tactics:

Asset sales – Selling previously purchased luxury items like jewelry, property, or art creates a paper trail of legitimate income.
Fictitious payroll – Paying salaries to non-existent employees justifies cash flow and integrates funds into legitimate businesses.
Fake loans and dividends – Granting loans to directors of shell companies or distributing dividends to shareholders of criminal-controlled businesses funnels funds back to the criminal.

How to mitigate money laundering

Fintechs can mitigate money laundering risks by implementing effective AML policies and procedures. This includes conducting regular risk assessments, implementing customer due diligence (CDD) procedures, and training employees on AML compliance.

Here are a few ways to bolster your AML procedures:

Make sure there is open communication between all departments.
Implement regular ledger and transaction checks.
Appoint a Chief Compliance Officer and Money Laundering Reporting Officers.
Ensure that your technology stack is always up to date.
Train your staff in essential systems and social engineering.

In addition, businesses should adopt modern technologies such as artificial intelligence (AI) and machine learning (ML) to monitor transactions and identify suspicious activities.

What makes AML compliance challenging?

Ensuring Anti-money laundering (AML) compliance is a complex and ongoing challenge for businesses due to various factors:

Building a robust AML check program is time-consuming and falls outside core competencies.
The regulatory landscape constantly evolves, requiring businesses to adapt their programs regularly.
Non-compliance carries high stakes, including fines, reputational damage, and criminal prosecution.
The use of multiple tools and systems leads to fragmented data and inefficiency.
Human oversight remains crucial, demanding valuable resources for interpreting data and making decisions.

How long do money laundering checks take?

The duration of money laundering checks can vary based on several factors. Here are some key elements that shape the processing timeframe:

Complexity

The complexity of each case influences the time required for processing. Simple checks with readily available information can be completed within 24 hours. However, cases that involve intricate investigations and tracing obscure financial ties may take days or even weeks to complete.

Risk profiles

Customers with low-risk profiles typically undergo quicker checks compared to those with higher risk factors. Geographical locations, business activities, and other risk indicators determine the level of scrutiny required, impacting the processing time.

Information accessibility

The availability of required documentation plays a significant role in the speed of the check. Easily accessible information facilitates a smoother process, while delays may occur when obtaining obscure records or contacting foreign entities for information.

Verification methods

The use of technology can expedite the process by automating certain checks, such as verifying identity documents against databases. This acts as an express lane, reducing processing time. However, manual verification involving third-party sources or contacting foreign regulators can be more time-consuming.

These factors collectively contribute to the overall duration of money laundering checks, as each case presents unique challenges and requirements.

How is AML different from KYC?

AML refers to the overall set of regulations and procedures aimed at preventing financial fraud, while Know Your Customer (KYC) is a specific component of AML.

AML and KYC checks involve collecting information about customers' financial transactions and customer behaviour and measures enable businesses to identify high-risk customers and transactions, ensuring they comply with AML regulations.

What is customer due diligence for AML?

CDD, or Customer Due Diligence measures, is an important process that involves verifying the identity of customers and assessing their risk profile. By employing a risk-based approach, the focus is on identifying potential risks associated with business relationships, such as money laundering, terrorist financing, and other financial crimes.

During the CDD process, basic customer information is collected to verify their identity and mitigate risks. This includes details such as the customer's full name, contact information, place and date of birth, nationality, and marital status. These checks are crucial to ensure that the customer is not on any watchlists or sanctions lists.

What Systems Support AML Checks?

Complying with AML regulations is crucial for businesses of all sizes. Robust checks throughout the client and transaction journey are vital to prevent criminals from abusing systems for illicit gains.

Client screening

Client screening is a crucial aspect of AML compliance that involves verifying customer identities through KYC checks. Businesses need to prevent fraud and mitigate risks associated with high-risk individuals.

Effective client screening is important for:

Enforcing money laundering regulations;
Complying with regulatory requirements;
Identifying high-risk individuals;
Enhancing risk assessment with advanced technologies.

Transaction screening

Transaction screening involves monitoring customer activity and transactions for suspicious patterns that might indicate money laundering or other criminal activity. The effectiveness of such screening hinges on the comprehensiveness of the data analyzed.

Regularly reviewing and updating screening rules, while implementing additional controls when necessary.

Capturing detailed customer information and transaction data is essential.
Regularly reviewing and updating screening rules ensures vigilant detection.
Implementing additional controls when necessary helps adapt to evolving threats.

Transaction monitoring

Transaction monitoring is a critical component of anti-money laundering compliance. These systems analyze data from banks, payment processors, and third-party services to identify suspicious financial activity related to money laundering, fraud, and terrorist financing.

In certain jurisdictions, transaction monitoring is mandated by regulatory bodies. It helps businesses connect to multiple payment networks, reduce costs, and expedite fund settlement.

Importance of AML

Staying compliant with anti-money laundering regulations helps business owners gain the trust of customers and investors, ensuring the sustainability and growth of their businesses. Failure to comply with AML regulations can quickly lead to a loss of reputation, investors, and customers.

Moreover, effective AML compliance can also improve customer experience by reducing the risk of fraud and ensuring that financial transactions are secure and legitimate. This can boost customer confidence in the fintechs and financial institutions.

Want to reduce manual intervention and comply with all regulatory requirements without compromising your customers’ experience? Request a demo to access tailor-made compliance programmes today.

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