Risk–Based CDD: The Cornerstone of Financial Crime Prevention
Risk–Based CDD: The Cornerstone of Financial Crime Prevention
Regulated entities are required to take a risk-based approach and conduct customer due diligence (CDD). Risk-Based CDD is the Cornerstone of Financial Crime Prevention as it ensures that entity’s resources are allocated efficiently.
CDD is essential for countering the threats of money laundering. Customer Due Diligence helps in understanding the customer. Risk-Based CDD assesses the risk associated with a customer. The higher the risk, the more robust Anti – Money Laundering checks should be applied. There are certain parameters on which the risk associated with the customer is categorised. This assessment helps in identifying suspicious activities and transactions and preventing the chances of money laundering.
The risk–based CDD is divided into three parameters. These are: Simplified Due Diligence, Standard Due Diligence, and Enhanced Due Diligence. Simplified due diligence is associated with low – risk situation, Standard due diligence is related to normal-risk situation and the enhanced due diligence is related to high-risk situations.
The risk-based approach helps in prioritising risks as high risk denotes more stringent scrutiny and a more focused approach, whereas low risk denotes a streamlined process. This approach helps the entities in allocating scarce resources based on risk assessment. Let us discuss this in detail below:
Simplified Due Diligence in Low – Risk Situations
Simplified Due Diligence is applied in low–risk situations. After the proper risk assessment, a customer is assessed as low–risk. It means that the chances of money laundering or any illegal activity are very minimal. It suggests that the entity can proceed with the customer. In this situation, the due diligence measures which an entity can follow are to identify the person and verify their identity through document verification and other means and perform the name screening. After verifying the customer’s identity, it is important to keep the record of customer information, identity verification and risk assessment. According to Cabinet Decision No. (10) of 2019, the entity shall preserve the records for a period not less than 5 years. The period might differ from one regulatory authority to another.
Allocation of resources is done according to the level of risk. In the cases of low – risk, there is no need to conduct more focused and deeper scrutiny rather a streamlined process can be sufficient. The resource allocation based on level of risk helps in efficient use of limited resources of an entity.
Standard Due Diligence in Normal – Risk Situations
Standard Due Diligence is applied in the cases of Normal to Medium – risk situations. It means that there are slight chances of money – laundering or any illegal transactions. The measures applied in standard due diligence is slightly different from what was applied in simplified due diligence. The measure in standard due diligence includes the measures applied in simplified due diligence i.e., identifying the customer plus some additional measures. In those additional measures, the entity should obtain the customer’s information about address and address proof, occupational/ employment details.
Apart from this, the entity should understand the nature of business of customer and the purpose of transaction. After identification of customer, the verification of documents of customer is essential for confirming the identity of customer. Apart from confirming the identity of customer, the record-keeping of all the information obtained through CDD measures is important. The entity shall keep the records of the documents and transactions for a period not less the 5 years. The period might differ from one regulatory authority to another.
In the cases of standard due diligence, the level of focus and scrutiny should be more than simplified due diligence but less than what should be done in the cases of enhanced due diligence. The resource allocation is done on the basis of level of due diligence. In the case of standard due diligence, the resource allocation would be less than the enhanced due diligence.
Enhanced Due Diligence in High – Risk Situations
Enhanced due diligence is required in the cases where there is high risk of money laundering or terrorist financing. It includes the regular inspections, evaluations and monitoring of activities of customer. The customer identification and verification of documents is important. There are certain additional measures which are applied here in addition to standard due diligence.
The additional measures include asking the customer about the source of funds and source of wealth. The permission of senior management should be taken before onboarding the customer. Moreover, it should be ensured that the first payment is made from the customer’s own bank account. After verifying all the documents and other things, it shall be ensured that the records shall be preserved for a period not less than 5 years. The period might differ from one regulatory authority to another
Enhanced due diligence requires more focus and deeper scrutiny of customers. In these cases, the nature of examination is high so as to be able to assess the suspicious transaction. Hence, the resource allocation is high in enhanced due diligence.
Risk–Based CDD: A Way Forward
Risk–Based CDD is an important step in combating the risk of money laundering and terrorist financing. The three parameters of CDD help the entity in allocating the resources suitably. The higher the risk, the more resource allocation is needed. Risk-Based CDD provides an insight into the risks associated with the customer and on that basis, the entity can decide the control mechanism to be applied.
Related Posts
Confused with how to mitigate ML, FT, and PF risks within your Regulated Entity?