Anti-money laundering (AML) regulations are mandated by both national and international authorities worldwide, and financial institutions are subject to a wide range of screening and monitoring obligations. These AML obligations include the Know Your Customer (KYC) process, which allows businesses to identify and understand their customers’ financial behavior. However, because the terms KYC and AML are so close and are frequently used interchangeably, it can be difficult to understand how they differ in a regulatory context.
Because of the legal significance of the compliance function, firms must understand the distinction between AML and KYC and how they relate to each other during the regulatory process.
What is the Difference Between KYC and AML?
AML (anti-money laundering) is an umbrella term for the various measures, controls, and processes that businesses must implement in order to meet regulatory requirements. KYC, on the other hand, is a component part of AML and specifically refers to the means by which firms establish and verify their customers’ identities as well as monitor their financial behavior.
Typically, the KYC process entails collecting and verifying a variety of identifying information from customers, such as:
- Name
- Address
- Date of birth
- Company incorporation documents
KYC may also include ongoing transaction monitoring and a variety of customer monitoring measures such as PEP screening, sanctions screening, and adverse media screening.
Enhanced Due Diligence, KYC and AML
KYC allows firms to take a risk-based approach to AML so that they can both identify their customers and understand what level of money laundering risk they present. A recommendation of the Financial Action Task Force, risk-based AML requires firms to assess their customers individually in order to determine their risk levels. By assessing customers individually, firms can ensure only a minority are subjected to onerous KYC measures that negatively affect their experience.
Accordingly, where a customer presents a particularly high risk of money laundering, the KYC process should involve Enhanced Due Diligence (EDD). The EDD process may involve:
- The collection of additional customer identification materials
- Verification of the source of customer funds
- Close scrutiny of the purpose of transactions or the nature of business relationships
- Implementation of ongoing monitoring procedures
When to Implement KYC Measures
The KYC process should take place during the onboarding process to ensure that customers are telling the truth about themselves and the business in which they are involved. Identity verification should include an examination of a customer’s personal information as well as the nature of their business relationships. Firms should seek to establish the beneficial ownership of an entity acting on behalf of an individual. KYC should take place throughout the business relationship to ensure that a customer’s risk profile remains consistent with the firm’s previous assessment of them.
Innovation
The conflict between implementing appropriate KYC controls and continuing to improve the customer experience has been exacerbated by digital disruptors such as FinTechs. While traditional KYC measures remain effective, firms can still benefit from FinTech innovation by incorporating new technologies such as advanced data analysis and artificial intelligence. In an increasingly complex compliance environment, technologies like these represent a way to gain a deeper, more nuanced understanding of customer behavior while improving decision-making
The Solution
AML regulations in most jurisdictions require businesses to develop and implement an AML program that is tailored to their business needs and capable of managing the specific risks that their customers or business sectors present. The AML program of a company should make the practical screening and monitoring processes required by the AML legislation under which it operates easier. It is critical to remember that the monitoring and screening processes associated with AML regulations are subject to change based on current trends in financial crime and the legislative needs of financial authorities.
