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KYC & AML: Meaning, Differences, Regulations, Requirements, and Best Practices

When speaking about compliance, we come across terms like KYC (Know Your Customer) and AML (Anti-Money Laundering). For some people, the terms are confusing or even seem identical. Though they are different.

As KYC and AML legacy is getting stricter every year, financial entities, FinTech companies, and other financial-related businesses must clearly understand AML/KYC processes and requirements and know the legislation that regulates them.

What are the KYC and AML meaningsWhat are KYC and AML requirements? Why AML/KYC compliance is vital for financial companies? How KYC/AML automation can help businesses stay compliant? Follow the article to know that.

Know Your Customer. The essence and how KYC works 

Know Your Customer (or Know Your Client) denotes the process of verification of customer identity. 

To successfully pass through KYC procedures, clients need to provide legal credentials, such as driving licenses, ID documents, residency certificates, or banking statements to prove their true identity. 

Any organization should conduct verification of their employees and contractors before engaging in business relationships with them to avoid involvement in criminal or fraudulent schemes.

Regardless of industry or sphere of application, a typical KYC process contains:

  • Verification of customer identity for prevention of fraud.
  • Screening of customers against certain prohibition lists.
  • Evaluation of a risk profile of a customer.
  • Constant monitoring of customer transactions and status with current risk profile assessment.

Due to a wide range of free and high-quality sources of data about customers—such as social networks, search engines, or public databases—finding necessary information has become resource and time-consuming. 

To avoid manual customer data searching, businesses that put their priorities on speed, scalability, and efficiency choose to implement and use specialized Regulatory Technology (RegTech) for improvement of operational efficiency.

The following section is going to describe the essence of an AML program and how KYC and AML processes differ from each other. 

What’s in the AML process

Anti-Money Laundering is a number of obligatory measures and procedures that are fulfilled by financial companies, businesses, or other institutions under specialized regulatory acts aimed at the prevention of financial crimes.

Anti-Money Laundering attracted global attention in 1989. At that time, the Financial Action Task Force (FATF) was formed and united a group of international organizations and countries.

Their primary goal was to outline a set of international AML and KYC requirements and standards for money-laundering prevention, their promotion, and adoption. 

After the terrorist attacks in September 2001, FATF also added combating the financing of terrorism in its mandate in October 2001. The Financial Action Task Force (FATF) defines global standards of AML for adoption by individual jurisdictions.

Regulated entities must carry out AML procedures including analyzing customers and their transactions, keeping records of customer transactions, and reporting to AML compliance authorities about activities that are under suspicion of financial fraud, money laundering, etc. 

The ultimate goal of the establishment of AML rules and regulations is to help in detecting and reporting suspicious activities including financing of terrorism, money laundering, manipulations in the market, or security fraud.

Businesses should cover four main AML compliance areas to carry out their Anti-Money Laundering programs successfully:

  • Know Your Customer (KYC)
  • Customer Due Diligence (CDD)
  • Suspicious activity reporting
  • Customer and transaction screening

Anti-Money Laundering should be fulfilled in accordance with all pieces of legislation and governmental policies that oblige businesses and financial organizations to enable monitoring of their customers for preventing money laundering. All detected financial crimes must be reported to relevant regulators.

Due to carrying out Anti-Money Laundering rules by businesses, fraudsters and bad actors in the market can be hampered from feeding their illicit funds into the financial system. 

On one hand, both Know Your Customer and Anti-Money Laundering are centered on the verification of customer identity. On the other hand, KYC and AML checks are targeted to solve different tasks. 

Anti-Money Laundering is a means used to prevent money laundering and financing terrorism. Know Your Customer’s goal is to outline customers’ risk factors and ensure the prevention of fraud. 

The interrelationships between KYC and AML are shown in Figure 1. For both KYC and AML, customer identity verification is placed in the focus of attention for establishing and identification of client behaviors on an ongoing basis.

The correlation between KYC and AML

Figure 1. The correlation between KYC and AML.

So, let’s clear up how to differentiate AML and KYC risk assessment.

KYC vs. AML. Finding the difference

As we mentioned above, Anti-Money Laundering embraces various efforts and activities involved to prevent money laundering and avoid interacting with criminal customers by monitoring and analyzing transactions for suspicious characteristics and activities. 

Know Your Customer is used to identify and screen customers and determine their risk status for a business. Thus, KYC compliance serves to prevent money laundering and detect fraudulent activities.

Let’s examine AML and KYC in four layers—process, purpose, elements, and features. 

Process. KYC implies the process of verification of customers by collecting their personal information. The AML process embraces legislative controls over suspicious transactions and activities.

Purpose. The purpose of KYC is to prevent fraudsters from entering into a legal business. While AML’s purpose is to avoid laundering money and financing terrorism on a global scale.

Elements. The main elements of KYC are validation of identity, risk identification, and management of risk. As for AML elements, they are to evaluate risk, detect, prevent and report suspicious activities and transactions.

Features. KYC should be efficient, smart, and carefully done. AML should be coherent, holistic, and thoroughly thought-out.

Infographics 1 below shows the peculiarities of AML and KYC compliance processes to clear up the difference between them.

Characteristics of Anti-Money Laundering & Know Your Customer

Infographics 1. Characteristics of Anti-Money Laundering & Know Your Customer

AML and KYC should neither be posed against each other nor used interchangeably. Anti-Money Laundering is an aggregating term, embracing a number of certain regulations and techniques.

Know Your Customer is enclosed in AML as a constituent part. It is yet another technique or a mechanism that allows financial entities and businesses to ensure compliance within the boundaries of the AML framework.

Know Your Customer is specifically aimed at clients’ risk evaluation and verification of their identity. Anti-Money Laundering implies a much wider selection of techniques used for monitoring risks after carrying out KYC checks.

Sergio Artimenia
DIRECTOR OF BUSINESS DEVELOPMENT

Now, let’s see what laws regulate AML and KYC. 

What are AML and KYC regulations. Know the things to comply with

AML measures for regulated businesses are also ruled by legislation specific to a region or a country they are issued in. The most prominent examples of local AML legislation acts are:

  • The fourth Anti-Money Laundering (AMLD4) directive in Europe.
  • The enhanced version of the fifth AML directive (AMLD5).
  • The Anti-Money Laundering Act in Germany.
  • The Money Laundering, Terrorist Financing and Transfer of Funds Regulations in the UK.
  • The Payment Service Act (PSA) in Singapore.

There are plenty of pieces of local legislation that regulate KYC processes and are in compliance with global and regional AML laws:

  • The Bank Secrecy Act in the USA.
  • Sanctions and Money Laundering Act in the UK.
  • The requirements for client identification from the Australian Transaction Reports and Analysis Centre (AUSTRAC).
  • Methodology of determining the identity of individual customers issued by the Financial Transactions and Reports Analysis Centre of Canada (FINTRAC).
  • KYC requirements for financial entities which work on Italian territory from the Banca d’Italia in Italy.
  • KYC guidelines issued by the Reserve Bank of India.
  • Act on identification of customers in Japan.

And the list is not complete. Financial companies and businesses have to carefully follow both global and local legislative regulations to remain compliant and avoid heavy fines.

To help businesses better understand AML obligations they must obey, national authorities issue separate bulletins and guidelines.

KYC and AML requirements. What are they?

As far as AML compliance—KYC included—is obligatory for regulated entities, it should be carefully designed and meet compulsory requirements.

An effective and well-tailored Anti-Money Laundering should contain five key elements: 

  1. Written procedures and policies.
  2. A group of compliance officers and compliance committee.
  3. Effective education and training program.
  4. Defined communication lines.
  5. Internal procedures for auditing and monitoring.

As KYC is an inseparable constituent part of AML verification process, it falls under the same requirements as Anti-Money Laundering compliance.

KYC and AML compliance. Stay on the safe path with automation

The majority of institutions and customers understand and agree that these strict precautions are vital. The problem of poor execution often lies in manual processing. 

This approach is seasoned with error probabilities and security vulnerabilities that can cost financial entities an arm and a leg.

KYC and AML processes are mostly based on the collection and analysis of customer data. But growing customer numbers lead to the growth of volumes of customer information accordingly. 

Another issue is a changeable regulatory compliance landscape and new criminal scheme emergence. Businesses have to keep their eyes peeled with all those changes to avoid being involved in illicit activities and stay compliant.

It’s clear that the issue is not caused by AML/KYC procedures themselves. But by the methods of their execution. To avoid manual data searching, processing, and analysis, specialized automated tools were introduced.

Let’s take a look at their spheres of application for KYC/AML procedures automation.

Automated KYC checks

Due to the KYC practices automation, businesses get the opportunity to obtain customer data for further identity verification online. The online customer verification process can be carried out through web platforms or mobile apps, and usually contains 5 steps:

  1. Selection of the type of ID document by users.
  2. Uploading of document photos.
  3. Screening and validation of the photos by a KYC platform.
  4. Uploading a selfie of a user with a document in their hands.
  5. Verification of the fact that a user is a real person made by a KYC platform.

Automated KYC tools can also support other verification procedures, including biometric or voice checks. It’s also possible for automated KYC tools to verify if a customer is a real person through face recognition and authentication called liveness.

Automated AML and sanctions screening

The solutions used for AML and sanctions screening automation benefit businesses by decreasing costs and improving operational efficiency. 

They ensure manual work reduction and protection of businesses from fraudulent activities and financial crimes by collecting trustworthy data from reliable sources, such as:

  • sanctions list
  • watch lists
  • politically exposed persons (PEP) lists
  • adverse media lists

Solutions for AML automation allow businesses to build the flows of verification in full accordance with AML/KYC requirements of a specific jurisdiction.

Best practices for AML/KYC in banking and FinTech

Banking, crypto markets, and FinTech have always been the most vulnerable to fraud and money laundering. By leveraging effective and digitized KYC/AML processes, businesses can significantly improve their performance by:

  • Decreasing reputational and legal risks, avoiding heavy penalties and fines from regulators due to full compliance with AML regulations and laws, thus safeguarding their reputation.
  • Detecting bad actors and fraudsters timely due to quick discovery of existing and new sophisticated fraudulent schemes, for instance, synthetic identity or money muling. Even the most innovative fraudulent activities can be found and curbed due to accepting only verified users as customers.
  • User experience improvement by eliminating extra client checks due to effective optimization of AML/KYC flows in accordance with the current customer risk profile.

Automated KYC/AML practices significantly boost the speed of the process while reducing operational costs and human error probability. Customer personal data is stored centrally to avoid financial information leaks and hacker attacks.

Sergio Artimenia
DIRECTOR OF BUSINESS DEVELOPMENT

Programming of success with automated AML/KYC compliance

Know Your Customer and Anti-Money Laundering compliance practices are crucial measures for preventing money laundering, fraud, and other crimes related to finance. 

Regardless of a sphere or an industry the business is working in, it can become a target for money laundering. If you enable your customers to move money, it’s necessary to have an effective AML compliance program.

By leveraging automated AML tools, you can ensure staying safe from becoming an element of a criminal scheme while staying compliant with all international and local regulations and laws.

FAQ

What is AML in finance and banking?

AML in banking and finance stands for a number of regulations, laws, and procedures created for preventing illicit activities of turning illegally obtained income into legitimate funds.

What is KYC?

KYC is a process of new customers’ identity verification for clearing up their authenticity to prevent fraud, money laundering, and other illegal activities.

What are the 4 components of KYC?

Any KYC program usually contains 4 main components: customer acceptance, customer identification, monitoring of ongoing transactions, and risk management.

What are the 3 stages of AML?

The three AML stages are placement, layering, and integration/extraction.

Who needs AML and KYC software solutions?

Companies undertaking certain financial activities need AML/KYC solutions to avoid becoming a link in a criminal chain and stay compliant with legislation to avoid penalties or legal punishment.

What are KYC & AML checks?

AML/KYC checks is a mandatory set of procedures aimed at identification and verification of customer identity during the process of opening accounts and regularly over time.

How do businesses become KYC/AML compliant?

Businesses become KYC/AML compliant due to creating, carrying out, and automating an AML compliance program consisting of Customer Due Diligence (CDD) practices, Enhanced Due Diligence (EDD) procedures, AML policies, assessment of risks, ongoing monitoring, internal controls, reporting if suspicious transaction and activities, etc.

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