The risk-based approach to anti-money laundering (AML) and knowing your customer (KYC) means the approach followed by the organization to identify, assess, and mitigate the risk associated with money laundering, terrorist financing, and other financial crimes.
What is Anti-Money Laundering?
Money laundering is the process of hiding the origin of money obtained through illegal activities such as drug trafficking, bribery, or other criminal activities. Money laundering converts illicit money to legal or white cash so that the criminal can use it without fear of being caught by the authorities.
The major problem that arises due to this money laundering activity is that the criminal group uses this money to empower and expand their illegal activities and puts public safety and national security at stake.
Anti-money laundering is a procedure or compliance adopted by the organization to avoid money laundering
What is KYC?
Know your customer involves verifying the customer’s identity to determine whether it is valid and legal and does not belong to someone else.
What is the risk-based approach to AML & KYC risk management
A risk-based approach to AML is a strategy formed by the anti-money laundering compliance team to proactively identify, assess, and mitigate the potential risks of money laundering in the business.
A risk-based approach to KYC involves identifying, assessing, and mitigating risks associated with customers, transactions, and relationships with the help of an anti-money laundering compliance team.
Category of Risk-Based Approach
Classifying risk according to its nature is necessary to better understand its type. Here are some categories under which risk can be classified.
1. Customer risk:
It covers the risk that can arise from the diverse nature of the customers, as the customers have different backgrounds, occupations, business activities, etc., and it is important for them to be transparent about their source of funds.
2. Product or service Risks:
Organizations that are highly involved in the business of cross-border sale purchases or sale purchases of financial instruments need to keep an eye on the transactions and people engaged in them.
3. Geographical Risk:
Some risks are associated with the specific country or region where the company operates due to loopholes in the policy or regulations.
4. Transactional risk:
This risk is related to the pattern of the transactions done by the customers. If it looks suspicious, the company is required to take action.
The RBA Process:
The RBA process involves identifying, assessing, mitigating, and monitoring the risk.
Identification: The first step of RBA is to identify potential risks associated with the customer, product or service, geographical area, or transactions. This step requires collecting information that suggests the occurrence of money laundering activities.
Assessment: Once the risk is identified, it is required to assess its frequency of occurrence and impact and categorize it into levels of high to low.
Mitigation: After assessing the risk, appropriate controls and procedures must be established to mitigate it. This process could involve due diligence of high-risk customers, restrictions on suspicious transactions, and additional monitoring and reporting.
Monitoring: The RBA is not a one-time activity; rather, it is a continuous process. The company cannot relax just after one identification, assessment, and mitigation. Regular monitoring to ensure the control of risk is required to avoid unwanted circumstances.
The Benefit of a Risk-Based Approach in Anti-Money Laundering
Adopting a risk-based approach to anti-money laundering gives multiple benefits to the company. For example, if anti-money laundering is effectively implemented within the organization, it will help the company deal with financial crimes and grow by building trust with new customers.
When a company adopts the risk-based approach to anti-money laundering, it can use its resources more appropriately in required places rather than using all the resources in one place to fight against financial crimes.
A risk-based approach reviewed and audited on an ongoing basis means the company can scale its compliance program along with the business, and compliance will change as per the business requirements.
Elements for an Effective Risk-Based Approach
Key elements for implementing a practical risk-based approach are as follows:
- Risk assessment: To implement a risk-based approach, it is essential to assess the type of risk means, whether it is related to the customer, product or services, etc., and categorize it as per its level, i.e. high, medium or low, along with its frequency of occurrence and impact, in the business.
- Customer due diligence: While adopting a risk-based approach, it is essential to perform due diligence on prospective customers, including KYC, and identify their business’s nature, purpose, and geniuses.
- Risk-Based Controls & monitoring: Once the risk is identified and due diligence of the customer has been done, the next step is to put controls over identified areas and do regular monitoring to ensure its effectiveness.
- Policies & procedures: It is also essential to prepare standards of practice, policies, and procedures to safeguard the company from any mishaps in the initial stage.
- Training and awareness: Doing necessary measures is not practical until the organization’s staff is trained and aware of the risk-based approach. Hence, it is also essential to do adequate training and awareness programs to educate staff.
A risk-based approach is not a one-time implementation. Instead, it is a continuous process; the company should always be ready to modify its risk-based approach with time, technology and other relevant factors.
Conclusion
In the age of digitalization, where everything can be done online without the need to meet someone, it is tough to analyze the actual intention of any transaction. With the compliance of a risk-based approach in anti-money laundering and KYC, the company will have a better opportunity to analyze the nature, transactions, and risks related to the customer.
Deepvue uses a risk-based approach for anti-money laundering to provide more reliable services to its clients and strengthen their trust.
FAQs
Who needs to adopt a risk-based approach to anti-money laundering (AML) and know your customer (KYC)
The company operates at a large level with plenty of national and international financial transactions. It should adopt a risk-based approach to anti-money laundering (AML) and know your customer (KYC) to avoid the occurrence of financial crime using them as a source.
What is the difference between risk management and a risk-based approach?
Risk management involves identifying and addressing risks, while a risk-based approach identifies risks that require more focus and resources to protect the company from unwanted situations.
What is the main objective of using the risk-based approach?
The main objective is to efficiently allocate resources to the areas of highest risk to enhance the effectiveness of risk management practices.
What are the key benefits of adopting a risk-based approach?
Key benefits include improved resource allocation, enhanced decision-making, increased compliance, and better risk mitigation.
