Financial Crime Compliance: Comprehensive Business Practices

Financial crime involves a wide range of criminal activities that revolve around money or other financial resources. In the meantime, financial crime compliance is a set of internal policies, procedures, and business practices designed to detect and prevent activities linked to money laundering, fraud, and other financial crimes.

If we look back at the past few years, the media was filled with news about political tensions, literal wars, stricter sanctions laws, as well as ongoing economic challenges. And we can’t avoid mentioning AI and the craziness behind its advancements, such as ChatGPT, with its sometimes negative effect on many industries. 

So, with all the Ponzi schemes, terrorist financing, tax and investment fraud, corruption, as well as other emerging crimes, such as greenwashing, law enforcement officials are forced to strike back with new ways to address this major threat. 

This is exactly why it’s crucial to learn how to navigate the financial crime compliance landscape. To achieve this goal, companies must implement various processes and use the right, preferably automated, crime and fraud prevention tools. 

What is Financial Crime Compliance?

Financial crime compliance (FCC) refers to various measures that ensure the integrity of the financial system by enforcing laws and eliminating unethical practices. Companies use these tactics to prevent, detect, and report unlawful financial activities. 

Financial crime risk management (FCRM) is the process of actively seeking out instances of financial crime. Companies manage their risks by investigating and analyzing suspicious activities, identifying vulnerabilities, and implementing measures to reduce the company’s risk of falling prey to such illicit activities. For example, a bank must have a robust FCRM strategy to prevent money laundering and other fraudulent activities. 

In practice, companies minimize financial crime risk by:

1. Identifying risks.
2. Creating a plan to counteract or mitigate risks.
3. Implementing crime prevention systems.
4. Regularly stress-testing prevention systems.
5. Monitoring the effectiveness of these systems.

What is the Difference Between FCC and FCRM?

While the FCC makes the rules, FCRM works on the ground to ensure everyone follows them.  FCRM is a hands-on strategy involving more attention to accounts and transactions with the highest risk.

Financial crime risk management is based on a risk-based approach. It balances the level of risk by using suitable controls to minimize the chances and impacts of financial crime. Additionally, risk management means doing different things like assessing risk profiles, using technological solutions, as well as training people in the organization.

Why is Financial Crime Compliance Important?

In the landscape of fast-moving expectations for financial crime compliance, the importance of understanding all risks and business associates cannot be overstated. Typically orchestrated by individuals, groups, or criminal organizations, financial crime has repercussions that extend beyond major financial losses. 

Financial crime not only harms individuals’ social and emotional well-being but also damages the reputation of companies. It involves both seeking financial gain through criminal acts and concealing the proceeds. To mitigate these risks, businesses often adopt AI-powered anti-money laundering (AML) tools, which assess financial crime risks and safeguard against involvement in money laundering activities.

Challenges for Achieving AML Compliance

From 2016 onwards, the European Union has enacted three AMLDs, or the 4th, 5th, and 6th anti-money laundering directives, each broadening AML requirements. Similarly, both the UK and the US have consistently strengthened their AML legislations, also extending the scope of financial crime compliance. 

In 1990, the US Department of the Treasury founded the Financial Crimes Enforcement Network (FinCEN), setting the foundation for financial crime compliance. Other key compliance rules  that set the grounds for the FCC framework consist of the following:

• The Bank Secrecy Act (BSA), or Currency and Foreign Transactions Reporting Act, mandates financial institutions to collaborate with the US government in suspected money laundering and fraud cases. 
• The USA PATRIOT Act establishes measures to combat international money laundering and terrorism financing. 
• Under the Patriot Act, Know Your Customer (KYC) regulations require businesses to verify customer identities and understand their activities.

As a result, this consistently evolving regulatory framework poses security risks and, more importantly, challenges for companies that have to keep up and ensure all processes run smoothly. These challenges include: 

• Ever-expanding compliance demands that often leave compliance teams without the necessary resources and technical tools to stay compliant. 
• The lack of cohesion in regulations across different jurisdictions further complicates the situation. 
• The shift to more user-friendly options like online pre-qualifications and mobile payments complicates monitoring compared to traditional cash transactions.
• Large transaction volumes and data overwhelm organizations, making it challenging not only to manage compliance but also to sift through and use the data effectively.

The Role of Financial Crime Compliance in AML Automation

To prevent criminal activity and protect the well-being of institutions, both national and international authorities require financial institutions to comply with AML regulations. Regulators enforce these regulatory rules, which can affect different jurisdictions. Non-compliance can lead to fines, sanctions, reputational damage, and other severe repercussions.

Typically, companies prevent crime and attain financial crime compliance as part of the  AML framework through a suite of integrated RegTech solutions. These tools are strategically crafted to collaborate seamlessly, enhanced by advanced analytics, and tailored to provide robust unified enterprise case management capabilities.

Types of Financial Crimes

Some examples of financial crimes include: 

• Financing terrorism
• Money laundering
• Market manipulation
• Cybercrime
• Tax fraud
• Insurance fraud
• Credit fraud
• Insider trading
• Embezzlement
• Human trafficking
• Slavery
• Bribery

However, financial crime can be categorized into these primary areas:

Money Laundering

It’s the universal process of taking illicit funds, often called “dirty money,” and attempting to cleanse the money through a sequence of transactions, making it challenging to trace back to its illicit origin. For example, a criminal can establish numerous accounts on an online marketplace. They can proceed to list items for sale, but instead of conducting genuine transactions, they leverage these listings to transfer illicit funds between accounts. This façade of legitimate sales activity is a camouflage to hide the true source of funds.

Fraud

This occurs when the perpetrator deliberately deceives the victim with false information to gain funds, legal standing, or the victim’s property. Fraud, one of the most prevalent forms of financial crime, poses risks to entire countries, organizations, and individuals. Fraud also manifests in various ways, such as filing false insurance claims, manipulating financial records, executing pump-and-dump schemes, or engaging in identity theft that results in unauthorized purchases.

Bribery

Typically committed by officials in positions of power, bribery involves illegal attempts to offer favors to influence decision-making processes. Similar to fraud, bribes can take various forms, such as money, valuable goods, or promises of future benefits for the official. For example, an executive can accept a bribe for early access to contract specifications in a tender, or a bank’s security employee can take a gift that grants the briber access to private information.

External attackers or internal employees can perpetrate these crimes. In addition, financial crime also includes less severe criminal activities, such as skimming, forgery, payroll schemes, and so on.

Related: Examples of Money Laundering

The Main Stages of Money Laundering

Criminals launder illicit funds through various means, but at its core, there are three steps:

1. Placement. This initial stage involves introducing funds or goods from financial crime into the legitimate economic environment.
2. Layering. During this phase, successive layers of legitimacy are methodically applied to the illicit funds, obscuring their origins. Complex financial transactions include electronic transfers between countries, the use of shell companies as cover, and the movement of funds across multiple banks or accounts within an institution.
3. Integration. Once criminals believe the layering stage adequately conceals the source of the funds, the money is extracted and often used for high-value purchases like property or expensive goods. This step aims to assimilate the proceeds of financial crime into the regulated banking framework.

Related: Structuring in Money Laundering Explained

AML Red Flags and Financial Crime Compliance Warning Signs

A red flag in AML and financial crime compliance is a warning suggestion of potential money laundering or other financial crimes. These indicators involve large transaction volumes, transactions with sanctioned individuals, or funds coming from high-risk countries. Spotting red flags is a vital part of any AML program. 

A robust AML program requires financial companies and other regulated businesses to establish a systematic process for identifying various suspicious activities. So, for effective AML compliance, companies should:

1. Develop internal policies and procedures dedicated to preventing money laundering.
2. Hire designated AML compliance officers and provide them with efficient AML software for fast data processing.
3. Conduct ongoing employee training to enhance understanding of money laundering and guide actions if suspicions arise.
4. Maintain strict record-keeping and reporting practices.

Instances like illegally investing funds in tangible assets, such as real estate, or using shell companies to conceal ownership of unlawfully acquired assets, are recognized as red flags in this context. In some jurisdictions, businesses must submit Suspicious Activity Reports (SARs) to relevant authorities upon identifying red flags. That’s why it’s vital to keep and maintain data records. 

The Financial Action Task Force (FATF), a global government organization and a key player in the compliance landscape, has established the main red flags that help detect potential crimes:

➡️ Unusual Transactions

Transactions that appear suspicious means they can be inconsistent or unusual in terms of their typical behavior. Such transactions should push regulated businesses to conduct further investigations. Companies should be vigilant for activities that differ from the expected behavior, such as significant cash payments, unexplained receipts from third parties, or the usage of multiple accounts.

Specific signs determine if the transaction can be labeled as “unusual.” They include: 

• The use of multiple bank accounts or virtual wallets, particularly if they are from multiple jurisdictions.
• Withdrawing or receiving large sums without having evidence of their legitimate purpose.
• Large cash deposits.

➡️ Secretive New Clients

If a customer doesn’t show interest in responding to inquiries about themselves, companies must evaluate the situation for potential suspicion, particularly if there are criminal associations with money laundering. That’s why creating KYC and customer due diligence (CDD) procedures is crucial for businesses during the customer onboarding process.

So, in other words, an existing or potential client’s refusal to provide personal information during the KYC verification process should raise a red flag. In these cases, businesses require additional investigation. If the customer isn’t able to provide this data, in many cases, their access should be either blocked or withdrawn.

This is the type of KYC information that criminals might want to conceal:

• Address 
• Source of funds
• Valid explanations for certain transactions
• Beneficial ownership (for companies)
• Overall true identity

Related: What is the Difference Between CDD and EDD?

➡️ Suspicious Source of Funds

Transactions that involve significant amounts of cash or private funding can serve as a warning sign for potential money laundering. It’s important to evaluate how the client acquired such private funding and whether it aligns with your existing knowledge about them.

You can evaluate how the client got such private funding and assess its consistency by requesting documentary evidence to support their account, such as:

• Documents confirming the source, such as a sale of a house or shares
• Recently filed business accounts
• Bank statements

If there are crypto assets involved, identifying the source can pose difficulties. Similarly, when dealing with cash, pinpointing the source of funds becomes more challenging. For instance, a bank statement displaying a substantial withdrawal may not necessarily indicate the cash you’re attempting to trace.

The FATF recommends being vigilant about these warning signs related to potential money laundering:

• Unclear information about where the funds came from and who owns them.
• Dealing with virtual asset addresses or regular bank accounts connected to known fraud, extortion, ransomware, sanctioned addresses, dark web marketplaces, or other illegal websites.
• Engaging with accounts linked to online gambling or other risky sectors.
• Depositing more money than usual into accounts or online wallets, especially if the source is unknown. Converting it to regular money can potentially indicate that the funds were stolen.

The Main Stages of Effective Financial Crime Risk Mitigation

Robust compliance crime risk mitigation includes four key stages: identification, assessment, mitigation, and review. This involves detecting suspicious activity, prioritizing high-risk transactions, mitigating the issues, and conducting ongoing checks to review if anything changes. 

Stage #1: Identification

During the customer onboarding and identity verification process, organizations need to evaluate the money laundering risk linked to each client. 

Stage #2: Assessment

The assessment phase in financial crime compliance considers factors like the client’s location, expected transaction value, complexity of investment, and more, which we’ve mentioned when talking about the key AML flags.  

Stage #3: Mitigation

If a customer is identified as high-risk, Enhanced Due Diligence (EDD) is necessary to ensure their funds are not connected to any criminal activities. This includes additional screening of the customer against PEPs and sanctions, as well as adverse media lists in order to mitigate financial crime risks. 

Stage #4: Review

Financial crime compliance is an ongoing process that isn’t a one-and-done thing. Companies must regularly review their clients and conduct ongoing due diligence on all clients. The frequency of this review process depends on their risk rating: high, medium, or low. This practice aims to detect any alterations in existing clients and verify that their risk rating remains unchanged, ensuring they haven’t transitioned to high risk and necessitating EDD. 

Related: What is the Difference Between CDD and EDD?

Next Steps to Ensure Financial Crime Compliance

To create and maintain a proper financial crime compliance strategy, companies should use a risk-based model. This means implementing multiple KYC and CDD processes, determining customer risk levels for EDD, employing ongoing monitoring solutions, and conducting screenings for sanctions, PEPs, and adverse media. 

Unlike many RegTech providers in the market, iDenfy can offer all of these services under a single platform. We provide flexible AML, KYC, and KYB solutions to enhance customer experiences while upholding a robust risk-based approach to financial crime compliance. 

For further discussion on your compliance needs, book a free demo or get started right away.