Subject to stricter regulatory requirements, financial institutions are mandated to identify and verify their customers as part of Know Your Customer (KYC) guidelines. Given the severe sanctions for non-compliance, it’s critical that they avoid clients abusing their products and services for financial crimes including money laundering and terrorism funding. Enhanced Due Diligence (EDD), methods assist financial institutions in thoroughly comprehending their consumers and their previous and current commercial operations.
Enhanced Due Diligence is usually required for a financial institution when it creates customer relationships with individuals or organisations that are apparently risky. By properly identifying their customers, financial institutions can avoid lawsuits and hefty penalties.
What is Enhanced Due Diligence?
Enhanced Due Diligence (EDD) is a KYC procedure that entails a more thorough examination of potential clients for signs of financial crime. Account opening applications from persons or organisations whose inherent risk cannot be recognised by standard Customer Due Diligence (CDD) methods will frequently be received. In these cases, EDD processes are used to better scrutinise the clients and provide a risk score that is appropriate.
What is the difference between KYC, CDD and EDD?
KYC, CDD and EDD are related AML processes that help financial institutions make sure their customers do not pose any AML risk. KYC is carried out by financial institutions when customers open new accounts. Financial institutions have a KYC risk rating system which rates their customers based on obtained details.
CDD is a part within KYC and involves background checks to assess the AML risk of customers before onboarding them.
EDD is a form of CDD which is carried out on high-risk customers and involves matching their names with various watchlists. In contrast, there are Standard Customer Due Diligence and Simplified Due Diligence which are more lenient versions of Customer Due Diligence.
What Does Enhanced Due Diligence Involve?
The following are the main characteristics of Enhanced Due Diligence:
- More rigorous: Since EDD is performed on high-risk customers, it requires more evidence and detailed information from subjects.
- In-depth documentation: All EDD procedures are documented in detail so that it can be easily comprehensible to all stakeholders including regulators.
- Thorough research: Data collected from customers is to be analysed and researched with proper steps before finalising risk rating.
- Use of external data sources: Reliable information sources are used in the risk assessment of customers. The sources include official documents and adverse information available on the internet.
- PEP Screening: Politically exposed persons (PEPs), due to their high risk, are subject to special scrutiny.
What is the need for Enhanced Due Diligence procedures?
The following are the reasons why a financial institution should have defined Enhanced Due Diligence procedures:
- Ensuring Regulatory Compliance: EDD procedures ensure that a financial institution is in compliance with applicable AML/KYC laws and regulations. By being compliant, financial institutions can avoid hefty fines and other punitive actions.
- Better Customer Service: As a by-product of EDD procedures, financial institutions get access to a vast amount of information about their customers such as employment status, age and income levels. This will help financial institutions tailor their products and services to specific customer needs and serve them better.
- Brand Reputation: Proper EDD procedures help financial institutions protect their platforms from abuse by criminals. By safeguarding against money laundering and terrorist financing with proper controls, financial institutions become trustworthy in front of the public, leading to enhanced reputation.
- Financial Crime Prevention: Thorough checks on a customer’s identity, transactions and related information would help identify possible fraudulent and criminal activities well in advance.
Enhanced Due Diligence Procedures and Best Practices
According to the Financial Action Task Force (FATF), financial institutions should employ a risk-based approach when they try to assess their customers for possible ties to money laundering and terrorist financing (ML/TF) activities. “Customer due diligence (CDD) processes should be designed to help banks understand who their customers are by requiring them to gather information on what they do and why they require banking services,” says the FATF.
The watchdog adds that enhanced monitoring should be required for higher risk situations, while banks may decide to reduce the frequency and intensity of monitoring where the risks are lower. The amount and type of information obtained, and the extent to which this information is verified, must be increased in high-risk cases. It may also be simplified where the risk associated with the business relationship is lower.
The FATF has suggested banks “to draw up, and periodically update, customer risk profiles, which serve to help banks apply the appropriate level of CDD”.
It has recommended the following as practicable Enhanced Due Diligence procedures:
- Obtaining additional identifying information from a wider variety or more robust sources and using the information to inform the individual customer risk assessment
- Carrying out additional searches (for example, verifiable adverse media searches) to inform the individual customer risk assessment
- Commissioning an intelligence report on the customer or beneficial owner to understand the risk that the customer or beneficial owner may be involved in criminal activity
- Verifying the source of funds or wealth involved in the business relationship to be satisfied that they do not constitute the proceeds from crime
- Seeking additional information from the customer about the purpose and intended nature of the business relationship
The Future of EDD Solutions is here
Today, modern technologies like AI and machine learning are getting widespread attention for their ability to improve business processes and regulators are encouraging financial institutions including fintech companies to adopt innovative approaches to combat money laundering. In the area of customer due diligence and risk scoring, the need of the hour is a sophisticated technology that can capture the complete customer activity through proper identification of risk indicators and continuously update customer profiles as underlying activities change.
Keeping that in mind, Tookitaki developed Customer Risk Scoring (CRS) as one of the modules of its award-winning Anti-Money Laundering Suite (AMLS). Powered by advanced machine learning, the module addresses the market needs and provides an effective and scalable customer risk rating solution by dynamically identifying relevant risk indicators across a customer’s activity map and scoring customers into three risk tiers – High, Moderate and Low.
The solution comes with a powerful analytics layer that includes actionable insights and easy explanations for business users to make faster and more informed decisions. It provides an accurate customer risk rating with a few high-risk customers and a large number of low-risk customers.
To learn more about our solution and its unique features, speak to one of our experts here.
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