Enhanced Due Diligence – What, When and How?

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When the financial institution is dealing with the high risk customer, they have to go beyond basic customer due diligence. Though it is a KYC process, Enhanced due diligence provides a greater level of scrutiny of potential business partnerships. It highlights risk that regular customer due diligence process will never reflect.

What is Enhanced Due Diligence?

Enhanced Due Diligence (EDD) requires banks to take risk based approach to look into customer KYC. Under this approach, banks verify the identities of their customers and confirm the source of funds is legitimate.

This can be an ongoing process, as existing customers have the potential to transition into higher risk categories over time. Financial sector is plagued by the high risk entities across the world. In that context, conducting periodic due diligence assessments on existing customers can be beneficial.

A major problem during EDD is understanding how much information about a customer is necessary. The solution to this problem can be a factor-based risk rating approach. Riskpro has derived the risk rating model based on its HRE scores. This model considers 27 different factors to rank the high risk customers.

Enhanced Due Diligence Factors

There are different factors to consider the enhanced due diligence. These factors are

  1. Customer Jurisdiction
  2. Nature of Customer Business
  3. Customer Activity
  4. Transaction frequency
  5. Customer Transaction Value
  6. Payment methods like crypto currencies or cash collection

Let’s look at individual risk factors in detail now.

Customer Risk Factors

There are some circumstances that can lead to EDD. Here are six scenarios.

  1. Firstly, when bulk of customer’s customers are non-residents or foreigners.
  2. Secondly, customer is an asset-holding company with no real business.
  3. Thirdly, when customer is a PEP, or PEP’s family member or known associates. One can check the PEP databases for the same. Politically exposed person is a term describing someone who has been entrusted with a prominent public function, or an individual who is closely related to such a person. A PEP generally presents a greater risks for potential involvement in corruption. Risk they pose is by virtue of their position and the influence that they may hold.
  4. Next, your customer has nominee shareholders or shares of the company are issued in bearer form.
  5. Next, your customer is a cash-intensive business such as owner of a petrol pump or a retail shop in a big mall.
  6. And lastly, your customer transactions will exceed certain limits in the amount of daily cash transactions.

Geographical Risk Factors

Secondly, there are geographical risk factors that can lead to EDD. These factors include the following six scenarios.

  1. Countries without adequate anti-money laundering prevention systems. For example North Korea and Iran, are in the black list of FATF, Pakistan is on the Grey list.
  2. Countries under sanctions and embargoes or similar measures.
  3. Countries notorious for prevalent levels of corruption. For example Venezuela, Yemen are on the transparency index list.
  4. Countries blacklisted for financing or supporting terrorist activities. These countries may include Iran, Syria, and Sudan.
  5. Locations that have designated terrorist organisations operating within their country. For example Syria, Iraq and Somalia.
  6. Countries that are not members of the Financial Action Task Force and its partners.

Additional Risk Factors in Enhanced Due Diligence

In terms of additional risk factor categories, there can be other risk factors which might lead to enhanced due diligence. It is rather individual to certain types of organizations or financial institutions. This includes private and correspondent banking for example. Hence, they are naturally more prone to money laundering than others.

Enhanced due diligence also takes into consideration all relevant adverse information related to the risk factors. Whether an official document or something posted publicly on the Internet, any information that pertains to money laundering or financial crime must be thoroughly examined.