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Knowing What's Up with Know Your Customer

Those of us in compliance know that although the Know Your Customer proposal was withdrawn (to die a lonely and dreadful death) the concept - and the requirement to know and watch your customers - lives on. KYC is very much a part of compliance with the Bank Secrecy Act and is very much a part of the compliance examination.

Rick Small, Assistant Director, Enforcement at the Board of Governors of the Federal Reserve, remains the guru of KYC. He has some guidance for bankers. First, think about the goals of a KYC program. There is a laudable list of goals, including protecting the organization's reputation, protecting customers' privacy, and promoting ethical standards among financial institutions. But the most important goal of a KYC program is to facilitate the identification of suspicious or illicit activities. According to Small, this is where we need to end up.

In spite of the high level of public concern that a KYC rule would require banks to become suspicious of all of their customers, the presumption in KYC is that most customers engage in normal activities and do not pose a threat of criminal use of the bank. In effect, the vast majority of customers actually define, through their behavior, what normal is.

There are lots of typical customer activities that you don't have to worry about. These include low balance accounts (the kind of account most of us have), low activity accounts, household accounts, accounts for minors, and the standard retail passbook and/or checking accounts. These are low risk, normal banking activities and do not raise any red flags.

The KYC and due diligence program should look at the type of account that carries with it a heightened risk that there are or could be illegal activities in connection with the account. Certain types of accounts and account activity are more prone to illicit use. These Small classifies as higher risk accounts.

Areas to maintain a closer watch - or even due diligence - include some areas where many or most of the customers are trustworthy and trusted. However, experience shows us that this could be the type or account or banking relationship that can be used to launder money.

For example, private banking, even though most of the customers are both valued and trustworthy, should be high on the due diligence list. High balance accounts with irregular transfers, many of them involving significant sums, could provide excellent cover for illicit movement of funds. The challenge is to be alert and diligent without using procedures that are invasive and insulting to legitimate customers.

Other types of accounts to watch more closely are less sensitive. These include onshore accounts for offshore clients, correspondent banking particularly when foreign banks are involved, payable through accounts, and accounts held by or for foreign political figures.

Also high on the concern list should be any accounts involving countries that are considered non-cooperative or at high risk for narcotics traffic. In addition to OFAC lists, these countries can be identified on the U.S. Department of State's web site (www.state.gov) and on Treasury's web site (www.treas.gov).

A KYC due diligence system should also watch accounts with frequent or excessive use of funds transfers, involving either transfers into the account, out of the account, or both.

How should you do this? Small advises that at a minimum, the bank should have procedures that identify the customer. These procedures should compile enough information to lay the foundation for understanding the customer's relationship with the bank, and identify and report any suspicious activity.

If your bank balks at putting in this type of program, Small suggests that you point out to management that due diligence programs are a typical requirement in enforcement cases. If you need help persuading management to authorize improvements to your KYC program, download some enforcement cases - the Bank of New York would do nicely - and share them with your management. The point isn't whether or not this is required, it is whether or not it is smart.

ACTION STEPS
  • Review your KYC program and procedures. Are they designed to flag high risk accounts?
  • Review BSA training for staff. Does it train staff to watch high risk activities and to recognize situations or transactions that are suspicious and should be reported?
  • Review your procedures for preparing and reporting suspicious activity. Discuss them with affected staff and consider how realistic the procedures actually are.
  • If you have a trust department or private banking staff, schedule regular meetings - quarterly would be nice - to discuss any high risk accounts and account trends.
  • Monitor cash aggregation reports and wire transfers. Consider whether these identify transaction accounts that should be reviewed and monitored.
Copyright © 2000 Compliance Action. Originally appeared in Compliance Action, Vol. 5, No. 13, 11/00




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