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#386091 - 07/14/05 09:12 PM risk ratings
BankerKB Offline
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BankerKB
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How does a weighted score work? I'm trying to better understand risk rating accounts for BSA/AML etc?
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#386092 - 07/15/05 03:47 AM Re: risk ratings
Andy_Z Offline
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The more risk you assign in various categories, the more weight it has, the higher the risk. At least that is how the ones I have worked with are.
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#386093 - 07/15/05 08:46 PM Re: risk ratings
HR Banker Offline
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Joined: Oct 2002
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We're trying to work on a risk rating system. Can you give me an example? For instance are we talking about the list of businesses that cannot be exempt from CTRs and rating them as a greater risk for money laundering than a grocery store? I just don't know who or what we are supposed to rate and how to do so. Any help would be appreciated.

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#386094 - 07/18/05 08:56 PM Re: risk ratings
BankerKB Offline
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BankerKB
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There is a BOL webinar coming up in Aug that will have an example.
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#386095 - 07/19/05 12:36 AM Re: risk ratings
homestar Offline
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Joined: Feb 2001
Posts: 2,245
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Quote:

We're trying to work on a risk rating system. Can you give me an example? For instance are we talking about the list of businesses that cannot be exempt from CTRs and rating them as a greater risk for money laundering than a grocery store? I just don't know who or what we are supposed to rate and how to do so. Any help would be appreciated.




OK, I'm going to go out on a limb here, so all you folks out there who are smarter than me, please don't jump all over me if I don't say this the way you would. But, please don't let that stop you from pointing out something you think is wrong or could be said better.

Here's an oversimplified, quick and dirty example of a weighted risk-rating system that is by no means comprehensive, but may give you an idea of how to start.

First, decide (1) what you are rating and (2) what your assigned risk rating classifications will be. For this example, we'll look at non-personal customers (i.e. customers who are not natural persons) and our ratings will be “High,” “Moderate,” and “Low.”

Next decide what factors should influence the risk rating (Risk Category). For the sake of this example, we’ll consider the following factors:

(1) Geography – Where the customer and/or the customer’s primary trade area is located. Consider whether the customer itself is domestic or international or whether its business is domestic or international. If the customer is international, take a look at the FATF and OFAC lists to determine which nations are higher risk. If the customer is domestic, consider where it is located in the U.S. – is it in an area designated as high risk in some way? (California, Texas, Florida, and New York), as well as other designations such as a “High Intensity Drug Trafficking Area” or HIDTA. (see www.whitehouse.gov/hidta/)

(2) Type of Business – The type of “business” your customer is conducting. (Keep in mind that “business” also includes things your non-business customers might be doing, for example, a charity or a government agency.) This can be as simple or as complicated as you need it to be. You could focus on the general types of businesses considered to be higher risk by starting with the types of customers the IRS considers “non-exemptible” for CTRs. (Be sure to take MSBs into consideration too.)

(3) Type of Account – The type of account may be something you want to consider. For example, it’s probably easier to launder money with a checking account tied to a debit card than a one-year automatically renewable certificate of deposit.

Then you’ll have to define the “Risk Items” under each category and a score for each. Let’s keep this as easy as possible and define the following risk item scores. Remember, the higher the score you assign here, the higher you consider the risk to be.

Country (i.e. geography): OFAC = 100; FATF = 50; Other Foreign = 25; Domestic = 0.

Type of Business: This is where you have to put a lot of thought into your risk model, but again keeping this simple, we’ll say… NO CTR EXEMPTIONS ALLOWED = 100; MSB = 50; Elevated Risk Businesses Types: 25; Lower Risk Business Types – 0.

Type of Account: Transaction Deposit Account = 100; Time Deposit: 50; Loan = 0

(Again, keep in mind these are just examples for the sake of this discussion.)

Next we will develop a risk model to calculate the ratings. You need to decide how much weight (or percentage of the final score) each Risk Category should be assigned. The higher the weight, the more the category will influence the final risk score. The total of the weight for all categories should equal 100%. For our example, let’s say that Geography is 30%; Type of Business is 60%; and Type of Account is 10%. (Does that equal 100%?)

Now it’s time to develop your risk model. One place to start is to decide how to score the results. We’ll assume that the higher the score, the higher the risk will be.

We’ll create a scoring matrix with the following columns across the top: (I wish the BOL list would allow us to create tables, but that’s not an option. If the columns do not line up reasonably well below, you might try changing your browser default font to a non-proportional font, such as Courier.)

Code:
Weight   Risk Category    Risk Item       Score     Cacluated 

Score
- - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
30% Country Cuba 100 (Score x Weight)
Iran 75
Canada 25
USA 0

60% Business Type Pawn Shop 100
Check Casher 50
Jewelry Store 25
Department Store 0

10% Account Type Transaction 100
Time 50
Loan 0

Total Score (Add the cacluated score columns.)


You simply plug in the score for each customer you want to rate, multiply it by the weight percentage and total it for the final risk score. Play around with the model to see what the highest possible score is compared to the lowest possible score.

The final step is to decide how your final score is translated into rating of “High,” “Moderate,” or “Low.” Let’s arbitrarily choose the following. (Disclaimer: The following rating scheme means absolutely nothing. I just pulled it out of the air. You will have to decide, based upon your own institution’s risk profile, what makes sense for you.)

High = 70+
Moderate = 50 – 69
Low = 0 - 49

Here’s an example for a couple of customers.

A pawn shop located in the U.S. with a checking account would score at 70 = High Risk.

A local Wal-Mart store in Arkansas with a checking account would score at 10 = Low Risk.

A Wal-Mart store in Toronto, Canada with a checking account would score at 17.5 = Low Risk.

Now, I have to point out that this scoring scheme is not true to life, because a jewelry store with a checking account located in Havana, Cuba would only score at 55 (Moderate Risk). That's probably not where you would want it to score. This illustrates why you'll have to play around with your risk model to make it fit your institution and examiner expectations.

Please, please, understand that this is just an oversimplified example of how to calculate a risk score. Obviously, many factors must be considered when developing your own model. Much of what you consider for your risk factors depends upon the location and size of your bank; what type of products you offer; what types of customers you attract; the list goes on and on.

Also, many risk models are much more complicated than this. In many cases, it would be appropriate to break geography into several different risk categories. For example, if all of your customers are domestic, you might need to consider certain states to be higher risk (i.e. in general, California is probably a higher risk state than Wyoming). You also might need to consider whether your customer is located (or does business in) a HIDTA.

Finally, think about whether there are certain types of customers or events that would cause you to consider a customer as a high risk regardless of the score your model assigned. For example, the fact that you filed a SAR on a customer may be a good reason to automatically change the risk classification to "High."

My fear is that by sharing this information I’ve oversimplified it too much. But I think the opportunity of helping to remove some uncertainty or confusion outweighs my fear.

-- HS
Last edited by Homestar; 07/19/05 02:42 AM.
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#386096 - 07/19/05 12:02 PM Re: risk ratings
Hrothgar Geiger Offline
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Hrothgar Geiger
Joined: Jun 2005
Posts: 10,395
Jersey Shore
Quote:

How does a weighted score work? I'm trying to better understand risk rating accounts for BSA/AML etc?




The short answer:

Say you have 3 risk attributes you want to score in your ratings scheme:type of business, foreign wire activity, and volume of cash transactions. For each of these you have a scale for the raw rating, which might look something like:

Account A (grocery store)
Type of business: 10 points
Foreign Wire activity: 0 points
Volume of cash txns : 20 points
Total: 30 points

Account B (art gallery)
Type of business: 10 points (FinCEN's strategic plan aside)
Foreign Wires: 15 points
Volume of cash txns: 5 points
total 30 points

(Simplified example,just bear with me.)

Both accounts have the same risk rating based on raw scores.
In your heart of hearts, though, you don't think that they really represent the same risk to the bank. The foreign wire traffic is especially worrisome, given that you are a small community bank. So, you multiply all the foreign wire scores by 2, because you want to emphasize them.

Now Account A has a weighted score of 30 points (same as their raw score because they had no foreign wires.) And Account B has a weighted score of 45 points. (their foreign wires now account for 30 points on a weighted basis.)

It gets more complicated as you add more factors, obviously. Also, you can de-emphasize factors that aren't as critical (multiply them by numbers less than 1 (like .5)) to reduce their impact on the scores overall.

Does that make more sense, or less?

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#386097 - 07/21/05 03:05 PM Re: risk ratings
BankerKB Offline
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BankerKB
Joined: Jan 2005
Posts: 288
Thanks! That was helpful. So in your example the weight and calculated score would never be over 100% or 100 score value right?

Also how would you compile the score? We are ranking each category based on our compliance committees rankings of risk on a 1-10 scale and then I think simple averaging to get the score of everyone overall.
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