Complex Customer Structures: A Threat to Financial Institutions
A recent study has revealed that many financial institutions are facing a significant challenge in dealing with complex customer structures. These structures often involve layers of ownership, legal entities, and arrangements that can make them vulnerable to criminal use.
The Risks of Complex Customer Structures
- Extensive use of legal arrangements such as trusts, foundations, or funds
- Multiple foreign jurisdictions
- Nominees and shell companies
- Can create an environment conducive to money laundering and other financial crimes
Conducting Thorough Due Diligence
To mitigate these risks, financial institutions must conduct thorough due diligence on their customers. This involves:
- Understanding the reason behind the setup of complex structures
- Verifying the necessity and validity of legal arrangements
- Identifying who can authorize transactions on behalf of the legal arrangement
Identifying Relevant Parties
Financial institutions must ensure that all relevant parties to a structure are clearly identified and verified, including:
- Directors
- Nominees
- Shareholders
- Beneficial owners
- Other officers or parties involved in legal arrangements
These individuals may be Politically Exposed Persons (PEPs) or related to PEPs, posing further challenges.
Understanding Customer Motivations
The study also emphasizes the importance of understanding why a customer is seeking banking services with a financial institution in an International Financial Centre (IFC), as opposed to their home country or the legal entity’s country of registration. Documents provided by clients may be difficult to verify or authenticate, and the source of wealth and funds may be unclear.
Shell Companies
The way shell companies are treated is also a major concern for financial institutions, especially in IFCs. A number of jurisdictions have recently defined shell companies more clearly in their guidance to financial institutions to ensure that only those with legitimate purposes and economic substance are accepted for business.
International Trade-Based Activity
International trade-based activity can be high-risk for many financial institutions, as it involves a complicated web of transactions that can be difficult to prove or verify. This provides an opportunity for criminals to launder vast sums through schemes such as:
- Under-invoicing
- Over-invoicing
- Multiple invoicing
Mitigating Risks
To address these risks, financial institutions must continue and enhance their monitoring of customers and transactions, requiring:
- Deep knowledge of relevant typologies
- Current regulations
- Simple and clear policies and procedures
- Vigilant and specialized staff
Private Banking and Wealth Management Services
The study also highlights the importance of private banking and wealth management services for high-net-worth individuals. However, it notes that these services can be vulnerable to money laundering and other financial crimes due to:
- The attractive nature of specialized products
- International operations
According to sectoral guidance from the Joint Money Laundering Steering Group (JMLSG) in the UK, wealthy and powerful customers, including PEPs, are attracted to wealth management services. The guidance identifies several vulnerabilities faced by the industry, including:
- Unwillingness to provide details and explanations about private affairs
- Complex account structures in multiple jurisdictions
- A culture of confidentiality and discretion that can lead to secrecy
Conclusion
Overall, the study emphasizes the need for financial institutions to be vigilant and proactive in identifying and mitigating the risks associated with complex customer structures. By understanding these risks and implementing effective controls, financial institutions can help prevent money laundering and other financial crimes.