Private fund managers are an important driver of investment and economic activity globally. Tasked with selecting worthwhile and responsible investments for their clients, fund managers need to balance a complex range of considerations in their operations – from risk and return on investment (ROI) to long-term investment strategies and compliance with financial regulations.
The private capital fund management industry has long been attuned to the overarching demands of multilayered local and international compliance regimes.
But as regulatory regimes have expanded to become more demanding, complex and expansive in their attempts to keep up with evolving opportunities for money laundering and criminal/terrorist financing, the compliance challenge has become a serious and often limiting burden on smaller or mid-sized fund managers with limited resources.
In this article, we outline six key pillars of an Anti-Money Laundering (AML) & Know Your Customer (KYC) strategy that can help fund managers realize their compliance goals.
In addition to ensuring compliance with financial regulations, effectively implementing these steps can allow fund managers to protect their clients’ investments, prevent their services from being exploited by financial criminals and build trust among their existing and potential client base.
1. Develop structured internal AML/KYC policies and procedures
Having a clear and structured roadmap for mitigating risk and ensuring compliance with regulations is a critical first step for any effective AML/KYC program.
This roadmap will outline the specific regulations that need to be complied with and how the fund manager will realize these responsibilities. The roadmap will also have a clear rubric for assessing risk according to its own pre-determined risk appetite. It will clearly define who and what elements of a fund’s operations are liable to specific compliance considerations.
A clear and organized view of these policies, procedures and controls will form the foundation of an effective AML/KYC program that is consistently implemented and monitored – it will also be an essential document for fund managers to demonstrate that they have a structured and coherent approach to compliance.
2. Assign compliance responsibilities
Once a clear internal compliance roadmap has been established, it will be time to establish who within an organization will be responsible for the AML/KYC program’s implementation and evaluation, as well as for reporting compliance issues and suspicious activity to relevant authorities.
Typically, these responsibilities are assigned to a Chief Compliance Officer (CCO) or a Chief Reporting Officer (CRO) or the Money Laundering Reporting Officer (MLRO).
Regardless of the title, the person holding this position should be relatively senior within the organization’s hierarchy in order to ensure full oversight over operations. They should also have knowledge of:
- The fundamental aspects of AML/KYC regulations such a the Banking Secrecy Act and Financial Action Task Force (FATF) recommendations
- Key variations in jurisdictional enforcement of financial laws in the markets the firm operates in
- AML/KYC best practices and how to leverage technologies to automate processes
The CCO/CRO/MLRO will have responsibility for maintaining up to date records of KYC/AML implementation in the company. They should also have a key understanding of the steps to follow should suspicious transactions or financial activity be detected either internally or through the firm’s clientele.
3. Establish a robust Customer Due Diligence (CDD) program
CDD is a cornerstone for anti-money laundering (AML) compliance, and helps fund managers and other financial service providers to protect themselves from criminal activity.
CDD refers to a process that assesses all of the risks associated with a client or relationship. At its most basic, the process involves carrying out KYC checks to establish and verify a client’s identity. It can also take into account their conduct, and assess transactions and financial activity to determine if they are unusual, suspicious and require further action, such as reporting to financial regulators.
For fund managers, establishing a CDD process will involve building clear tools for verifying a client or investment target’s identity and their source of funds. It will also provide a clear roadmap for assessing aspects such as
- Their jurisdiction(s) of operation,
- Whether they are private or public companies or have interactions with politically exposed persons (PEPs)
- If they have faced any regulatory sanctions or been the subject of adverse media
All of these factors will contribute to the establishment of a risk profile for each client or investment target.
4. Implement a Risk-Based Approach (RBA)
The most effective approach to compliance is risk-based. What this means is that there is a clear system in place for establishing risk profiles for clients and investment targets, which then determines the levels of monitoring and compliance checks to implement on them.
For instance, clients/targets that are deemed to be low risk from a compliance perspective can normally be processed using low-tier compliance checks – essentially verifying their identity and source of funds. Mid and high risk subjects will be processed with more strenuous, enhanced due diligence (EDD) checks that can include adverse media searches, Ultimate Beneficial Owner (UBO) extraction for companies and other more detailed checks.
The benefits of a risk-based approach is that it allows firms to use their compliance resources more efficiently, placing more attention where it is needed and not expending time and resources on clients that are low risk.
5. Implement ongoing screening and monitoring
AML/KYC checks on clients and targets are the first step in ensuring a fund’s business operations are compliant with global regulations and as well defended as possible from exploitation by financial criminals.
However, it’s equally important to maintain ongoing monitoring and screening that can detect and assess any changes to a client or investment target’s risk profile after a relationship has been established with them. This can include changes to their ownership structure or source of funds, their place of business or regulatory status, as well as new references to the individual or company in adverse media.
Ongoing monitoring will also allow firms to develop structured records of their compliance process that can be provided to regulators should an audit ever occur, as well as for their own internal compliance system improvement and evaluation.
6. Establish training and education programs
The key success factor of any compliance program is the people who are tasked with maintaining and implementing it. Building an effective compliance culture is not simple or possible overnight. It requires continuous monitoring and education of evolving regulations, as well as a keen awareness of the dangers and toxic and far-reaching effects of money laundering, corruption and other financial crimes.
For fund managers, establishing regular compliance training sessions for the entire organization can help build such a culture – doing so will not only strengthen a firm’s defenses against financial crimes, but will also build greater trust among their clientele.
Implementing a robust and effective AML/KYC program is not a simple task and requires concerted and determined efforts from fund managers. At KYC-Chain, we provide end-to-end compliance solutions for a wide range of businesses and sectors, including fund managers and other financial service providers. Our compliance software allows businesses to implement the extensive checks, screening and monitoring demanded by national and international regulators in a fast, efficient and organized process, relieving pressure on human compliance teams and resources.
Interested in using KYC-Chain for your fund’s compliance challenges? Get in touch and we’ll be happy to start a conversation.