Chapter 3 know your customer

Chapter 3
Know Your Customer
The Presentation Slides for Teaching
Anti-Money Laundering and Counter-Terrorist Financing
Website : https://sites.google.com/site/quanrisk
E-mail : quanrisk@gmail.com
Copyright © 2021 CapitaLogic Limited

Declaration
 Copyright © 2021 CapitaLogic Limited.
 All rights reserved. No part of this presentation file may be
reproduced, in any form or by any means, without written
permission from CapitaLogic Limited.
 Authored by Dr. LAM Yat-fai (林日辉),
Chief Data Scientist, CapitaLogic Limited,
Adjunct Professor of Finance, City University of Hong Kong,
Doctor of Business Administration,
CFA, CAIA, CAMS, CFE, FRM, PRM, MCSE, MCNE.
Copyright © 2021 CapitaLogic Limited 2

Components of a ML event
Criminal
Copyright © 2021 CapitaLogic Limited
Laundering trades
Money laundering instrument
3

Know your customer
 The process to determine the chance of a
customer to be connected to criminal activities
 Closer to 0% Regular customer
 In between Medium risk customer
 Closer to 100% Higher risk customer
 For a higher risk customer, to justify that
 Even though the customer belongs to the category of
higher risk
 The customer is unlikely to be connected to the ML
activities

 Customer and relationship
 Individual KYC
 Corporate KYC
Outline

Customer
 Not defined in the AMLO
 A common sense approach
 In general, refers to a party with whom
 a business relationship is established; or
 a transaction is carried out by a FI
 Excluding the external third party of a
transaction
 The recipient of a credit card payment

Major types of customers
 Individual person
 Corporation
 Private banking customers
 Overseas banks
 Listed companies
 Regulated financial institutions
 Government and/or public organization

Business relationship
vs occasional transaction
 Business relationship
 Has an element of duration
 At the time a person, who first contacts a FI to
seek services, expects to have an element of
duration
 Occasional transaction
 A transaction conducted by a FI on behalf of a
person who has only a short period of contact with
the FI
 Less than a week

Know your customer
 Basic customer due diligence
 Risk assessment
 Potential revenue analysis
 Enhanced customer due diligence
 Justification of the unlikelihood of ML activities
 Ongoing monitoring

Basic customer due diligence
 A standard operating procedure to
 Collect minimum customer documents mandated
by the regulations
 Observe general information for estimating the
potential revenue to the FI from a customer

Individual person
 Identity document
 Residential address
Corporation
 Identity of customer
 Verification of identity
 Relationship objective
 Beneficial owner
 General information for estimating
the potential revenue to the FI

 Individual KYC
 Corporate KYC
Outline

Individual person
 Has his own unique identity, can
 Own assets
 Enter liabilities
 Sign contracts
 Take legal actions
 Commit crimes
 Be sued
 Controls, benefits from and is responsible for
his own activities, including
 Financial transactions
 The ML activities

Basic CDD information
 Identity document showing
 Full name
 Date of birth
 Nationality
 Document type
 Document number
 Residential address provided by customer in
the application form

Identity document
Customer Identity document
Permanent resident HKID card
Child under the age of 12 Birth certificate
Non-permanent resident
Passport or travel document
Non-resident

Revenue estimation information
 Type of account
 Initial deposit amount
 Residential address
 Language
 Age
 Occupation
 Investments
 Mobile phone
 Dress
 Outlook
 Conversation
 People around

Relationship objective and
beneficial owner
 Will NOT be asked explicitly
 Relationship objective
 Assumed to be inline with the FI’s service
 Deposits account for fund deposits
 Securities account for stock trading
 Insurance policy for loss protection
 Beneficial owner
 Assumed to be the same as the customer

Individual person cannot
control himself
 Child below 12 years old
 Basic CDD on parents
 Old aged person, mental failure patient and/ or
serious illness patient
 Basic CDD on a legally authorized representative

Watch list searching
 Search a customer name in a watch list database
containing
 Sanctioned persons designated by
 United Nations
 Interpol’s highly wanted criminals
 Home country of the FI
 Countries with major businesses
 Politically exposed persons
 Foreign, domestic and international organization
 Other watched persons
 Practitioners of industries with higher ML exposures
 Other black listed entities
 Major connected parties of above

Matching items
 Official name on the identity document
 Day, month and year of the date of birth
 Country
 Issuing country of the identity document
 Residential address

Commercial watch list databases
 Refinitiv World-Check
 Dow Jones RiskCenter
 Lexis-Nexis Identity Verification

Warning
 Commercial watch list databases intend to
include as many watched persons as possible
 Watched person ≠ Higher risk person
 Long Hair (Leung Kwok-hung, 梁國雄) is a
watched person
 How much money does Long Hair have?
 FIs should minimize the size of the watch list
databases

Sanctions
 Sanctioned person
 Government designated person to whom funds, financial
services and/or economic resources cannot be provided
 Statutory sanctions lists in Hong Kong
 United Nations sanctions list
 Excluding persons in China
 Interpol’s highly wanted criminals
 Non-statutory sanctions lists in Hong Kong
 US OFAC sanctions lists
 European Union sanctions lists
 and many more

Interpol’s highly wanted list

Foreign politically exposed person
(Foreign PEP)
 Defined in the AMLO
 Deemed to be higher risk
 An individual who is entrusted with a prominent
public function outside the People’s Republic of
China
 Head of state, head of government, senior politician, senior
government, judicial or military official, senior executive
of a state owned corporation and an important political
party official
 A spouse, child, parent or partner of a foreign PEP
 An entity having close relationship with a foreign
PEP

Domestic PEP
 Defined in the AML guideline
 Not defined in the AMLO
 The major group of higher profit customers in Hong Kong
 Watched but not deemed higher risk
 An individual who is entrusted with a prominent public
function inside the People’s Republic of China
 Head of state, head of government, senior politician, senior
government, judicial or military official, senior executive of a
state owned corporation and an important political party official
 A spouse, child, parent or partner of a domestic PEP
 An entity having close relationship with a domestic PEP

International organization PEP
(IO PEP)
 Defined in the AML guideline
 Not defined in the AMLO
 Watched but not deemed higher risk
 An individual who is or has been entrusted with a
prominent function by an international organization
formed and recognized by a group of country
governments
 Senior management, i.e. directors, deputy directors and
members of the board or equivalent functions
 A spouse, child, parent or partner of an IO PEP
 An entity having close relationship with an IO PEP

Free web search

Know your customer
Risk assessment
Regular
Open account
Other watched persons
Potential revenue analysis
Good potential revenue
Justifications of
not higher risk
Medium risk
Enhanced
monitoring
Open account
Higher risk
Enhanced CDD
Justifications of
no ML activities
Open account
Poor potential
Reject
Sanctioned
Report to JFIU

Potential revenue analysis
 For a watched customer, will the potential
revenue out weight the cost and risk?
 No, reject the customer
 Yes, justify to be not higher risk
 If cannot justify, go to enhanced CDD

Mandatory higher risk persons
 Foreign PEPs
 Connected to the higher risk countries
 Cayman Islands, Myanmar, Pakistan
 Higher risk services mandated by regulators
 Private banking
 Life insurance with all premiums paid before the
effectiveness of the insurance policy
 Other services designed specifically for high net worth
customers
 Subject to enhanced CDD

Medium risk persons
 Watched but not higher risk persons
 Domestic PEPs
 IO PEPs
 Retired PEPs
 Higher risk industry
 Money lender
 Remittance agency
 Money changer
 Subject to enhanced monitoring only
 No disturbance to business relationship

Enhanced CDD
 More customer information
 Beneficial owner
 Purpose of the account
 Employment background
 Business background
 Family background
 Estimated net worth
 Source of wealth
 Source of funds
 Most of the information cannot be verified

More customer information
 Public domain and media information
 Positive comments on a customer
 Comparison with other similar customers
 Expert opinions
 Certified by accountants and/or solicitors
 Private information
 Very difficult to obtain
 Industry benchmarking
 How does HSBC do?
 How does Fubon Bank do?

Positive arguments
Customer
 Social status
 Contributions to society
 Charities
 Qualifications
 Professional practices
 Honours
 Peer group
Relationship
 Clean businesses
 Clean historical records
 Similar customers

Enhanced AML compliance
 Know your customer
 Enhanced CDD
 Frequent monitoring
 Suspicious transactions
 Close monitoring
 Record keeping
 Thick file
 Detailed analysis
 Approved by
 Senior management

When to conduct KYC?
 Before establishing a business relationship
 Before performing any occasional transactions with an
aggregate value at or above
 HKD 120,000
 HKD 8,000 if conducted by wire transfer
 The FI expects that the information on hand is outdated
 The FI suspects that the customer is involved in the ML
activities
 There is a supervisory initiative

Delayed KYC
 The ML risk is immaterial when the customer
conducts transactions in a new account
 Deposits into a new bank account
 Securities transfers to a new securities account
 Premium payments to a new insurance policy
 Other transactions are not allowed
 Withdrawals are not allowed until the KYC is
completed or the account is cancelled

Ongoing monitoring
 Regular sanctions list matching
 Match all customer names against an updated sanctions lists at
least weekly using computer applications
 Regular re-CDD
 Higher risk customer Once a year
 Medium risk customer Once every two years
 Regular customer Once every three years
 Event trigger
 Highlighted by the regular sanctions list matching
 Transactions with very large amount and/or high frequency
 Expiry of an identity document
 Supervisory initiatives
 Reported by media

Outsourcing of KYC
 A certified public accountant practising in Hong Kong
 A solicitor practising in Hong Kong
 A current member of The Hong Kong Institute of
Chartered Secretaries practising in Hong Kong
 A regulated FI in Hong Kong
 An equivalent professional in other countries
 The FI must take the ultimate statutory and regulatory
responsibilities
 Never outsource enhanced CDD

 Individual KYC
 Corporate KYC
Outline

Corporation
 Incorporated under the Companies Ordinance
in Hong Kong
 Has an unique identity, can
 Own assets
 Enter liabilities
 Sign contracts
 Take legal actions
 Commit crimes
 Be sued

A model corporate structure
Owner(s)
Share
-holder(s)
Director
Authorized
signatory
Chairman
and director
Authorized
signatory
Director
Authorized
signatory
Company
secretary

Shareholder
 The official owner of a corporation
 The initial funding source of a corporation
 To entitle to the benefits arising from a
corporation
 To employ directors of a corporation

Director
 Employed by shareholder(s)
 To operate the corporation
 To make decisions for the corporation
 To appoint employees
 To delegate responsibilities

Authorized signatory
 Employed by a corporation through directors
 To sign documents
 To control directly the cash flows in an account in
a FI

Owner
 The ultimate controller of a corporation
 Hidden owner
 An owner who is not recorded in the Companies
Registry
 You will never know whom the hidden owner is

Chairman and company secretary
 Chairman
 The principal director
 Company secretary
 An entity to provide professional documentation
services in accordance with the Companies
Ordinance

SME corporate structure
Owner
Shareholder
Chairman
Director
Authorized signatory
Company secretarial
services provider

Corporate identification
 Full name
 Country of incorporation
 Date of incorporation
 Incorporation number
 Registered address in the country of
incorporation
 Primary business address

Identity documents
 A copy of the certificate of incorporation and
business registration
 A copy of the articles of association which
evidence the powers that regulate and bind the
corporation
 A list of directors
 List of major shareholders controlling 25% or
more of the issued shares
 Chart of shareholding structure

Independent source verification
 Search Hong Kong Companies Registry and
obtain a company report
 Search a similar companies registry in the country
of incorporation and obtain a company report
 A certificate of incumbency issued by the
corporation’s registration agent in the country of
incorporation
 Similar corporation report certified by a
professional third party

Relationship objectives of
an existing corporation
 Business activities
 Number of employees
 Funding sources
 Annual revenues
 Existing customers
 Business history

Relationship objectives of
a new corporation
 Intended business activities
 Projected number of employees
 Expected funding sources
 Projected annual revenues
 Targeted customer base

Statutory assumptions re-visited
 A corporation CANNOT
 control its own activities
 benefit from its own activities
 be responsible for its own activities
 It is the shareholders, directors, account
signatories and/or owners of the corporation
CAN

Beneficial owner
 A shareholder with 25% or more shares
 Owns or controls 25% or more of the issued
share capital of the corporation
 Can exercise or control the exercise of 25%
or more of the voting rights
 Can ultimately control the corporation
 Can control the cash flows of the
corporation

Full corporate KYC
 Corporation
 KYC on the corporation
 Beneficial owners
 KYC on individual person if the beneficial owner
is an individual person
 Full corporate KYC if the beneficial owner is a
corporation

Other aspects of full corporate KYC
 Similar to individual KYC
 Basic CDD
 Representativeness of documents
 Watch list searching
 Sanctioned person
 Politically exposed person
 Potential revenue analysis
 Enhanced CDD
 Delayed CDD
 Ongoing monitoring
 Outsourcing

Reference
 Guideline on Anti-Money Laundering and
Counter-Terrorist Financing (for Authorized
Institutions) (Oct 2018)

Chapter 3 know your customer

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