PEP Screening – Improving Compliance for Global Businesses

The Financial Action Task Force (FATF) defines Politically Exposed Persons (PEPs) who are or have been entrusted with prominent positions. Due to proximity to power, PEPs are more susceptible to engaging in financial crimes such as money laundering, terrorist financing, bribery, etc.

Financial institutions (FIs) must assess the risks of onboarding a PEP as a customer or conduct ongoing PEP monitoring for existing customers.

In an effort to fight money laundering and potential financial crimes, the FIs and designated non-financial businesses and professions (DNFBPs) are encouraged to implement a PEP due diligence framework recommended by FATF in its Recommendation 12.

Reliable PEP screening solutions monitor the politically exposed persons and their associates for ongoing AML risks to assess their involvement in illegal activities.

Why not take a moment to read this article and discover how businesses can proactively reduce potential PEP risks rather than just derisking?

Learn the best practices that any effective PEP screening solution should have to manage and mitigate these risks.

PEP Screening: Protecting Financial Systems from High-Risk Clients

According to the United States Sentencing Commission (USSC), penalties for money laundering are more severe than those for other white collar crimes.

There is no lack of stories associated with PEP’s involvement in corruption, bribery, and tax evasion. These high-profile risks make effective screening a necessity in managing regulatory and reputational risk.

Financial institutions are legally bound to take preventive measures to identify financial crime, including high-risk clients who could commit monetary wrongdoings and hence pose legal repercussions.

In adherence to FATF recommendations, PEP screening allows FIs to identify both domestic and international PEPs. The core purpose of PEP screening is to assess the risk associated with customers who have proximity to power.

Global anti-money laundering regulations not only call for due diligence for politicians but also for their relatives and close associates (RCAs).

Why is PEP Screening Important for Financial Institutions?

PEP screening is important for financial institutions for effective compliance with AML regulations. It is crucial for the customer’s risk assessment.

Regulatory Compliance

Politically exposed persons (PEPs) are high-risk individuals according to each country’s anti-money laundering law, highlighting the global significance of PEP screening, which serves as a widely adopted regulatory expectation.

Several frameworks that drive PEP Screening are:

• FATF Recommendations
• FinCEN Regulations (Bank Secrecy Act)
• EU Anti-Money Laundering Directives (4th, 5th, 6th AMLD)
• UK Money Laundering Regulations 2017
• FINTRAC Guidelines (Proceeds of Crime Act)
• AUSTRAC Regulations (AML/CTF Act 2006)

The Case of HSBC

“Not assessing the Politically Exposed Persons (PEPs) may incur huge financial penalties and regulatory sanctions.”

Many financial institutions in the past have faced fines because they didn’t do proper due diligence for PEPs.

In the case of HSBC’s Swiss private bank, it failed to identify politically exposed persons (PEPs) and ignored the signs of potential money laundering, which led to law violations.

Consequently, due to these legal breaches, the Swiss Financial Market Supervisory Authority (FINMA) put the bank under high scrutiny and imposed the following measures on it:

• HSBC must conduct an extensive review of its high-risk clients in relation to AML risks.
• HSBC will clearly explain its duties to FINMA and the top management.
• The bank needs to double-check when making the risk categories for its clients.
• HSBC must have an on-site auditor who will track its financial activities and report back to FINMA.
• HSBC cannot onboard PEP as their clients until the auditor gives a positive sign.

Risk Mitigation

PEPs are generally high-risk because of their positions, and a lack of proper screening can not only lead to non-compliance with AML laws but also violation of Anti-Bribery and Anti-Corruption laws. For the banking sector, it can result in:

• Reputational damage (when the news about any involvement with a high-risk entity spreads)
• Fraud and bribery Exposure (Might be because of weak AML controls or facilitating any illegal transactions)
• Complex Cross-border Risks (because of diverse regulatory environments and cross-border transactions)

Enhanced Due Diligence (EDD)

It is essential to perform enhanced due diligence for high-risk entities such as PEPs. Enhanced Due Diligence includes:

• Verification of the source of funds
• Building the purpose of transactions
• Continuous monitoring of news for any association with money laundering risks.

Steps to Ensure Effective PEP Screening

PEP screening is essential for compliance with AML regulations, but it can be challenging due to complex and often contradictory PEP regulations.

The key aspects involved in the PEP screening in global businesses include:

Automated Screening Systems

Manual PEP screening is a laborious task, and it also doesn’t give the true picture of the risk associated with a customer.

Instead, automated PEP screening uses advanced AML systems, including risk scoring algorithms to triage alerts, instant database checks for PEP/watchlist updates, and natural language processing to assess the adverse media.

The precision in screening can be enhanced by implementing fuzzing matching strategies that handle common name variations, aliases, and transliterations to reduce false positives.

Ongoing Monitoring

The PEP status of a client is dynamic; it changes with time. Customers can gain or lose political influence. Therefore, it is necessary to perform ongoing monitoring to flag status changes.

Additionally, continuous adverse media monitoring is required to assess the risk of PEPs’ involvement in any financial crime.

Effective PEP screening necessitates reliance on frequently updated data, ideally with changes to political positions, electoral outcomes, or sanctions reflected within the latest regulatory changes.

Cross-Border Compliance

It is necessary for businesses operating cross-border to reconcile diverse regulations to comply with legislative requirements beyond the border.

Enhanced Due Diligence and PEP Checks Go Hand-in-Hand

Clients of FIs, such as banks, are not concerned at all if there has been any shortcoming in the PEP screening system of a particular bank.

It is imperative to ensure regular customer due diligence to check whether the client is a PEP or not.

The guidelines further make it necessary to have a reliable PEP screening method that separates the level of risk associated with domestic and international PEPs.

The integration of a multi-tier classification system categorizes PEPs into four levels depending upon their role, access to authority, and influence. These defined risk tiers are:

• Heads of state
• High-level officials
• Mid-level officials
• Lower tier or indirect exposure PEPs

Under their jurisdictional power and access to authority.

As highlighted in the World Bank report, the regulations recommended by FATF are not applied only to banks, but also to Designated Non-Financial Businesses and Professions (DNFBPs) such as:

• Real estate agents
• Lawyers
• Casinos
• Dealers in precious metals

All of these are required to implement enhanced due diligence.

Therefore, the FIs are intended to take mandatory measures to analyze their relationship with PEPs and closely check their source of funds. Implementing a risk-based approach allows FIs to better evaluate the risks associated with Politically Exposed Persons (PEPs).

Implementing a risk-based approach to PEP screening involves evaluating and categorizing PEPs according to their risk levels, distinguishing between low-risk and high-risk individuals based on the position they hold or the presence of any adverse media about them.

Additionally, it ensures that client profiles meet the proper investment objectives and legislative requirements.

Challenges in PEP Screening Due to Varying PEP Definitions

PEP compliance requirements vary by jurisdiction due to their country-specific laws. However, some regions have broader definitions for PEPs, which include longer periods post-office and official in lower ranks.

For instance, in Ukraine, Italy, the UK, Lithuania, Luxembourg, Germany, and Italy, the focus is on enhancing checks on foreign PEPs.

Whereas, in Switzerland, France, Spain, and Russia, financial institutions adhere to PEP compliance for both domestic and foreign PEPs. Similarly, mayors are PEPs in Canada, while they are not PEPs in the UK.

Choosing the Right PEP Screening Software for Effective AML Compliance

Legacy PEP screening is error-prone and time-intensive. It struggles with outdated information and flexibility.

Combating the alarming challenges in meeting PEP compliance, the advanced solutions offer an all-in-one automated AI/ML-driven PEP list screening solution across various industries and countries, incorporating updated PEP lists and regulations.

Compliance teams thrive with supportive tools offering direct integration into case management systems through APIs. This results in screening workflows with minimal interruption and robust auditability.

They reveal unseen connections, adapt to enhanced screening requirements with business expansion, guarantee consistent application, and offer effective compliance in line with a risk-based approach.

The risk-based approach recommended by FATF allows businesses to gain a solution so that they can strengthen their PEP screening software with access to an updated network of Politically Exposed Persons lists.

A complete screening also demands the coverage of unfamiliar jurisdictions, guaranteeing all the politically relevant individuals are monitored.

Stay Ahead of Contemporary PEP Screening with AML Watcher

AML Watcher’s real-time screening uses real-time data to update the PEP profiles in line with their changing status and update the risk levels, enabling your business to meet PEP compliance and protecting its integrity.

Our enhanced PEP database equips your business with effective screening protocols while meeting the global compliance standards and regulations such as the FATF Recommendations, UK Bribery Act, UN Anti-corruption Conventions, AMLDs, EU Anti-Money Laundering Directives, and USA Patriot Act.

AML Watcher offers updated PEP data from more than 235 countries, including:

• Comprehensive data coverage harmonizes the PEP definitions, so that FIs can customize PEP risks tailored to the needs of their jurisdiction’s specific laws.
• Custom risk screening to assess the risk of PEPs according to risk appetite and the compliance program.
• Complete coverage of Jurisdictions with a population of less than 100,000, including small islands as well.
• Coverage of data from war-torn countries and controversial jurisdictions.
• Data coverage is in line with regulatory changes, such as elections or other political events.

Are you ready to reinforce your compliance processes, adopt a risk-based approach, and mitigate compliance risk?