Know Your Customer

and
Prevention of Money Laundering
Muralidharprasad
Associate Professor - SSIM
The Curse
In his discussion of black money in the parliament
Mr Advani cited our estimates of illicit capital
flight, which suggest total illicit outflows from the
developing world of $1,000bn (Euro 766bn,
Pound 684bn) a year.
India ranked fifth highest at $22bn-$27bn a year,
coming in behind Russia ($32bn- $38bn), Mexico
($41bn-$46bn), Saudi Arabia ($54bn-$55bn) and
China ($233bn-$289bn).
East or West Swiss is Worst
Global Financial Integrity study (2006) , shows that the average
amount stashed away from India annually during 2002-06 is $27.3
billion (about 136,466 crore).
It means that during the five-year period the amount stashed away is
27.3x5=136.5 billion (about 692,328 crore).
It is not that all these amounts went to Swiss banks. It has gone to
different tax and secret shelters.
The share of Swiss banks in dirty money being a third of the global
aggregate, some $45 billion out of the 136.5 billion stashed away from
India would have been hoarded in these years in Swiss banks.
The important point is that this is only for five years. More amounts
were stashed away during the Nehruvian regime.
So the loot for 55 years will be several times higher. In fact, in those
days the rupee commanded a better value per dollar. So fewer rupee
could get more dollars. So the estimation that the Indian money
stashed away may be of the order of $1.4 trillion (about Rs 71 lakh
crore).
Money matters
In 2000, black money was estimated to account for more
than 40 per cent of India's GDP (approximately $ 150
billion)
In Pakistan the figures are worse.
The Pakistan Institute of Development Economics said
assets stashed away as black money in the country was
worth about $28 billion or over 51 per cent of the country's
GDP
The IMF estimates the global volume of money laundering
to be anywhere between $600 billion and $1.8 trillion a
year
In US, the collective spending by banking, insurance and
fund management companies on anti-money laundering
measures is estimated to be $10.9 billion between 2003
and 2005.
KYC & AML
Under Sec- 35 of RBI Act KYC & AML was
introduced (Nov-29, 2004)

Objectives
To prevent criminals to use banking channels
To know the financial transactions of a customer
Managing the risk prudently
Detecting and Reporting suspicious transactions


KYC & AML -Process
To identify customers at the time of entry and
monitor transactions on an ongoing basis
Classification of customers into Low, Medium and
High Risk categories
Level of monitoring depends on level of risk
Risk categorisation to be reviewed periodically
Reporting system for certain types of transactions
is recommended
Risk Perception
Reputation Risk
Compliance Risk
Legal Risk
Customer defined
A Customer is defined as
A person or an entity that maintain an account and / or
has a business relation with the bank
One on whose behalf the account is maintained (i.e the
beneficial owner)
Beneficiaries of transactions conducted by professional
intermediaries , such as stock brokers , chartered
accountants , solicitors , etc as permitted under law
Any person or entity connected with a financial
transaction which can pose significant reputational or
otherwise risks to the bank
Key elements of the policy
Customer Acceptance Policy
Customer Identification Policy
Monitoring of Transactions and
Risk Management
KYC & AML
Policy guidelines are applicable to
new & existing deposit, advance
accounts as well as to all other types
of business activities
Newly opened branches shall also
observe policy guidelines
Observance of policy guidelines is a
regulatory as well as a statutory
requirement
KYC & AML
Key elements of Policy
Customer Acceptance Policy (CAP)
Customer Identification Procedure (CIP)
Monitoring of transactions
Risk Management

Customer Acceptance Policy
Application form in prescribed format with
stipulated documents and information to be
obtained
KYC guidelines are applicable for transferred
accounts also
Decision not to open account can be taken by
branch manager only
Account not to be opened for banned
organisations

Customer Identification
Procedure
Collecting information relating to identity,
activity, location, etc to ascertain purpose of
opening account and anticipated level of activity
Personal data form along with document in proof
of identity and address
To be observed in case of addition/substitution or
change of authorised signatories

Simplified Customer
Identification Procedure
1. In case of persons in rural and urban areas
belonging to low income group
2. where intended balance in account is not
exceeding Rs.50,000
3. credits in a year are not more than Rs.1 lakh
(joint a/cs not allowed)
In above cases account can be opened after
obtaining either
Introduction from account holder who has fulfilled
KYC guidelines
OR
evidence as to identity and address to the satisfaction
of the Bank
SCIP
Notice should be issued when o/s balance
exceeds 40,000 or credits exceed 80,000
Grant received from govt. to be excluded
for arriving at 50000 or 1 lakh
In case above limits are exceeded full KYC
procedure to be fulfilled
Customer Due Diligence
Verification of information and
monitoring of transactions
Low risk customers verification of
identity & location is sufficient
Medium risk sources of income,
mode of payments, etc
High risk CDD should be enhanced
and even be intensive
Risk classification
High risk Customers in professions like
antique dealers, dealers in arms, money services
bureau etc
Customers living in high risk countries
PEPs (Politically Exposed Persons)resident
outside India/ of foreign origin living in India
Individuals of Net worth of 1 crore and above
where source is not specified
Organisations receiving donations under FCRA
Non face to-face customers
All NR accounts
Customers who enjoy credit facilities with other
Banks


Risk classification
Medium risk Customers living in
medium risk countries
Aggregate credits > 10 lakh p.a for
individuals and above annual sales for firms
/cos (documentary proof to be obtained)
Clubs/societies/trusts etc > 50 lakh in a year
Risk classification
Low risk Customers not classified as
medium or high risk
Aggregate credits not exceeding 10 lakh for
individuals & annual sales for firms/cos etc
Clubs/societies/trusts etc less than 50 lakh
Accounts of govt depts, SHGs temples under
endowment depts, statutory bodies and
borrowers where due diligence is done

Risk classification
In case a customer has more than one account the
highest risk level will be the classification for all
accounts
CUSTOMER PROFILE
Should be maintained for all accounts- a manual
register to be maintained
Each profile should be given Uniform Customer
Number (UCN)
Passport size photos & copies of stipulated
documents should be obtained

Monitoring & Reporting
Transactions exceeding threshold limit
Very high turnover inconsistent with size of
balance in the account
Large amount of cash transactions
High risk accounts
Transactions in NRE a/cs
Reporting of transactions to law enforcing
authority
Fixation of threshold limit
Threshold limit is stipulated for all
operative accounts
Whenever limit is exceeded alert is
received from the system
Threshold limit should be reviewed and
changed if necessary

Threshold limits
High risk customers All transactions
cash or otherwise
Medium risk customers
Individuals cash 1 lakh & above Other than
cash 5 lakh & above
Firms, etc cash 10 lakh & above other than
cash 25 lakh & above or transaction exceeding
25 % of turnover whichever is less
Clubs etc Rs 5 lakh & above cash & otherwise
Threshold limits
Low risk customers
Individuals cash transactions of 5 lakh &
above Other than cash 10 lakh & above
Firms etc cash 10 lakh & above or exceeding
20 % of turnover whichever is less
Other than cash 50 lakh & above or exceeding
50 % of turnover whichever is less
Clubs etc 10 lakh & above whether in cash or
otherwise
Review of risk category
Transactions in new a/cs should be
monitored for 6 months & later review
should be done as under
High Risk Quarterly
Medium risk Yearly
Low risk Bi-annually
Money laundering
What is Money Laundering?
It is a process of making dirty money clean.
Money is moved around the financial
system again and again in such manner that
its origin gets hidden.
Money generated from illegitimate source is
converted into that derived from legitimate
source

28
Prevention of Money Laundering Act 2002 (PML Act)
Meaning of Money Laundering
Money laundering means transferring of funds to
make the source seen legitimate (untainted) or
concealment of proceeds of crime.

Proceeds of crime means
any property or value of any such property
derived or obtained by any person,
directly or indirectly by any person
as a result of criminal activity relating to a scheduled
offence. [Sec.2 (u)

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STAGES IN MONEY LAUNDERING
1. Placement :
Placing through deposits or other means, unlawful
proceeds into the financial system
2. Layering :
Separating proceeds of criminal activity from their
origin (source) through use of layers of complex
financial transactions
3. Integration :
Reinjuction of the laundered proceeds back into the
economy in such way that they re-enter the financial
system as normal business funds
Obligation under PML 2002
Sec- 12 of PML
Maintaining a record of prescribed transactions
Furnishing Information of Prescribed Transactions
Verifying and Maintaining records of identity of
clients
Preserving records in case of the above for a
minimum period of 10 years from the date of
cessation of transaction with the clients
Prevention of money laundering
Reporting of transactions
All cash transactions of Rs. 10 lakh & above
All series of cash transactions integrally connected
below but aggregating to Rs.10lakh in a month
All cash transactions where forged or counterfeit
currency notes have been used or forgery of
security has taken place
All suspicious transactions in cash or otherwise





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