Is the Regulatory Burden Becoming Too Much for Financial Institutions? 'Know Your Customer' Procedures Are Beginning to Have an Impact on Financial Institutions Worldwide, and Regulators Are Not Shy of Clamping Down on Non-Compliance. Reputational Damage Sometimes Exceeds Even the Heavy Fines Being Levied

By Mountain, Julian | European Business Forum, Spring 2005 | Go to article overview

Is the Regulatory Burden Becoming Too Much for Financial Institutions? 'Know Your Customer' Procedures Are Beginning to Have an Impact on Financial Institutions Worldwide, and Regulators Are Not Shy of Clamping Down on Non-Compliance. Reputational Damage Sometimes Exceeds Even the Heavy Fines Being Levied


Mountain, Julian, European Business Forum


Tough new regulatory regimes are costing financial institutions millions of dollars in fines plus incalculable damage to reputations as regulators attempt to get a grip on international money-laundering. The US is the most aggressive, with fines last year totalling hundreds of millions of dollars.

In Europe, Britain's Financial Services Authority (FSA) leads the way with over [pounds sterling]30 million in fines levied against UK and foreign institutions in the past year, [pounds sterling]3 million of which was for infractions related directly to money-laundering (see chart).

While terrorism and tax evasion are two of the main culprits behind the move against suspicious financial activity, many institutions believe regulation and the heavy fines have increased at a rate disproportionate to the offences. Mid-level institutions are especially hard-pressed to comply, or to pay the price of non-compliance.

As a result, money-laundering has become a major operational risk for financial institutions. In Britain, for example, Board Members are held personally responsible for ensuring regulatory compliance.

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By far the most important fallout from these operations is reputational damage. Companies and private individuals choose their banks not necessarily because they offer the best financial returns but because they have a good reputation and therefore deposits are considered safe.

"The financial impact is usually less than the short-to-medium-term reputational impact," says Nigel Whittaker of Repu-tationInc in London. "There is growing appreciation, however, that given the current level of regulation, financial institutions will have to focus to a much greater degree on compliance, even if this affects the bottom line. At some stage, people are going to ask, 'Does this really make sense?'"

Financial penalties come in two forms, confiscated funds and fines imposed by the regulator. A year ago the London branch of Raiffeisen Zentralbank Osterreich (RZB London) was fined [pounds sterling]150,000 for breach of FSA money-laundering rules. Andrew Procter, FSA Director of Enforcement, explained the fine as a punishment for failing to have in place procedures for client identification and verification to avoid a breach of money-laundering rules.

"RZB London's failure to comply with the client identification provisions exposed the firm to an unacceptable risk of being used for money-laundering," he said in a statement. "I note, however, effective remedial action has been taken to resolve the problem."

The Bank of Scotland took a bigger hit when the FSA determined it had inadequate procedures and imposed a [pounds sterling]1.25m fine. But the heaviest fine went to Abbey National, the building society turned bank, after Procter said he had 'repeatedly made it clear' that financial institutions must comply with tightened regulations.

"The failure by Abbey National to monitor compliance with FSA money-laundering Rules demonstrated a marked lack of regard for its regulatory obligations," he said. "Abbey National failed to ensure that suspicious activity reports were promptly considered and reported to the National Criminal Intelligence Service and to identify customers adequately."

It should be noted that no evidence was found of money-laundering in these institutions--rather it was the lack of procedures that prompted the FSA to impose the fines. In other words it's no longer good enough for institutions to say their clients are not money-laundering--they have to be able to demonstrate that they have taken the necessary steps to prove it.

Where the pressure comes from

These tighter policies derive from a series of co-ordinated regulatory revisions in the United States, Europe and Asia--Basel II, Sarbanes-Oxley, Anti-money-laundering (AML) and the most common and most often forgotten, 'Know Your Customer' (KYC), a procedure for requiring detailed knowledge of customers. …

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Is the Regulatory Burden Becoming Too Much for Financial Institutions? 'Know Your Customer' Procedures Are Beginning to Have an Impact on Financial Institutions Worldwide, and Regulators Are Not Shy of Clamping Down on Non-Compliance. Reputational Damage Sometimes Exceeds Even the Heavy Fines Being Levied
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