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When it comes to CDD checks, it is not surprising that firms are increasingly relying on third parties. This concept of ‘reliance’ is well established in UK Money Laundering Regulations. For those with growing volumes of customers, keeping CDD in-house is not always practical or efficient. This is why getting CDD procedures ‘right’ is essential. The terms ‘reliance’ and ‘outsourcing’ are not the same, and it is easy to fall foul of your CDD obligations through ineffective procedures if you’re unsure about where responsibilities lie.
What is the difference between ‘reliance’ and ‘outsourcing’ in AML?
The words ‘reliance’ and ‘outsourcing’ are thrown around, often interchangeably. But what’s the difference between these two concepts? The difference lies in the level of trust conferred onto the third party. In outsourcing arrangements, the third party is technically working under the instruction of the original firm. Whereas placing ‘reliance’ is a legal concept within the Money Laundering Regulations, in which the third party must consent to being relied upon. This involves trust being placed on the third party to apply CDD measures on their behalf.
Another key difference lies in the further delegation of responsibilities. In an outsourcing scenario, the third party vendor may choose to further outsource delegated tasks, subject to the terms of their contract. However, when placing reliance, the third party is typically expected to perform the tasks themselves without creating a chain of reliance, since the trust is placed specifically in their expertise.
The Money Laundering Regulations draw a distinction between these two concepts, so it’s important to consider which arrangement is most suitable for the specific risks you’re experiencing.
Check whether the third party is eligible.
The UK Money Laundering Regulations, specifically under section 39(3), are highly prescriptive when it comes to determining which types of third parties regulated firms are permitted to place reliance on for CDD purposes. The regulations provide a specific list of entities that have been recognised as reliable sources for conducting CDD on customers. These include credit institutions, financial institutions, auditors, insolvency practitioners, external accountants, and tax advisers, as well as independent legal professionals, trust or company service providers, estate agents, high-value dealers and casinos.
These firms are considered suitable third parties in the context of a reliance arrangement. It is important to recognise, however, that determining upon whom reliance can be placed is just one piece of a much larger puzzle.
Understanding which activities are appropriate.
Regulated firms often have the flexibility to place reliance on third parties for various aspects of customer identification, identity verification, and assessing the purpose and intent of their business relationships. This practice can often be an effective way of leveraging the capabilities of third party providers to improve the operational efficiency of AML processes, whilst also meeting CDD requirements.
Whilst regulated firms can rely on third parties for certain aspects of their AML/KYC processes, it’s crucial to understand that they cannot be solely relied upon for the oversight and quality assurance of these processes. Regulators expect firms to maintain ultimate responsibility for the effectiveness of their money laundering controls and systems. This means that even when placing reliance on others for elements of these processes, you must have robust oversight controls in place to monitor the performance of third parties, ensure compliance with regulations, and address any gaps or ineffective controls promptly.
The FCA also expects firms to conduct ongoing reviews of their third party service providers, assessing their performance, and ensure that they’re following regulatory requirements.
Remembering where you’re liable.
The Money Laundering Regulations enforce accountability for reliance arrangements by making sure the firm placing reliance is always liable for AML failings. It is not possible for firms under regulatory scrutiny to ‘point the finger’ at those they choose to place reliance on for inadequate AML systems and controls.
The rationale is to encourage effective oversight of reliance arrangements by ensuring third parties are continually assessed from the start of a new relationship right through to the ongoing monitoring of an established one.
If choosing to place reliance on others, you should be prepared to manage the associated risks and ensure that this process falls within your risk appetite. Effective risk management and ongoing monitoring of third-party activities are essential.
Third parties must also consent to playing their role in the reliance arrangement. By obtaining third party consent, you can show that you have a formalised arrangement with the third party, and that they have agreed to perform CDD checks in accordance with regulatory requirements (although this should not be confused with liability).
Staying on top of record keeping
When placing reliance, it’s imperative to recognise and diligently conform to the record-keeping requirements set out in the Money Laundering Regulations. These requirements stipulate that firms must retain customer records for a specified period, at least five years after the termination of the business relationship or where an occasional transaction has taken place.
Firms must also ensure that identity and verification data is readily accessible in a timely manner. This means that, even when relying on external parties for CDD checks, the firm placing reliance must maintain the capacity to retrieve and provide identity and verification information promptly.
How we can help
We have extensive experience assisting clients in addressing regulatory challenges concerning CDD reliance. Our expertise lies in offering tailored guidance to help firms not only meet minimum regulatory requirements, but also comprehend industry best practices.
We offer varied advice, ranging from supporting in vendor selection and reviewing policies and procedures to providing recommendations on how to align well-established reliance arrangements with the latest and most innovative reliance solutions.
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