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Compliance Functions in Banks- Back to Basics

Group 4 Divya Gauri Hemanth Hima Mamtha Neha

Bank Regulations
Bank regulations are a form of regulation which subject banks to certain requirements, restrictions and guidelines. This regulatory structure creates transparency between banking institutions and the individuals and corporations with whom they conduct business, among other things.

Objectives of Bank Regulation

Prudentialto reduce the level of risk to which bank creditors are exposed (i.e. to protect depositors) Systemic risk reductionto reduce the risk of disruption resulting from adverse trading conditions for banks causing multiple or major bank failures Avoid misuse of banksto reduce the risk of banks being used for criminal purposes, e.g. laundering the proceeds of crime To protect banking confidentiality Credit allocationto direct credit to favoured sectors It may also include rules about treating customers fairly and having corporate social responsibility (CSR)

Compliance Function
The compliance function is acquiring increasing importance in banks on account of growing

regulatory complexity and also creating a

demand for competent banking compliance professionals.

For the long term stability and survival of the

bank, it is important that a healthy compliance culture is developed and percolated down to the

lowest level functionaries in the bank.

Compliance refers to a set of laws, regulations, rules, practices, related SelfRegulatory Organization (SRO) standards, and codes of conduct applicable to the various banking activities. It is broadly segregated in three partsbanking compliance can be a) Internal compliance, including SRO standards b) Regulatory Compliance c) Legal Compliance. There are also industry standards and codes set by BCSBI,FIMMDA, FEDAI and IBA which need to be followed by the banks.


Compliance starts at the top. It will be most effective in a corporate culture that emphasises standards of honesty and integrity and in which the board of directors and senior management lead by example. It concerns everyone within the bank and should be viewed as an integral part of the banks business activities. The expression compliance risk is defined as the risk of legal or regulatory sanctions, material financial loss, or loss to reputation a bank.

Responsibilities of Compliance Function

Advice - The compliance function should advise senior management on compliance laws, rules and standards, including keeping them informed on developments in the area. Guidance and education in educating staff on compliance issues, and acting as a contact point within the bank for compliance queries from staff members.

Establishing written guidance to staff on the appropriate implementation of compliance laws, rules and standards through policies and procedures and other documents such as compliance manuals, internal codes of conduct and practice guidelines. Identification, measurement and assessment of compliance risk. Monitoring, testing and reporting

Compliance Functions in Banks

A banks compliance policy will not be effective unless the board of directors promotes the values of honesty and integrity throughout the organisation. Compliance with applicable laws, rules and standards should be viewed as an essential means to this end. Banks may wish to organise their compliance function within their operational risk function, as there is a close relationship between compliance risk and certain aspects of operational risk.

Regardless of how the compliance function is organised within a bank, it should be independent and sufficiently resourced, its responsibilities should be clearly specified, and its activities should be subject to periodic and independent review by the internal audit function. Outsourcing Compliance should be regarded as a core risk management activity within the bank. Specific tasks of the compliance function may be outsourced, but they must remain subject to appropriate oversight by the head of compliance.

Why Non Compliance?

There are numerous problems at multiple levels The industry regulator The government The banks themselves.

Issues in Banks
Sales culture with a focus on cross selling Profit maximization drives banks beyond core tasks, to hawk products such as equities, insurance and mutual funds Inadequate training and lack of incentives for bank staff to blow the whistle on black money Wide range of documents besides PAN cards accepted under KYC norms No verification of customers address or job

Government Issues
96 million PAN cards for only 34 million tax fillers as on March 2010 No bank records of the source of money after 7 years as per income tax rule No follow up on people who make large financial transaction without submitting PAN proof

Industry Regulator
KYC norms not tight enough Eg: A company ID and employers letter are enough to open a new account RBI has only about 20000 employees, while the number of bank branches is over 80000 Banks KYC documents are sufficient to buy insurance products

Types of Non-Compliance
Know Your Customer Anti Money Laundering Tax Evasion

KYC is an acronym for Know your Customer, a term used for customer identification process. It involves making reasonable efforts to determine true identity and beneficial ownership of accounts, source of funds, the nature of customers business, reasonableness of operations in the account in relation to the customers business, etc which in turn helps the banks to manage their risks prudently.

The objective of the KYC guidelines is to prevent banks being used, intentionally or unintentionally by criminal elements for money laundering. KYC has two components - Identity and Address. While identity remains the same, the address may change and hence the banks are required to periodically update their records.

To ensure that the latest details about the customer are available, banks have been advised to periodically update the customer identification data based upon the risk category of the customers.

Banks create a customer profile based on details about the customer like social/financial status, nature of business activity, information about his clients business and their location, the purpose and reason for opening the account, sources of wealth or income, expected monthly remittance, expected monthly withdrawals etc.

A set of procedures, laws or regulations designed to stop the practice of generating income through illegal actions. In most cases money launderers hide their actions through a series of steps that make it look like money coming from illegal or unethical sources was earned legitimately. An example of AML regulations are those that require institutions/banks issuing credit or allowing customers open accounts to complete a number of due-diligence procedures to ensure that these banks are not aiding in moneylaundering activities.

At the Bank level -Penalties should be levied on employees who are not adhering to compliance while meeting their targets. At the level of the regulator - the Reserve Bank of India (RBI) - need to improve the frequency and quality of inspection The government level - need to speed up Aadhaar - the national unique identification (UID) number project - as it would eliminate the multiplicity of documents.

A compliance failure can result in Litigation financial penalties regulatory constraints reputational damage that can strategically affect an organization.

Right persons for the right job. The quality of staff

Reference Anti Money laund_graphs A survey by World -Check and BMR Advisors