Money Laundering: Challenges before Banks in India

Midsection Of Businessman Giving Cheque

It is a universally accepted phenomenon that the practice of money laundering has a corrosive effect on a country’s economy. It not only distorts business decisions but also increases the risk of bank failures thereby taking control of economic policy away from the government. In a nutshell it goes to harm a country’s overall economic reputation. It is much like a parallel underground economy, undetected with no source. Like banks abroad, the Indian banks are also faced with this very critical issue of how to curb the illegal practice of money laundering.

As a natural consequence of globalization and India’s obvious growth in cross border business, our banks and other financial institutions are being exposed to the threat of money laundering now more than ever before. Many steps have been taken in order to support global anti money laundering efforts in India. The Prevention of Money Laundering Act, 2002 was enacted by the Indian Parliament and the detailed rules were framed there under. Under the provisions of the said Act, the Financial Intelligence Unit – India was set up as an apex body for coordinating India’s anti money laundering efforts. This Act also obligates the banks, financial institutions and other intermediaries to maintain a record of all transactions along with their nature and value. They are also under an obligation to verify and maintain the records of the identity of all its clients in a manner as prescribed.

The Know Your Customer norms/Anti Money Laundering standards/Combating of Financing of Terrorism/Obligations of banks under the Prevention of Money Laundering Act, 2002 set out by the Reserve Bank of India in order to curb anti money laundering practices and combating financial terrorism are also to be followed by banks and financial institutions. Banks are at liberty to formulate their own internal guidelines based on the aforementioned guidelines. The main objective of these guidelines is to prevent the banks from being used, intentionally or unintentionally, by criminal elements for money laundering pr terrorist financing activities. Banks, financial institutions and financial intermediaries have to submit cash transaction reports and suspicious transaction reports to the Financial Intelligence Unit – India. Banks and financial institutions are the core targets or focus of most anti money laundering practices and combating of financial terrorism laws due to their vulnerability and compliance to these laws is crucial to efforts to combat money laundering and counter financing of terrorism. But financial institutions are often confronted by various challenges in their attempt to comply with the requirements of these laws.


  • The Challenge of Customer Identification: The Customer Acceptance Policy developed by each bank must be strict and should clearly define the explicit criteria for acceptance of customers. Banks are required to know their customer well for which they should conduct a thorough due diligence on any prospective relationship based on the economic/social standing of a customer for example, a politically exposed person may require a higher level of monitoring as compared to other individuals or entities. The Know Your Customer procedures laid down by the Reserve Bank of India enable the banks to know/understand their customers and their financial dealings better which in turn helps them manage their risks prudently. The main problem which is faced by the banks during customer identification is that whatever information the customer provides to the bank is the starting point or basis of establishing and investigating his/her identity. Acceptance of a customer by a bank is the first and foremost step towards controlling money laundering and preventing financing of terrorism. Thus, the whole process is to a huge extent determined by the honesty or sincerity of the information disclosed by the customer. The banks then face a series of challenges vis-à-vis verifying and re-verifying information supplied by the customer. The banks are also faced with the constraint of time and resources. One question which often comes in the mind of bank authorities is that how often they should re-verify customer information. Customers more often than not are bound to change jobs, change location without informing their banks. Another feature which complicates the verification process is that a customer can transfer money electronically or through third parties from different branches across the country. He can also resort to use of ATMs machines in order to access the fund without physically appearing at the bank. Consequently he/she succeeds in hiding his/her identity from the bank. The banks should take all possible steps not to open an account or close an existing account where the bank is unable to apply appropriate customer due diligence measures. The decision by a bank to close an account should be taken at a reasonably high level after giving due notice to the customer explaining the reasons for such a decision. The banks must ensure that the identity of a proposed customer does not match with any person with known criminal background or with banned entities such as individual terrorists or terrorist organizations etc. The bank must maintain a database relating to a customer’s identity, his social/financial status, nature of business activity etc. because the extent of due diligence will depend on the risk perceived by the bank. Customers which may require a higher degree of due diligence include nonresident customers, high net worth individuals, trusts, charities etc, companies having close family shareholding, firms with sleeping partners, politically exposed persons of foreign origin etc. Banks also need to be vigilant against business entities being used by individuals as a ‘front’ for maintaining accounts with that bank. Bank’s internal audit and compliance functions have an important role in evaluating and ensuring adherence to the Know Your Customer policies and procedures.
  • The Challenge of Verification of the Source of Money & Covenants of Secrecy: It is pertinent to note that it is difficult to verify the source of the funds coming into the banks through its customers in case they are coming from an illegal source because then the people involved will put in their best efforts in order to hide the real source. So to actually verify the source of funds is a tedious task involving a lot of effort from the bank’s side. The banks can try put in their best efforts to make sure that their findings are correct and that no ill-gotten money is flowing into their banking channels. For example, India has two different sets of laws for normal International Banking transactions (IBT) and International Money Transfer transactions (IMT). In case of IBT one is not under any legal restriction per se to ascertain the credentials & personal details of the foreign remitter; but in case of IMT, the money transfer institutions are under a strict legal obligation to maintain records of the foreign remitter/transferor, which may be a big challenge because the origin or country from where the funds are being remitted may not have any local legal requirement of divulging credential & personal details; it could even have a law of secrecy/privacy, which bars the remitter bank from sharing the remitter’s personal details with any third party. This is turning out to be a big challenge. Hence, law and covenants of secrecy are turning out be a big challenge in the international arena of banking.


  • The Challenge of Detecting, Tracking and Reporting Suspicious Transaction:       The guidelines laid down by the Reserve Bank of India and other anti money laundering/combating of financing of terrorism laws require banks to report suspicious transactions to the prescribed authority. But this all depends on the early detection of such transactions. Hence, the development in banking technology and online – real time services and other improvement in the banking sector pose a major challenge to ability for earlier detection of such transactions. When people indulge in such transactions or frauds, it is done so fast and so smoothly that by the time the banks detect any unusual activity, the money has already reached its lawful destination without leaving any dirty tracks. Sometimes such fraudsters open a bank account with a false name and after one or two other transactions from different branches of the bank, use the ill gotten money, using another branch. They make a few withdrawals through electronic channels, and withdraw the balance through cheques, drawn from different branches almost within short intervals of time. By the time this trail is detected and the source of money is found, the deed has already been done and the fraudsters disappear without leaving any trail. I am sure this is just a tip of the iceberg compared to many of such occurrences in banks. With so many branches spread across many geographical locations, with so many staffs from different background, moral values and moral weaknesses, it is challenging for banks to detect early and report suspicious transactions. Thus, all these factors make the detecting, tracking and reporting of suspicious transactions a very tricky affair.
  • The Challenge of Keeping the Balance Sheets Clean for Profit: An atmosphere of pressure, competition and target setting exists in most of the banks. Under intense pressure, a transaction that should have ideally arisen suspicion might easily pass unnoticed and undetected. For example, if an individual comes to buy or sell $1000, brings the necessary documentation then the money exchanger does not know the source of that money or what it would be used for. Such a money exchanger does not have the facilities and even the time to investigate the customer standing across the counter, or the money he wants to buy or change. Meanwhile, the same individual can visit ten different money exchangers in order to buy or sell say around $10,000, with different or same documentation. The main point is that an individual does not need to transact a business of $5000 or $10,000 with a single money exchanger. He can break it in pieces and spread it across many a money exchangers. Thus when such money reaches the banks, it gets a little difficult to trace its source. Hence, the industry cannot suspect or detect what is going on. Again, this is a challenge that is due to the nature of the business, and which are not given attention to by existing anti money laundering /combating of financing of terrorism laws.


  • The Challenge of Customer Education and Training the Staff of the Banks in Anti Money Laundering and Combating of Financing of Terrorism Laws: Implementation of Know Your Customer procedures requires banks to demand certain information from customers which may be of personal nature or which has never been called for. That is why there is a need for the banks to prepare specific literature so as to educate the customer of the objectives of the Know Your Customer programme. The front desk staff needs to be specially trained to handle such situations while dealing with customers. Banks and other financial institutions have no excuse not to train their staff in the area of money laundering and financing of terrorism. They must have an ongoing employees training programme so that the staff members are adequately trained in Know Your Customers procedures. Training requirements should have different focuses for frontline staff, compliance staff and the staff dealing with new customers. It is crucial that all those concerned fully understand the rationale behind such policies and help in implementing them consistently. While there is the challenge of having resources to adequately comply with this requirement, there is also the challenge of the frequency of such training and the quality and content of such training vis-à-vis real world examples, and increasing sophistication of money laundering and new development and methods in their activities. The attitude of the staff to the training is also another very important factor involved in this exercise. It is another thing to attend training; it is another thing to getting the lessons. Thus banks and other financial institutions are confronted with the challenge of ensuring that staffs are not only trained but that they receive, assimilate and internalize the lessons. There is also the challenge of practicing what was learnt in real working situations vis-à-vis the pressure to perform and deliver. A very effective way of creating awareness amongst the staff in the banking sector and in recognition of the vulnerability of the industry to money laundering and the importance of training to create awareness and expose members to issues in this regard is by organizing seminars and workshop on money laundering and other related critical issues for the banking and financial sector employees. The organizations should also encourage their members to attend workshop organized on how to deal with issues of money laundering related wherever they are held to improve knowledge and awareness on this sensitive issue.


  • The Challenge of Striking a Balance between the Level of Awareness and the use of Resources: The banking and financial sector is also faced with the issue of increasing growth in members and staff and patronage which in effect results into the challenge of the frequency of training and mechanization. The increase in bank staff both in level of education and different job specification makes it imperative to organize frequent training, workshop, seminars etc. But the challenge of time and resources are another issue that we have to grapple with. Thus it is very crucial for the banks to try and strike a balance between both.


  • The Challenge of Losing Out on Business due to harsh KYC requirements: In the process of KYC guidelines, transaction tracking, constant vigilance questioning etc., there is a palpable probability of infuriating a prestigious customer; and finally losing him out to another bank, which might be more flexible or in other words sensitive towards its customers; hence, it’s very vital that banks do not portray or get into moral policing. The customer relationship team need to be well trained in relationship management in a manner that they do not hurt the sentiments and prestige of their customers; and at the same time do not compromise the nation’s and bank’s interest.


In summation, it may be said that banking and financial services organizations today must learn to cope with unique and unprecedented challenges. That is why there is a need for continuous discussions, sharing of information, sensitization, training and re-training, collaboration, capacity enhancement and a periodic review of laws to meet the challenges faced by banks while trying to tackle the critical issues of money laundering. There is a difference between a bank unwilling to comply with the existing anti money laundering laws and a bank which is willing to comply with such laws but it discovers that due to the prevalence of so many malpractices in the market and society, the compliance of such laws is not easy. Thus initiation is required for investigation and identification of the challenges confronted by various banks and financial institutions in order to comply with the anti money laundering measures.