Understanding the Fintech Sector to Prevent ML/TF/PF
Through Recommendation 15 – New Technologies, the Financial Action Task Force requires that:
“Countries and financial institutions should identify and assess the money laundering or terrorist financing risks that may arise in relation to (a) the development of new products and new business practices, including new delivery mechanisms, and (b) the use of new or developing technologies for both new and pre-existing products. In the case of financial institutions, such a risk assessment should take place prior to the launch of the new products, business practices or the use of new or developing technologies. They should take appropriate measures to manage and mitigate those risks. To manage and mitigate the risks emerging from virtual assets, countries should ensure that virtual asset service providers are regulated for AML/CFT purposes, and licensed or registered and subject to effective systems for monitoring and ensuring compliance with the relevant measures called for in the FATF Recommendations.”
In addition, Recommendations 1, 2, 10, 11, 20, 22 and 26 require new technologies to be included in the National Risk Assessment (NRA) or sector assessment (inter-agency coordination), and make customer due diligence measures and record keeping mandatory.
Given these obligations, it is essential to understand the market to which we must apply AML/CFT measures, such as Fintech and digital banking.
Fintech
The word Fintech comes from the union of two English terms, ‘finance’ and ‘technology’. These are companies whose aim is to deliver financial services and products through the use of technology, producing a significant change in the business model of financial system providers.
Unlike Fintechs, digital banking refers to a financial institution that holds a banking licence in the jurisdiction where it operates and offers its banking services predominantly through digital channels. They are incorporating into their services:
♦ Applying artificial intelligence to customise the client experience.
♦ Staying at the forefront of security mechanisms.
♦ Adding virtual assistants that advise clients promptly.
♦ Using biometrics to authorise transactions on digital channels.
♦ Increasing the use of digital wallets and adopting QR codes.
ML/TF risks in Fintech
Some of the risks we can identify in this new market are:
► Customer identity
Money launderers keep close track of advances in financial technology. That allows them to develop new methods to exploit and circumvent anti-money laundering compliance measures.
► Identity theft
It is essential that these entities use multiple authentication factors allowing them to verify users’ digital identity and so avoid the risk of impersonation.
► Product risk
They must identify how likely it is that one of their products becomes a vehicle for laundering money — for example, whether quick, easy-access credit could be an opportunity to commit such offences.
► Transaction speed
High-speed internet connections let customers complete transactions in seconds. Money launderers can exploit this feature to transfer large volumes of funds very quickly and so escape scrutiny by the authorities.
► Use of front men
Financial criminals can use third parties to evade anti-money laundering regulations. They use these people to contract fintech services as a way of introducing illegal funds into the financial system. They usually take advantage of vulnerable members of society such as older people, those on low incomes, and so on.
► Other risks
♦ Placement of funds of illegal origin
♦ Use of funds to finance offences
♦ Fraud by the business owner
♦ Lack of control over platforms
The FATF’s recommendation to apply a Risk-Based Approach (RBA) also applies to Fintechs. To have an effective programme applying due diligence and monitoring measures, the following should be considered:
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Digital onboarding
Given the anonymity challenges facing this sector, companies should ideally strengthen these measures. Digital onboarding is the most suitable way to take on new customers, through digital processes that allow a business relationship to begin without physical presence, or without customers needing to visit the financial institution’s offices. Factors that help verify and authenticate a person’s digital identity include voice recognition, fingerprints, passwords and digital tokens, among others.
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Monitoring
There must be procedures in place to detect unusual transactions, both by volume and by the jurisdiction from which the transaction is made, above all to identify those coming from high-risk areas.
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List screening
To identify whether a person or company has adverse information, companies can use service providers with screening tools, including the application of fuzzy-logic matching percentages adapted to generate and manage alerts.
Main Fintech services
► Payment methods and transfers: these are arguably the most widely marketed services offered by Fintech companies. This group includes online payment platforms, e-commerce and international transfers.
► Infrastructure for financial services: customer assessment and risk profiling, fraud prevention, identity verification, APIs, payment aggregators, big data and analytics, business intelligence, cybersecurity and electronic contracting.
► Financial solutions for companies: these bring several financial processes together in a single system — accounting, invoicing and financial management — making tax filing, risk management automation and similar tasks easier.
► Personal finance and financial advice: personal finance management, comparison and distribution of financial products, financial education, automated advisers and financial planning.
► Financial markets: digital intermediation services for securities, financial instruments or currencies. For example: virtual exchange houses, VASPs and others.
► Crowdfunding and crowdlending: collective financing, a way of funding projects that works for both individuals and companies, avoiding the process of seeking regular bank financing.
► InsurTech: technology applied to the insurance sector, seeking a better customer experience and shorter timescales for taking out insurance.
► Cryptocurrency and blockchain: new blockchain-based solutions. Virtual asset intermediaries and marketplaces.
► Digital banking: banks or other financial system institutions applying fully digital technology.
Opportunities in new technologies
♦ Technology has enormous potential to improve the offering and delivery of financial services and to strengthen efforts to combat ML/TF threats. The uptake of smartphones and the near-ubiquity of the internet mean more people have access to online financial services.
♦ Digital financial inclusion has significant implications for growth and economic development. Virtual assets and blockchain technology can make electronic transfers cheaper and faster.
♦ Reliable digital identification solutions have the potential to improve the reliability, security, privacy, convenience and efficiency of identifying people in the financial sector.
♦ Tools such as machine learning and smarter screening can help both financial institutions and government authorities be more effective in their AML/CFT efforts.
♦ Faster screening tools and better know-your-customer processes are emerging through information sharing and hashing.
Threats in new technologies
♦ A significant increase in cybercrime, particularly in the area of fraud: the dark web, bots, phishing and ransomware.
♦ The anonymity offered by virtual assets is being exploited by large criminal organisations.
♦ The sheer volume and pace of transactions is a challenge in itself.
♦ There has been an increase in the number of financial service providers and the types of financial products developed. While this should be encouraged, the challenge is to ensure that the controls in place match the risks identified.
Fintechs in Latin America and the Caribbean
According to the fourth Fintech in Latin America and the Caribbean report produced by the Inter-American Development Bank (IDB), in 2023 Brazil and Mexico led this market; both markets account for almost 44% of all fintech companies in the region and, together with Colombia, Argentina and Chile, they concentrate 77.1% of the region’s total. Peru, Ecuador, the Dominican Republic, Uruguay, Costa Rica and Guatemala show emerging growth, adding up to 14.8% of the total. The last group — Panama, the Bahamas, Paraguay, El Salvador, Bolivia, Jamaica, Honduras, Venezuela, Belize, Barbados, Nicaragua, Guyana, Haiti, Trinidad and Tobago and Suriname — represents 8.1%.
Fintechs have transformed the global financial landscape, offering innovative solutions that improve the efficiency, accessibility and transparency of financial services. As technology continues to advance, it is crucial that both companies and regulators work together to guarantee a safe, fair environment for all users. Adopting Fintech is not only an opportunity to modernise the financial sector, but also to foster financial inclusion and sustainable economic development.
At Líderes Empresariales APLA we specialise in training and advising compliance officers and in implementing money laundering, terrorist financing and proliferation financing prevention rules for the various obligated entities. If you need help, do get in touch.
Fintechs fall within the perimeter of obligated entities: see what that means in our consulting for obligated entities.