Challenger Banks and AML Compliance

Blog / Challenger Banks and AML Compliance

Challenger banks are named that because they aim to challenge the dominant established banks. 

The five major banks in the United Kingdom are Barclays, Lloyds, HSBC, Santander, and the Royal Bank of Scotland, despite many having undergone mergers, acquisitions, and rebranding. They control over two-thirds of all banking activity in the UK, but additional firms have entered the market due to market diversification following the well-publicized financial crisis of 2008. The concept of "Challenger Banks", which has entered our lives in recent years, has become increasingly popular and creates serious competition threats for old banks. Most Challenger banks do not have branches. Despite this, Challenger banks achieved customer satisfaction with their solutions and reached millions of customers. 

What is a Challenger Bank?

A challenger bank, on the other hand, is a smaller, more recent bank that seeks to directly compete with or challenge these established banks through the use of contemporary financial methods. Many of them no longer use branch-based banking and now only do business online or through apps. Starling Bank, Monzo, Revolut, and Metro Bank are a few of the largest challenger banks in the UK; the latter was established in 2010.

All of these banks must be regulated and authorized by the UK financial regulator, the Prudential Regulation Authority, in order to take retail deposits and even be referred to as banks in the first place, despite their largely digital appearances.

Banks must have a comprehensive AML compliance program, and reliable AML officer, or a team.

Challenger Banks' Advantages

These banks frequently place a strong emphasis on technology. Digital or app-based banking has many great advantages, but the main one is that by not operating an in-person branch system, they can avoid the high operating and staffing costs associated with premises and instead invest that money in improving customer service and developing new products, sometimes at lower costs to the customer.

Due to their customers' ability to handle their banking needs using their phones or computers from the comfort of their own couches, they notably prospered during the pandemic and prior.

With a digital bank, you may open a bank account in a matter of minutes as opposed to needing to schedule an appointment with a high street bank.

AML Risks That Challenger Banks Carry

The relative regulatory unfamiliarity of challenger banks, as well as the type of services they offer, present major day-to-day compliance issues. Criminals may aim to abuse the anonymity and speed that online financial services provide to conduct fraud or to bypass essential AML/CFT screening and monitoring systems.

Similarly, authorities may be unable to keep up with the rate of innovation in challenger bank services as they struggle to adapt old regulatory frameworks to emerging criminal tactics. As a result, these services may result in regulatory gaps or disparities between countries.

Among the regulatory issues raised by challenger banks are:

  • Confidentiality and privacy on the Internet: While traditional banks sometimes require in-person account registration, challenger banks that do not have physical locations allow criminals to register and use financial services anonymously. Criminals may be capable of evading critical anti-money laundering and counter-terrorism procedures by hiding their identity.
  • Transactional speed: Customers may move money between accounts and throughout the world swiftly and effectively since challenger banks operate in the digital arena. Because of the speed with which challenger banks conduct transactions, criminal activity becomes more efficient: funds may be introduced into the financial system and disguised before compliance teams can enforce AML limitations.
  • The exploitation of services: Criminals may take advantage of regulatory gaps by employing challenger bank services. Money launderers may be able to deposit unlawful funds in amounts slightly below AML/CFT reporting limits by opening many accounts, for example, with various institutions.
  • Criminal tactics that are emerging: The novelty of services, as well as their incorporation of modern FinTech, may create regulatory blindspots that provide criminals with an unexpected chance to commit fraud, launder money, or engage in other illicit acts.

Detailed guidance to learn AML compliance in the Banking Industry

How to Create Secure Challenger Banks

Challenger banks are vulnerable to financial fraud since their defenses have yet to be strengthened. However, the challenger may learn from traditional banking and use existing robust systems and best practices. Some of the most essential anti-fraud measures that a challenger bank may use are:

  • AML technology that leverages smart analytics: Money laundering is now a highly complicated web of transactions that is difficult to detect. For always-on security, a challenger bank should deploy transaction and behavioral monitoring solutions that provide warnings for compliance teams as risks occur.
  • Deter account opening fraud: While challenger banks have established an amazing customer experience, it must be supplemented with effective identification verification. Customer Due Diligence (CDD), Know Your Customer (KYC), and Anti-money Laundering (AML) requirements need rigorous customer verification during customer onboarding. A challenger bank may continue to deliver a high customer experience while meeting the requirements of KYC and CDD legislation by adopting "dynamic scoring algorithms" that enable continual risk assessment.
  • PEPs and enhanced due diligence: The  Financial Conduct Authority (FCA) pointed out a lack of EDD (enhanced due diligence) by challenger banks. This lack of EDD may be addressed by employing modern technology, such as screening for PEPs (Politically Exposed Persons), as these people are more likely to develop AML. With the use of cutting-edge technologies like blockchain, PEP screening may be done in batch and real-time.

Learn more about jurisdiction-based pep regulations

Challenger banks appear to be poised to stay, and several established banks are launching their own challenger banks. The last thing that needs to happen is for challenger banks to turn into a fraud distribution channel due to a lack of AML and KYC/CDD checks. To combat fraud, challenger banks must follow the FCA's guidance. Challenger banks should use smart and clever technical techniques to supplement their strong customer experience appeal. Customers will be able to experience a frictionless transaction while yet being secure in this way.

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