Q: What is customer due diligence?

A: Customer due diligence (CDD) is the process of verifying the identity and credentials of a customer, assessing the potential risks associated with their activities, and determining whether their behaviour and transactions are consistent with their known or stated activities.

Customer due diligence involves collecting information about a business you are preparing to trade with, from its address to the identity of the beneficial owner and a range of financial checks such as its credit score.

Why is customer due diligence important?

Customer due diligence is important for the following reasons:

• Mitigating risks: It helps businesses understand their customers, both new and existing, and the risks associated with doing business with them. This includes identifying and assessing the potential risks associated with a customer’s activities, such as the risk of payment defaults and non-payment. Also involvement in money laundering, fraud, or other financial crimes.
• Protecting reputation: If a business is found to be involved in money laundering or other financial crimes, it can severely damage its reputation and lead to regulatory sanctions or fines. CDD helps prevent this by ensuring that the institution is not unwittingly involved in illicit activities.
• Compliance with regulatory requirements under the AML/CTF Act: The Anti-Money Laundering and Counter-Terrorism Financing Act 2006 required businesses to carry out customer due diligence and Know Your Customer (KYC) measures to prevent money laundering and terrorist financing.
• Enhancing financial stability: Money laundering and terrorist financing can have a destabilising effect on financial systems. Customer due diligence helps prevent this by detecting and preventing illicit activities that could undermine the stability of the financial system.

What is customer due diligence used for?

CDD is used for several purposes, including:

• Enhancing risk management: CDD is the first step in a robust risk management process. It helps businesses identify and assess the potential risks associated with a customer’s activities.
• Onboarding new customers: Businesses extending credit lines to customers and financial institutions use CDD measures to verify the identities of new customers and assess the potential risks associated with their activities. Businesses should obtain information such as name, address, ABN or ACN, nature of the business, beneficial ownership of the business and directorships/partnerships. This helps to ensure that the business offering credit is not overly exposed to credit risk and not unwittingly involved in illicit activities. Automation of the onboarding process can reduce the time taken for credit checks from up to two weeks to a matter of minutes.
• Monitoring customer activity: Businesses can monitor their customers’ activities to detect suspicious transactions that could be indicative of a higher credit risk money laundering or other financial crimes. CDD measures help institutions to identify unusual activity that may require further investigation.
• Meeting regulatory requirements: Financial institutions are required by law to carry out CDD measures to prevent money laundering and terrorist financing. Failure to comply with these requirements can result in regulatory sanctions or fines.

When and why is customer due diligence required?

Customer due diligence is required whenever a business establishes a business relationship with a new customer, conducts occasional transactions with a customer, or detects unusual activity in a customer’s account. It is required for several reasons:

• Identification and verification of customers: CDD helps to verify the identities of customers and ensure that they are who they claim to be. This helps to prevent exposure to credit risk as well as identity theft and other types of financial crimes. Identity verification tools such as CreditorWatch’s SmartID use government data sources, biometrics verification and liveness checks to help onboard customers faster while protecting your business and customers.
• Assessment of risks: CDD helps to assess the potential risks associated with a customer’s activities, such as the risk of money laundering or terrorist financing. This helps institutions to take steps to mitigate these risks.
• Monitoring of customer activity: CDD helps businesses to monitor their customers’ activities and manage their exposure to credit risk.
• Protection of reputation: By carrying out CDD measures, businesses can protect their reputation and ensure that they are not unwittingly involved in illicit activities.

The level of due diligence required for a customer may vary depending on the level of risk involved. For example, a low-risk customer such as a retail customer may require only basic CDD measures, while a high-risk customer such as a politically exposed person (PEP) may require enhanced due diligence (EDD) measures, which involve more in-depth investigations into their background and sources of wealth.

Who should use customer due diligence?

Any business that extends credit to other businesses should engage in CDD as a matter of course.

Businesses such as real estate agents, lawyers, and accountants may also use CDD measures when engaging in transactions that are high-risk, such as those involving large amounts of cash or transactions with politically exposed persons (PEPs).

Financial institutions and other regulated entities are required to use CDD measures to comply with AML and CTF laws and regulations. Other businesses that are at risk of being used for money laundering or terrorist financing may also use CDD measures as a best practice to mitigate these risks.

How can customer due diligence mitigate high-risk customer consequences?

Customer Due Diligence (CDD) can help mitigate the consequences of high-risk customers in several ways:

• Assessment of risks: CDD helps to assess the potential risks associated with a customer’s activities, such as late payments, non-payment as well as the risk of money laundering or terrorist financing. This helps businesses extending credit to take steps to mitigate these risks, such as imposing transaction limits or enhanced monitoring of the customer’s account activity.
• Identification and verification: CDD measures help to verify the identity of customers and ensure that they are who they claim to be. This helps to reduce exposure to delinquent behaviour, identity theft and other types of financial crimes.
• Escalation and reporting: If suspicious activity is detected, businesses can escalate the issue to their compliance department for further investigation.

What are the requirements of customer due diligence?

The requirements and the process of Customer Due Diligence (CDD) may vary depending on the jurisdiction and the nature of the business. However, some common inclusions on a customer due diligence checklist are:

• Customer identification: Businesses must identify their customers and verify their identities using reliable, independent sources of information. This includes obtaining information such as name, address, ABN or ACN, nature of the business, beneficial ownership of the business and directorships/partnerships.
• Risk assessment: Financial institutions must assess the potential risks associated with a customer’s activities, which can be easily obtained through credit reports from credit reporting bureaus such as CreditorWatch.
• Ongoing monitoring: Businesses must monitor their customers’ transactions and activities on an ongoing basis to detect suspicious activity that could be indicative of poor payment behaviour which could expose the creditor to bad debt.
• Record-keeping: Businesses must keep records of the information obtained during the customer identification process and how they are meeting KYC and AML/CTF obligations and store them securely under the AUSTRAC obligations.

What does the process of customer due diligence involve?

The process of CDD typically involves several steps, including:

• Identify the beneficial owners: Businesses must identify the beneficial owners of a business. This can be done easily by downloading a UBO report via the CreditorWatch dashboard.
• Assess the risk: The potential risks associated with trading with a particular business must be assessed. As mentioned, credit reports from a credit reporting bureau such as CreditorWatch include risk rating that will help determine the level of risk exposure.
• Conduct enhanced due diligence: Enhanced due diligence should be performed on higher-risk businesses such as those in high-risk industries or from high-risk jurisdictions. This may include obtaining additional information about the business and its beneficial owners and implementing measures such as transaction limits or enhanced monitoring of their account activity.
• Ongoing monitoring: It is prudent to monitor the business’s transactions and activities on an ongoing basis to keep abreast of trading behaviour that could prove detrimental to your business.

How can you make the process of customer due diligence as efficient as possible?

There are certain steps that can be taken to make the process of customer due diligence as efficient as possible such as:

• Use of technology to streamline the CDD process: For example, you can use online forms and software to gather and verify customer information more efficiently, and automate certain parts of the process such as identity verification. CreditorWatch’s ApplyEasy tool automates the credit application process, saving you time and money and improving the onboarding experience for your new customers. Our digital identity verification tool, Smart ID, uses biometrics to ensure to help you check your customers’ IDs to reduce your exposure to fraud and meet compliance obligations.
• Segment customers: Segment customers into different categories based on their risk profile, so you can apply the appropriate level of CDD measures based on their risk level. This allows you to focus more attention on high-risk customers while reducing the burden on low-risk customers.
• Establish policies and procedures: Establish clear policies and procedures for the CDD process, including how to identify and assess risk, what documents to collect, and what measures to take based on the level of risk. This helps to ensure consistency and reduce the likelihood of errors or omissions.
• Train staff: Train staff on the CDD process and how to implement it effectively. This includes providing training on how to identify and assess risk, how to collect and verify customer information, and how to monitor customer activity for suspicious behaviour.
• Review and update policies and procedures regularly: Regularly review and update policies and procedures to ensure they remain effective and compliant with changing regulations and industry best practices.

Get in touch with our team today to learn more about how CreditorWatch’s ApplyEasy and SmartID tools can improve the speed, accuracy and cost of your customer due diligence.