Politically Exposed Persons (PEPs) and sanctioned individuals are profiles that regulated companies must identify when onboarding new clients. To comply with KYB (Know Your Business) and AML (Anti-Money Laundering) obligations, these companies must include PEP and sanctions list checks in their due diligence processes. But why are these checks necessary? Which institutions define these categories? And how can these verifications be effectively implemented?
What are Sanctions?
Sanctions are restrictive measures imposed on individuals or nations to limit their activities. Unlike adverse media, which compiles public information about potential client risks, sanctions lists serve as a global registry of prohibitions.
These lists, established and published by governments and international organizations, help identify and protect entities from individuals or groups involved in illicit activities. These restrictions, known as personal sanctions, are essential for preventing illegal business relationships.
The Importance of Sanctions Checks
As part of due diligence (CDD), conducting sanctions list checks allows businesses to take a proactive stance against the risks of non-compliance. These checks help identify individuals or entities that violate laws and regulations, with whom business relationships are strictly prohibited.
Although businesses already conduct identity through watchlists or adverse media, sanctions checks remain fundamental for identity verification. They ensure compliance with KYB and AML standards, providing enhanced protection against legal and financial risks.
What Are Sanction Lists?
Sanctions lists, first introduced in 1966 by the United Nations Security Council (UNSC), play a crucial role in preserving international interests. Since their inception, over a dozen sanction regimes have been implemented to address issues such as:
- Global conflicts and their escalation
- Nuclear proliferation
- Terrorism and human rights violations
Why Do Individuals or Entities Appear on These Lists?
These lists include individuals, organizations, or governments identified for their illegal activities. In addition to the general objectives mentioned, they target specific behaviors such as:
- Money laundering,
- Drug trafficking,
- Violations of international treaties.
Sanction regimes act to prevent these threats by imposing severe restrictions on the offenders.
Individuals listed on sanctions lists are subject to financial sanctions – including asset freezes and fines – as well as other sanctions, ranging from reduced military aid to a complete travel ban outside the violating country.
Imposed Sanctions
Individuals listed on sanctions lists may face various punitive measures, including:
- Financial Sanctions: Asset freezes and fines,
- Travel Restrictions: Prohibition from leaving their country,
- Reduced Support: Limitation or suspension of military or economic aid.
These combined measures serve to deter illegal behavior and strengthen international security.
What is a Politically Exposed Person (PEP)?
A Politically Exposed Person (PEP) is an individual considered to be at higher risk for money laundering or corruption due to their high-level position or proximity to a person holding a political position. This risk is related to the potential for corrupt acts or bribery associated with their role.
The Financial Action Task Force (FATF), an international organization dedicated to combating money laundering and the financing of terrorism, defines a PEP as a person who has held or currently holds a prominent public function. These positions are susceptible to being exploited for crimes such as laundering illicit funds, corruption, and bribery.
Certain positions that may make a person a PEP include government or parliamentary functions, senior military officers, and high-level members of judicial bodies.
A person may also be considered a PEP if they have a close relationship with someone in a high-risk position. This includes family members, close business associates, and beneficial owners of assets related to the PEP. These connections increase the risk of involvement in illicit activities, requiring enhanced vigilance from financial and regulated institutions.
Why Are PEP and Sanctions Checks Necessary?
Companies operating in regulated sectors, particularly in financial services, must conduct PEP and sanction checks as part of their due diligence (CDD) process when onboarding clients. Depending on the results of these checks, additional controls may be required before approving or rejecting the client's onboarding. These checks are an integral part of the broader Know Your Business (KYB) process.
Sanctions imposed by governments and international organizations, such as the United States, the United Kingdom, the European Union, and the United Nations, aim to prohibit business relationships with countries, companies, or individuals deemed to be high-risk. The UK government defines sanctions as a means to "change the behavior of targeted regimes or groups to improve the situation in that country.".
Who Determines Politically Exposed Persons and Sanctioned Individuals?
There are several sanctions lists established by different regimes. For example, the CAPTA (Correspondent Account or Payable-Through Account) list, created by the U.S. Department of the Treasury's Office of Foreign Assets Control (OFAC), and lists specific to the European Union and the United Kingdom.
According to the U.S. Department of the Treasury's website: "Any transaction conducted by a U.S. financial institution must comply with OFAC regulations. If a bank knows or has reason to know that a target is involved in a transaction, its processing would be illegal."
For a company operating in multiple countries or with international partnerships, it is often necessary to monitor several lists to ensure global regulatory compliance.
How Do Sanctions Checks Work?
Public sanctions lists cover several jurisdictions, countries, and continents, forming a complex network of political and diplomatic relationships. Organizations must navigate this environment to ensure compliance with global requirements and due diligence obligations (CDD). To do so, they use solutions that ensure comprehensive, accurate, and constantly updated sanctions checks.
While manually reviewing these lists is theoretically possible, it is time-consuming, inefficient, and exposes companies to risks when processing data related to sanctioned entities or individuals.
Automation simplifies this process and ensures the accuracy of results while guaranteeing compliance with international regulations. This approach enables client data to be verified against continuously updated global databases, providing a reliable and comprehensive view of each client.
Specialized software continuously accesses multiple data sources and sanctions lists to perform the checks. These systems ensure regular updates, thereby guaranteeing the reliability and relevance of the results.
Best Practices for PEP and Sanctions Checks
Financial sector companies are encouraged to adopt a risk-based approach, as there is no one-size-fits-all solution. Generally, this involves evaluating clients during the KYB process to determine if a standard due diligence (CDD) or enhanced due diligence (EDD) check is necessary.
For PEP and sanctions screening, many companies rely on automated watchlist providers, which offer real-time checks and monitor list updates. These providers generate reports for businesses during client onboarding and, if necessary, ensure continuous monitoring, alerting changes in status for individuals or companies, such as when a person is sanctioned after being onboarded.
Ideally, checks should be automated. However, at a minimum, it is recommended to verify clients whenever:
- Sanctions lists are updated,
- Client or user information changes.
It is also wise to include administrators, beneficial owners, and third-party beneficiaries in the verifications.
Risks Associated with Errors in Sanctions Checks
Companies that engage with sanctioned individuals or entities expose themselves to severe legal and financial sanctions. In addition to failing to meet regulatory requirements such as KYB, AML, and 6AML, doing business with individuals listed on sanctions lists can also severely damage the company’s reputation.
In some cases, when businesses onboard clients potentially linked to sanctions lists, they must apply enhanced due diligence (EDD). This additional procedure aims to strengthen controls for clients deemed high-risk.
PEP and Sanctions Screening Solutions for RollingFunds’ Compliance Platform
Sanctions list monitoring solutions are easily integrated into RollingFunds' KYB solution.These tools allow for the analysis of data for businesses and individuals during the client onboarding process and can be configured to perform regular checks every 24 hours, with notifications of updates.
We optimize our performance through the use of artificial intelligence (AI) to dynamically index and update data. This approach allows us to provide real-time responses, ensuring that decisions are made quickly, without keeping your professional clients waiting.
