An In-Depth Guide on Simplified Due Diligence For Financial Institutions

What is Simplified Due Diligence?

Due diligence is a comprehensive and systematic process of investigation, research, and analysis conducted by individuals, organizations, or institutions to assess and evaluate various aspects of a business transaction, investment, or other significant actions. Simplified Due Diligence, or SDD, is a simplified form of due diligence mainly utilized in the financial sector to assess customers who pose low or minimal risk of money laundering and terrorist financing.

In other words, simplified due diligence is a streamlined approach to performing background checks on individuals and business entities.

Why is Due Diligence Important for Financial Institutions?

Trust and credibility are essential in the world of finance. Financial institutions, whether banks, NBFCs, investment firms, or insurance companies, play a central role in managing large amounts of money and assets on behalf of individuals and organizations.

Financial institutions must follow stringent processes and protocols to retain confidence and reduce risks, with due diligence at the forefront. In the context of such institutions, due diligence refers to a thorough and systematic approach to assessing risks, evaluating opportunities, and ensuring “regulatory compliance.

Simplified Due Diligence or SDD is one of three degrees of due diligence- Customer Due Diligence (CDD), Simplified Due Diligence (SDD), and Enhanced Due Diligence (EDD) represent three distinct tiers of due diligence, each aligning with varying degrees of initial risk evaluation:

Simplified Due Diligence (SDD): This tier applies to customers with a lower perceived risk level and entails less rigorous procedures.

Customer Due Diligence (CDD), also known as Standard Customer Due Diligence, refers to standardized practices appropriate for clients judged to pose a moderate level of risk.

EDD stands for “Enhanced Due Diligence,” which refers to more stringent and thorough due diligence checks for customers with greater risk profiles.

These tiers give financial institutions the ability to adjust their due diligence procedures in line with the degree of risk associated with each customer or business entity.

Types of Due Diligence- Explained

Understanding the various types of due diligence is essential for making informed decisions and mitigating risks for any financial institution. The choice of which type of due diligence to apply depends on the assessed risk level of the customer or transaction, with CDD being the standard approach, SDD for low risk, and EDD for high risk.

• Customer Due Diligence (CDD):When establishing a business partnership, CDD is the typical method for collecting and verifying customer information. It entails validating customers’ identities, comprehending their business activities, estimating their risk profile, and undertaking continuous monitoring. 
• Simplified Due Diligence (SDD): SDD is a simpler form of due diligence that is carried out for low-risk customers or transactions. It entails fewer documentation needs and more straightforward procedures. SDD is applied when the risk of money laundering or illicit activities is deemed low, allowing for a more efficient onboarding process.
• Enhanced Due Diligence (EDD):EDD is an in-depth due diligence technique used on high-risk customers or transactions. It entails a more thorough assessment of the customer’s history, source of funds, and company activity. When CDD reveals higher risk factors associated with a particular customer, EDD is required to help limit potential hazards linked with money laundering or other financial crimes.

Here’s a quick comparison of how Simplified Due Diligence (SDD) differs from standard Customer Due Diligence (CDD) and Enhanced Due Diligence (EDD):

Customer Due Diligence and Know Your Customer- What’s the Difference?

Know Your Customer, or KYC, is the first step in the CDD process. When performing KYC, financial institutions must verify the identity of any customer opening a new account. Customers, for example, may be required to present evidence of identity by submitting government-issued ID documents.

A Customer Identification Program (CIP) is used for this stage. FIs can digitize this procedure through video KYC, which scans the customer’s ID documents, verifies it against databases, and performs face matching and biometric verification, all on a single online platform, to verify the potential customers before onboarding. 

Once CIP procedures have confirmed a customer’s identification, financial companies must apply criteria to determine the extent of risk of money laundering the customer poses.

To put it simply, KYC deals with the initial identification of a customer. Its primary goal is to verify the customer’s identification and ensure they are who they claim to be. KYC serves as the foundation for CDD.

CDD is a broader and more comprehensive process. Its goal is to assess a customer’s risk and better understand their financial activity, sources of cash, transaction patterns, and overall risk profile.

KYC entails gathering basic consumer information such as name, address, date of birth, and government-issued identification. It validates the customer’s identity by using credible sources and documents, whereas CDD attempts to comprehend the customer’s financial behavior, business operations, and risk factors.

Who Qualifies for SDD?- Criteria for Simplified Due Diligence Eligibility 

Simplified Due Diligence is a vital tool for financial institutions, allowing them to reduce the administrative burden of comprehensive due diligence procedures and allocate resources more efficiently. However, not all customers are eligible for this simplified approach.

This section explains the specific criteria that determine who qualifies for SDD and when this type of due diligence is acceptable:

1. Low-Risk Customer: SDD is generally applied to customers who are categorized as low risk based on specified criteria established by regulatory authorities or the company’s risk assessment process.
2. Predefined Categories: Certain countries designate specific categories of consumers that are eligible for SDD. These categories may include government institutions, specific types of businesses, or individuals meeting particular criteria, such as working in low-risk professions.
3. Low-Value Transactions:SDD is typically used for customers conducting low-value transactions less likely to be associated with money laundering or terrorist financing.
4. Established Relationships: Customers with well-established and lengthy ties with the financial institution often become eligible for SDD. When onboarding these customers, institutions may have already performed extensive due diligence.
5. Regulatory Requirement Compliance: Customers who completely conform with the regulatory standards of AML and CFT, including supplying all required documentation and information, are ideal candidates for SDD. 

How to Conduct Simplified Due Diligence for Customers?

Financial institutions must follow certain procedures to conduct Simplified Due Diligence for their customers. By following the steps mentioned below, FIs can perform effective SDD:

1. Identify the Customer: The FI identifies customers who meet the predefined criteria for SDD eligibility. These criteria may include factors such as low-risk occupation, transparent financial transactions, or established relationships.
2. Segmentation :Customers should be divided into risk categories to distinguish between those eligible for SDD and those requiring standard or enhanced due diligence.
3. Collect Customer Data : When an eligible customer is identified, the institution obtains basic information about the customer, such as their full name, residential address, date of birth, and contact information along with their ID document(s).
4. Verify Customer: The FI verifies the customer’s identity using reliable and credible sources. This may involve checking government-issued identification documents, such as an Aadhaar card, PAN, or driver’s license. This ensures that the customer’s identity matches the information provided.
5. Asses Risk Profile : The institution performs a risk assessment to ensure the customer’s risk profile matches the low-risk criteria. They may do so by assessing the nature of their business or occupation, transaction patterns, and geographic location.
6. Document the Process: The FI must maintain detailed records of each customer’s SDD procedure. This documents the steps done, the information gathered, and the risk assessment results.
7. Report Suspicious Activity: If any unusual or suspicious activity by a customer is detected, FIs have to report them to appropriate authorities to mitigate the possibility of illicit financial activity. 

Simplified Due Diligence- Scenarios Where SDD is Applicable

Below explained are some of the instances where financial institutions can employ a simplified due diligence procedure:

• Government Entity Accounts: Accounts held by government bodies or agencies are often regarded as low risk due to their transparency and public nature.
• Retail Banking Customers: Customers opening basic savings or checking accounts for personal use, particularly those with a long history of maintaining such accounts without engaging in any suspicious activity.
• Regular Payroll Deposits: Employees receiving regular salary payments from their employers for an extended period of time through the same banking institution with no indicators of fraudulent activity.
• Charitable Organizations: Accounts owned by well-established nonprofit organizations with identifiable funding sources and clear financial purposes.
• Low-Value Transactions: Customers making infrequent and low-value transactions that do not raise suspicion, such as minor deposits or withdrawals.
• Insurance Premium Payments: Customers who pay their insurance premiums regularly, particularly for standard policies with primary conditions and no distinctive attributes.

Verify & Onboard Customers Digitally With SignDesk 

SignDesk’s cutting-edge digital solutions for financial institutions are designed to help businesses streamline their customer onboarding process with digital onboarding platform, including ekyc for insurance, while ensuring compliance with anti-money laundering (AML) regulations. SignDesk’s solutions enable FIs to verify and onboard consumers securely and efficiently with VCIP, VBIP, and VIPV- compliant Video KYC solutions.

FIs can reduce operational expenses by simplifying due diligence procedures for low-risk consumers with SignDesk. Remote customer verification and assessment assures regulatory compliance while improving user convenience.

Book a free demo with us to learn how you can implement Video-based customer verification and simplified Due Diligence processes for your customers.