AML-KYC Guidelines
Principles & Practices of Banking | Unit 1 Chapter Notes
From the three stages of money laundering through PMLA provisions, KYC Policy elements, designated functionaries, risk-based approach, and FIU-Ind reporting obligations — everything you need for 5–7 marks from this chapter.
📌 Why This Chapter Matters in JAIIB
AML-KYC is one of the highest-weightage chapters in JAIIB PPB. Expect 5–7 questions every attempt — from stages of money laundering, PMLA provisions (Sections 3, 4, 45), KYC Policy elements (always 4), designated functionaries (DD vs PO), FIU-Ind report thresholds, and penal provisions. This chapter connects directly to your daily banking work, making it both easy to relate to and easy to score from.
Money Laundering — What It Is and How It Works
Money laundering (ML) is the process of concealing the criminal origin of funds — generated from activities like drug trafficking, corruption, Ponzi schemes, or cybercrimes — and introducing them into the financial system so they appear to come from legitimate sources.
Three interconnected threats make up the AML-CFT landscape that every banker must understand:
Money Laundering (ML)
Concealing criminal origin of funds and introducing them into the financial system as legitimate.
Terrorism Financing (TF)
Providing or collecting funds knowing they will be used for terrorist acts or organisations.
Financial Crimes (FC)
Tax evasion, fraud, corruption — all closely connected with ML and TF.
💡 Who Runs the Network?
Criminals have organised themselves into Organised Crime Groups (OCGs) and Professional Money Launderers (PMLs). Together they form the network that propagates criminal activities and launders the funds. The Financial Action Task Force (FATF) — a global inter-governmental body — was set up to evolve global AML/CFT standards (FATF Standards 2012).
🧠 Mnemonic — 3 Stages of Money Laundering: PLI
“Please Let It (into the economy)”
📥 1. Placement
Funds from criminal activity are introduced into the financial system — typically through multiple cash deposits in bank accounts. The primary goal: get the dirty money into the banking system without attracting attention.
⚠️ Exam Trap: Placement is the RISKIEST stage for the criminal — it is where they are most exposed to detection.
🔀 2. Layering
The funds are passed through numerous financial transactions — inter-account transfers, foreign remittances, shell company payments. Each layer creates more distance between the money and its criminal origin.
✅ 3. Integration
Funds lying in multiple accounts are collected into one or a few accounts, then deployed in legal business activity or used to acquire legitimate assets. At this stage, the money re-enters the economy appearing to come from a lawful source.
Terrorism Financing & the PMLA Framework
Terrorist organisations have financial cycles similar to commercial entities. Unlike money laundering (which starts with dirty money becoming clean), terrorism financing can start with legitimate funds being channelled for criminal purposes.
🧠 Mnemonic — 4 Stages of Terrorism Financing: RUMP
Note: The sequence in the textbook is R → M → P → U (Raising, Movement, Parking, Use)
| Stage | Description | Method |
|---|---|---|
| 1. Raising | Sourcing funds from sympathisers, donations, or criminal activities | Clandestine collection — true purpose concealed from authorities |
| 2. Movement | Cross-border transfer to terrorist organisations across jurisdictions | Hawala, informal channels, wire transfers |
| 3. Parking | Interim storage of funds awaiting deployment | Bank accounts, financial investments |
| 4. Use | Paying operatives, procuring equipment, funding propaganda | Terror acts, organisational activities |
The PMLA Legal Framework
India enacted the Prevention of Money Laundering Act, 2002 (PMLA) based on FATF Recommendations. Detailed rules are in the Prevention of Money Laundering (Maintenance of Records) Rules (PMLR).
Key PMLA Sections — Must Know
Defines the Offence of Money Laundering — whosoever directly or indirectly attempts to indulge or knowingly assists in any process connected with proceeds of crime (concealment, possession, acquisition, use) is guilty.
Punishment: Rigorous imprisonment not less than 3 years, up to 7 years + fine. For cases connected with NDPS (Narcotics), imprisonment may extend up to 10 years.
All offences under PMLA are deemed COGNIZABLE and NON-BAILABLE.
Institutional Framework
FIU-Ind (Financial Intelligence Unit – India): Receives reports from banks and FIs, analyses and disseminates intelligence to law enforcement. Also has supervisory powers over Reporting Entities.
Enforcement Directorate (ED): Investigation and prosecution authority for ML crimes. Can track and attach crime-related assets.
Special Courts: Adjudicate ML cases. Have powers to freeze and confiscate assets proved to relate to money laundering.
⚠️ Exam Trap
Section 4 punishment: 3–7 years rigorous imprisonment (general). Up to 10 years only for NDPS-linked cases. Section 45 makes ALL PMLA offences cognizable and non-bailable — this is frequently tested.
KYC Policy — Four Elements & Customer Definition
📜 Before KYC: The Introduction Practice
Prior to RBI’s KYC guidelines (2002), banks required an introduction from an existing account holder or staff member for new accounts — to obtain protection under the Negotiable Instruments Act. Post-KYC guidelines: introduction practice was discontinued. Every bank must now have a KYC Policy laying down KYC/AML norms.
Who is a ‘Customer’ Under PMLA?
“Client means a person who is engaged in a financial transaction or activity with a reporting entity and includes a person on whose behalf the person who engaged in the transaction or activity, is acting.” — Section 2(ha), PMLA
This is wider than the traditional banking definition. For KYC purposes, a bank must include:
The Four Key Elements of KYC Policy
🧠 Mnemonic — Always Four, Always in This Order
“Customers Come, Risk Monitored” — CAP · CIP · Risk · Monitoring
1.Customer Acceptance Policy (CAP)
Defines which customers the bank will and will not on-board. Sets risk thresholds, identifies prohibited categories (e.g., anonymous accounts), and lays out the conditions for accepting high-risk customers.
2.Customer Identification Procedures (CIP)
Process for verifying identity using Officially Valid Documents (OVDs), Aadhaar authentication, or offline verification. Also covers identification of beneficial owners — the actual person behind an entity.
3.Risk Management
Board-approved risk framework for classifying customers as High, Medium, or Low risk. Includes ML/TF risk assessment of the bank (at least annually) and enhanced due diligence for high-risk customers.
4.Monitoring of Transactions
Ongoing monitoring of account activity against the customer's known profile. Detection and reporting of suspicious transactions to FIU-Ind as per laid-down procedures.
⚠️ Exam Trap — Always Four
Questions on “how many elements does a KYC Policy have?” always appear. The answer is 4 — every time. Some banks maintain two documents (KYC Policy + AML/CFT Policy) but the elements remain 4. Policy must be reviewed at least once a year — also triggered by regulatory changes or new business lines.
Designated Functionaries Under PMLA
PMLR requires every bank to designate two specific functionaries for PMLA compliance. Getting these confused is the most common exam error in this chapter.
| Attribute | Designated Director (DD) | Principal Officer (PO) |
|---|---|---|
| Level | Board / Senior Management | Senior Officer (below board) |
| Responsible for | OVERALL PMLA compliance (Sections 11A, 12, 12A, 12AA) | Day-to-day AML/CFT operations |
| FIU-Ind interface | No — policy level only | Yes — reports transactions, shares information |
| KYC Policy | Ensures it is updated and compliant | Monitors implementation |
| Law enforcement | No | Maintains liaison with agencies |
| Board reports | Responsible for getting them to Board | Ensures periodic reports are submitted |
Who is the Designated Director? (Type-wise)
| Type of Entity | Who is the DD? |
|---|---|
| Company | Managing Director or Whole-time Director authorised by Board |
| Partnership Firm | Managing Partner |
| Proprietorship | Proprietor |
| Trust | Managing Trustee |
| Cooperative Banks / RRBs | Senior management person designated as DD |
| Unincorporated association / Body of individuals | Person who controls and manages affairs of the entity |
AML/CFT Compliance Function
A distinct functional unit (separate from DD and PO) that handles:
Risk-Based Approach & Customer Risk Categorisation
Banks are required to apply a Risk-Based Approach (RBA) — calibrating the intensity of due diligence and monitoring to the actual risk posed by each customer, product, and channel. This is far more effective than applying the same level of scrutiny to every account.
Sources of ML/TF Risk
Customers
PRIMARY source — criminals disguise identity and purpose. A salaried RM's savings account looks identical to a gambling racketeer's until you look at the transaction pattern.
Products / Services
Technology products (mobile wallets, net banking, RTGS/NEFT/IMPS, smart cards) carry inherent ML/TF risk from their speed and anonymity.
Country / Region
Bank's country of incorporation, branch location, and jurisdiction of connected transactions all affect risk.
Delivery Channels
Digital channels, Business Correspondents, DSAs — all introduce intermediary risk.
⚠️ Exam Trap — Two Different Timelines
ML/TF Risk Assessment of the bank
At least ANNUALLY (once a year)
Customer risk categorisation review
At least every SIX MONTHS
Customer Risk Categories
LOW RISK
Salaried individuals, pensioners, government employees — identity and sources of wealth easily verified, transactions conform to known profile.
MEDIUM RISK
Cash-intensive businesses (jewellers, petrol pump dealers), customers with higher-than-average transaction volumes.
HIGH RISK
Politically Exposed Persons (PEPs), NRIs, customers connected to FATF high-risk jurisdictions, trusts, shell companies, charitable organisations.
💡 Risk Categorisation — Key Rules
Reporting Obligations to FIU-Ind
Banks must file five types of reports with FIU-Ind. Threshold amounts and timelines differ — this is a favourite exam area.
| No. | Report | Threshold / Condition | When |
|---|---|---|---|
| 1 | Cash Transaction Report (CTR) | ₹10 lakh or more in cash; OR a series of connected cash transactions in a month aggregating ₹10 lakh+ | Monthly |
| 2 | Cross Border Wire Transfer Report (CBWTR) | Cross-border wire transfers of more than ₹5 lakh (or equivalent) where origin or destination is in India | Monthly |
| 3 | Non-Profit Organisation Report (NTR) | Receipts by non-profit organisations of more than ₹10 lakh or equivalent | Monthly |
| 4 | Counterfeit Currency Report (CCR) | ALL counterfeit currency notes received — no minimum value | As detected |
| 5 | Suspicious Transaction Report (STR) | ANY transaction where suspicion is established — no minimum value, includes attempted and non-monetary transactions | Within 7 days of suspicion |
🚨 STR — The Most Important Report
When is a Transaction ‘Suspicious’?
To a person acting in good faith, the transaction appears to:
Penalties, Secrecy & International Standards
Penalties by Director, FIU-Ind
The Director of FIU-Ind can act against the bank, any of its employees, managers, or directors:
| Penalty Type | Details |
|---|---|
| Written Warning | For minor violations or first-time non-compliance |
| Remedial Direction | Direct to take specific remedial measures + submit Action Taken Report |
| Monetary Penalty | Minimum ₹10,000 — Maximum ₹1,00,000 per violation |
| Counting Violations | Each day of delay in submission / rectification = one separate violation |
⚠️ Exam Trap — Penalty Range
FIU-Ind monetary penalty: ₹10,000 minimum to ₹1,00,000 maximum per violation. The Director FIU can act against the bank, any employee, manager, OR director — “All of the above” is always the answer when asked who can be penalised.
Secrecy Obligations & Exceptions
Banks cannot use customer information for cross-selling or any other purpose without express permission. There are four exceptions — remember them as BLED:
🧠 Mnemonic — Secrecy Exceptions: BLED
International Standards
FATF High-Risk Jurisdictions
UNSC Sanctions Lists
Banks must not open or maintain accounts for individuals/entities listed in:
On finding a match: advise FIU-IND + Ministry of Home Affairs, then freeze assets per MHA orders.
Correspondent Banking
FATCA & Common Reporting Standards (CRS)
| Standard | Purpose |
|---|---|
| FATCA (U.S. law) | Requires FIs to identify U.S. accounts and report to IRS. Prevents U.S. persons hiding wealth in foreign banks. |
| CRS (OECD) | Global automatic exchange of financial account information between countries for tax compliance. |
In India: Income Tax Rules 114F, 114G, and 114H require banks to submit reports to the Income Tax Department for FATCA (U.S. taxable) and CRS (any foreign country taxable) customers.
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