What You Need to Know About Banking Compliance

Evolution of banking compliance

The banking sector has always had compliance models in place, but it is becoming increasingly common to find banking entities funnel  money into their compliance department. Some assume it is to keep up with the ever-changing compliance environment or to institute more-efficient controls. Whatever the reasoning, one thing is exact, and it is that optimizing protocols to stay compliant is now more of a priority than it used to be. 

Going back a few years, the textbook compliance model was simply a stand-in to enforce legal function. In fact, it was maintained mostly in an advisory capacity without much of a focus on risk management or its identification. Such a model may be best suited as another lesson for managers to learn from in today’s environment. With the advent of process automation, wide-spread digitization and globalization, compliance literacy is undoubtedly the need of the hour. 

However, even though many banking organizations, including regional and small-scale entities, have some form of compliance framework in place, there are still a number of important questions that go unanswered. These are pertinent to the big picture, i.e., complete compliance, and the answers help establish effective models. For greater insight and to broaden your understanding on banking compliance, read on.  

The evolution of banking compliance can be traced through several key phases and developments, driven by changes in regulatory requirements, technological advancements, and shifts in the global financial landscape.

Here’s a broad overview of the evolution of banking compliance:

• Early Banking Practices: In the early days of banking, compliance was rudimentary, with little formal regulation. Bankers’ practices were largely guided by customary and local laws.

• The Emergence of Central Banks: As central banks were established in the 17th and 18th centuries, they began to set the stage for more standardized regulatory practices, including issuing currency and regulating commercial banks.

• Early Regulatory Frameworks: The late 19th and early 20th centuries saw the development of more formal regulatory frameworks, such as the establishment of the Federal Reserve System in the United States in 1913. This marked a significant step toward centralization of regulatory oversight.

• Depression Era and Banking Acts: In the aftermath of the Great Depression, the U.S. government passed the Banking Act of 1933 (Glass-Steagall Act) and the Banking Act of 1935. These acts aimed to stabilize the banking system and establish the Federal Deposit Insurance Corporation (FDIC) for deposit protection.

• Globalization and Basel Accords: With increasing globalization of financial markets, international standards became more important. The Basel Committee on Banking Supervision introduced the Basel Accords (Basel I, Basel II, and Basel III) to establish minimum capital requirements, risk management, and regulatory oversight.

• Anti-Money Laundering (AML) and Counter-Terrorism Financing (CTF): The late 20th century and early 21st century saw a significant focus on AML and CTF regulations. The Financial Action Task Force (FATF) was established in 1989, setting international standards for combating money laundering and terrorist financing.

• Technology and Compliance Automation: The advent of technology, particularly the internet, led to changes in how banks managed compliance. Automated systems for transaction monitoring, customer due diligence, and reporting became essential to meet regulatory requirements efficiently.

• Post-Financial Crisis Regulation: The global financial crisis of 2007-2008 prompted a wave of regulatory reforms, with the Dodd-Frank Wall Street Reform and Consumer Protection Act in the U.S. and the establishment of the European Banking Authority (EBA) in Europe.

• Consumer Protection Regulations: Increased emphasis on consumer protection led to the creation of agencies like the Consumer Financial Protection Bureau (CFPB) in the U.S., tasked with safeguarding consumers in financial transactions.

• Digital Banking and Fintech: The rise of digital banking and fintech brought new challenges, including the need to adapt traditional compliance frameworks to accommodate online and mobile banking.

• Regtech and SupTech: Regulatory technology (Regtech) and supervisory technology (SupTech) emerged to help financial institutions and regulators leverage technology for compliance monitoring, reporting, and risk management.

• Cybersecurity Regulations: Given the growing threat of cyberattacks, banking compliance frameworks expanded to include cybersecurity regulations, requiring banks to protect customer data and the integrity of financial systems.

• Green and Sustainable Finance: Recent years have seen the emergence of regulations and guidelines to promote environmentally sustainable finance, such as the EU’s Sustainable Finance Disclosure Regulation (SFDR).

The evolution of banking compliance is an ongoing process, driven by an ever-changing regulatory landscape, technological advancements, and shifts in the global economy. Banking institutions are continually adapting their compliance measures to meet these evolving challenges and obligations.

What are the responsibilities of a compliance department?  

The compliance department within an organization plays a critical role in ensuring that the company adheres to all relevant laws, regulations, and industry standards. Its responsibilities include developing and implementing compliance policies and procedures, conducting regular risk assessments, monitoring and enforcing compliance with internal and external regulations, and providing guidance and training to employees. The compliance department is also responsible for investigating and reporting any instances of non-compliance, managing regulatory relationships, and staying updated on changes in laws and regulations that may affect the organization. Ultimately, the compliance department serves as a safeguard to protect the organization’s reputation, integrity, and financial stability while fostering a culture of ethics and responsibility throughout the company.
The compliance department typically has a range of responsibilities, including but not limited to:

• Policy Development
• Risk Assessment
• Training and Education
• Monitoring and Surveillance
• Investigations
• Reporting
• Audits and Examinations
• Whistleblower Programs
• Regulatory Liaison
• Data Protection
• Sanctions Screening
• Consumer Protection
• Environmental and Sustainable Finance Compliance
• Cybersecurity and Data Security
• Anti-Money Laundering (AML) and Counter-Terrorism Financing (CTF)
• Market Conduct and Fraud Prevention
• Code of Conduct
• Supervisory Technology (SupTech)
• Regulatory Updates
• Ethical Guidance

In a vacuum, the compliance department is usually tasked to: 

• Safeguard the bank from data theft 
• Protect against fines imposed by the government
• Prevent tax evasion
• Prevent money laundering
• Identify and analyze risk areas
• Steer clear of activities that aren’t within the bank’s ethics policy

Besides these, the department may also be tasked with creating a compliance program or policy. This is usually achieved through a joint effort with senior management. The department establishes the general policy while the management establishes the culture of compliance across the enterprise. Some of the best ways this is achieved is by: 

• Proactively communicating the compliance policy to all personnel in the institution 
• Disclosing ethical conduct as bank culture
• Standardizing processes

The third point is a significant responsibility as it ties into efficient risk management. With a standard process for routine operations like doing inventory, addressing risks, managing problems and offering resolution, the organization becomes a lot more efficient as it acts only on the basis of bank policy. In addition to all this, the compliance department has a responsibility to ensure that customers interact with the bank as per regulation. Any acts committed outside the purview of regulation or may cause the bank to become non-compliant must follow a clearly defined set of rules. 

For instance, as per the Office of Foreign Assets Control, banks in the U.S aren’t allowed to process any transactions from individuals and countries that the U.S. has previously sanctioned. Any attempts made must be blocked and reported, failing which, the bank will face serious consequences. All of these responsibilities are handled by a compliance department, and it is clear that having the right tools in place can make all the difference when assessing the true efficacy of any compliance program.

How can banking organizations stay compliant effectively? 

In an industry where regulations shift regularly, it can be hard to adapt on the fly. But it must happen as being non-compliant, in any sense, is detrimental. Thankfully, to operate within regulation, there are reliable practices you can enforce. 

Effective compliance not only safeguards an institution’s reputation but also ensures financial stability, customer trust, and legal adherence. So, what strategies can banks employ to stay compliant effectively? Let’s delve into this vital subject.

• Develop Robust Policies and Procedures

The foundation of effective compliance begins with the development of comprehensive and up-to-date policies and procedures. These documents should clearly outline the organization’s commitment to adherence, define responsibilities, and provide a roadmap for addressing regulatory requirements.

• Establish a Culture of Compliance

An organizational culture that prioritizes compliance is key. This starts with leadership setting the tone by championing ethical behavior, risk management, and adherence to regulations. Regular training and education programs for all employees help instill a culture of compliance at every level.

• Embrace Technology and Automation

The use of technology is a game-changer in compliance. Banks can employ compliance management systems and software to streamline processes like Know Your Customer (KYC) and transaction monitoring. Automation reduces human error, enhances efficiency, and ensures consistency in compliance activities.

• Stay Informed and Adapt to Regulatory Changes

Regulations are dynamic, with frequent updates. Staying informed about changes in laws and regulations is essential. Banking organizations should maintain active channels of communication with regulatory bodies, subscribe to updates, and adapt swiftly to new requirements.

• Conduct Regular Risk Assessments

Thorough risk assessments are critical to identifying potential compliance vulnerabilities. These assessments allow banks to allocate resources effectively and prioritize areas that need immediate attention. Risk assessments should be conducted periodically to stay proactive.

• Monitor and Audit Effectively

Implementing ongoing monitoring and conducting regular internal audits are integral parts of effective compliance. These measures help identify and rectify issues before they become major problems. External audits by third-party experts can also provide valuable insights.

• Foster Customer Data Protection

In an era of data breaches and privacy concerns, safeguarding customer data is not only good practice but also a legal obligation. Banks must have stringent data protection measures and cybersecurity protocols in place to protect sensitive customer information.

• Embrace Green and Sustainable Finance

Sustainable finance is an emerging area of compliance. Banks should explore and implement eco-friendly practices and adhere to regulations related to environmental, social, and governance (ESG) standards.

• Promote Ethical Behavior

A strong code of conduct that defines ethical behavior and fosters a culture of integrity is a must. Banks should actively discourage unethical practices and establish channels for reporting violations confidentially.

• Collaborate with Regulatory Bodies

Engaging constructively with regulatory authorities is essential. A positive working relationship with regulators can facilitate compliance efforts, making it easier to seek clarification and guidance when needed.

Manage residual risks

Inherent risk is defined as the risk that exists without considering the external controls. However, residual risks is the risk that remains even after the treatment or in presence of controls and to deal with these effectively, consider these four options:

• Risk mitigation: A common practice, usually the go-to in the industry, and it relies on decisions taken by management. 
• Risk acceptance: This is when the risk is accepted, and the plan of action is to monitor the risk levels and review the risk periodically to ascertain if acceptance is the best way to manage it. 
• Risk avoidance: With such an approach, the banking enterprise avoids engaging with the risk or disengages from it entirely. 
• Risk transfer: This involves transferring the risk to another entity such as an insurance company. With such a tactic, the risk of loss is borne by the insurance provider. 

What are the best ways to manage compliance costs? 

Because compliance regulations are always changing, it is unwise to respond by creating new protocols or databases to stay compliant. Instead, consider adding your existing processes and financial dashboards by making workflow improvements. These should integrate seamlessly and eliminate the need to divert capital to keep up with regulatory reform. Another way to go about it is to leverage the power of technology and automation. This includes tools that can: 

• Automate data gathering
• Monitors risks
• Control data validation 

These tools greatly improve operational efficiency while remaining completely compliant with the added bonus of enhanced customer service.

Managing compliance costs is a critical concern for banks, as regulatory requirements are an integral part of the financial industry. To balance the need for compliance with cost-efficiency, banks can implement several strategies:

• Leverage Technology and Automation: Implement compliance management software and systems to automate routine tasks like data collection, report generation, and transaction monitoring. Use artificial intelligence and machine learning to enhance the accuracy and efficiency of compliance processes, such as anti-money laundering (AML) and fraud detection.
• Outsourcing and Managed Services: Consider outsourcing non-core compliance activities to specialized firms or leveraging managed services. This can be cost-effective, especially for tasks like customer due diligence, sanctions screening, and regulatory reporting.
• Risk-Based Approach: Adopt a risk-based approach to compliance. Focus resources on areas with the highest risk of non-compliance and scale down efforts where risks are lower.
• Compliance Training: Invest in comprehensive training programs for staff to reduce the risk of compliance violations. Educated and informed employees are less likely to make costly mistakes.
• Regulatory Technology (Regtech): Utilize regtech solutions that provide cost-effective ways to monitor and report compliance. Regtech platforms often offer specialized tools for specific regulatory requirements.
• Collaborate with Peers: Collaborate with other banks and financial institutions to share best practices, resources, and insights into managing compliance costs.
• Regular Compliance Audits: Conduct periodic compliance audits to identify inefficiencies and areas for improvement. Implement the findings from these audits to reduce costs.
• Simplify Compliance Processes: Streamline and simplify compliance processes by eliminating redundant steps and paperwork. Adopt lean, efficient workflows.
• Data Analytics: Use data analytics to identify patterns and anomalies that could signal potential compliance issues. This proactive approach can save costs associated with resolving compliance violations.
• Vendor and Supplier Negotiations: Negotiate favorable terms with vendors and suppliers, especially those providing compliance-related services or technology. Explore cost reductions and efficiencies in contracts.
• Regulatory Updates: Stay proactive in monitoring regulatory changes. By anticipating and adapting to new requirements, you can avoid costly retroactive compliance measures.
• In-House Expertise: Develop in-house expertise on regulatory matters, especially those that are most relevant to your bank. This can reduce the need for costly external consultants.
• Regulatory Reporting Efficiency: Streamline the process of regulatory reporting, making it more efficient and less labor-intensive. Utilize software and systems that can automate this process.
• Customer Self-Service: Implement customer self-service options for certain compliance-related activities, reducing the burden on bank staff and cutting operational costs.
• Long-Term Planning: Develop a long-term compliance strategy that incorporates cost-saving measures and risk management. Long-term planning allows for more efficient resource allocation.

Balancing compliance with cost efficiency is an ongoing challenge for banks. By implementing these strategies and staying vigilant in monitoring regulatory changes, banks can reduce compliance costs while ensuring adherence to necessary regulations.

Compliance is one of the most critical challenges for any banking institution operating in today’s market. Non-compliance has consequences, and in 2020 alone, several banks received significant fines amounting to $11.39 billion. U.S. banks Goldman Sachs, Wells Fargo, and JP Morgan Chase paid upwards of $7.50 billion toward this total tally, indicating that even the sector leader isn’t immune. Naturally, any form of negligence within this realm of operation can lead to big losses, especially considering how strict legislation has become in the sector.

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