what is Customer due diligenc

Customer Due Diligence (CDD): What It Is & Why It’s Important

Chances are, you’ve been asked to submit a copy of your ID or social security card for digital onboarding at a credit union, a bank, or a financial organization. Email addresses, phone numbers, and addresses are even more common forms of information collection, spanning multiple industries. While you may not have known, these procedures are part of Customer Due Diligence (CDD). 

What Is Customer Due Diligence?

Customer Due Diligence is the process of identifying and verifying the identity of the customer behind a legal entity and determining who benefits from its activities. The primary purpose of CDD is to prevent criminals and terrorists from disguising unlawful activities and laundering their illegal profit through a company. Customer due diligence is also known as the CDD Rule and is an amendment to the Bank Secrecy Act.

CDD Meaning: Why Is CDD Important?

Customer Due Diligence (CDD) is important for several reasons. Firstly, it ensures compliance with Anti-Money Laundering (AML) and Know Your Customer (KYC) regulations, which prevent criminals from making money through illegal activities. By implementing CDD, banks and financial institutions can effectively identify and mitigate risks associated with money laundering, fraud, and terrorist financing.

Secondly, CDD acts as a comprehensive Risk Assessment Tool, helping to reduce the cost of fraud for businesses. It safeguards organizations from fines due to noncompliance and ensures that the business remains secure, regulated, and free from fraudulent activities.

When Is The Customer Due Diligence Process Required?

The Customer Due Diligence Process is required not only at the start of a business relationship but also as ongoing monitoring throughout the course of the business relationship. Additional CDD measures can be prompted by:

  • Suspicious activity that raises concerns about money laundering, terrorism financing, or other illegal activity
  • Insufficient documentation is provided by the customer, or discrepancies are found in the provided documentation
  • Financial transactions that exceed regulatory thresholds or are considered high-risk

While Covered Financial Institutions are the primary focus of CDD regulatory measures, other industries choose to partake in CDD as a method for safeguarding their funds and protecting their business from potential legal repercussions. 

Customer Due Diligence compliance is mandated for the following companies or roles: 

  • Banks
  • Mutual funds
  • Brokers in securities 
  • Dealers in securities
  • Futures commission merchants
  • Brokers in commodities

Please note that CDD compliance requirements may vary by location.

What are the CDD Requirements?

There are multiple layers of Consumer Due Diligence requirements for businesses, and each layer serves as protection and limits the chance of unauthorized or fraudulent activity. These include:

1. Customer Identification & Verification

The first component of CDD is customer identification, which includes gathering relevant customer information. This information is then used to verify the customer’s identity and ensure you know who they are. 

Examples of collected personal information include: 

  • Name
  • ID
  • Birth certificate
  • Address
  • Email address

2. Beneficial Ownership Identification & Verification

Next, information about the customer’s business is acquired. This includes identifying their business model, business owner, Registered Corporate Name, registration number, and source of funds. 

As criminals may attempt to disguise their identity by hiding within a corporate infrastructure and conducting transactions anonymously, it is essential to establish beneficial ownership. This means you must identify who within the organization stands to benefit from your relationship or any transactions made via your organization. These are typically individuals that own 25% or more of the organization. 

High-risk customers will require a greater understanding of beneficial ownership than low-risk customers as they have more significant potential for abusing the business relationship. 

3. Business Relationship Nature & Purpose

Before entering into business with any customer, you must define the business relationship’s purpose, nature, and parameters. This aids the detection of unusual or suspicious activity by establishing expected behavior. 

4. Ongoing Monitoring & Risk Assessment

After determining your customer’s risk level, you should develop a protocol for ongoing monitoring. High-risk customers should be accompanied by more rigorous monitoring, whereas lower-risk customers require less frequent monitoring. Financial services onboarding software can be leveraged to identify unusual transactions or changes. 

Is CDD in Banking Important?

Customer Due Diligence (CDD) is vital for banking institutions to ensure compliance with Anti-Money Laundering (AML) regulations and to enhance security. CDD in banking involves thorough verification of customer identities, assessing risk levels, and ongoing monitoring of transactions to detect suspicious activities. These measures help banks prevent money laundering, terrorist financing, and other financial crimes. By implementing robust customer due diligence checks and leveraging advanced customer due diligence solutions, banks can maintain regulatory compliance and protect their reputation while safeguarding the financial system.

Difference Between CDD and EDD

Based on a customer’s risk level, you may need to escalate your Customer Due Diligence protocol to Enhanced Due Diligence (EDD). High-risk customers are flagged due to the more significant potential of engaging in fraudulent activity or money laundering. EDD protocols go deeper than CDD and require more time and documentation to make informed decisions on the customer’s validity. 

Enhanced Due Diligence protocols include: 

1. Identifying PEPs

The Financial Action Task Force recommends that politically exposed persons (PEP) undergo increased AML/CFT measures. Their positions can more easily be abused to participate in money laundering; thus, additional screening is required.

2. Collecting Detailed Information

While there is no defined expectation, the EDD process requires more data collection from verified sources. This information must be documented and easily obtainable for regulators to review. 

3. Data Verification

Not only does a large amount of data need to be gathered to pass muster for Enhanced Due Diligence protocols, but the data source must be proved accurate, and the source must be verified. Many companies rely on third-party professionals to help with the data verification process. 

4. Intelligence Reports

Depending on the risk factor of a business or individual, intelligence reports on the beneficial owners may be requested to determine the authenticity of the requested business relationship and if the beneficial owners are connected to any criminal activity. 

5. Enhanced Monitoring

High-risk companies require increased monitoring, both in frequency and depth, than typical CDD protocols call for. This means checking for changes in business ownership, transaction frequency or type, or other structural changes. This allows suspicious activity to be caught sooner than later. 

KYC vs. CDD

CDD (Customer Due Diligence) and KYC (Know Your Customer) are related but distinct concepts in financial compliance. Customer Due Diligence is a comprehensive practice aimed at preventing money laundering and verifying customer identity. It involves initial verification and ongoing monitoring throughout the customer relationship, conducted at critical interaction points, such as the start of the relationship and during high-risk transactions. 

On the other hand, Know Your Customer (KYC) focuses specifically on customer identification and verification at the beginning of the relationship. This includes gathering Personally Identifiable Information (PII) such as IDs, using biometric authentication, and employing AI for verifying customer “liveness.” Essentially, KYC serves as the first stage of CDD to comply with AML regulations, providing a foundation for broader due diligence efforts.

Incode’s Customer Due Diligence Solutions

Due to the complexity of CDD and AML regulations, these protocols can be challenging for companies and may result in significant fees. Incode Omni streamlines CDD requirements through rapid data entry, data verification and authentication, and automated risk level assessments. The frictionless user onboarding experience minimizes the hassle of developing compliant CDD procedures. Ongoing monitoring features alert you to suspicious activities or changes in risk levels.

Incode Omni also automates customer risk assessment by analyzing factors such as customer identity, geographic location, products and services, and transaction types. Advanced AI capabilities identify potentially fraudulent applicants through ID document verification, biometric liveness, and data mismatch detection during the onboarding process.

Support your business’s long-term health while leveraging AI-powered solutions. Request a demo with an Incode Solution Specialist today.

Frequently Asked Questions About CDD

What are the types of CDD?

Customer Due Diligence (CDD) can be categorized into three main types:

  • Standard CDD: This is the basic level of due diligence applied to all customers. It involves verifying the customer’s identity and assessing their risk level based on standard factors.
  • Simplified CDD: Used for customers with a low risk of money laundering or terrorist financing. This type of CDD involves less stringent verification and monitoring processes.
  • Enhanced Due Diligence (EDD): Applied to high-risk customers, EDD requires more comprehensive verification and monitoring procedures to manage potential risks effectively.

What are customer due diligence checks?

Customer due diligence checks involve verifying customer identities, assessing risk levels, and continuously monitoring financial transactions to prevent money laundering and fraud. These checks typically include:

  • Identity Verification: Confirming the customer’s personal details, such as name, address, and date of birth.
  • Risk Assessment: Evaluating the potential risk associated with the customer.
  • Ongoing Monitoring: Regularly reviewing customer transactions for suspicious activity.
  • Document Collection: Gathering necessary documents like ID proofs and business records.

These steps help financial institutions comply with regulations and ensure security.