A “giant blind spot” in banks’ due-diligence practices

TOPICS:  Due diligence

Most financial professionals must comply with tough anti-money laundering and know-your-customer laws, but small groups of shady businesses have figured out a way to trick banks into foregoing the required due-diligence checks.  That’s the conclusion of a recent article in the Times of Israel, that called the scheme “a giant blind spot, a flaw in the [financial-technology] system that has so far largely escaped the notice of banks and regulators.”


Ordinarily, merchants that want to accept customers’ credit card payments will work with a payment processor (also called a payment facilitator) to line up an “acquiring bank” to handle the account, and in most cases the law requires that bank to confirm the identities of the merchant’s owners.


A New Breed


The Times of Israel story said it is common for banks not to do such background screening on very small businesses, such as restaurants and nail salons, but instead to rely on the payment processors to check on the merchants.  One problem is that a new breed of unscrupulous payment processor has emerged, which seeks the business of controversial merchants specializing in, say, online pharmaceuticals, online gambling, pornography, and scam investments.


The newspaper quoted Albert James Galloni, a U.K.-based financial-fraud expert, as saying that deceptive payment facilitators “give the impression [to banks] that the payments were for low-risk items when in reality they were for high-risk” merchants such as diet-pill sellers or gambling websites.


Fintech in Danger


Payment facilitators are part of a larger industry sector called “fintech,” for financial technology, which the Times of Israel says is in danger of being sullied by this small, unethical group.  “With fintech,” the paper said, “the risks and costs of money laundering have gone down.”


The Times also quoted Ron Teicher, CEO of EverCompliant, an Israel-based financial fraud-detection firm, as saying that 6% to 10% of businesses accepting credit cards hide their actual identities from the banks and credit card companies that process their transactions.


“The banks and credit card brands have absolutely no idea who and what these businesses are,” the newspaper said.  The failure to vet the merchants “opens the door to terrorists, drug dealers, counterfeiters, online pharma, violent content and scammers who were previously blocked from the payments system,” the Times quoted Teicher as saying.  He added:  “It’s getting to be a bigger and bigger problem.”