Written by a human
In brief:
- PEPs are individuals with prominent public functions, their family members, and close associates
- They present unique risks for financial institutions due to their potential involvement in corruption or money laundering
- Compliance professionals must implement robust due diligence measures to mitigate risks associated with PEPs
What is a PEP?
A Politically Exposed Person (PEP) is an individual who holds or has been trusted with a prominent public role, either domestically or internationally. This definition extends beyond the person directly holding office to include their immediate family members and people closely associated with them.
The concept of PEPs was introduced to combat corruption, money laundering, and terrorist financing by recognizing that individuals in positions of power may be more susceptible to these types of activities.
Types of PEPs
The Financial Action Task Force (FATF) identifies three main categories of PEPs:
- Domestic PEPs: Individuals holding prominent public positions within their home country.
- Foreign PEPs: Those with significant public roles in foreign countries.
- International Organization PEPs: Persons entrusted with important functions in international bodies.
Examples of PEPs include heads of state, senior politicians, high-ranking military officers, senior executives of state-owned corporations, judges in senior judicial positions, and important political party officials. Their family members, typically including parents, spouses, children, and siblings, are also considered as PEPs by extension.
What are the compliance risks associated with PEPs?
PEPs are considered high-risk clients due to their potential involvement in:
- Bribery and corruption
- Money laundering
- Terrorist financing
- Embezzlement of state funds
Compliance risks associated with PEPs is underpinned by the concept that their positions of power and influence make them attractive targets for those seeking to legitimize illicit funds or gain improper advantages.
The infamous Abacha Affair, where the then Nigerian dictator Sani Abacha stole billions from the Central Bank of Nigeria, underscores the potential scale of PEP-related financial crimes.
Regulatory insights into PEPs
Despite there being no universal politically exposed persons definition, jurisdictions have implemented various PEP regulations to address the associated risks.
- In the U.S., the USA PATRIOT Act requires financial institutions to conduct enhanced due diligence on foreign PEPs.
- For the United Kingdom, the Money Laundering Regulations 2017 mandate enhanced due diligence for PEPs, their family members, and known close associates.
- The European Union’s fifth Anti-Money Laundering Directive (AMLD5) requires member states to maintain lists of prominent public functions and apply enhanced due diligence to PEPs.
Beyond these examples, the FATF recommendations serve as global standards, recommending risk-based approaches to PEP identification and monitoring.
PEP compliance responsibilities: What you need to know
Financial institutions and designated non-financial businesses and professions have several key responsibilities when dealing with PEPs, including:
- Identification: Implementing robust systems to identify PEPs, their family members, and close associates.
- PEP risk assessment: Conducting thorough risk assessments to determine the level of due diligence required.
- Enhanced due diligence (EDD): Applying EDD measures, for example:
- Obtaining senior management approval for establishing business relationshipsTaking adequate measures to establish the source of wealth and fundsConducting enhanced ongoing monitoring of the business relationship
- Ongoing monitoring: Regularly reviewing PEP relationships and transactions to detect any suspicious activities.
- Training: Ensuring staff are adequately trained to identify and handle PEP-related risks.
- Recordkeeping: Maintaining comprehensive records associated with PEP identification, risk assessments, and due diligence measures.
Final thoughts
PEP compliance in securities market is a fundamental aspect of responsible business conduct. As regulatory scrutiny intensifies and global efforts to combat financial crimes continue, staying informed about PEP regulations and best practices is unavoidable to maintain effective compliance programs and safeguard the integrity of financial systems.
While being a PEP does not inherently imply involvement in illegal activities, the elevated risks necessitate heightened vigilance from compliance professionals. As such, it is an inherent aspect of the compliance team’s responsibilities to strike a balance between implementing robust PEP risk management measures and facilitating legitimate business relationships with PEPs.