A Politically Exposed Person (PEP) is someone who holds a position of power or influence in society that makes them a potential target of bribery, corruption, or money laundering.
Due to their elevated risk, financial institutions and Designated Non-Financial Businesses and Professions (DNFBPs) need to be extra cautious when dealing with them.
In this exploration, we'll examine different types of PEPs, the surveillance and compliance measures that keep them in check and the consequences of breaking the rules.
Definition of a Politically Exposed Person
It’s not only important to know what a PEP is, but also why it’s essential to identify and monitor them.
Understanding PEPs
The term ‘Politically Exposed Person’ came to prominence in the late 1990s during the Abacha Affair [1], where Nigerian dictator Sani Abacha stole billions of dollars from the Central Bank of Nigeria with the help of his family and associates.
Now, PEPs are an integral consideration of anti-money laundering and counter-terrorism efforts worldwide. Definitions and regulatory requirements vary between countries, but the Financial Action Task Force (FATF) broadly defines PEPs as individuals entrusted with ‘prominent public functions’.
For instance, a PEP could be a government official, a family member thereof or an associate. Given the broad criteria, it’s safe to say that PEPs encompass a wide range of individuals.
Importance of Identifying PEPs
Identifying and monitoring PEPs is crucial in combating money laundering and terrorist financing. Left unchecked, individuals can leverage their authority and/or connections to exploit the financial system for personal gain or illegal activities.
Regulations and guidelines worldwide aim to mitigate such risks, ensuring transparency and accountability in transactions involving PEPs.
Greed is a powerful and common vice but by managing PEPs effectively, the corruption that greed elicits can be curbed, punished or even prevented.
Categories of PEPs
Though we mentioned that PEPs encompass a wide range of individuals, most fall into three categories. These are:
Politically Exposed Person in a Political Position
Politically exposed persons in political positions include individuals holding significant governmental roles, such as heads of state, ministers or high-ranking officials. These are typically the first people you think of when you think of corruption — for example Dilma Rousseff [2], Ferdinand Marcos [3], and George Santos [4].
Example scenario: The president of a country with poor anti-corruption controls may embezzle funds from the state by writing checks to friends, family or even people who don’t exist.
Family Politically Exposed Person
The family category of PEPs refers to immediate relatives of the PEPs themselves: spouses, children, siblings, parents, cousins or in-laws who may exploit their familial connections for personal gain. These individuals are subject to extended monitoring due to their proximity to influential individuals.
Example scenario: Remember Ferdinand Marcos? His wife, Imelda, was found guilty of funneling $200 million to Swiss foundations during her husband’s two-decade rule [5], and famously owned 3,000 pairs of shoes [6].
Professional Politically Exposed Person
Turning to the business world, a professionally politically exposed person is an individual who is associated with influential organizations. A CEO, board members or high-level executives of major state-owned companies would qualify for example due to having significant decision-making authority.
Example scenario: A CFO might embezzle funds from their employer by charging personal expenses to company cards or misusing client funds, all while ‘cooking the books’ [7] to cover their tracks.
Surveillance and Compliance Measures
To maintain financial integrity, robust surveillance and compliance measures are required to detect and manage the risks associated with PEPs.
Global Standards (FATF)
The FATF Recommendations are considered the global standard when it comes to PEP screening. They categorize PEPs into six types: Domestic, International Organizations, Family Members, Close Associates and National PEPs, each with their own screening criteria [8].
They also identify four levels of risk: low, medium/low, medium and high. Low-risk PEPs like junior government employees are unlikely to pose a significant threat, while high-risk PEPs like top-ranking officials and royal family members should be watched more closely.
European Regulatory Framework
Europe does things a bit differently, but they are no less tough. EU regulations include strict screening procedures during customer engagement, including KYC processes and screening for Ultimate Beneficial Ownership (UBO).
PEP screening also extends beyond identification to investment and country risk screening, enabling institutions to assess and manage associated risks effectively.
Responsibilities of Financial Institutions
Financial institutions should follow the lead of both the FATF and the EU, taking a risk-based approach to PEP management.
What does that look like?
- Clear definitions of PEPs
- Thorough due diligence during customer onboarding
- Close monitoring of PEP accounts to detect and prevent fraud
When risks are identified, there should be clear procedures for employees to follow and decisive actions they can take to stop non-compliance in its tracks.
Ramifications of Non-Compliance with Regulations
Non-compliance with PEP regulations can have severe consequences for both financial institutions and businesses.
Fines and Sanctions
Financial institutions risk substantial fines for regulatory breaches related to PEPs. For instance, in 2012, the Royal Bank of Scotland faced a £8.75 million (€10.2 million) fine for mishandling PEP accounts [9]. Similarly, in 2015, Barclays Bank received a £72 million (€84 million) fine for failure to prevent financial crime [10].
Reputational Risks
Associations with PEPs that are carrying out crimes can severely damage an organization's reputation, eroding public trust and confidence. Of course, not all PEPs will be criminals, but an organization should have in place a rigorous and regular process of checks. Without that, people will naturally think: “If you can’t spot risks and you’re supposed to be the experts, why should I trust you with my finances?” For this reason, reputational blows can be even more costly than fines.
Legal Consequences
While fines are the most common penalties for non-compliance with PEP regulations, they represent just one aspect of the legal fallout. Repercussions can extend to civil and criminal proceedings, which themselves carry sky-high litigation costs and reputational damage.
The message, really, is that every punishment has knock-on effects and organizations should try to avoid all of them.
Ensuring Compliance and Vigilance
Clearly, understanding and managing politically exposed persons is vital for maintaining financial integrity.
By sticking to global standards, regulatory frameworks and diligent surveillance, businesses can mitigate risks and safeguard against legal and reputational consequences.
Need some more guidance? Contact Roundtable to streamline your due diligence and lower exposure to risk and fines.
References
[1] https://www.bbc.com/news/world-africa-54929254
[2] https://www.vox.com/2016/4/13/11416578/brazil-petrobras-rousseff-impeachment
[3] https://www.theguardian.com/world/2016/may/07/10bn-dollar-question-marcos-millions-nick-davies
[4] https://apnews.com/article/george-santos-credit-card-fraud-f723e69a777b02a2e6b87595f45c21ce
[6] https://www.vice.com/en/article/59n8ab/what-ever-happened-imelda-marcos-3000-pairs-shoes-philippines
[7] https://werksmanjackson.com/blog/what-are-cooked-books-what-charges-could-it-lead-to/
[8] https://www.fatf-gafi.org/content/dam/fatf-gafi/guidance/Guidance-PEP-Rec12-22.pdf
[9] https://www.reuters.com/article/idUSWLA5250/
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