Know Your Customer

contents

Know Your Customer (KYC)
https://en.wikipedia.org/wiki/Know_your_customer
https://www.finra.org/rules-guidance/rulebooks/finra-rules/2090

Regulations imposed on financial institutions, and now being more broadly rolled out against other industries as well.

Intended to combat:

• anti-money laundering (AML)
• counter terrorism financing (CTF)

Regulations

• USA Patriot Act Section 326 - for banks
• Financial Industry Regulatory Authority (FINRA) Rule 2090 - for brokerages
• 1970 Currency and Foreign Transaction Reporting Act, aka Bank Secrecy Act (BSA)
• 2016 FinCEN Customer Due Diligence Final Rule
• FINRA Rule 2111 (Suitability) requiring brokers to ensure investment recommendations align with the customer’s financial situation and risk tolerance
• Foreign Account Tax Compliance Act (FATCA)

Regulatory Agencies

• Financial Industry Regulatory Authority (FINRA)
• Financial Crimes Enforcement Network (FinCEN)

In the USA, the Financial Industry Regulatory Authority (FINRA) Rule 2090 says:

• financial institutions must use reasonable diligence to identify and retain the identity of every customer, including:
  • Customer Identification Program (CIP)
  • Customer Due Diligence (CDD)
  • Enhanced Due Diligence (EDD)

In the USA, mandated by:

• Section 326 of the USA Patriot Act - for banks
• Financial Industry Regulatory Authority (FINRA) Rule 2090 - for brokerages

Before opening an account, financial institutions must collect and verify information:

• Full legal name
• Date of birth
• Residential address
• Identification number (e.g., Social Security Number, passport number, or Taxpayer Identification Number)

Verification can involve checking government-issued IDs, utility bills, or other reliable documents, and sometimes cross-referencing against databases.

In the USA, mandated by:

• 1970 Currency and Foreign Transaction Reporting Act, aka Bank Secrecy Act (BSA)
• 2016 FinCEN Customer Due Diligence Final Rule

Beyond identification, financial institutions must:

• determine the purpose of the account and expected transaction patterns
• understand the nature and purpose of customer’s activities
• assess the customer’s risk profile, based on factors like:
  • location,
  • occupation, or
  • involvement with high-risk industries or countries.

For brokerages, FINRA Rule 2090 requires “reasonable diligence” to know essential facts about customers to service their accounts effectively and comply with regulations.

• Ongoing Monitoring:
  • Institutions must continuously monitor customer accounts for suspicious activity and update customer information as needed (sometimes called Perpetual KYC or pKYC).
  • This includes tracking transactions for unusual patterns (e.g., large cash deposits, frequent international transfers) and filing Suspicious Activity Reports (SARs) with FinCEN if red flags appear.
  • For brokerages, FINRA Rule 2111 (Suitability) ties into this by requiring brokers to ensure investment recommendations align with the customer’s financial situation and risk tolerance, necessitating up-to-date customer data.

• Regulatory Framework: Banks in the U.S. operate under the BSA, the USA Patriot Act, and FinCEN regulations. The 2016 CDD Rule explicitly requires banks to identify and verify beneficial owners of legal entity customers (e.g., corporations, LLCs) when accounts are opened.
• Enhanced Due Diligence (EDD): For high-risk customers—such as politically exposed persons (PEPs), those in high-risk countries, or accounts with unusual activity—banks must conduct additional checks, like verifying the source of funds or wealth.
• Practical Application: Banks may ask for additional documentation (e.g., tax returns, business licenses) and use technology to screen against sanctions lists or watchlists maintained by the Office of Foreign Assets Control (OFAC).

• Regulatory Framework: Broker-dealers are regulated by the Securities and Exchange Commission (SEC) and FINRA. FINRA Rule 2090 (Know Your Customer) and Rule 2111 (Suitability) are central to their KYC obligations.
• Focus on Investment Suitability: Brokerages must gather detailed financial profiles, including investment objectives, risk tolerance, and net worth, to ensure recommendations are appropriate. This goes beyond basic identity verification to understanding the customer’s financial behavior.
• Account Opening and Maintenance: Brokerages must retain records of customer identities and authorities acting on their behalf (e.g., power of attorney), and they face similar ongoing monitoring requirements as banks to detect suspicious trading activity.

• Preventing Financial Crime: KYC helps stop money laundering, terrorist financing, and fraud by ensuring customers are legitimate and their funds come from lawful sources.
• Regulatory Compliance: Non-compliance can lead to hefty fines, legal penalties, and reputational damage. For example, banks and brokerages risk enforcement actions from FinCEN, the SEC, or FINRA if they fail to adhere to KYC rules.
• Customer Protection: By understanding their clients, institutions can tailor services and protect customers from unsuitable financial products or fraudulent schemes.

• Burden on Institutions: KYC compliance can be resource-intensive, especially for smaller firms, requiring robust systems and staff training.
• Customer Experience: The process can feel intrusive to customers, who may need to provide extensive documentation, potentially leading some to abandon account openings.
• Global Variations: While U.S. rules are stringent, other countries have their own frameworks (e.g., the EU’s Anti-Money Laundering Directives or the UK’s Money Laundering Regulations), requiring institutions operating internationally to adapt to multiple standards.

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“using my family’s U.S. address as my mailing address”

For a U.S. citizen living abroad who uses a U.S. address for bank and brokerage accounts, there are several legal, regulatory, and practical considerations tied to “Know Your Customer” (KYC) rules, tax obligations, and financial institution policies. Below, I’ll break this down step-by-step, focusing on how KYC applies, potential issues, and what you should be aware of.

KYC Implications

Under KYC regulations (e.g., the Bank Secrecy Act, USA Patriot Act, and FINRA rules), banks and brokerages must verify a customer’s identity, assess their risk profile, and monitor their accounts. Using a U.S. address while living abroad introduces complexities:

• Identity Verification (Customer Identification Program - CIP):
  • When opening an account, you’ll need to provide a U.S. address, a Social Security Number (SSN), and identification (e.g., passport or driver’s license). Banks and brokerages typically accept a U.S. address like a family member’s home, a P.O. Box (if allowed), or a mail-forwarding service.
  • Challenge: Some institutions may ask for proof of residency at that U.S. address (e.g., utility bills). If you’re abroad and don’t reside there, this could raise red flags unless you explain it’s a mailing address and you’re a U.S. citizen living overseas.
• Customer Due Diligence (CDD):
  • Institutions must assess your risk based on your profile. Living abroad—especially in a high-risk country (per FATF or OFAC lists)—may trigger Enhanced Due Diligence (EDD). For example, if you’re in a jurisdiction known for money laundering, they might request additional documentation (e.g., proof of income, source of funds).
  • Using a U.S. address might initially lower your perceived risk, as it aligns with domestic norms, but discrepancies (e.g., IP addresses from abroad during account access) could prompt further scrutiny.
• Ongoing Monitoring:
  • Transactions from foreign IP addresses, wire transfers from overseas banks, or activity inconsistent with a U.S.-based lifestyle might trigger suspicious activity flags. Banks and brokerages are required to file Suspicious Activity Reports (SARs) if something seems off.
  • Example: Depositing funds from a foreign bank into your U.S. account could lead to questions about the source, especially if the amounts are large or frequent.

a high-risk country (per FATF or OFAC lists)
Financial Action Task Force (FATF) - an intergovernmental organization to combat money laundering and terror financing. hosted by the OECD in Paris, but separate.
Office of Foreign Assets Control (OFAC) - US Dept of Treasury, enforces economic and trade sanctions against targeted foreign countries and others.
Organization for Economic Cooperation and Development (OECD) - 38 member countries, to promote democracy and the market economy

Note: both passport and SSA ask “Is this your residence?”

• Is It Legal to Use a U.S. Address?
  • Yes, with caveats: There’s no U.S. law prohibiting a citizen from using a U.S. mailing address (e.g., a relative’s house or a mail service) for bank or brokerage accounts, even if they live abroad. However:
    • You must disclose your actual residency status if asked by the institution, as lying about where you live could violate terms of service or constitute fraud.
    • For tax purposes, you must report your foreign residency to the IRS (more on this below).
• Bank and Brokerage Policies:
  • Many U.S. financial institutions restrict services for Americans living abroad due to compliance costs (e.g., FATCA reporting, discussed below). Some may close accounts if they discover you’re not residing at the U.S. address provided.
    • Examples:
    • Vanguard and Fidelity often require a U.S. address and may limit services or close accounts for expats.
    • Charles Schwab and Interactive Brokers are more expat-friendly but still require a valid U.S. address for account maintenance.
  • Using a U.S. address might help you bypass initial restrictions, but if your foreign residency becomes evident (e.g., through IP logs or foreign transactions), the institution might demand clarification or terminate the relationship.
• Foreign Account Tax Compliance Act (FATCA):
  • As a U.S. citizen, you’re subject to worldwide income taxation, regardless of where you live. FATCA requires U.S. citizens to report foreign financial accounts (via Form 8938) and mandates U.S. financial institutions to report accounts held by U.S. persons to the IRS.
  • If you use a U.S. address for your accounts but live abroad, the bank or brokerage might not initially flag you as a foreign resident. However, if they detect foreign activity (e.g., overseas wire transfers), they may request FATCA-related documentation or adjust their reporting.
• IRS Reporting Requirements:
  • FBAR (FinCEN Form 114): If you have foreign bank accounts with a combined balance exceeding $10,000 at any point in the year, you must file an FBAR annually, disclosing those accounts to the U.S. Treasury. This applies even if your U.S. accounts use a domestic address.
  • Form 8938: Required under FATCA for reporting foreign financial assets (thresholds vary based on filing status and residency, starting at $200,000 for single filers living abroad).
  • Using a U.S. address doesn’t exempt you from these obligations—failure to file can lead to significant penalties.

Potential Issues

• Account Closure Risk: If the bank or brokerage learns you’re not physically present at the U.S. address and their policy doesn’t support expat accounts, they might freeze or close your account. This is common with smaller banks or firms not equipped to handle international compliance.
• KYC Red Flags: Discrepancies between your stated address and actual location (e.g., foreign IP logins, overseas transactions) could trigger EDD or SAR filings, delaying access to funds or services.
• Tax Complications: Using a U.S. address might confuse your tax residency status with the IRS or the institution, potentially leading to incorrect reporting or penalties if not clarified.

How to Navigate This

• Choose Expat-Friendly Institutions:
  • Opt for banks or brokerages known to support U.S. citizens abroad, like Charles Schwab, TD Ameritrade (now part of Schwab), or Interactive Brokers. They often allow a U.S. address while accommodating foreign residency if disclosed.
• Be Transparent When Required:
  • If asked directly about residency, disclose that you’re a U.S. citizen living abroad but using a U.S. address for convenience (e.g., “I’m an expat using my family’s U.S. address as my mailing address”). This aligns with KYC honesty requirements without jeopardizing your account.
• Use a Legitimate U.S. Address:
  • A relative’s address, a trusted friend’s address (with permission), or a reputable mail-forwarding service (e.g., Earth Class Mail) can work. Avoid P.O. Boxes if the institution requires a physical address.
• Monitor IP and Access:
  • Use a VPN with a U.S. IP address when accessing accounts online to minimize suspicion, though this isn’t foolproof and could itself raise flags if overused or detected.
• Comply with Tax Rules:
  • File FBAR and Form 8938 as needed to stay compliant with the IRS and avoid penalties, regardless of the address on your U.S. accounts.

Bottom Line
A U.S. citizen living abroad can use a U.S. address for bank and brokerage accounts, but it’s a gray area that depends on institutional policies and your transparency. KYC rules don’t explicitly forbid it, but they do require accurate risk assessment, which might expose your foreign residency over time. To avoid issues, select expat-friendly providers, maintain a valid U.S. mailing address, and fulfill all tax and reporting obligations. If you’ve got a specific bank or brokerage in mind, I can dig deeper into their policies—just let me know!

Countering the Financing of Terrorism Program and Suspicious Activity Report Filing Requirements for Registered Investment Advisers and Exempt Reporting Advisers
4 Sep 2024
https://www.federalregister.gov/documents/2024/09/04/2024-19260/financial-crimes-enforcement-network-anti-money-launderingcountering-the-financing-of-terrorism