Correspondent banking
Also written Correspondent banking relationship · Correspondent relationship
An arrangement in which one bank, the correspondent, provides services such as wire transfers, currency exchange and trade finance to another, the respondent, in a market where the respondent has no presence.
In plain language
No bank has branches everywhere. When a bank's customer needs to pay someone in a country where the bank has no presence, the bank uses another bank that does — its correspondent.
The arrangement is ordinary and indispensable, and that is exactly the AML problem. The correspondent processes payments for the respondent bank's customers, whom it has never met. It is relying on the respondent's KYC and controls. If those are weak, or if the respondent is itself a front, the correspondent becomes the entry point to the international system for money it knows nothing about.
So the IFSCA Guidelines put the diligence on the bank, not on the respondent's customers: know the respondent, document the relationship, get senior approval, and never deal with a shell.
How it works
Definition (Chapter 5, section 5.6.1). A banking arrangement where one bank (the correspondent bank) provides services to another bank (the respondent bank), typically to facilitate transactions in a foreign country — services such as wire transfers, currency exchange and trade finance — enabling the respondent to offer services to its customers even without a direct presence in that market.
The policy. A regulated entity shall have a policy approved by its Governing Body, or by a committee headed by the Chairman, CEO or MD, laying down parameters for approving correspondent relationships, subject to these conditions:
| # | Condition |
|---|---|
| (a) | Assess the respondent's suitability: understand its business, management, major activities and jurisdictions; determine its reputation and the quality of supervision, including any ML/TF investigation or regulatory action; assess whether its AML/CFT controls are adequate and effective, having regard to its jurisdiction |
| (b) | Document the responsibilities of each bank |
| (c) | Obtain Senior Management approval before providing correspondent or similar services |
| (d) | For payable-through accounts, be satisfied the respondent has verified the identity of customers with direct access and conducts ongoing due diligence on them |
| (e) | Ensure the respondent can provide relevant customer identification data immediately on request |
| (f) | No correspondent relationship with a Shell Financial Institution |
| (g) | Ensure correspondent accounts are not used by a Shell Financial Institution |
| (h) | Be cautious with respondents in jurisdictions with strategic deficiencies or insufficient progress on the FATF Recommendations |
| (i) | Ensure respondents have KYC/AML policies and apply enhanced due diligence to transactions through the correspondent accounts |
Connected rules. A regulated entity's exposure to countries through its network of correspondent account relationships is part of the country risk it must assess (section 6.1.2(b)(i)), and a business relationship shall not be established with a customer that is a Shell Financial Institution (section 6.1.4). In the FATF Recommendations, correspondent banking is Recommendation 13.
A worked example
Illustrative.
Sabarmati Bank (IFSC Banking Unit) is asked by Banco Meridional, a bank in Country Z, to provide USD clearing and wire transfer services for Banco Meridional's import customers.
Working through the conditions.
| Condition | Finding | Result |
|---|---|---|
| (a) Suitability | Licensed commercial bank, 140 branches; supervisor fined it USD 2 million in 2022 for weak transaction monitoring; remediation reported complete | Proceed with caution; obtain remediation evidence |
| (h) Jurisdiction | Country Z is under FATF increased monitoring | Heightened caution recorded |
| (d) Payable-through accounts | Banco Meridional wants its customers to draw directly on the account | Must be satisfied Banco Meridional has verified those customers and monitors them |
| (e) Data on request | Contract term: customer data within one business day | Not "immediately" — renegotiated |
| (f)/(g) Shells | Banco Meridional has a physical head office and is supervised; but it wants to route payments for an affiliate "bank" with no staff or office | Refused for the affiliate: no relationship with, and no use of the account by, a Shell Financial Institution |
| (b), (c) | Responsibilities documented; Senior Management approval obtained | Relationship approved for Banco Meridional alone |
Six months later. Payments through the account from Banco Meridional's customers to three companies in a sanctioned jurisdiction are rejected under the wire-transfer screening rules, and Sabarmati reviews whether condition (a) still holds.
Why NISM asks about it
Chapter 5 (IFSCA AML, CFT and KYC Guidelines), section 5.6.1, carries the definition and the nine conditions; Chapter 6, sections 6.1.2 and 6.1.4, add the country-risk and Shell Financial Institution rules; and Chapter 8 lists correspondent banking as FATF Recommendation 13. Expect a definition question (which bank is the correspondent), the two absolute Shell Financial Institution prohibitions, and who must approve the policy and each relationship.
Common exam traps
- The correspondent provides the services; the respondent receives them. Swapping the two is the standard distractor.
- Two absolute bars: no relationship with a Shell Financial Institution, and no use of the account by one.
- Two approvals: the policy by the Governing Body or a committee headed by the Chairman, CEO or MD; each relationship by Senior Management before services start.
- Payable-through accounts require satisfaction that the respondent verifies and monitors the customers with direct access.
- Customer data "immediately on request" — not within a reasonable time.
- Jurisdictions with strategic deficiencies call for caution, not automatic refusal.
Check yourself
1.What is the position on correspondent banking relationships with a shell financial institution?
- a)Permitted with enhanced due diligence
- b)Prohibited outright — and the entity must also ensure that correspondent accounts are not used by a shell financial institution
- c)Permitted with Senior Management approval
- d)Permitted where the shell institution is in a FATF member country
Show the answer
Answer: (b) Prohibited outright — and the entity must also ensure that correspondent accounts are not used by a shell financial institution
(f) Correspondent relationship shall not be entered into with a bank which is a Shell Financial Institution.
(g) It shall be ensured that the correspondent banks do not permit their accounts to be used by bank which is a Shell Financial Institution.
Two prohibitions — direct and indirect. Neither enhanced due diligence nor senior approval can cure them, which disposes of options A and C. Nor does the jurisdiction matter, so option D fails too.
The other conditions in the clause are matters of degree, but these two are absolute. They include assessing the respondent — gather adequate information about the respondent bank to fully understand the nature of the respondent bank's business, determine from the available sources, the reputation of the respondent bank and the quality of supervision over it, including whether it has been the subjected to any ML/TF investigation or regulatory action, and assess the respondent bank's AML/CFT controls having regard to the AML/CFT measures of its jurisdiction.
Plus: responsibilities clearly documented; approval from the Senior Management; for payable-through-accounts, satisfaction that the respondent bank has verified the identity of the customers having direct access to the accounts and is undertaking ongoing 'due diligence' on them; and assurance that the respondent is able to provide the relevant customer identification data immediately on request.
Jurisdictional caution: it shall be cautious with respondent banks located in jurisdictions which have strategic deficiencies or have not made sufficient progress in implementation of FATF Recommendations.
Note the distinction — caution for weak jurisdictions, prohibition for shell institutions.
And the whole relationship needs a policy approved by its Governing Body, or by a committee headed by the Chairman/CEO/MD to lay down parameters for approving correspondent banking relationships.
What correspondent banking is: an arrangement where one bank (the correspondent bank) provides services to another bank (the respondent bank), typically to facilitate transactions in a foreign country.
2.Which of the following is correct about the duty of a Regulated Entity?
- a)Every member of the Regulated Entity's Senior Management shall be responsible for the Regulated Entity's compliance under the IFSCA (AML, CFT and KYC) Guidelines
- b)Only the Compliance officer shall be responsible for the Regulated Entity's compliance
- c)Only the Designated Director shall be responsible for the Regulated Entity's compliance
- d)Only the Principal Officer shall be responsible for the Regulated Entity's compliance
Show the answer
Answer: (a) Every member of the Regulated Entity's Senior Management shall be responsible for the Regulated Entity's compliance under the IFSCA (AML, CFT and KYC) Guidelines
Every member of Regulated Entity's Senior Management shall be responsible for the Regulated Entity's compliance under these Guidelines. While carrying out their responsibilities under these Guidelines every member of a Regulated Entity's Senior Management shall exercise due skill, care, and diligence.
"Every member" — which is why all three "only" options fail. Compliance is not delegable to a single officer.
**The standard imposed on them is due skill, care, and diligence.
The other two duties: every Regulated Entity shall formulate an AML-CFT policy, which shall be duly approved by the Governing Body or by a committee to whom such power has been delegated by the Governing Body, incorporating the key principles or elements of these Guidelines; and every Regulated Entity shall develop a KYC Policy which shall be the part of its AML-CFT policy.
The KYC policy sits inside the AML-CFT policy, not beside it.
The theme recurs throughout the Guidelines. The risk-based approach must trickle down from the level of Senior Management to the rest of the organization; the AML/CFT policies, procedures and controls shall be approved by Senior Management; correspondent banking requires approval from the Senior Management; and systems must include a provision enabling its Senior Management to regularly review the information on operations and effectiveness of its AML systems and controls.
The Principal Officer's role is operational and upward-reporting — taking overall charge of all AML/CFT matters within the organisation and reporting to Senior Management on the outcome of reviews.
And who this applies to: a Regulated Entity means a unit/entity which has been granted license, recognition, registration or authorisation by the Authority.
3.Obtaining the approval of Senior Management to commence or continue the business relationship with a client is a measure specified under which process?
- a)Enhanced Due Diligence
- b)Client Risk Categorisation
- c)Simplified Customer Due Diligence
- d)All of the above
Show the answer
Answer: (a) Enhanced Due Diligence
Senior Management approval to commence or continue a relationship is a hallmark of Enhanced Due Diligence — the measures applied where risk is high.
The governing principle: the result of the risk assessment shall be used to classify the ML/TF risks as low, medium, and high. The general principle of this classification is to apply enhanced measures in case of high-risk customers and simplified measures in case of low-risk customers.
Option C is its opposite. Simplified measures reduce the intensity of checks for low-risk customers; they do not add an approval step. And the PML Rules limit them: simplified measures are not acceptable whenever there is a suspicion of money laundering or terrorist financing, or where specific higher-risk scenarios apply or where the risk identified is not consistent with the national risk assessment.
Option B names the step that decides which regime applies. Client risk categorisation sorts customers into low, medium, and high; enhanced due diligence is what follows for the high band.
Which makes option D wrong — the measure belongs to one process, not all three.
Where senior approval appears elsewhere in the Guidelines, it is always at a point of elevated risk. Correspondent banking requires the entity to obtain approval from the Senior Management before providing correspondent banking or similar services to a respondent bank, under a policy approved by the Governing Body, or by a committee headed by the Chairman/CEO/MD.
PEPs are the classic enhanced due diligence case. Systems must enable the entity to determine whether a customer or a Beneficial Owner is a Politically Exposed Person (PEP) and, in insurance, whether a beneficiary of the policy, or a Beneficial Owner of such beneficiary is a PEP.
And the IFSC requirements name enhanced diligence expressly — robust KYC (Know Your Customer) procedures, including enhanced diligence for high-risk clients, identification of beneficial owners, source of funds, and ongoing monitoring.
Where this is taught
Free preparation for NISM Series IFSCA-01Related terms
- Enhanced Due DiligenceThe additional customer due diligence a Regulated Entity must perform where ML/TF risk is high — including source of wealth, Senior Management approval and enhanced ongoing monitoring.
- FATF StandardsThe FATF Recommendations together with their Interpretive Notes and the applicable Glossary definitions — the international AML/CFT/PF standard that more than 200 jurisdictions have committed to implement.
- FATF grey listThe informal name for FATF's list of jurisdictions under increased monitoring — countries working with FATF that have committed to fix identified strategic deficiencies swiftly within agreed timeframes.
- Regulated EntityIFSCA's term for a unit that holds its licence, recognition, registration or authorisation — the entity the IFSCA (AML, CFT and KYC) Guidelines, 2022 place their duties on.
- Shell Financial InstitutionAn institution the IFSCA Guidelines bar outright: no correspondent relationship may be entered into with one, no correspondent account may be used by one, and no business relationship may be established with one.
- Wire TransferAny transaction carried out for an originator through a financial institution by electronic means to make funds available to a beneficiary at a beneficiary institution — even if originator and beneficiary are the same.
- Domestic Wire TransferUnder the IFSCA Guidelines, a wire transfer in which both the ordering and beneficiary institutions are in the IFSC, including any chain of transfers taking place entirely within the IFSC.