What Is AML in Insurance and How Does It Work?

Anti-money laundering (AML) refers to the laws, regulations, and procedures designed to prevent criminals from disguising the illegal origins of funds and integrating them into the legitimate financial system. Its global purpose is to combat financial crime, which includes activities such as drug trafficking, terrorism financing, and fraud. While often associated with banking, the insurance sector is also susceptible to exploitation by those seeking to legitimize illicit proceeds. This article explores what AML means specifically within the insurance context and how it functions to safeguard the industry.

The Role of AML in Insurance Operations

The insurance industry, despite its traditional image, presents appealing characteristics for money launderers seeking to integrate illicit funds into the financial system. Criminals continuously look for new avenues to launder money, and insurance products can be used during various stages of the money laundering process, including placement, layering, and integration.

Insurance products with cash value or investment components are particularly attractive to money launderers. These include permanent life insurance policies and annuities. For example, life insurance policies with redeemable cash values can be purchased with illicit funds and then surrendered for a “clean” cash payment. Annuity contracts also offer avenues for money laundering, as they involve large premium payments and can allow for early surrender or withdrawals, making the funds appear legitimate.

The broad objectives of AML in insurance revolve around preventing these products from being used to legitimize illicit funds, finance terrorism, or evade sanctions. Insurers must detect, report, and ultimately block suspicious transactions where a policyholder might be placing or layering illicit money. The global nature of financial crime necessitates that insurers adhere to international standards, such as those recommended by the Financial Action Task Force (FATF), which emphasize AML for financial integrity.

Inconsistent enforcement of regulations and the use of intermediaries like brokers and agents can also increase the insurance industry’s vulnerability. While insurance companies are responsible for the effectiveness of their AML programs, which includes the activities of their agents and brokers, these intermediaries may sometimes overlook suspicious signs.

Key Pillars of AML Compliance for Insurers

An effective AML compliance program within an insurance company is built upon several fundamental components designed to detect and prevent financial crime. Establishing a robust framework begins with a risk-based approach, which means focusing resources where the risk of money laundering is highest.

Customer Due Diligence (CDD) and Know Your Customer (KYC)

Customer Due Diligence (CDD) and Know Your Customer (KYC) are foundational elements, requiring insurers to identify and verify customer identities. This process involves collecting and assessing relevant customer data to understand their risk profile and ensure the legitimacy of their activities. Identity verification generally occurs at the beginning of the business relationship, but CDD is an ongoing process.

Insurers must assess the risk level of potential clients based on information provided, including financial history, employment, and the origin of funds. For customers deemed to be at a higher risk, such as those with complex ownership structures or links to high-risk jurisdictions, Enhanced Due Diligence (EDD) is employed.

EDD involves a more in-depth analysis, including gathering additional documentation and conducting detailed source-of-funds checks. Ongoing monitoring is an integral part of CDD, ensuring that insurance companies continuously track customer transactions and behavioral patterns for any deviations from the norm. This continuous scrutiny helps to flag potential illicit activities that might emerge over time.

Suspicious Activity Reporting (SAR)

Insurers have an obligation to monitor transactions and report suspicious activities to relevant authorities, such as the Financial Crimes Enforcement Network (FinCEN) in the United States. This involves identifying transactions that seem unusual or inconsistent with a customer’s known financial profile or the typical use of an insurance product. FinCEN regulations impose SAR obligations on insurance companies for covered products.

A suspicious activity report (SAR) must be filed when a transaction or pattern of transactions meets certain criteria, such as involving funds derived from illegal activity or designed to evade regulations. For insurance companies, FinCEN has set a threshold of $5,000 for transactions that are deemed suspicious and require a SAR submission. Insurers are responsible for gathering customer data from various sources, including brokers and agents, to complete the SAR form.

Internal Controls and Governance

Robust internal policies, procedures, and controls are important for managing AML risks effectively. These controls establish the operational framework for identifying, assessing, and mitigating money laundering risks within the organization. An integral part of this framework is the designation of a dedicated AML compliance officer.

This officer is responsible for overseeing the implementation and effectiveness of the AML program, monitoring compliance by brokers and agents, and ensuring the program remains current. The compliance officer must possess sufficient authority to enforce the program and communicate its principles throughout the company. Regular independent testing is also required to confirm the program’s adequacy and employee adherence.

Employee Training

Regular and comprehensive training for employees is important for an effective AML program. This training ensures that all team members, particularly those in roles involving customer interactions, underwriting, and claims handling, understand their AML responsibilities. It equips them with the knowledge to recognize and prevent money laundering activities.

Training programs typically cover relevant AML laws and regulations, customer due diligence processes, and how to identify and report suspicious activities. Employees learn to recognize “red flag” behaviors that may indicate unusual or suspicious transactions. Ongoing training is important to keep employees informed about evolving money laundering typologies and best practices.

Vulnerabilities and Red Flags in Insurance

Insurance products can be exploited in specific ways to launder illicit funds, necessitating that insurers are vigilant in identifying common money laundering methods and associated red flags. The flexibility and features of certain insurance products can inadvertently make them attractive tools for criminals.

Common money laundering methods include:

• Abuse of “free-look” periods, where policies are purchased with illicit funds and then canceled for a clean refund.
• Early surrender of policies, where illicit funds are used to buy a policy, then surrendered prematurely for a clean check. For instance, illicit funds from drug trafficking have been used to purchase life insurance policies that were subsequently cashed out early.
• Single premium policies, especially those with large payments from unusual sources.
• Overpayment schemes, where criminals overpay premiums with illicit funds and request refunds.
• Frequent or unusual changes in beneficiaries, particularly to unrelated third parties.
• Use of third-party payments, where premiums are paid by unrelated individuals or entities.
• Policy loans, where criminals borrow against cash value and direct funds to unrelated third parties.
• Policies enabling transfers of beneficial ownership interests without insurer knowledge.

Behavioral and transactional red flags serve as indicators that an insurer should investigate further:

• A customer’s reluctance to provide complete or consistent personal information.
• Unusual payment methods, such as large cash payments, multiple small payments structured to avoid reporting thresholds, or payments from multiple currency equivalents.
• Transactions inconsistent with the customer’s known financial profile or appearing unsuitable for their needs (e.g., a low-income individual purchasing a high-value policy).
• Complex or opaque ownership structures for corporate clients.
• Frequent early redemptions of policies.