Banking compliance 101

For early-stage founders, words like “compliance” or “regulation” can often evoke feelings of frustration or even dread.  As an entrepreneur focused on innovation and growth, whether domestically or across borders, your time is your most precious resource. The prospect of delays or bandwidth-consuming processes can be daunting. However, understanding and effectively navigating compliance, at home and abroad, is crucial for long-term success in the startup world. 

This article aims to demystify banking compliance and provide actionable insights for startup founders.

Why compliance matters for startups

Banking is a heavily regulated industry, and startup banking is no exception. The US federal government today fulfills five basic functions in the sector.

Key regulations functions include:

1. Guaranteeing the value of the US dollar.

2. Ensuring fair access to financial services.

3. Guiding lending rates to manage economic growth and inflation.

4. Insuring customer deposits (up to a certain amount).

5. Prohibiting the use of the banking system for illicit activities. 

Know your customer

Every startup founder opening a new bank account must engage with the bank’s know your customer (KYC) process. For you to better understand this crucial step in startup banking, here are some common questions about KYC:

• What is KYC in banking? KYC is a mandatory process that banks use to verify the identity of their clients and assess potential risks of illegal intentions for the business relationship. For startups, this typically involves providing documentation about the company's ownership, purpose and financial activities.
• Why is KYC important for startups? KYC is crucial for startups as it helps prevent fraud, money laundering and terrorist financing. It also establishes trust with financial institutions, which is essential for accessing banking services and maintaining long-term business relationships.

Risk assessment

Banks will conduct additional due diligence on higher-risk companies including:

• Geographic risks: Business activities in sanctioned countries is an example. You can see a current list of sanctioned programs and country information on the OFAC website. 
• Business risks: Industries, or a business model, that has a higher risk of illicit activities. 
• Data protection and privacy risks: With the increasing importance of data in business, startups must also consider how data protection laws intersect with banking compliance. Regulations like the General Data Protection Regulation (GDPR) in Europe and the California Consumer Privacy Act (CCPA) in the United States have significant implications for how companies handle customer data. Banks may assess a startup's data handling practices as part of their risk evaluation, particularly for businesses that process large amounts of personal data or operate across multiple jurisdictions. Compliance with these regulations is crucial, not only for legal reasons, but also for maintaining customer trust and avoiding potential fines.

Asset and liability management

Financial institutions face significant penalties for asset and liability management (ALM) violations, with billions of fines imposed in recent years. ALM is a crucial process in banking that involves managing risks that arise due to mismatches between the assets and liabilities of a financial institution.

What are some common ALM violations that lead to penalties? Common ALM violations that can result in penalties include:

• Inadequate liquidity risk management
• Failure to maintain required capital ratios
• Improper interest rate risk management
• Non-compliance with regulatory reporting requirements

How can startups ensure they're compliant with ALM regulations? While startups may not face the same complex ALM challenges as large banks, they can ensure compliance by:

• Maintaining accurate financial records
• Regularly monitoring cash flow and liquidity
• Seeking professional financial advice
• Staying informed about relevant banking regulations

The benefits of “Going slow to go fast”

Taking the time to establish comprehensive KYC processes from the outset offers multiple advantages for startup founders. By being thorough upfront, founders can minimize the risk of future account restrictions or freezes that could severely disrupt operations.

At incorporation, when banking needs are simpler, getting compliance right sets a solid foundation for future growth. Moreover, this initial diligence, coupled with proactive communication about major business changes, helps maintain operational continuity. By investing time in compliance early, startup founders can avoid potentially costly disruptions down the line, allowing for smoother, faster growth in the long term.

Navigating compliance effectively

Compliance can seem like a big, scary word, but founders can take a few simple steps to make this process run smoothly.

• Embrace transparency: Understand that banks are required to keep client information confidential. Overshare relevant information to streamline the process.
• Educate yourself: Understand that scenarios might trigger compliance concerns and familiarizing yourself with sanctioned countries and individuals (resources available at treasury.gov).
• Be proactive: Share major business changes and pivots with your banking partner as early as possible. Utilize in-house compliance experts who can act as thought-partners, helping you identify and remediate potential issues before they disrupt your business.
• Ask questions: Remember enhanced due diligence teams view their roles as educational. No one is looking to shut legitimate business out of the banking system. If you have a question, don’t hesitate to seek clarification or assistance – ask your banker – they’ll be able to direct you to individuals and resources that can get your questions answered.

Final thoughts

As a startup founder, embracing compliance from the outset can be a strategic advantage. It not only helps avoid regulatory pitfalls but also builds trust with stakeholders, including customers, investors and regulators.

Consider partnering with compliance experts at your bank to better understand the evolving compliance landscape. Effectively navigating compliance can help setup your startup for long-term success.