Building Your Fund's KYC/AML Program: Policies, Procedures, and Ongoing Monitoring Requirements

When institutional investors conduct due diligence on a fund, one of the first requests is often for KYC/AML policies. Funds without documented programs face awkward conversations with allocators, and potential compliance gaps that grow harder to close as the investor base expands.

What Does a KYC/AML Program Actually Require?

Under the Bank Secrecy Act framework, effective AML programs typically rest on five pillars:

• Designated Compliance Officer: An individual responsible for implementing and overseeing day-to-day AML compliance, with sufficient authority and independence to enforce policies across the organization

• Written Policies and Procedures: Risk-based internal controls tailored to the fund's investor base, geographic exposure, and product offerings

• Employee Training: Annual training covering red flag identification, escalation procedures, and regulatory requirements, applicable to all staff, not just investor relations

• Independent Testing: Periodic review of the program by qualified personnel not involved in daily compliance operations, commonly performed every 12–18 months

• Customer Due Diligence (CDD): Processes to verify investor identity, understand the nature of each relationship, and maintain updated information on a risk basis

How Do Risk-Based Procedures Work in Practice?

Most funds assign risk ratings (low, moderate, high) to investors based on factors such as jurisdiction, ownership complexity, source of funds, and political exposure. A $150M Fund II with 35 LPs might classify a U.S. pension fund as low risk while flagging a family office with beneficial owners in multiple high-risk jurisdictions for enhanced due diligence (EDD).

The documentation requirements scale accordingly. Low-risk investors may only need to provide updated information every two to three years, while high-risk investors commonly undergo annual reviews. Politically exposed persons (PEPs), individuals entrusted with prominent public functions, typically trigger additional scrutiny around potential bribery or corruption exposure.

What About OFAC Screening and Suspicious Activity?

Compliance programs typically include screening investors against the Office of Foreign Assets Control (OFAC) sanctions lists, both at onboarding and on an ongoing basis. Recent sanctions activity, including Russia-related designations, has made this screening increasingly critical for funds with international investor bases.

When unusual or suspicious activity is detected, Suspicious Activity Reports (SARs) must be filed with FinCEN for transactions involving at least $5,000 in funds or assets. Funds have 30 to 60 days to file, depending on whether the subject can be identified, and the filing institution cannot notify the investor that a SAR has been submitted.

What's the Regulatory Timeline?

FinCEN finalized rules in September 2024 that would formally designate SEC-registered investment advisers and exempt reporting advisers (ERAs) as "financial institutions" under the BSA, subjecting them to mandatory AML program and SAR filing requirements. The compliance deadline has been delayed to January 1, 2028, while FinCEN reviews the rule's scope and implementation.

Even without mandatory requirements in place, many institutional investors and banking partners already expect documented KYC/AML procedures as a condition of investment or account opening. Building the infrastructure early, investor risk rating frameworks, documentation standards, screening protocols, positions the fund for regulatory compliance while satisfying current due diligence expectations.