Guide to Transaction Monitoring: What It Is and How to Use It Effectively

Transaction monitoring is a staple part of fraud analysis and prevention. It can be carried out in many ways and sees organizations using their transactional records to inform their protection against fraud and other fincrime. Given the Federal Trade Commission reported a 30% increase in fraud between 2021 and 2022, there has never been a better time for businesses to focus on their transaction monitoring processes.

Let’s look at what is meant by transaction monitoring and learn how it can be best utilized to ensure your business operations thrive.

What Is Transaction Monitoring?

Transaction monitoring is the largely automated process of screening purchases, transfers, and other business interactions with an algorithmic, rules-based approach. It is primarily used for fraud detection and prevention, as well as combating money laundering and terrorist financing.

Depending on the approach taken, transaction monitoring can either be done by having a periodic review of transactions after they occur, or by monitoring them on a live basis from the moment that they’re made. The latter is becoming an increasingly common requirement for good reason: It is faster and more efficient than periodic reviews, and also a prerequisite of instant payment systems.

The need for transactions to be monitored so regularly and efficiently is one of the big reasons why transaction monitoring is becoming ever-more automated and reliant on machine learning – whether it’s whitebox, blackbox, or both.

How Does Transaction Monitoring Work?

Transaction monitoring software works by recording transactions and analyzing the resultant data to find signifiers of fraud and other fincrime. The processes involved can either be done periodically or on a real-time basis, and they are mostly automated but always require at least some degree of human intervention.

Accordingly, we’ll focus here on the two main types of transaction monitoring system (TMS): a periodic TMS and a real-time TMS.

The below flow chart provides some guidance on how you can decide between a periodic transaction monitoring system or a real-time transaction monitoring system. It’s worth noting that the former is less efficient but requires fewer resources than the latter.

As the flow chart reflects, the regularity of an organization’s transaction monitoring actions depends on the volume and fraud risk level of the transactions that it processes.

Many organizations, therefore, set rule-based transaction monitoring features within their TMS that are tailored to the parameters of their business operations. As such, high-risk organizations, such as iGaming companies, tend to implement real-time transaction monitoring systems with a high degree of automation. More low-risk businesses, such as small retail outlets, tend to carry out transaction monitoring on a periodic and manual basis.

Despite the frequency and level of automation of your transaction monitoring system (TMS), it is still ultimately the job of your staff to decide whether the transactions it flags should be escalated – that is, reported to senior management or filed in a suspicious activity report (SAR).

What Is a SAR (Suspicious Activity Report)?

When transaction monitoring software flags suspicious data, the information is compiled in a report called a SAR – or Suspicious Activity Report. It is formatted in a specific way so that financial analysts and regulators may review it.

While SARs are useful in the context of AML, authorities also rely on these reports for taxation or criminal investigation purposes. 

The easiest way to submit a SAR is via a free online system – via the BSA E-Filing System in the US or the NCA website in the UK, for example. Some transaction monitoring software will also include a feature to automatically file them for you. 

Why Is Transaction Monitoring Important?

Documented transaction monitoring is often a legal requirement, but it’s also a must for the efficacy of your organization’s operations. Transaction monitoring exists to reduce fincrime. As such, it is crucial as both an operational and organizational duty.

Here are the main points that make transaction monitoring (TM) important:

• Many organizations are duty-bound by their jurisdictions and financial institutions to implement TM, and carrying it out properly helps to ensure that regulatory requirements such as Know Your Customer (KYC) and anti-money laundering (AML) regulations are adhered to.
• TM expedites business functions because it reduces the time that’s otherwise wasted on dealing with suspicious individuals and their exchanges.
• TM leads to better cybersecurity and customer service, and this means a stronger reputation for your business – in fact, organizations that don’t implement TM can open themselves up to a great deal of suspicion and scrutiny.

Ultimately, transaction monitoring renders your organization’s incoming and outgoing payments safer while also helping your business operations not only achieve compliance, but also become more efficient, trustworthy, and respectable.

Examples of Transaction Monitoring in Action

There are many scenarios where transaction monitoring is both legally required and highly advisable, such as online exchanges, bank deposits, and iGaming activities. Let’s run through these and some other typical examples.

While many businesses are required to carry out transaction monitoring by law, there are also certain scenarios that call for it in organizations’ best interests – not just their regulatory compliance. Here are some of the many examples:

• An online shop encounters a customer who keeps making unusual payments, such as frequent high transactions for the same products.
• A bank deals with an entity making a large deposit when they have no obvious source of income.
• An iGaming site witnesses an account that keeps signing in from different devices and IP geolocations and making bets each time.
• A forex trading organization acts on fluctuating exchange rates by ensuring transactions are being made in accordance with inflation.
• An insurance company investigates why one organization has made multiple claims in a small period of time.
• An ecommerce site suspects a customer of using stolen credit cards due to their use of inconsistent billing and shipping addresses.

There are many other scenarios, but the key thing to remember is that the need for transaction monitoring is directly proportionate to the amount of risk exposure in both your customers’ and your organization’s activities.

A higher volume of risky transactions means more – or more comprehensive – transaction monitoring is necessary to maintain a safe business environment. This is true of all manner of organizations.

In fact, transaction monitoring is also integral to law enforcement itself, as the whole process can heavily inform audits and other formal investigations.

The Challenges of Transaction Monitoring

Transaction monitoring (TM) is resource-intensive. It involves operational and technological demands, particularly as staff members need to double-check the results of the TMS to avoid risk exposure and false positives. They also frequently need to ensure the software and its transactional data are up-to-date to align with changing legal mandates.

Let’s look at the operational and technological challenges in more detail.

Ultimately, transaction monitoring is a challenge regardless of whether you rely on rule-based checks, supervised machine learning for fraud detection, or even mostly manual operations. There will always be both technical difficulties and human error, but the benefits of transaction monitoring remain unmistakable.

The Benefits of Transaction Monitoring

These benefits relate to organizational improvements in safety, security, and reputation. Transaction monitoring both protects and enhances business operations.

Proper transaction monitoring makes your business:

• Less likely to experience both fraud and a bad reputation.
• Better equipped for risk monitoring, as TM helps entities find patterns, predict behaviors, and ultimately form business forecasts for the future.
• Able to make better decisions, as organizations’ recorded cash flow and customer activities can inform their market research, financial stability, and efficiency of operations.
• More compliant with regulations – meaning organizations are less likely to face fines and other penalties if they implement their TM processes effectively.
• Better informed on how to implement automated systems, owing to TM’s increasing adoption of machine learning and other algorithmic systems.

Ultimately, properly utilized transaction monitoring is protective, attractive to compliance authorities and customers, and highly informative to various business operations.

What’s the Difference Between Transaction Monitoring and AML Software?

Transaction monitoring is one key component of the AML process. However, there are other important features you will find in AML software, such as:

• KYC checks: Know your customer is a process designed to identify users with confidence. 
• Holding periods: Involves holding deposits in an account for a designated number of days before they can be withdrawn.
• PEP, sanction lists, SIP/SIE checks: Checking users’ names against public lists of Politically Exposed Persons, sanctioned individuals, or Special Interest Persons/Entities.

Interested in a full AML solution? Check out our post on the best AML software. 

How Can Businesses Monitor Transactions Effectively?

By having the right staff, the right software, and the right knowledge base, businesses can monitor transactions effectively. That means hiring the best people, utilizing the best technology, and engaging with the best industry resources.

To put it more specifically, here’s a list of some ideal approaches to organizational TM:

• Train your staff on how best to leverage your organization’s transaction monitoring software with risk-based criteria that are as consistent as they are adaptable.
  • Understand the best rules to determine what are signs of both suspicious and legitimate activity – as well as the need to act on new factors in the decision-making process – then instill that knowledge in your workforce and TM algorithms to ensure a well-structured approach.
• Utilize machine learning and other automated systems to ensure that your TM processes are efficient and properly calibrated.
  • Never forget, however, that machine learning-based approaches to transaction monitoring are tools, not full-blown solutions, so your staff should always be ready and willing to make their own judgments on what does and doesn’t constitute both false positives and false negatives. What they label as true and false positives and negatives will also increase the TMS’s accuracy over time.
• Carry out regular precautions, such as staff training and software checks.
  • Even the best people and tools for the job will make mistakes, so ensuring both your workforce and your automated transaction monitoring systems are regularly trained and quality-checked is crucial to the efficacy of your TM operations.  
• Sign up for the latest updates from financial authorities such as the Federal Trade Commission and read them regularly.
  • Requirements such as AML and KYC are subject to changes in legislation. Being well-versed in their most recent processes will help your staff know what to look out for, such as changes in customer behavior brought about by new compliance regulations.

Fundamentally, transaction monitoring is best when it’s proactive rather than reactive. Why wait to learn the hard way what compromises your TM approaches when your staff and systems may be trained to prevent compromises altogether?

Sources

• HyperVerge: ML Transaction Monitoring: Overview, Meaning, Process & Benefits
• Sanction Scanner: Biggest Transaction Monitoring Challenges
• Fineksus: False Positive Reduction in AML Transaction Monitoring

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