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Nesting

Definition

Nesting refers to the practice in which a financial institution, typically a smaller or less-regulated bank or payment intermediary, gains indirect access to the international financial system by using the correspondent banking services of another institution without fully disclosing its downstream clients or transactional risks.

In AML/CFT terms, nesting creates a concealed layer of activity inside an established correspondent relationship, materially increasing exposure to money laundering, terrorist financing, sanctions evasion, fraud, and regulatory arbitrage.

At its core, nesting obscures the true originators and beneficiaries of transactions by embedding one institution’s customers within another institution’s correspondent account.

This opacity weakens the effectiveness of due diligence controls, hampers traceability, and can result in unintended facilitation of illicit financial flows.

Explanation

Nesting is sometimes referred to as “downstream clearing” or “nested correspondent banking.”

The practice becomes problematic when the correspondent bank is unaware of the respondent bank’s sub-respondent clients or has insufficient visibility to assess their risk profiles.

Financial crime actors exploit nested structures to take advantage of weak AML programmes, less rigorous onboarding requirements, limited regulatory supervision, or jurisdictional gaps.

Once inserted into the payment chain, these actors can use high-velocity, cross-border channels to layer and integrate illicit proceeds.

A common pattern involves a small regional bank, MSB, PSP, or foreign FI using another institution’s USD, EUR, or GBP clearing access to route transactions that would otherwise be heavily scrutinised or rejected.

Because the correspondent assesses only the immediate respondent, it may not have the data, transparency, or controls necessary to detect suspicious patterns originating at lower tiers.

Key risks arise when:

  • The respondent bank provides access to unvetted downstream institutions.
  • The downstream institution operates in a high-risk or weakly regulated jurisdiction.
  • There is no contractual prohibition or monitoring arrangement governing sub-respondent access.
  • Transaction volumes or patterns materially exceed the respondent’s legitimate economic profile.

Nesting in AML/CFT Frameworks

Nesting intersects with multiple pillars of AML/CFT oversight:

Correspondent Due Diligence

Correspondents must understand not only the respondent institution but also whether it allows downstream clients and how those clients are supervised.

Risk-Based Approach

Nesting presents elevated ML/TF risk because it introduces entities and customer segments over which the correspondent has little to no visibility.

Transaction Monitoring

Data gaps created by nested activity limit the correspondent bank’s ability to detect anomalies, particularly in cross-border, high-velocity corridors.

Sanctions Screening

Hidden downstream actors may involve sanctioned persons, embargoed jurisdictions, or prohibited industries.

Regulatory Expectations

FATF, BIS, and national regulators expect clear governance, contractual controls, and ongoing oversight of any respondent that can itself offer correspondent services.

Key Components of Nesting

Purpose and Risk Drivers

Nesting often arises from legitimate needs (for example, small banks requiring access to major currency clearing) but becomes high-risk when exploited for illicit purposes.

Drivers include:

  • Limited access to global correspondent networks.
  • High costs or barriers to entry for direct clearing relationships.
  • Opportunities for criminals to route funds through weak-control environments.
  • Use of anonymity-enhancing channels such as offshore entities or lightly regulated PSPs.

Structural Features

Nesting typically includes the following elements:

  • A correspondent bank providing accounts and clearing services.
  • A respondent bank operating directly under the correspondent’s account.
  • One or more sub-respondents (nested entities) whose transactions pass through the respondent.
  • Limited transparency regarding customer identity, ownership, purpose, and geography.

Common Nesting Methods and Techniques

Nesting can manifest in various operational and structural configurations:

Undisclosed Downstream Access

A respondent bank quietly allows another institution to route transactions through its account without informing the correspondent.

Layered Payment Chains

Multiple intermediaries create a chain of transfers that makes it difficult to identify the originator.

Use of High-Risk PSPs or MSBs

Downstream fintechs or money service businesses may use nested access to avoid direct regulatory scrutiny.

Mixing Legitimate and Illicit Flows

High-volume commercial payments are combined with suspicious transfers, complicating detection.

Cross-Jurisdictional Arbitrage

Nested institutions may exploit jurisdictions with weak beneficial-ownership, CDD, or reporting requirements.

Risk Indicators & Red Flags

Certain patterns may indicate the presence of a nested correspondent relationship:

  • Sudden increases in transaction volume or velocity are inconsistent with the respondent’s risk profile.
  • Payments originating from or destined for institutions not disclosed during onboarding.
  • Repeated transactions linked to high-risk jurisdictions despite no visible customer activity.
  • Incomplete or inconsistent originator and beneficiary data (for example, missing KYC attributes).
  • Transaction types or corridors outside the respondent bank’s expected business model.
  • Respondent’s reluctance to share downstream client information or risk assessments.
  • Recurrent transactions exhibiting structuring, layering, or round-tripping characteristics.

Examples of Nesting Scenarios

Small Bank Leveraging a Larger Bank’s Clearing Access

A regional bank in a high-risk jurisdiction uses a correspondent’s USD account.

Without approval, it grants sub-respondent access to a money service business dealing in high-risk remittance corridors.

The MSB routes large flows through the regional bank, masking true customers and triggering regulatory concerns.

PSP Using a Bank’s Infrastructure for Cross-Border Payments

A payments firm integrates with a respondent bank to issue IBANs or facilitate multi-currency transfers.

The PSP onboards downstream clients, including high-risk merchants, without informing the correspondent.

Elevated fraud and money laundering alerts appear at the correspondent level, but granular customer data is unavailable.

Offshore Entity Accessing Wire Transfers Through a Nested Network

An offshore corporate services provider uses nested arrangements to route funds through multiple intermediaries.

The complexity of the structure obscures beneficial ownership, making it difficult for the correspondent to identify whether transfers relate to shell companies or illicit proceeds.

Impact on Financial Institutions

Unchecked nesting exposes institutions to substantial AML/CFT, operational, and reputational risks:

  • Regulatory Sanctions: Correspondents may face penalties for weak oversight of downstream activity.
  • Loss of Correspondent Relationships: Respondent banks engaging in undisclosed nesting risk account termination.
  • Reputational Damage: Association with illicit flows erodes trust among regulators, partners, and customers.
  • Operational Strain: Investigations, enhanced monitoring, and system recalibration increase cost and resource needs.
  • Financial Crime Exposure: Nested channels are frequently used for laundering proceeds, sanctions evasion, and fraud.

Challenges in Detecting & Preventing Nesting

Nesting remains difficult to detect due to factors such as:

  • Fragmented visibility across multiple intermediaries.
  • High transaction volumes that mask small, suspicious flows.
  • Inconsistent or incomplete payment data fields across jurisdictions.
  • Rapid scale-up of fintech and digital channels.
  • Complexity of correspondent banking networks and varying regulatory standards.

Regulatory Oversight & Governance

Supervisory expectations regarding nesting continue to intensify:

FATF Standards

Require correspondents to assess respondents for downstream access and understand the nature of their business, controls, and customer base.

National Regulators

Increasingly mandate enhanced due diligence, periodic reviews, and clear disclosure of sub-respondents.

Institutional Governance

Must include board-level oversight of correspondent banking risk, clear policies prohibiting unauthorised downstream access, and documented escalation mechanisms.

Contractual Controls

Should define whether downstream access is allowed and, if so, the transparency and monitoring obligations attached.

Importance of Addressing Nesting in AML/CFT Compliance

Effective management of nesting risk enables institutions to:

  • Maintain transparent, well-controlled correspondent relationships.
  • Prevent exploitation of payment channels by criminal networks.
  • Protect clearing access and maintain essential banking relationships.
  • Strengthen intelligence-led AML frameworks by improving data quality and traceability.
  • Avoid regulatory penalties, remediation programmes, and reputational harm.

Institutions that proactively identify, monitor, and control nested relationships build a more resilient compliance posture and support global efforts to reduce financial system misuse.

Related Terms

  • Correspondent Banking
  • Respondent Institution
  • Payment Service Provider (PSP)
  • Money Service Business (MSB)
  • Layering
  • Beneficial Ownership
  • De-Risking

References

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