HybridFL: A Federated Learning Approach for Financial Crime Detection

With recent developments in Artificial Intelligence (AI), the adoption of distributed learning paradigms such as Federated Learning (FL) has emerged. In simple terms, FL enables multiple entities to collaboratively train AI models without sharing local data. The FL paradigm is particularly valuable in privacy-sensitive settings, such as financial services, because it enables institutions to collaboratively improve fraud-detection models while keeping sensitive transaction data local. However, FL schemes are prone to security vulnerabilities, where malicious clients can poison local data or model updates and degrade the global model, and hence the performance of the resulting model might be affected. Therefore, in this work, we propose Enhanced Detective, a dual-stage robust aggregation strategy that combines Median Absolute Deviation (MAD), distance-based update filtering, and FedMedian aggregation. Experiments on an imbalanced credit card dataset evaluate targeted label-flipping and weight-scaling attacks over 50 communication rounds. With 40% malicious clients, Enhanced Detective achieves an AUPRC of 0.796 and a Recall of 0.847.

Fraud-related financial losses continue to rise, while regulatory, privacy, and data-sovereignty constraints increasingly limit the feasibility of centralized fraud detection systems. Federated Learning (FL) has emerged as a promising paradigm for enabling collaborative model training across institutions without sharing raw transaction data. Yet, its practical effectiveness under realistic, non-IID financial data distributions remains insufficiently validated. In this work, we present a multi-institution, industry-oriented proof-of-concept study evaluating federated anomaly detection for payment transactions using the NVIDIA FLARE framework. We simulate a realistic federation of heterogeneous financial institutions, each observing distinct fraud typologies and operating under strict data isolation. Using a deep neural network trained via federated averaging (FedAvg), we demonstrate that federated models achieve a mean F1-score of 0.903 - substantially outperforming locally trained models (0.643) and closely approaching centralized training performance (0.925), while preserving full data sovereignty. We further analyze convergence behavior, showing that strong performance is achieved within 10 federated communication rounds, highlighting the operational viability of FL in latency- and cost-sensitive financial environments. To support deployment in regulated settings, we evaluate model interpretability using Shapley-based feature attribution and confirm that federated models rely on semantically coherent, domain-relevant decision signals. Finally, we incorporate sample-level differential privacy via DP-SGD and demonstrate favorable privacy-utility trade-offs...

In the modern financial system, combating money laundering is a critical challenge complicated by data privacy concerns and increasingly complex fraud transaction patterns. Although federated learning (FL) is a promising problem-solving approach as it allows institutions to train their models without sharing their data, it has the drawback of being prone to privacy leakage, specifically in tabular data forms like financial data. To address this, we propose DPxFin, a novel federated framework that integrates reputation-guided adaptive differential privacy. Our approach computes client reputation by evaluating the alignment between locally trained models and the global model. Based on this reputation, we dynamically assign differential privacy noise to client updates, enhancing privacy while maintaining overall model utility. Clients with higher reputations receive lower noise to amplify their trustworthy contributions, while low-reputation clients are allocated stronger noise to mitigate risk. We validate DPxFin on the Anti-Money Laundering (AML) dataset under both IID and non-IID settings using Multi Layer Perceptron (MLP). Experimental analysis established that our approach has a more desirable trade-off between accuracy and privacy than those of traditional FL and fixed-noise Differential Privacy (DP) baselines, where performance improvements were consistent, even though on a modest scale. Moreover, DPxFin does withstand tabular data leakage attacks, proving its effectiveness under real-world financial conditions.