US anti-money laundering rules still seen as having gaps

10 July 2015. By Mark Bocchetti.

The US still has not addressed shortcomings in customer due diligence requirements for financial institutions that in some cases could permit the opening of bank accounts by corporations that have not disclosed their beneficial owners, the International Monetary Fund says.

An IMF report released this week highlights a gap in US anti-money laundering rules first identified in a 2006 evaluation by the international Financial Action Task Force (FATF): Many US states do not require sufficient information when corporations are established to identify the “beneficial owner,” the natural persons who ultimately own and control the entity.

As a consequence, “corporations may be used as a front to open bank accounts without revealing the identity of the individuals who own or control the account, and corporate vehicles are a common method used to place, layer, and integrate illicit proceeds in the financial system,” the IMF assessment said.

The Obama administration has proposed a stricter customer due diligence rule and raised the possibility of legislative fixes, but both of these elements of the “United States G-8 Action Plan for Transparency of Company Ownership and Control” are still pending. Adoption of such measures would move the US toward compliance with its commitment to G8 principles for preventing the misuse of legal entities.

Steve Hudak, head of public affairs for the US Treasury Department’s Financial Crimes Enforcement Network (FinCen), said in an e-mail: “FinCen is currently reviewing the public comments it received and evaluating the next steps in the rulemaking process.” Hudak said that FinCen carried out a series of meetings with the industry about the proposed rule and is evaluating comments.

FATF, the multilateral organization that sets standards for combating money laundering and terrorist financing, identified a second area of noncompliance in its assessment, a failure to require disclosure of beneficial owners of trusts. But the IMF said that law enforcement officials regard this gap as less serious because tax reporting obligations make trusts less attractive for illicit use.

The 2006 FATF assessment also highlighted US noncompliance with customer due diligence, recordkeeping and related areas with respect to “certain designated non-financial businesses and professions,” such as casinos, real estate agents, lawyers and company service providers.

The IMF said that the key vulnerability, the potential to use shell corporations to access the banking system, has been offset to some extent by regulatory guidance that requires financial institutions to exercise enhanced due diligence when opening accounts for high-risk customers.

Widely varying requirements at the state level for establishing corporations create a patchwork system of records.

“In many states, filed documents are not required to contain all the basic information (such as legal ownership) required by the FATF, especially in states that have a strategy of promoting corporation formation by non-residents,” the IMF report said. And that information “generally” is not verified, the IMF said.

The IMF found that US law enforcement agencies, especially the Internal Revenue Service, typically can access both tax and state corporate records, usually through court orders, but such access can be “time consuming and resource intensive.”

Access for foreign authorities is more problematic. The IRS is able to share information on beneficial owners of US corporations with countries that have bilateral tax agreements with the United States, but only when a tax crime is suspected. However, when the US company lacks an Employer Identification Number, or when the request is not tax-related, US law enforcement generally cannot provide such information unless the request prompts the opening of a criminal investigation, according to the IMF.

Since tax evasion in a foreign country is not a predicate, or threshold offense, on which to base a money laundering charge under US law, law enforcement may not be able to open a criminal investigation. The IMF said that the Organization for Economic Cooperation and Development found the US is not fully compliant with its principles for international exchange of tax information.

The American Bankers Association and the Bankers Association for Finance and Trade, representing organizations involved in international transaction banking, argued in an October 2014 letter about the FinCen proposal that asking banks to collect detailed beneficial ownership information about corporate entities pushes them into a role for which they are not suited.

“Expecting the financial sector to carry out the role more properly assigned to law enforcement places unnecessary burdens on the industry to operate with less than the full information, tools, and authority available to law enforcement, frustrating to both financial institutions and law enforcement officials,’’ the associations argued.

The proposed customer due diligence rule would impose a four-part requirement on banks, broker-dealers, mutual funds, futures commission merchants and certain commodity brokers, although the Federal Register notice said that FinCen would consider later extending the requirements to money service companies, casinos, insurance companies and others subject to its regulations.

The first element would require identifying and verifying the identity of customers. The second involves a two-pronged test of beneficial ownership, one focused on ownership by any individual of a 25 percent or greater equity interest in the legal entity, and second, focused on control of the legal entity. (This aspect of the customer due diligence requirement would apply to new customers.)

Because the proposed language is described as applying to ownership that is direct or indirect, “through any contract arrangement, understanding, relationship or otherwise,” banks would be required penetrate layers of corporate entities to identify the ultimate owners, “regardless of how many corporate or holding companies removed the natural person is from the legal entity customer,” according to the Federal Register notice.

The third and fourth elements would require understanding the nature and purpose of customer relationships, and conducting ongoing monitoring to update customer information and identify suspicious transactions. FinCen argues that both of these elements are consistent with existing rules and practice would not necessarily require changes to existing procedure.

	Eliot Gao