FinCEN finalizes rule on customer due diligence for financial institutions; Obama Administration takes other AML-related actions

Bag of money

On May 5, 2016, the Obama Administration announced1 several executive branch actions intended to combat money laundering and enhance financial transparency, including the publication of a long-awaited final rule from the Treasury Department’s Financial Crimes Enforcement Network (FinCEN) that will require financial institutions—including banks, broker-dealers, mutual funds, futures commission merchants, and introducing brokers—to identify and report the “beneficial ownership” of their customers for the first time.2

In conjunction with the FinCEN final rule—formally known as Customer Due Diligence (CDD) Requirements for Financial Institutions—the Internal Revenue Service (IRS) released a proposed rule3 that would require foreign-owned entities that are “disregarded entities” (i.e., entities with one owner that are not recognized for tax purposes as entities separate from their owners, including single-member limited liability companies (LLCs)) to obtain an employer identification number (EIN) from the IRS.  The IRS believes that this rule will strengthen its ability to prevent the use of these entities for tax avoidance purposes.

Finally, the Administration released two legislative proposals intended to strengthen anti-money laundering (AML) efforts:

  1. A proposal from the Treasury Department4 that would require legal entities to report information on beneficial ownership at the time of a company’s creation, which it believes would help law enforcement to prevent and investigate financial crimes
  2. A proposal from the Department of Justice (DOJ)5 that they believe would enhance law enforcement’s ability to prevent bad actors from concealing and laundering illegal proceeds

Taken together, these regulatory and legislative developments represent a significant attempt to strengthen the Bank Secrecy Act (BSA) and enhance other AML efforts.

CDD rule

Key takeaways

The new requirement to obtain beneficial ownership information will require institutions to identify and verify the identity of any individual who owns 25 percent or more of a legal entity, and an individual who controls the legal entity.

In response to comments received on the proposed version of the rule issued in August 2014, FinCEN made several changes in developing the final CDD rule, including:

  1. Clarifying the definition of “legal entity customer” to mean “a corporation, limited liability company, or other entity that is created by the filing of a public document with a Secretary of State or similar office, a general partnership, and any similar entity formed under the laws of a foreign jurisdiction that opens an account”6
  2. Expanding the proposed exclusions from the legal entity customer definition to include, bank holding companies, savings and loan holding companies, pooled investment vehicles, insurance companies regulated by a State, and foreign financial institutions established in a jurisdiction where the regulator of such institution maintains beneficial ownership information, among others
  3. Eliminating the requirement that covered institutions use a standard certification form to obtain the beneficial ownership information (the final rule permits, but does not require, institutions to use this form)
  4. Clarifying that covered institutions are not required to update beneficial ownership information on a periodic or ongoing basis, but only on an event-driven basis

In addition to adding the beneficial ownership requirement for covered financial institutions, the CDD rule amends the AML program requirement for covered financial institutions to explicitly include risk-based procedures for conducting ongoing CDD.

Specifically, this due diligence would include:

  1. Understanding the nature and purpose of customer relationships to develop customer risk profiles
  2. Conducting ongoing monitoring to identify and report suspicious transactions and, on a risk basis, to maintain and update customer information

Compliance

Covered institutions must comply with FinCEN’s rule, including the beneficial ownership requirement, by May 11, 2018.

Importantly, the beneficial ownership requirement applies only with respect to legal entity customers that open “new accounts” (i.e., those opened after May 11, 2018).

Although certain commenters urged FinCEN to require covered institutions to collect beneficial ownership information on existing accounts on a categorical basis and others suggested that institutions should collect this information retroactively for “higher risk” customers, FinCEN declined to impose a categorical, retroactive requirement, which it argued would be “unduly burdensome.”7

Legislative developments

Treasury proposal

Although the finalization by FinCEN of the CDD rule marks a significant step in the effort to address Financial Action Task Force (FATF) related AML issues in the US, the Treasury Department committed to further strengthening this framework through a separate legislative proposal that would require companies to “know and report adequate and accurate beneficial ownership information at the time of a company’s creation, so that the information can be made available to law enforcement.”8

Specifically, the proposal would require companies formed within the US to file beneficial ownership information with the Treasury Department, and face penalties for failure to comply.9

DOJ proposal

In addition, the DOJ’s legislative proposals centers on clarifying two areas within criminal law:  (1) the illegal proceeds of transnational corruption and (2) substantive corruption offenses.

With respect to transnational corruption, the DOJ offers five recommendations:

  1. Expand foreign money laundering predicates to include any violation of foreign law that would be a money laundering predicate if committed in the US
  2. Allow administrative subpoenas for money laundering investigations
  3. Enhance law enforcement’s authority to access foreign bank or business records by serving branches located in the US
  4. Create a mechanism to use and protect classified information in civil asset recovery cases
  5. Make the time period in which the US can restrain property based on a request from a foreign country—currently 30 days—parallel to the domestic restraint period, which is 90 days, and extend the proceedings to authenticate foreign records of regulatory conducted activity in criminal cases to civil asset recovery cases

With respect to substantive corruption offenses, the DOJ requests that Congress expressly criminalize the corrupt offer or acceptance of payments to “reward” official action as well as those intended to “influence” official action, as well as lower the dollar threshold from $5,000 to $1,000 to “correct a drafting error.”  This measure would resolve a conflict among Federal Circuit Courts of Appeals with respect to the issue of whether after-the-fact gratuities are covered by 18 U.S.C. § 666 (Theft or bribery concerning programs receiving Federal funds) and would be consistent with the interpretations of six of eight Circuit Courts of Appeals that have addressed this issue.

Congressional reaction

Following the Administration’s announcement, Rep. Carolyn Maloney (D-NY), who previously introduced legislation10 that would direct the Treasury Department to issue a rule requiring corporations and LLCs formed in a state that does not already require basic disclosure to submit beneficial ownership information, issued a statement characterizing the actions as a “positive step” and reiterating her call for Congressional action on the issue.11

Letter from Treasury Secretary Lew

Tax treaties

In a letter to Congress issued in conjunction with these rules and legislative proposals, Treasury Secretary Jack Lew stressed that the Senate must approve eight pending tax treaties that have been awaiting approval for several years, as well as amendments to existing treaties with Switzerland and Luxembourg that would allow US law enforcement to obtain information about financial accounts in those countries.12

FACTA

He also urged Congress to enact legislation to provide full reciprocity under the Foreign Account Tax Compliance Act (FACTA) to partner governments, which would require US financial institutions to provide to these countries the same information that foreign financial institutions provide to the IRS.

***

Deloitte Advisory continues to review the Administration’s materials, and plans to release a more detailed analysis shortly.

 


1 White House, “Fact Sheet: Obama Administration Announces Steps to Strengthen Financial Transparency, and Combat Money Laundering, Corruption, and Tax Evasion,” May 5, 2016, available at https://www.whitehouse.gov/the-press-office/2016/05/05/fact-sheet-obama-administration-announces-steps-strengthen-financial
2 Financial Crimes Enforcement Network, “Customer Due Diligence for Financial Institutions,” Final Rules, May 6, 2016, available at https://s3.amazonaws.com/public-inspection.federalregister.gov/2016-10567.pdf
3 Internal Revenue Service, “Treatment of Certain Domestic Entities Disregarded as Separate From Their Owners as Corporations for Purposes of Section 6038A,” Notice of Proposed Rulemaking, May 6, 2016, available at https://s3.amazonaws.com/public-inspection.federalregister.gov/2016-10852.pdf
4 Department of the Treasury, Press Center, “Treasury Announces Key Regulations and Legislation to Counter Money Laundering and Corruption, Combat Tax Evasion,” May 5, 2016, available at https://www.treasury.gov/press-center/press-releases/Pages/jl0451.aspx
5 Department of Justice, Office of Public Affair, “Justice Department Proposes Legislation to Advance Anti-Corruption Efforts,” May 5, 2016, available at https://www.justice.gov/opa/pr/justice-department-proposes-legislation-advance-anti-corruption-efforts
6 Customer Due Diligence for Financial Institutions, at 209.
7 Id, at 28.
8 Treasury Announces Key Regulations and Legislation to Counter Money Laundering and Corruption, Combat Tax Evasion.
9 Id.
10 H.R. 4450, Incorporation Transparency and Law Enforcement Assistant Act, available at https://www.congress.gov/114/bills/hr4450/BILLS-114hr4450ih.pdf
11 Rep. Carolyn Maloney (D-NY), “Rep. Maloney Statement on Obama Administration’s Action on Financial Transparency,” May 6, 2016, available at http://maloney.house.gov/media-center/press-releases/rep-maloney-statement-on-obama-administration-s-action-on-financial
12 Letter from Jacob J. Lew, Secretary of the Treasury, to The Honorable Paul D. Ryan, Speaker of the US House of Representatives, dated May 5, 2016, available at https://www.treasury.gov/press-center/press-releases/Documents/Lew%20to%20Ryan%20on%20CDD.PDF

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