Know Your Customer (KYC)

Second Post in a Two-Part Series

NYDFS Action Highlights the Need for Good Monitoring – and Good Consultants

In part one of this two-part post, we provided some practical tips for financial institutions to increase the chances that their Anti-Money Laundering (“AML”) programs will withstand regulators’ scrutiny, including: (1) promoting a culture of AML/Bank Secrecy Act (“BSA”) compliance; (2) focusing on transaction monitoring; (3) improving information sharing; (4) identifying and handling high-risk accounts appropriately; and (5) knowing your risks and continually improving your AML program to control those risks.

In this post we’ll discuss the consequences of potentially failing to heed these practical tips in a specific case: the New York Department of Financial Services’ (DFS) recent enforcement action against Mashreqbank. Further, we look forward to discussing all of these issues in an upcoming podcast in Ballard Spahr’s Consumer Financial Monitor Podcast series. So please continue to stay tuned.

Mashreqbank is the oldest and largest private bank in the United Arab Emirates. Its New York branch is Mashreqbank’s only location in the United States. It offers correspondent banking and trade finance services and provides U.S. dollar clearing services to clients located in Southeast Asia, the Middle East and Northern Africa. In 2016, the branch cleared more than 1.2 million USD transactions with an aggregate value of over $367 billion. In 2017, the branch cleared more than one million USD transactions with an aggregate value of over $350 billion.

The DFS enforcement action asserted that Mashreqbank’s AML/BSA program was deficient in a number of respects and that the New York branch had failed to remediate identified compliance issues. The enforcement action began with a DFS safety and soundness examine in 2016. In 2017, DFS and the Federal Reserve Bank of New York (FRBNY) conducted a joint safety and soundness examination. DFS provided a report of its findings to which Mashreqbank submitted a response.

In a consent order signed on October 10, 2018, Mashreqbank admitted violations of New York laws and accepted a significant monetary penalty and increased oversight for deficiencies in its AML/BSA and Office of Foreign Assets Control (OFAC) programs. Regulators pursued the enforcement action despite the New York branch’s strong cooperation and demonstrated commitment to building an effective and sustainable compliance program. Among other things, Mashreqbank agreed to pay a $40 million fine; to hire a third-party compliance consultant to oversee and address deficiencies in the branch’s compliance function including compliance with AML/BSA requirements; and to develop written revised AML/BSA and OFAC compliance programs acceptable to DFS.

The DFS and FRBNY examination findings demonstrate Mashreqbank’s failure to follow the practical tips identified in part one of this post. Specifically, the regulators found that Mashreqbank failed to: (1) have appropriate transition monitoring; (2) identify and handle high-risk accounts appropriately; and (3) know its risk and improve its AML program to control those risks.

Further, and as our discussion will reflect, the Mashreqbank enforcement action is also notable in two other respects. First, the alleged AML failures pertain entirely to process and the general adequacy of the bank’s AML program – whereas the vast majority of other AML/BSA enforcement actions likewise discuss system failures, they usually also point to specific substantive violations, such as the failure to file Suspicious Activity Reports (“SARs”) regarding a particular customer or set of transactions. Second, although the use of external consultants usually represents a mitigating factor or even a potential reliance defense to financial institution defendants, the DFS turned what is typically a defense shield into a government sword and instead criticized Mashreqbank for using outside consultants who, according to DFS, were just not very rigorous. This alleged use of consultants performing superficial analysis became part of the allegations of affirmative violations against the bank, thereby underscoring how financial institutions must ensure that their AML/BSA auditors or other consultants are experienced, competent, and performing meaningful testing, particularly when addressing issues previously identified by regulators.
Continue Reading Practical Tips in Action: The Mashreqbank AML Enforcement Action

First Post in a Two-Part Series

How do financial institutions get in trouble with their regulators? Recent AML enforcement actions suggest that the following two failures are at the heart of most of these actions: (1) inadequately identifying, monitoring and/or reporting suspicious activity; and (2) failing to implement adequate internal controls. And these same issues crop up year after year.

In this post, we’ll discuss these failures and their root causes and provide practical tips for ensuring that your AML program will withstand the scrutiny of regulators. In our next post, we will discuss how these practical tips apply in a specific AML enforcement action: the recent consent order between the New York Department of Financial Services and Mashreqbank.  Further, we look forward to discussing all of these issues in an upcoming podcast in Ballard Spahr’s Consumer Financial Monitor Podcast series.  So please stay tuned.

The U.S. financial institutions that recently found themselves in the government’s crosshairs allegedly engaged in the following behavior:

  • Failing to investigate alerts on high-risk accounts where those accounts had been investigated previously, even when the new suspicious activity to which the bank had been alerted differed from the activity that it previously had investigated.
  • Having a policy of not investigating or filing SARs on cash withdrawals from branches near the Mexican border if the customer said they were withdrawing cash in the U.S., rather than carrying cash into the U.S. from Mexico, in order to avoid having to file a Report of International Transportation of Currency or Monetary Instruments (CMIR).
  • Capping the number of alerts from its transaction monitoring systems based on the number of staff available to review the alerts rather than on the risks posed by the transactions (and lying to regulators about it).
  • Failing to report the suspicious activities of a longtime customer despite having been warned that the customer was laundering the proceeds of an illegal and fraudulent scheme through accounts at the bank.
  • Failing to conduct necessary due diligence on foreign correspondent accounts.
  • A brokerage company failing to file SARs on transactions that showed signs of market manipulation.
  • A MSB’s failing to implement proper controls and discipline crooked agents because those agents were so profitable for the MSB, thereby enabling illegal schemes such as money laundering.

Although the behavior of these financial institutions may differ, the root causes of their failures do not. They include the following:

  • An inadequate, ineffective or non-existent risk assessment.
  • Elevating the business line over the compliance function.
  • Offering products or using new technologies without adequate controls in place.
  • Compliance programs that are not commensurate with the risks, often due to under investment in AML technology or other resources and/or lack of awareness of AML risks or controls.
  • Corporate silos, both human and technological, that prevent or hinder information sharing.
  • Insufficient screening of parties and relationships and lack of effective processes and controls around EDD.

So how can you ensure that your AML program is adequate? Here are some practical tips.
Continue Reading Practical Tips for Ensuring Your AML Program Withstands the Scrutiny of Regulators

The Federal Banking Agencies (“FBAs”) — collectively the Office of the Comptroller of the Currency (“OCC”); the Board of Governors of the Federal Reserve System (“Federal Reserve”); the Federal Deposit Insurance Corporation (“FDIC”); and the National Credit Union Administration (“NCUA”) — just issued with the concurrence of FinCEN an Order granting an exemption from the

FinCEN Cites Low Risk of Money Laundering and High Regulatory Burden of Rule

On September 7, 2018, the Financial Crimes Enforcement Network (“FinCEN”) issued permanent exceptive relief (“Relief”) to the Beneficial Ownership rule (“BO Rule”) that further underscores the agency’s continued flexibility and risk-based approach to the BO Rule.

Very generally, the BO Rule — effective as of May 11, 2018, and about which we repeatedly have blogged (see here, here and here) — requires covered financial institutions to identify and verify the identities of the beneficial owners of legal entity customers at account opening. FinCEN previously stated in April 3, 2018 FAQs regarding the BO Rule that a “new account” is established – thereby triggering the BO Rule – “each time a loan is renewed or a certificate of deposit is rolled over.” As a result, even if covered financial institutions already have identified and verified beneficial ownership information for a customer at the initial account opening, the institutions still must identify and verify that beneficial ownership information again – and for the same customer – if the customer’s account has been renewed, modified, or extended.

However, the Relief now excepts application of the BO Rule when legal entity customers open “new accounts” through: (1) a rollover of a certificate of deposit (CD); (2) a renewal, modification, or extension of a loan, commercial line of credit, or credit card account that does not require underwriting review and approval; or (3) a renewal of a safe deposit box rental. The Relief does not apply to the initial opening of any of these accounts.

The Relief echoes the exceptive relief from the BO Rule granted by FinCEN on May 11, 2018 to premium finance lenders whose payments are remitted directly to the insurance provider or broker, even if the lending involves the potential for a cash refund. Once again, although the Relief is narrow, FinCEN’s explanation for why the excepted accounts present a low risk for money laundering is potentially instructive in other contexts.
Continue Reading FinCEN Issues Exceptive Relief from Beneficial Ownership Rule to Certain Account Renewals

Bank’s Alleged “Tick Box” Approach Failed to Attain Substantive AML Compliance

Late last week, the Financial Conduct Authority (“FCA”), the United Kingdom’s financial services regulator, imposed a $1.2 million (896,100 pound) fine on the UK division of India’s Canara Bank, an Indian state-owned bank, and ordered a moratorium on new deposits for nearly five months.  The cause—according to Reuters—was Canara’s systemic anti-money laundering (“AML”) failures.

A 44-page final notice published by the FCA explains the multi-year regulatory process that led to a finding of systemic failures and the imposition of penalties.  The FCA’s investigation began in late 2012 and early 2013 with assessments of Canara’s AML systems.  Upon inspection, the FCA “notified Canara of a number of serious weaknesses in its AML systems and controls.”  After promises of remedial action by Canara, an April 2015 visit revealed that the AML systems had not been fixed.  The investigation ended with a final report from a “skilled person,” an expert brought in by the FCA to assess Canara’s AML policies and procedures, completed in January 2016.  Settlement followed, resulting in sanctions and the FCA’s published final notice.

These three visits from the FCA generated a laundry list of Canara’s AML shortcomings.  This enforcement action reflects three main take-aways: (i) the potential risks faced by banks operating in foreign countries in which they have limited AML experience; (ii) the need for swift remedial action after the first examination finding AML deficiencies; and (iii) the need for a substantive AML policy implemented in a substantive way, rather than through a rote reliance on AML-related checklists.
Continue Reading Canara Bank of India Fined $1.2 Million by UK Regulators for Systemic AML Failures

On May 16, 2018, the Securities Exchange Commission (“SEC”) announced it had settled charges against a registered broker-dealer, its clearing firm, and its chief compliance and anti-money laundering (“AML”) officer brought over the firm’s failure to file Suspicious Activity Reports (“SARs”) related to customers’ liquidation of billions of penny stocks over an eight month period.  In a companion action, the Financial Industry Regulatory Authority (“FINRA”) imposed a monetary penalty against the clearing firm for various AML compliance failures.

Chardan Capital Markets, LLC (“Chardan”) was a registered broker-dealer primarily engaged in underwriting private investment in public equity (“PIPEs”), private placements and initial public offerings (“IPOs”). In 2013, Chardan allegedly began actively engaging in the liquidation of thinly-traded penny stocks of microcap issuers.  Industrial and Commercial Bank of China Financial Services, LLC (“ICBCFS”) is a registered broker-dealer that, in late 2012, began clearing equity securities and, from October 2013 through June 2014, cleared Chardan’s customers’ penny-stock transactions.

We previously have blogged about the SEC and FINRA stepping up their AML-related enforcement, as well as the issue of AML-related individual liability for compliance officers and executives (see here, here, here, here and here).  Aside from reaffirming the dubious nature of penny stock trading, this case once again reflects the need to actually act on identified red flags and file related SARs.
Continue Reading SEC Sanctions Broker-Dealer, Clearing Firm and Chief Compliance Officer for AML Violations

But Passage of Pending U.S. AML Reform May Reduce Perceived Deficiencies in Beneficial Owner Identification

Last week, Transparency International (“TI”) released an updated assessment of the “beneficial ownership legal frameworks” in the G20 countries, entitled “G20 Leaders or Laggers?”  Since TI’s 2015 assessment of this same issue, the international anti-corruption organization found that “progress across the board has been slow.”  The 2018 Report lauds France, Germany and Italy for making “noticeable improvements since 2015.”  Other countries made more modest upgrades during that time period, including the United States, whose beneficial ownership transparency framework assessment rose from “Weak” in 2015 to “Average” in the 2018 Report.

This post begins with a few observations regarding TI’s methodology in composing the 2018 Report. The post then reviews certain of the areas where TI found the United States lacking as compared to its G20 peers, and examines whether Congress’ recent draft bill, the Counter Terrorism and Illicit Finance Act (“CTIFA”), about which we blogged in a January 2018 two-part series (here and here), may address these identified deficiencies.
Continue Reading International Report Critiques U.S. Beneficial Ownership Transparency

May 11, 2018 Implementation Deadline Looms

Last year, we posted FinCEN’s Beneficial Ownership Rule: A Practical Guide to Being Prepared for Implementation regarding the Customer Due Diligence Requirements for Financial Institutions Rule (the “Beneficial Ownership Rule” or “Rule”) issued by the Financial Crime Enforcement Center (“FinCEN”). With the Rule’s May 11 implementation date only a few weeks away, and with FinCEN recently having published its new and long-awaited FAQs regarding the Rule (FAQs), we thought that the time was right for more practical tips and answers to questions surrounding the Rule.
Continue Reading FinCEN’s Beneficial Ownership Rule: More Practical Tips and Answers to Frequently Asked Questions

Last week, President Donald Trump issued an Executive Order banning “all transactions” and “dealings” by any individual or entity in the United States that involve “any digital currency, digital coin, or digital token” issued by Venezuela.  This Executive Order was instituted just under a month after President Nicholas Maduro launched the pre-sale of “petro,” a cryptocurrency backed by the Venezuelan government’s crude oil reserves.  Since its inception, the petro has been met with deep skepticism by both the market and the Venezuelan legislature, but President Maduro—through petro’s official website—claims it has raised over $735 million in its pre-sale.  The opposition in the Venezuelan legislature has denounced petro as an illegal issuance of debt.

We previously have blogged about alleged money-laundering violations by Venezuelan oilmen and OFAC’s designation of the Vice President of Venezuela as a Specially Designated Narcotics Trafficker.  This is only the most recent in a long line of sanctions targeting the Venezuelan government and its state-controlled oil industry.

On the back of this new Executive Order, the Office of Foreign Assets Control (“OFAC”) has issued new FAQs relating to virtual currency, both to regulate the petro and assert its power in the virtual currency space.  As one might suspect, OFAC has decided to treat virtual currency in the same way it treats fiat currency and other property: if the individual is on Specially Designated Nationals (“SDN”) list, transactions are barred no matter what form of currency is used.  If a United States citizen or entity is involved, or is otherwise subject to United States jurisdiction, they “are responsible for ensuring that they do not engage in unauthorized transactions prohibited by OFAC sanctions.”  The OFAC FAQs specifically request “technology companies; administrators, exchangers, and users of digital currencies; and other payment processors” to develop compliance plans.  Obviously, these compliance plans would have to take into account blockchain and virtual currency technology that is constantly evolving.
Continue Reading U.S. Bans Venezuela’s Oil-Backed Virtual Currency, “Petro,” and Announces Plans to Publish SDNs’ Virtual Currency Addresses

After over a year of negotiations, the European Parliament and its executive arm, the European Council, recently agreed to an amendment to the Fourth Anti-Money Laundering Directive to include measures targeting exchange platforms for virtual currencies, such as Bitcoin, as well as prepaid cards.  These new regulations will require an increase in transparency by the trusts and trading companies to reveal the holders of virtual currency to thwart potential money laundering, tax evasion, and anonymous funding of terrorism. Primary among these regulations is a requirement to provide beneficial ownership information to authorities and “any persons that can demonstrate a legitimate interest” to access data on the beneficial owners of trusts.

This focus on beneficial ownership in regards to virtual currency is entirely consistent with the general AML regulatory efforts in the United States and around the globe over the last few years, which have emphasized heavily the need to identify the beneficial owners of financial accounts, real estate and other assets in order to attain a more transparent financial system.

The regulation adopted by the European Parliament and European Council also comes as Bitcoin’s prices surged over 1,700 percent since the start of 2017.  This outstanding growth has increased main stream interest in the virtual currency while also sounding alarm bells as some fear that Bitcoin is a bubble bound to burst.  A key part of the amendment is that access to beneficial ownership information should be provided to authorities and “any persons that can demonstrate a legitimate interest.” 
Continue Reading EU Adopts Regulations Increasing Transparency in Virtual Currency Trading to Combat Money Laundering, Tax Evasion, and Terrorism Financing