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Are Treasury’s AML Rules for Advisors a Waste of Time?

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While advisory trade groups and legal experts say that the Financial Crimes Enforcement Network’s long-awaited proposed rules issued Tuesday requiring certain investment advisors to establish anti-money laundering programs will raise compliance costs, they’re unsure if the rules are actually necessary.

“Anti-money laundering risks in pure asset management are very low,” says Bob Grohowski, general counsel for the Investment Adviser Association. Coming out with AML rules for advisors “has been a slow-moving train [because] it’s not the highest AML risk out there.”

While IAA recognizes the “importance of detecting and preventing money laundering,” added IAA’s president and CEO Karen Barr, “many advisors, particularly those affiliated with banks or broker-dealers, have voluntarily implemented AML procedures.” While the advisory business “poses little risk in this area,” she agreed, IAA will assess FinCEN’s proposed rules “with an eye toward whether the expected benefits of the proposed regulation justify its compliance costs, particularly with regard to smaller firms.”

Under the Treasury Department’s FinCEN proposal, advisors must also report suspicious activity to FinCEN pursuant to the Bank Secrecy Act, and FinCEN has also included investment advisors in the general definition of “financial institution,” which, among other things, would require them to file Currency Transaction Reports (CTRs) and keep records relating to money transfers.

The proposal would apply those advisors registered with the Securities and Exchange Commission, including advisors to certain hedge funds, private equity funds and other private funds.

FinCEN says it would delegate its authority to examine advisors for compliance with these requirements to the SEC.

Mutual funds, broker-dealers, banks and insurance companies already comply with AML and Bank Secrecy Act rules. But FinCEN argues the rules are necessary for advisors because “illicit actors seeking to access the financial system may attempt to gain such access through an investment advisor as a means to avoid detection of their activity which might otherwise occur in dealings with financial institutions that have AML programs and suspicious activity reporting requirements.”

“Investment advisors are on the front lines of a multitrillion-dollar sector of our financial system,” said Jennifer Shasky Calvery, FinCEN’s director, in announcing the proposal. “If a client is trying to move or stash dirty money, we need investment advisors to be vigilant in protecting the integrity of their sector.”

Carol Van Cleef, co-chair of Manatt, Phelps & Phillips’ Global Payments Group, says that FinCEN’s view “is that even the smallest players can make the financial system vulnerable.”

Paul Miller, partner in the Investment Management Group at Seward & Kissel LLP, says that, if adopted, the new rules will require advisors to amend their compliance manual to address the new AML requirements, and sees the filing of currency transaction reports as the “bigger” compliance headache.

FinCEN say that advisors should be required to file CTRs and comply with the recordkeeping requirements of the BSA so as to “also deter illicit actors from using them as conduits.”

Miller sees advisors choosing to outsource compliance with the rule “if the fees are reasonable,” otherwise, advisors will likely just “staff up” to handle compliance. The proposed rule addresses money laundering vulnerabilities in the U.S. financial system.

FinCEN says these five red flags should prompt an advisor to consider filing a suspicious activity report.

  • A client exhibits an unusual concern regarding the advisor’s compliance with government reporting requirements or is reluctant or refuses to reveal any information concerning business activities, or furnishes unusual or suspicious identification or business documents;

  • A client appears to be acting as the agent for another entity but declines, evades, or is reluctant to provide any information in response to questions about that entity;

  • A client’s account has a pattern of inexplicable and unusual withdrawals, contrary to the client’s stated investment objectives;

  • A client requests that a transaction be processed in such a manner as to avoid the advisor’s normal documentation requirements; or

  • A client exhibits a total lack of concern regarding performance returns or risk.

FinCEN notes, however, that the techniques of money laundering or terrorist financing “are continually evolving, and there is no way to provide a definitive list of suspicious transactions.”

The proposed rule will be out for a 60-day comment period.

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