August 31, 2015
Authored by: Jeff Ziesman
As part of its continuing but slow expansion of the types of financial institutions that are subject to anti-money laundering (AML) obligations under the Bank Secrecy Act and USA PATRIOT Act, FinCEN proposed on August 25, 2015, to require certain investment advisers to establish and maintain AML programs and file suspicious activity reports (the Proposed Rules). The Proposed Rules go further than FinCEN’s 2002 and 2003 proposals for investment advisors, which generally were limited to proposing AML program requirements only, without additional suspicious activity reporting and certain other record keeping requirements.
In explaining its rationale for the Proposed Rules, FinCEN acknowledges that advisers work with financial institutions that are already subject to BSA requirements, such as when executing trades through broker-dealers to purchase or sell client securities, or when directing custodial banks to transfer assets. FinCEN notes, however, that these institutions may not have sufficient information to assess suspicious activity or money laundering, and that investment advisers therefore have an important role to play in safeguarding the financial system from terrorist activities and financial crime.
General Scope and Examination Authority
Under the Proposed Rules, covered investment advisers would include any persons who are registered or required to be registered with the SEC under section 203 of the Investment Advisers Act. This would include both primary advisers and subadvisers. However, because advisers with less than $100 million in regulatory assets under management are generally prohibited from registering with the SEC, those advisers would not be subject to the Proposed Rules.
The Proposed Rules would delegate to the SEC the authority to examine covered investment advisers for compliance with FinCEN’s rules.
The Key Requirements
Under the Proposed Rules, covered investment advisers would have the following obligations, among others:
- Develop and implement a written AML program. The program would need to be approved by the adviser’s board of directors or trustees or, if it does not have one, by its sole proprietor, general partner, trustee or other person with functions similar to a board. Like the AML program required for other covered financial institutions, it would need to address the following “4 pillars” – (1) policies, procedures and internal controls reasonably designed to prevent the adviser from being used for money laundering and terrorist financing, and to achieve and monitor BSA compliance; (2) independent compliance testing; (3) the designation of a compliance officer or officers; and (4) ongoing training for appropriate persons.
- File Suspicious Activity Reports. Investment advisers generally would be required to monitor for suspicious transactions relevant to a possible violation of law or regulation, and file SARs with respect to such transactions, when they are conducted or attempted by, at or through the investment adviser. A SAR technically would be required only if the transaction involves or aggregates funds or other assets of at least $5,000, but the “aggregate” aspect of this threshold will often cause smaller individual transactions to be subject to the rule. The adviser still also would be required with applicable SEC regulation.
- File Currency Transaction Reports. CTRs generally must be filed for any transaction in currency of more than $10,000, including multiple transactions totaling more than $10,000 on one day if conducted by or on behalf of the same person. This rule would require the investment adviser to obtain and retain appropriate identification of the person presenting the transaction, as well as for any person or entity on whose behalf the transaction or transactions are conducted. It also would prohibit any person from structuring transactions to evade this reporting requirement, such as by breaking large transactions into one or more transactions under $10,000, and would prohibit any person (including the adviser) from assisting in such structuring.These CTR rules are generally identical to those applicable to banks, except that banks have a broader range of available exemptions when the transactions are conducted by specified persons, such as other banks or publicly traded companies. In that way, the investment adviser requirements would parallel those applicable to broker-dealers and, like broker-dealers, the only available exemption would be for transactions between the adviser (or broker-dealer) and a commercial bank.
- Record for Transmittals of Funds. The Proposed Rules would include investment advisers in the general definition of “financial institution” in the BSA regulations, which would cause advisers to be subject to BSA requirements generally applicable to other financial institutions. One of those requirements is to create and retain records for transmittals of funds of $3,000 or more, and to transmit information on such transactions to other financial institutions in the payment chain (this latter requirement is often referred to as the “Travel Rule”).
- Information Sharing. Investment advisers also would be subject to Section 314(a) and 314(b) of the PATRIOT Act. Section 314(a) provides for the sharing of information between the government and financial institutions. It allows FinCEN to require the institution to search its records and determine whether it maintains or has maintained an account or conducted transactions with a person that law enforcement certifies is suspected of money laundering or terrorist activity, and then to provide specified information to FinCEN. Section 314(b) allows voluntary sharing of information among certain financial institutions that have first notified FinCEN of their intended participation in such program.
The Proposed Rules would not require investment advisers to perform formal “customer identification procedures” in the same way as broker-dealers, banks and many other financial institutions. As a practical matter, however, it may be difficult for an adviser to maintain a suitable AML program and file SARs if the adviser is less than certain of its customers’ identities. FinCEN also notes that they propose to address customer identification procedures through future rulemaking efforts with the SEC.
The foregoing is a high level summary of the Proposed Rules and therefore omits certain rules and details. Comments on the Proposed Rules will be due within 60 days after the proposal is published in the Federal Register. Watch this web site for future articles on selected aspects of the rules.