It’s important to get one thing out of the way right off the bat: technically there is no requirement imposed upon investment advisors to maintain an anti-money laundering program pursuant to the Bank Secrecy Act of 1970, the Money Laundering Control Act of 1986 or the USA PATRIOT Act, as advisers are not considered to be “financial institutions” as currently defined therein.
If you’d like to recite this answer to SEC examiners when they ask about your AML program, be my guest…but don’t cite me or this article as your rationale. Such an approach fails to take into account other AML-related obligations imputed to advisers, and generally does not reflect industry best practice.
Unlike advisors, banks, broker-dealers and mutual funds are subject to AML program requirements as administered through the Financial Crimes Enforcement Network (“FinCEN”), a bureau of the Treasury Department. Such requirements include, among others:
- The development of internal policies, procedures, and controls
- The designation of an AML compliance officer
- An ongoing employee training program
- An independent audit function to test programs
- The establishment and implementation of a customer identification program and special due diligence program for foreign correspondent and private banking accounts
- Detection and reporting of suspicious activity.
For more than a decade, FinCEN has hemmed and hawed about including investment advisors within the definition of “financial institutions” and thus subjecting them to AML program requirements like those above.
To date, it has elected not to do so for one fairly logical reason: “Advisers must conduct financial transactions for their clients through other financial institutions that are subject to [AML] requirements [i.e. banks or broker-dealer custodians], and their clients’ assets must be carried at these other financial institutions.” In other words, it would be duplicative to impose AML program requirements at both the advisory firm and custodial firm level, e.g.
In reality, however, many banks, broker-dealers and mutual funds will only do business with advisors that have established an AML program and are willing to work together to detect and prevent money laundering.
This is a classic example of counterparty risk management, and such counterparties often delegate or rely on advisers to carry out AML program duties.
It’s also important for advisers to remember that they remain subject to the rules promulgated by another important office within the Treasury Department: the Office of Foreign Asset Control (“OFAC”). OFAC administers and enforces economic and trade sanctions on behalf of the U.S., and maintains a list of Specially Designated Nationals and Blocked Persons (“SDNs”).
The basic takeaway is that U.S. advisors are not allowed to conduct business with individuals and businesses on an OFAC list, must take reasonable steps to ensure that no such individuals or businesses become clients of the adviser and must report any subject clients and transactions to OFAC.
Regardless of who actually carries out the AML program and OFAC requirements, it behooves the advisor to confirm who is contractually responsible by reviewing agreements with its other financial intermediaries and partners. It also behooves the adviser to have reasonably designed policies and procedures that address AML matters, if for no other reason than to explain the oversight and testing of those counterparties tasked with actually doing the AML-related work.
Ideally, the advisor should also conduct routine training with its employees regarding the identification of AML red flags, suspicious activity, and outward reporting to appropriate regulatory bodies, as well as institute a reasonable customer identification program (“CIP”).
It is well within FinCEN’s authority and discretion to subject investment advisors to AML program rules, and it very well may decide to do so at some point in the future.
For now, it is up to the advisor to decide to what degree it goes above and beyond the technical bare minimum to meet the expectations of its industry counterparts and the SEC.
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This article originally appeared on September 26, 2014 in ThinkAdvisor.