On August 25, 2015, the Financial Crimes Enforcement Network (“FinCEN”), the US anti-money laundering agency, announced proposed regulations to require Securities and Exchange Commission (“SEC”)-registered investment advisers to comply with certain regulations promulgated pursuant to the anti-money laundering (“AML”) law referred to as the Bank Secrecy Act (“BSA”). Under the proposal, these investment advisers will be required to establish AML compliance programs, report large cash transactions and suspicious transactions and participate in special information sharing procedures between government agencies and financial institutions. Comments are due on or before November 2, 2015.
Adding Investment Advisers as Financial Institutions in the BSA regulations
The BSA statute itself includes many different businesses within the definition of “financial institution,” but they are only affected when FinCEN, an agency within the US Treasury Department, promulgates regulations imposing AML requirements on them. Banks, broker-dealers, mutual funds, and futures commission merchants, among other businesses, have been subject to the BSA regulations for many years. Investment advisers are not included within the statutory definition of financial institution, but the statute provides that an additional business may be added to the regulatory definition of “financial institution” if it engages in activities that are similar or related to activities engaged in by financial institutions listed in the statute. In the commentary accompanying the text of the proposed regulation, FinCEN notes that investment advisory services are similar or related to services that may be performed by securities broker-dealers, banks or insurance companies, each of which is subject to one or more of the many BSA obligations, and thus investment advisers also should be subject to BSA regulatory requirements.
Investment advisers subject to the regulations
The proposed regulation would only bring SEC-registered investment advisers, or those required to be registered (“covered advisers”), within the ambit of the regulation, unless otherwise exempt under the Investment Advisers Act. Generally, only investment advisers with $100 million or more in assets under management are required to be registered with the SEC, with the remainder to be registered and inspected through state securities agencies unless not otherwise regulated or examined at that level. FinCEN has proposed this definition of investment adviser in order to “align FinCEN’s regulatory framework with Federal functional regulation and allow FinCEN to work with the SEC to develop consistent application and examination of the BSA to such advisers.” FinCEN estimates that there are 11,235 investment advisers that would be subject to the rule.
Under the proposed regulation, FinCEN would delegate to the SEC its examination duties regarding covered investment advisers, similar to delegations in place with respect to securities broker-dealers and mutual funds subject to the BSA rules.
AML compliance programs
The proposed regulations would require a covered investment adviser to establish a risk-based AML compliance program to be adopted by its board of directors or if there is no board, a person exercising functions similar to that of a board of directors. The program has 4 elements: (1) establishment of AML policies, procedures and internal controls; (2) independent testing for compliance with the program; (3) specific designation of a BSA compliance officer; and (4) ongoing AML training for employees.
In developing the risk-based compliance program, the covered investment adviser must analyze the money laundering and terrorist financing risks posed by a particular client with an account with the investment adviser. For example, an investment adviser to a registered mutual fund, which has its own BSA requirements, may have a lower money laundering and terrorist financing risk than an investment adviser to individual clients.
Recordkeeping and Reporting Requirements
The proposed rule would subject covered investment advisers to the general BSA reporting and recordkeeping requirements. Once the final rule is effective, covered investment advisers will have to comply with recordkeeping and reporting requirements related to its cash transactions with customers in excess of $10,000 (likely rare since investments advisers generally do not accept cash from their customers). Currently, investment advisers file a different but similar form for receipt of currency and certain negotiable instruments in excess of $10,000 in a trade or business.
Covered investment advisers also would need to comply with recordkeeping requirements relating to transmittals of funds.
Suspicious Transaction Reporting
One of the key AML compliance requirements is filing suspicious activity reports (“SARs”). Under the proposed rule, covered investment advisers are required to report to FinCEN transactions that involve or aggregate at least $5,000 in funds or other assets if the covered investment adviser knows, suspects, or has reason to suspect that the transaction (or a pattern of transactions of which the transaction is a part): (i) involves funds derived from illegal activity or is intended or conducted to hide or disguise funds or assets derived from illegal activity; (ii) is designed, whether through structuring or other means, to evade the requirements of the BSA; (iii) has no business or apparent lawful purpose, and the investment adviser knows of no reasonable explanation for the transaction after examining the available facts; or (iv) involves the use of the investment adviser to facilitate criminal activity.
SARs (and information that would reveal the existence of a SAR) are confidential and the fact that one has been filed may not be disclosed to the person on whom the SAR was filed and may only otherwise be disclosed under extremely limited circumstances, such as disclosure to another federal or state law enforcement agency. In addition, a bank (and certain other financial institutions) has specific authority to share SARs within its corporate organizational structure, such as its parent company. The proposed rule does not provide such authority. Instead, FinCEN requests specific comment on whether covered investment advisers should be able to share SARs within their corporate organizations.
Finally, under the proposal, covered investment advisers would be required to implement special information sharing procedures to detect money laundering or terrorist activity. FinCEN would be permitted to request that covered investment advisers search their records to determine whether they have maintained an account or conducted a transaction with a person that law enforcement has certified is suspected of engaging in terrorist activity or money laundering. In addition, on a voluntary basis and on prior notice to FinCEN, covered investment advisers would be able to share information with other financial institutions that maintain AML compliance programs, under a safe harbor that offers protections from liability, regarding individuals, entities, organizations, and countries that the covered investment adviser or other sharing financial institution suspects may involve possible terrorist activity or money laundering.
Regulations not proposed
FinCEN is not proposing to impose on covered investment advisers all of the BSA requirements imposed on businesses such as banks and securities broker-dealers. One regulation specifically not being proposed at this time would be the requirement for investment advisers to establish customer identification programs, which are in place for similar businesses such as banks, mutual funds and securities broker-dealers. FinCEN notes in the commentary to the proposed rule that it was not proposing such a requirement at this time as it anticipated that the issue would be addressed with a joint rulemaking with the SEC.
(Post updated to include Federal Register link and date for comments)