The USA Patriot Act Has Broad Implications for Financial Institutions

The Act imposes new and wide-ranging obligations on financial institutions (including non-bank financial institutions such as broker-dealers, insurance companies, and the like), financial institutions of all types must be aware of and prepared to satisfy the heightened obligations imposed by the statute.

IAN M. COMISKY and MATTHEW D. LEE

n the wake of the 9-11 terror- entitled the “International Money BANK SECRECY ACT ist attacks, Congress acted Laundering Abatement and Anti- AMENDMENTS Iquickly to pass the most com- Terrorist Financing Act of 2001” The Bank Secrecy Act (“BSA”) was prehensive and sweeping anti-ter- (“IMLAFAT”). IMLAFAT makes originally enacted in the 1990’s to rorism legislation in U.S. history. unprecedented changes to the mon- deter money-laundering. The BSA, which is principally a reporting Entitled the Uniting and Strength- ey laundering law and permits this and record-keeping law, current- ening America by Providing country, if it so desires, to act as Appropriate Tools Required to ly requires that financial institu- the world’s policeman. In particu- Intercept and Obstruct Terrorism tions assist law enforcement by fil- lar, the Act amends money laun- Act of 2001 (“the Act”),1 the Act ing currency transaction reports provides U.S. law enforcement dering and bank secrecy law and (“CTRs”) for cash transactions with substantially broadened pow- recruits financial institutions as exceeding $10,000 and, in certain ers to wage war on terrorism on “partners” with law enforcement circumstances, “whistle-blowing” various fronts, including domestic in detecting and reporting not only by the filing of what are known as security, wiretapping and elec- terrorist but also a wide variety of suspicious activity reports tronic surveillance, border patrol non-terrorist illegal activities. (“SARs”). and immigration, and intelligence.2 Because the Act imposes new and Expansion of Covered Financial Almost unnoticed in the press wide-ranging obligations on finan- Institutions. Title III of the Act coverage of the Act was Title III, cial institutions (including non- incorporates and amends the defi- bank financial institutions such as nition of “financial institution” broker-dealers, insurance compa- contained in the BSA.3 In addition Ian M. Comisky is a partner with Blank Rome nies, and the like), financial insti- to entities traditionally regarded Comisky & McCauley LLP, practicing in the as financial institutions, such as firm’s Philadelphia and Florida offices. He is a tutions of all types must be aware commercial banks, thrifts, broker- former Assistant U.S. Attorney for the Southern of and prepared to satisfy the dealers, and insurance companies, District of Florida, and a co-author of Tax Fraud heightened obligations imposed the definition also includes an & Evasion Vol. 1: Offenses, Trials, Civil by the statute. While a detailed agency or branch of a foreign Penalties, Sixth Ed. (WG&L/RIA, 1995) and Vol. understanding of IMLAFAT is 2: Money Laundering, Asset Forfeiture and bank in the U.S; an investment beyond the scope of this article, we Related Topics (WG&L/RIA, 1994). Matthew D. banker or investment company; a Lee is an associate in the firm’s Philadelphia focus on those IMLAFAT provi- wide variety of entities that office. He is a former trial attorney in the U.S. sions most applicable, and critical process cash, such as a currency Department of Justice, Civil Division. to, financial institutions. exchanger or an issuer, redeemer,

May/June 2002 Vol 15 / No 5 USA PATRIOT ACT 23 or cashier of travelers’ checks, of funds, including any person available facts relevant to the trans- checks, money orders, or similar who engages as a business in an action and the parties.”5 instruments; an operator of a informal money transfer sys- The proposed regulations pro- credit card system; a dealer in pre- tem or any network of people vide examples such as the use of cious metals, stones, or jewels; a who engage as a business in large-scale wire transfer facilities pawnbroker; a loan or finance facilitating the transfer of mon- with nominal or nonexistent secu- company; a travel agency; a ey domestically or internation- rities purchases that may be indica- ally outside of the convention- licensed sender of money; a tele- tive of suspicious activities. Anoth- al financial institutions system. graph company; a business er example provided is where an engaged in vehicle sales, including individual seeks to cancel a trans- This provision is intended to estab- automobile, airplane, and boat action after the person is informed lish regulatory oversight for infor- sales; persons involved in real of the currency transaction report- mal “hawala” banking systems. estate closings and settlements; ing requirements. the U.S. Postal Service; any feder- It should be noted that insur- Increased Suspicious Activity Report- ance companies that sell variable al, state, or local agency carrying ing. Section 356 of the Act substan- annuities are subject to the report- out a duty or power of a tially broadens the SAR require- ing obligations. In addition, Trea- described business; a casino, gam- ments by directing that Treasury, in sury may promulgate regulations bling casino, or gaming establish- consultation with the Federal requiring futures commissions Reserve Board and the Securities merchants, commodity trading he Act substantially broadens and Exchange Commission, issue advisors, and commodity pool Tthe SAR requirements by regulations requiring, for the first operators registered under the directing that Treasury issue time, that registered securities bro- Commodity Exchange Act to sub- mit SARs. regulations requiring that kers and dealers file SARs. Pro- To streamline BSA reporting, registered securities brokers posed regulations were published section 366 of the Act directs and dealers file SARs. on December 31, 2001.4 The pro- Treasury to establish, through its posed regulations describe particu- Financial Crimes Enforcement ment with annual revenues of lar categories of transactions that Network (“FinCEN”), a highly more than $1 million; any busi- require reporting. One category secure electronic network through ness which engages in activities requires brokers to report any which reports (including SARs) similar those engaged in by a known or suspected criminal viola- may be filed and information described business; and any other tion committed through the bro- regarding suspicious activities war- business designated by Treasury ker-dealer. Another category ranting immediate and enhanced whose cash transactions have a requires brokers-dealers to report scrutiny may be provided to finan- high degree of usefulness in crim- three specific types of transactions cial institutions. On March 4, inal, tax, or regulatory matters. when the dealer knows, suspects, 2002, FinCEN issued proposed Section 359(a) of the Act adds the “or has reason to suspect,” that information-sharing regulations following to the statutory defini- 6 certain events have occurred and under Section 314 of the Act. tion of “financial institution”: incorporates a due diligence report- Under the proposed regulations, bank and non-bank financial insti- Any other person who engages ing requirement. The first class tutions will be subject to infor- as a business in the transmission includes transactions involving mation requests and, among oth- funds derived from illegal activity; er things, will be able to respond the second class involves transac- 1 PL 107-56, 115 Stat. 273. by e-mail to FinCEN. The proposal tions that are used as a means to 2 Despite opposition from civil liberties allows sharing of information evade the BSA reporting require- organizations, the legislation passed over- between financial institutions sub- whelmingly in Congress, with a vote of 357- ments, whether through structuring ject to SAR reporting and an oper- 66 in the House and 98-1 in the Senate. or otherwise; and the third class ator of a card system that is not a 3 31 U.S.C. 5312(a)(2). involves transactions that appear to money services business. 4 66 Fed. Reg. 67,670 (December 31, serve no business or apparent law- 2001). ful purpose and which the broker- Streamlining Currency Transaction 5 Id. at 67,673. dealer “knows of no reasonable Reporting. Due to the increased vol- 6 67 Fed. Reg. 9874 (March 4, 2002). explanation after examining the ume of the cash transaction report-

24 JOURNAL OF TAXATION OF FINANCIAL INSTITUTIONS May/June 2002 Vol 15 / No 5 ing system, section 366 of the Act dering laws in an effort to prose- trols; the designation of a compli- directs Treasury to review, by cute international money laun- ance officer; an ongoing employee October 25, 2002, that system to dering and the financing of ter- training program; and an indepen- make it more efficient, possibly by rorist activity. dent audit function. Treasury is expanding the use of exemptions to directed to promulgate regulations reduce the volume of CTRs filed. Forfeiture of Funds in Interbank to ensure that “the requirements Accounts. In a controversial provi- imposed under this section are Bulk Cash Reporting. In an attempt sion, section 319 of the Act expands commensurate with the size, loca- to preempt excessive fines issues the circumstances under which tion, and activities of the financial with respect to currency and mon- funds in a U.S. “interbank account” institutions to which such regula- 7 etary instrument forfeitures, Con- may be subject to forfeiture. An tions apply.” Due to the broad gress enacted a bulk cash smug- “interbank account” is defined as reach of the definition of “financial gling provision in section 371 of “an account held by one financial institution” (such as travel agencies the Act. The provision provides institution at another financial insti- and car dealers), many such institu- that whoever, with intent to evade tution primarily for the purpose of 9 tions will now be required to a currency reporting requirement facilitating customer transactions.” implement formal anti-money laun- under 31 U.S.C. 5316, conceals If a deposit of funds in a foreign dering programs for the first time. more than $10,000 in currency or bank outside of the U.S. is subject Further highlighting the impor- other monetary instruments in any to forfeiture, and the foreign bank tance of anti-money laundering conveyance, article of luggage, maintains an interbank account at programs, section 327 requires merchandise, or other container a covered financial institution, U.S. that the Federal Reserve Board and and transports or transfers or law enforcement may seize the attempts to transport or transfer funds in the U.S. account as a sub- the currency or instruments from a stitute for the foreign deposit. Sig- nsurance companies that sell place within the U.S. to a place nificantly, law enforcement is not Ivariable annuities are subject outside the U.S., or from a place required to trace the funds seized in to the reporting obligations. outside the U.S. to inside it, is the U.S to the deposit abroad. guilty of a felony. Concealment The Act provides that for pur- other federal banking regulators may involve any article of clothing poses of the “innocent owner” consider, when reviewing appli- or any luggage, backpack, or con- defense, 18 U.S.C. 983(d), the cations submitted pursuant to the tainer worn or carried by the indi- owner of the funds sought to be Bank Holding Company Act and vidual. The penalty is up to five forfeited is the person who deposit- the Federal Deposit Insurance Act, years incarceration and includes ed the funds into the foreign bank, the effectiveness of the applicants’ forfeiture provisions. The statute not the foreign bank or any inter- anti-money laundering activities, also provides that any article, con- mediary institution involved in including in overseas branches. 10 tainer, or conveyance used or the transfer of the funds. Thus, This provision applies to all appli- intended to be used to conceal or only the foreign customer, and not cations submitted after Decem- transport the currency is property the foreign bank, has standing to ber 31, 2001. involved in the offense for purpose contest the forfeiture. Foreign of asset forfeiture.8 banks will likely object to this pro- vision on the ground that it ENHANCED DUE DILIGENCE deprives them of their property The Act also imposes significant- ANTI-MONEY LAUNDERING without due process of law. ly increased due diligence require- AMENDMENTS In passing the Act, Congress found Development of Anti-Money Launder- that “money laundering, and the ing Programs. Section 352 of the 7 Bajakajian, 524 U.S. 321 (1998). defects in financial transparency on Act requires that all financial insti- 8 31 U.S.C. 5331. which money launderers rely, are tutions, within the meaning of 31 9 18 U.S.C. 984(c)(2)(B). critical to the financing of global U.S.C. 5312(a)(2), as amended by 10 See HR 107-250 (“if funds traceable terrorism and the provision of the Act, implement an anti-money to criminal activity are deposited into a for- funds for terrorist attacks.” The laundering program no later than eign bank, the Government may bring a for- Act’s anti-money laundering April 24, 2002. At a minimum, feiture action against funds in that bank’s correspondent account, and only the ini- amendments significantly broad- such programs must include inter- tial depositor, and not the intermediary en the reach of the money laun- nal policies, procedures, and con- bank, would have standing to contest it.”)

May/June 2002 Vol 15 / No 5 USA PATRIOT ACT 25 ments for financial institutions spondent accounts are intended to tive with international anti-money with respect to correspondent and prevent such use of correspondent laundering standards; and (2) desig- private banking accounts. For pur- accounts in the future. nated by Treasury as warranting poses of the Act, a “correspondent The Act directs that Treasury, special measures due to money laun- 13 account” is defined as an account after consultation with appropri- dering concerns. For correspon- “established to receive deposits ate federal agencies, must issue dent accounts of foreign banks oper- implementing regulations by April ating under such licenses, a U.S. from, make payment on behalf of 24, 2002. This section of the Act financial institution has the follow- a foreign financial institution, or is effective July 23, 2002, regard- ing additional obligations: handle other financial transac- 11 less of whether final regulations tions related to such institution.” have been issued. • if shares of the correspon- A “private bank account” is dent foreign bank are not defined as an account with a min- General Due Diligence Required. publicly traded, the U.S. imum aggregate deposit of $1 mil- The Act’s provisions strengthen financial institution must lion that is assigned to or managed existing “know your customer” take reasonable steps to by a person who acts as a liaison requirements. Of particular impor- identify each of the owners of tance to financial institutions is sec- the foreign bank and the tion 312 of the Act, which provides nature and extent of each he Act prohibits covered as follows: owner’s interest; Tfinancial institutions from •the U.S. financial institution establishing, maintaining, Each financial institution that must take reasonable steps to administering, or managing establishes, maintains, admin- conduct enhanced scrutiny of correspondent accounts with isters, or manages a private the correspondent account to “shell banks,” which are foreign banking account or correspon- identify suspicious transac- banks that have no physical dent account in the United States tions; for a non-United States person, presence in any jurisdiction. • the U.S. financial institution including a foreign individual must take reasonable steps to visiting the United States, or a ascertain whether the corre- representative of a non-United between a financial institution spondent foreign bank has 12 States person shall establish and the beneficial owner(s). appropriate, specific, and, where correspondent banking The Act was passed amid spec- necessary, enhanced, due dili- relationships with other ulation that the terrorists respon- gence policies, procedures, and foreign banks and, if so, the sible for the 9-11 attacks may have controls that are reasonably U.S. financial institution must received funds in the U.S. that were designed to detect and record identify such other banks and processed through correspondent instances of money laundering conduct general due diligence accounts maintained for banks through those accounts. with respect to them. from countries that may harbor ter- rorists or condone terrorist activi- All correspondent and private Effective December 25, 2001, the ty. In addition, there has been con- bank accounts are subject to these Act prohibits covered financial cern that U.S. banks are establishing requirements, whether such institutions from establishing, correspondent accounts without accounts were opened before or maintaining, administering, or undertaking sufficient due dili- after the enactment of the Act. managing correspondent accounts gence on the non-U.S. bank. The with “shell banks,” which are for- Act’s provisions relating to corre- Additional Requirements for Corre- eign banks that have no physical spondent Accounts. The Act requires presence in any jurisdiction.14 additional measures for correspon- Covered financial institutions are 11 Act section 311, 31 U.S.C. dent accounts of foreign banks that permitted, however, to maintain 5318(e)(1)(B). either are licensed by particular 12 correspondent accounts with shell Act section 312, 31 U.S.C. jurisdictions or operate under off- banks that are affiliated with a 5318(i)(4)(B). 13 shore banking licenses. The specific depository institution, credit The website of the Financial Action jurisdictions targeted by the Act are Task Force maintains a list of jurisdictions union, or foreign bank that main- that are considered of particular concern: those (1) designated by intergovern- tains a physical presence in the U.S. http://www1.oecd.org/fatf/NCCT_en.htm. mental groups (such as the Financial or in another jurisdiction, and the 14 Act section 313(a), 31 U.S.C. 5318(j). Action Task Force) as non-coopera- shell bank must be subject to

26 JOURNAL OF TAXATION OF FINANCIAL INSTITUTIONS May/June 2002 Vol 15 / No 5 supervision by the banking author- tions that may involve proceeds of U.S.18 The summons or subpoena ity that regulates the affiliated foreign corruption. may request records related to the entity. Covered financial institu- correspondent account, “including records maintained outside of the tions are directed to take “rea- ”SPECIAL MEASURES” FOR sonable steps” to ensure that U.S. relating to the deposit of CERTAIN JURISDICTIONS, funds into the foreign bank.” This accounts for foreign banks are FINANCIAL INSTITUTIONS, AND provision, which became effec- not used to indirectly provide INTERNATIONAL TRANSACTIONS tive December 25, 2001, permits 15 banking services to shell banks. Section 311 of the Act provides law enforcement to serve such a On December 28, 2001, Trea- Treasury with the authority to summons or subpoena on a des- sury published notice of proposed impose additional record-keeping ignated agent for service of and reporting obligations on par- rulemaking which seeks to codi- process, thus significantly simpli- ticular financial institutions oper- 16 fy prior interim guidance. In ating outside the U.S.; institutions that notice, Treasury set forth its in particular jurisdictions; types of overed financial institutions expectation that covered financial accounts; and types of transac- Care permitted to maintain institutions will “immediately ter- tions, if Treasury determines that correspondent accounts with minate all correspondent accounts such institutions, jurisdictions, shell banks that are affiliated accounts, or transactions are of with any foreign bank that it with a depository institution, “primary money laundering con- credit union, or foreign bank knows to be a shell bank ... [or] cern.” Treasury must consult with that it knows is being used to indi- that maintains a physical the Federal Reserve Board and presence in the U.S. or in rectly provide banking services to other agencies as appropriate in another jurisdiction, and the a foreign shell bank.” Treasury determining whether to impose shell bank must be subject to also formally proposed to extend such “special measures.” The mea- sures may be imposed by regula- supervision by the banking the prohibition on correspondent tion or by order. However, any authority that regulates the accounts with shell banks to bro- measure other than a regulation affiliated entity. ker-dealers. must expire within 120 days. The types of “special measures” Due Diligence Requirements for Pri- contemplated by section 311 are fying the previously onerous process for obtaining foreign bank vate Banking. The Act specifies maintenance of records and filing of reports with information about records. If a foreign bank fails to minimum standards for private comply with a summons or sub- banking accounts at U.S. institu- transactions, participants in trans- actions, and beneficial owners of poena, the U.S. bank may be forced tions. For all private banking funds involved in transactions. to close the correspondent account accounts maintained by or on “Special measures” could also or face harsh civil penalties of up behalf of non-U.S. persons (includ- require due diligence with respect to $10,000 per day. For foreign ing those opened prior to passage to the ownership of “payable- banks operating in jurisdictions of the Act), the financial institution through accounts” and mainte- must report suspicious transactions nance of information about corre- 15 Treasury is to issue regulations to fur- spondent bank customers that have ther define “reasonable steps.” and maintain records of (1) the 17 access to correspondent accounts. 16 66 Fed. Reg. 67,460 (December 28, names of all nominal and benefi- 2001). cial owners; and (2) the source of 17 A “payable-through account” is funds deposited in those accounts. SUBPOENAS FOR defined as an account, opened at a U.S. FOREIGN BANK RECORDS institution by a non-U.S. financial institu- If a private bank account is main- tion, that is used by customers of the non- tained by or on behalf of a senior The Act provides law enforce- U.S. financial institution to transact direct- political figure or his or her imme- ment with a powerful tool by ly or indirectly banking business in the authorizing the Attorney General United States. diate family members or close 18 or the Secretary of the Treasury to Act section 319(b), 31 U.S.C. associates, the financial institution serve a summons or subpoena on 5318(k). Treasury’s November 27, 2001, must conduct enhanced scrutiny of interim guidance and December 28, 2001, any foreign bank that maintains a notice of proposed rulemaking addressed the account to detect any transac- correspondent account in the this provision as well.

May/June 2002 Vol 15 / No 5 USA PATRIOT ACT 27 with strict laws governing the pri- address, and other identifying al action, termination of the Act’s vacy of bank records, this provi- information; and vetting the per- provisions seems unlikely. sion promises to be controversial. son’s name against lists of terror- ists provided by law enforcement. Final regulations are due by Octo- CONCLUSION VERIFICATION OF IDENTIFICATION ber 25, 2002. The term “account” FOR NEW ACCOUNTS Title III of the Act makes unprece- is not defined by this provision dented changes to the bank secre- Section 326 of the Act requires and, as a result, regulations could cy and money laundering laws Treasury to implement regula- apply this provision broadly to and applies its provisions widely tions “setting forth the minimum include more than simply deposit to cover both traditional financial accounts. institutions and non-bank financial reasury has proposed to institutions such as broker-dealers extend the prohibition on T SUNSET PROVISION and insurance companies. Covered correspondent accounts with shell banks to broker-dealers. Highlighting the controversial financial institutions must be nature of many of the Act’s pro- aware of their new obligations visions, section 303 provides that under the Act’s broad provisions standards for financial institu- on September 30, 2004, the pro- to assist U.S. law enforcement in tions and their customers regard- visions of the Title III of the Act combating international terror- shall expire, but only if Congress ing the identity of the customer.” ism. Whether the Act’s provisions Those minimum standards will enacts a joint resolution to that will achieve this noble goal or include verifying the identity of the effect. Significantly, the Presi- person opening the account; main- dent’s signature is not required. will simply impose additional reg- taining records used to verify the Because the sunset provision ulatory burdens on financial insti- person’s identity, including name, requires affirmative Congression- tutions remains to be seen. ■

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