Federal officials have revived efforts to impose anti-money laundering rules on investment advisers— the gatekeepers of a market worth more than $110 trillion—to plug a widely acknowledged regulatory gap through which large sums flow into the U.S. with little, if any, oversight.
Within the past few months, officials with the Treasury Department’s Financial Crimes Enforcement Network have made informal contacts with the Investment Adviser Association about plans to discuss extending AML obligations to the industry, Gail Bernstein, general counsel for the Washington, D.C.-based trade organization, told ACAMS moneylaundering.com.
“FinCEN is actively collecting information,” she said. “They’re working on, or at least thinking about doing the preliminary work.”
The industry includes hedge funds, private equity companies and other parties that recommend specific investment strategies to clients and often directly manage assets on their behalf.
Advisers with more than $100 million under management are generally required to register with the Securities and Exchange Commission pursuant to rules designed to prevent fraud and protect investors.
FinCEN proposed seven years ago to regulate the 11,000 investment advisers registered in the U.S. at the time, a move that would have required them to file suspicious activity reports on possibly illicit transactions.
The bureau planned to impose know-your-customer requirements on investment advisers in a separate proposal and delegate authority to examine them to the SEC, but the initiative’s prospects dimmed in January 2017 after the White House under then-President Donald Trump halted the development and finalization of new regulations.
President Joe Biden followed suit with a regulatory moratorium of his own in January 2021, and the proposal expired after five years on the shelf. As a result, investment advisers must comply with U.S. sanctions but remain exempt from know-your-customer and other AML requirements.
“There were a number of things that held this up,” said Joshua Kirschenbaum, a former investigator at FinCEN’s Office of Special Measures who supervised complex global money-laundering investigations in the Office of Special Measures. “It’s unfinished business.”
The Financial Action Task Force, an intergovernmental group that promulgates and monitors compliance with AML standards, identified investment advisers as one of the “significant gaps” in the U.S. framework against illicit finance following an onsite evaluation in 2016.
Federal investigators have outlined at least three cases in which “threat actors” appeared to have circumvented U.S. AML rules by routing their funds through unregulated investment markets. “Hedge funds and private equity firms have been used to facilitate transactions in support of fraud, transnational organized crime and sanctions evasion,” the FBI warned two years ago.
Since the 2015 proposal’s withdrawal, national security concerns appear to have outpaced resistance against perceived over-regulation.
In December 2021, 20 years after the Patriot Act first directed Treasury to extend AML rules to the $11 trillion private investment sector, the Biden administration again called for the imposition of “minimum reporting standards for investment advisers and other types of equity funds” and disclosed plans to revisit FinCEN’s 2015 proposal.
Congressional impatience with the still-unaddressed gap finally bubbled to the surface in March, with Sens. Elizabeth Warren (D-MA) and Sheldon Whitehouse (D-RI) warning in a letter that “by granting unfettered, anonymous access to America’s lucrative private financial markets, the United States is enabling and legitimizing foreign corrupt and criminal actors.”
FinCEN Acting Director Himamauli Das told lawmakers the following month that the bureau had begun investigating “how Russian elites, proxies, and oligarchs may use hedge funds, private equity firms and investment advisers to hide their assets,” a process he described as essential preparation for a potential rule for investment advisers.
A spokesperson for FinCEN told moneylaundering.com in an email that the bureau continues to consider next steps, but declined to provide further details or a timetable for a proposal.
The contours of any new rule will probably depart from those of the 2015 version, which outlined a gradual, multi-agency approach to regulating the industry for AML purposes.
“We hope FinCEN is trying to understand where the risks are, and where the risks are not,” said Bernstein, general counsel for the Investment Adviser Association, which wants a targeted, narrowly defined rule.
FinCEN acknowledged in the 2015 proposal that investment advisers typically work with companies already subjected to AML rules—namely brokerages and banks. But the bureau also determined that a potential still exists for criminals to use investment advisers to avoid detection by AML-regulated institutions, justifying a broad application of the rule.
Transparency International Director Gary Kalman said the U.S. private investment sector, which includes trillions of dollars of commercial real estate, privately held industrial firms and other non-publicly traded investments, presents the highest risk for large-scale attempts to launder embezzled cash and other illicit proceeds.
“When you’re stealing millions or billions of dollars, you need to have a sophisticated investment strategy,” Kalman said, adding that the sums involved in state-level corruption and cartel-scale drug trafficking require access to a large investment market.
Contact Fred Williams at email@example.com
|November 7, 2022