On February 16, 2012, the Financial Action Task Force (FATF), the global standard setter in the fight against money laundering and terrorist financing, released revised FATF Recommendations through the publication of the International Standards on Combating Money Laundering and the Financing of Terrorism & Proliferation – The FATF Recommendations.
In addition to consolidating the FATF's 40 Recommendations on Money Laundering and 9 Special Recommendations on Terrorist Financing, the revised Recommendations are intended to fully integrate counter-terrorism financing measures with anti-money laundering controls and have been expanded to deal with new threats such as the financing of proliferation of weapons of mass destruction and to address new priority areas such as the laundering of the proceeds of corruption and tax crimes. This most recent update to the FATF standards follows an extensive review and consultation process with member countries that began in June 2009 and includes revisions made with input from governments, the private sector, and various other stakeholders.
In response to key issues arising from the extensive public consultations, the FATF made a number of significant changes to the FATF standards to reflect practices in the financial sector, to set out clearer requirements for regulated entities and to apply the experience gained from the implementation of the FATF Recommendations by member countries. The main changes to the existing Recommendations are set out below.
The Risk-Based Approach
This new Recommendation encourages countries and regulated entities to identify, assess and understand the money laundering and terrorist financing risks they face in order to ensure that the measures they implement to prevent or mitigate money laundering and terrorist financing are commensurate with the risks identified. The risk-based approach is intended to ensure that regulated entities apply their resources more efficiently. Pursuant to this approach, where the risks identified are higher, enhanced measures to manage and mitigate the risks should be used, and correspondingly, where the risks are lower, regulated entities should have the flexibility to apply simplified measures in appropriate circumstances.
In Canada, the risk-based approach is an integral part of the compliance regime of every reporting entity that is subject to the Proceeds of Crime (Money Laundering) and Terrorist Financing Act and related Regulations (the AML Legislation). Canadian reporting entities are required to perform a risk assessment to analyze the potential threats and vulnerabilities of their business to money laundering and terrorist financing risks and to develop strategies to mitigate such risks. Reporting entities are then required to use "reasonable measures" to conduct enhanced due diligence for high-risk clients and situations and to monitor financial transactions in circumstances that have been identified by the reporting entity as being high risk for money laundering or terrorist activities.
However, while Canada's current AML Legislation encourages reporting entities to utilize the risk-based approach to allocate their resources to focus on higher risk situations, certain amendments proposed by the Minister of Finance in the November 7, 2011 Consultation Paper (the November Consultation Paper) appear to be somewhat inconsistent with the notion of allowing regulated entities to have the flexibility to apply simplified measures in appropriate circumstances. For example, the November Consultation Paper recommends extending ongoing monitoring obligations not only for high-risk clients but also for any clients and activities to which the legislation applies.
In an effort to make it more difficult for criminals and terrorists to conceal their identities or hide their assets behind legal persons and arrangements, the FATF has strengthened its existing recommendations to require regulated entities to gather reliable information regarding beneficial ownership and control of companies, trusts and other legal persons or legal arrangements. Specifically, the Interpretative Notes to the revised Recommendations, which provide examples of the various identification documents that can be used to identify legal persons in connection with various arrangements, are intended to encourage regulated entities to implement mechanisms to require reliable, current and accurate information regarding the beneficial ownership of legal persons and legal arrangements. By way of example, for trusts, the revised Recommendations require trustees to obtain and maintain adequate, accurate and current beneficial ownership information, including information on the identity of the settler, the trustee(s), and the protector (if any), the beneficiaries or class of beneficiaries, and any other natural person exercising ultimate control over the trust (including through a chain of control/ownership). Trustees should also be required to hold basic information on other regulated agents of, and service providers to, the trust, including investment advisers or managers, accountants, and tax advisers. The revisions also require trustees to disclose their status as trustee when entering into a relationship with a regulated entity.
As currently drafted, Canada's AML Legislation imposes prescriptive requirements on reporting entities with respect to the type of information they must obtain and retain in order to verify the identity of customers that are corporations, trusts or other entities. Moreover, pursuant to the November Consultation Paper, the Minister of Finance has proposed amendments to the AML Legislation to further clarify the requirement to collect beneficial ownership information on trusts. The proposed changes, which are consistent with the revisions in the Recommendation noted above, would require reporting entities dealing with trusts to collect information in respect of the beneficiaries of the trust (i.e., those which are identifiable) as well as the trust's settler(s) and trustee(s).
In light of the revised Recommendation, it is now more likely that the changes proposed to the beneficial ownership information required in respect of trusts will become new requirements imposed on Canadian reporting entities. In addition, given the FATF's emphasis on transparency of legal persons and arrangements, it is also likely that any amendments to the AML Legislation will incorporate additional measures that would make it more difficult for criminals and terrorists to conceal their identities or hide their assets behind legal persons and arrangements.
Customer Due Diligence
While the FATF Recommendations regarding the customer due diligence process are not new, the revised Recommendations are clearly more prescriptive as to the specific steps financial institutions and other regulated entities should take when conducting due diligence, particularly for higher risk dealings with particular customers and cross-border correspondent banking and other relationships. In appropriate circumstances, where the risks of money laundering or terrorist financing are risk-rated to be lower, the revised Recommendations suggest that regulated entities could be allowed to conduct simplified due diligence measures, which take into account the nature of the lower risk. The revised Recommendations also clarify how customer due diligence measures can be applied in circumstances where there are practical difficulties with implementation. For example, in recognition of the fact that it may not always be possible to identify the natural person who is the ultimate beneficial owner when dealing with legal persons or arrangements, the revisions clarify the due diligence measures that would be appropriate in those circumstances. By way of example, according to the Interpretative Notes, when dealing with a customer who is a legal person, a financial institution should first try to identify the natural persons who ultimately have a controlling ownership interest; but if there is doubt over whether such persons hold the beneficial ownership, or when no such natural persons can be identified, the financial institution should aim to identify if there are other natural persons who may exercise control over the customer through means other than shareholding. If these measures fail to identify a natural person exercising such controls, the financial institution should then take reasonable steps to identify the natural person holding a senior management position. With respect to customer due diligence measures in the life insurance sector, in response to industry concerns and extensive public consultations, the FATF has recognized that there should be a clear distinction between a beneficiary of a life insurance policy and the beneficial owner, and that verification of beneficiaries may not always be possible at the beginning of the business relationship. As a result, the Recommendations have been revised to clarify the customer due diligence measures required, and to stress that verification of the beneficiaries need only occur at the time of the payout. According to the revised Recommendations, in addition to conducting due diligence for the customer and beneficial owner, reasonable measures should be taken to identify and verify the beneficiary(ies) of life insurance and other investment-related insurance policies (including whether the beneficial owner is a politically exposed person) as soon as the beneficiary(ies) are identified/designated, which is likely to occur at the time of the payout.
Canada's AML Legislation currently requires reporting entities, in prescribed circumstances, to take reasonable measures to obtain and retain the following beneficial ownership information in respect of customers that are corporations, entities or trusts: the name, address and occupation of all persons who own or control, directly or indirectly, 25% or more of the entity. In the event that beneficial ownership information cannot be obtained, the legislation allows reporting entities to keep a record as to why such information could not be obtained.
However, proposed amendments to the AML Legislation introduced as part of the November Consultation Paper seek to remove the requirement to take "reasonable measures" to obtain beneficial ownership information and instead make the collection of this information mandatory. The proposed amendments also require reporting entities to take reasonable measures to identify the individual beneficial owner(s), despite the fact that this proposal may prove to be particularly difficult for non-Canadian beneficial owners given that the current verification of identity methods set out in the AML Legislation for non-face-to-face transactions is very Canadian-focused.
As a result, while the current Canadian AML Legislation recognizes the difficulty in obtaining beneficial ownership information in certain circumstances and therefore allows reporting entities to take "reasonable measures" to obtain this information, the amendment proposed in the November Consultation Paper is somewhat inconsistent with the more practical revisions to the customer due diligence provisions in the revised Recommendation.
The revised Recommendations impose more rigorous requirements on financial institutions with respect to the launch of new products, business practices or the use of new or developing technologies. While the previous Recommendation required financial institutions to "pay special attention to any money laundering threats that may arise from new or developing technologies that might favour anonymity, and take measures, if needed, to prevent their use in money laundering schemes and to have policies and procedures in place to address specific risks associated with non face-to-face business relationships or transactions", the revised Recommendations require the financial institution to undertake a risk assessment prior to the launch of the new products, business practices or the use of new or developing technologies. Specifically, the revisions require the financial institution to identity and assess the money laundering or terrorist financing risks that may arise in relation to (a) the development of new products or new business practices, including the new delivery mechanisms, and (b) the use of new or developing technologies for both new and pre-existing products. Pursuant to the revisions, financial institutions are also required to take appropriate measures to manage and mitigate those risks.
While these changes to the revised Recommendation are not currently part of Canada's AML Legislation, as part of their regulatory compliance obligations, Canadian federally regulated financial institutions (FRFIs) are required by the federal regulator, the Office of the Superintendent of Financial Institutions (OSFI), to establish and maintain a legislative compliance management (LCM) process. The LCM process is an enterprise-wide framework of regulatory risk management controls through which FRFIs can manage their exposure to financial and other risks inherent in their activities, including their susceptibility to being used by individuals or organizations to launder funds or to finance terrorist activities. As part of the LCM process, FRFIs are required to identify and self-assess the types of risk they are exposed to and to adopt a risk-based approach to focus their resources on areas of higher risk. While not specifically prescribed, this would include conducting a risk assessment regarding business and legal risks relating to the launch of new products, business practices and the use of new or developing technologies.
While OSFI's expectations and the regulatory compliance obligations imposed on FRFIs are consistent with FATF standards, it will be interesting to see whether the changes proposed in the revised Recommendations will also become part of Canadian AML Legislation.
The scope and application of international co-operation between authorities has also been enhanced to provide mechanisms for the more effective exchange of information for investigative, supervisory and prosecutorial purposes. However, while international co-operation is encouraged to assist countries in tracing, freezing and confiscating illegal assets that are the proceeds of crime, in light of confidentiality and privacy concerns, the requirement for international co-operation only requires co-operation under appropriate conditions with the assurance of confidentiality. Pursuant to the revisions, co-operating authorities would therefore be able to refuse to co-operate if there are serious and valid concerns over the ability of the requesting party to protect the confidentiality of the information requested.
These revisions are consistent with Canadian AML Legislation which contains provisions regarding the disclosure of information to both Canadian authorities as well as foreign agencies. The legislative provisions specifically address privacy concerns and clarify the instances where information requested by a domestic or foreign authority can be provided as well as the circumstances under which an information request can be declined.
Pursuant to the existing Recommendations, countries are permitted to impose a range of sanctions (whether criminal, civil or administrative) on "natural or legal persons covered by the Recommendations" for failure to comply with anti-money laundering and anti-terrorist financing requirements. The revised Recommendations extend the application of sanctions so that they apply not only to regulated entities, but also to their directors and senior management.
In Canada, the penalty provisions under Canadian AML Legislation already impose sanctions for non-compliance with the legislation on "any person or entity" that contravenes a requirement under the legislation. More specifically, Canadian AML Legislation provides that if a reporting entity commits an offence under the legislation, "any officer, director or agent of the person or entity who directed, authorized, assented to, acquiesced in or participated in its commission is a party to and guilty of the offence and liable on conviction to the punishment provided for the offence", whether or not the reporting entity has been prosecuted or convicted.
Corruption and Politically Exposed Persons (PEPs)
In an effort to strengthen the requirements on financial institutions to identify PEPs, in addition to identifying foreign PEPs, the Recommendations have been expanded to require financial institutions to apply enhanced due diligence measures to determine whether a customer or beneficial owner is a domestic PEP or a PEP from an international organization. The PEP requirements have also been broadened to apply to family members or close associates of such PEPs.
Under the existing Canadian AML Legislation, the PEPs requirement only applies in respect of foreign PEPs and their family members. However, pursuant to a Consultation Paper released by the Department of Finance on December 21, 2011 (the December Consultation Paper), the government has proposed significant amendments to the existing regime including expanding the current definition of a "politically exposed foreign person" to include the "close associates" of such persons. Nevertheless, although this proposed amendment would be consistent with the revised Recommendation, in order to bring Canada's AML Legislation into alignment with the revised FATF standards regarding PEPs, additional amendments to the legislation would be required to impose requirements on reporting entities in respect of domestic PEPs.
The revised Recommendations also address the following new and emerging threats.
Financing of Proliferation
The FATF has adopted a new Recommendation aimed at combating the financing of the proliferation of weapons of mass destruction through the consistent implementation of targeted financial sanctions when these are called for by the UN Security Council.
As a member of the United Nations, Canada has a legal obligation to take all necessary measures to give effect domestically to all decisions or resolutions passed by the UN Security Council. In accordance with its international obligations, the Government of Canada has over the years enacted a number of different Canadian statutes and regulations that implement economic and other sanctions against certain countries, individuals and groups. These sanctions, which are intended to apply pressure on the designated country, group or individual to comply with international objectives relating to peace and security, comprise a wide variety of measures, from travel bans to the imposition of legal restrictions and prohibitions on trade or other economic activity, and include measures that are consistent with the revised Recommendation regarding the importance of combating the financing of the proliferation of weapons of mass destruction. By way of example, Canada's Regulations Implementing the United Nations Resolution on Iran (the Resolution) provide that no person in Canada and no Canadian outside Canada shall knowingly sell, supply or transfer, directly or indirectly, to any person in Iran or for the benefit of Iran any nuclear-related products, materials, equipment or technology specifically identified in the Resolution or identified by the Committee of the Security Council or by the Security Council of the United Nations.
In an effort to address concerns and growing threats over the laundering of funds obtained as a result of, or in connection with, tax crimes, the list of predicate offences for money laundering has been expanding to include serious tax crimes.
Although the inclusion of tax crimes to the list of predicate offences for money laundering is a new addition to the revised Recommendations, in Canada, tax evasion became a predicate offence to money launder and terrorist financing in 2011.
It is clear that the revisions to the FATF standards are intended to provide governments with a stronger framework to act against criminals by clarifying and strengthening the existing obligations, addressing new threats to the international financial system and providing authorities with an enhanced arsenal of safeguards to counter the evolving threats posed by money laundering, terrorist financing, and the financing of proliferation of weapons of mass destruction.
Although not legally binding, FATF Recommendations are considered the foundation for Canadian AML Legislation. As a founding member of the FATF, the Government of Canada has, over the years, made significant changes to strengthen Canada's anti-money laundering (AML) and anti-terrorist financing (ATF) regime in response to FATF Recommendations and it is therefore very likely that a number of notable changes in the revised Recommendations will impact future developments in the Canadian AML/ATF legal landscape including recent changes proposed in the November and December Consultation Papers.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.