Tomorrow is D-Day for the finance industry, particularly banks and most traditional financial institutions.
It is D-Day because the Anti-Money Laundering and Countering Financing of Terrorism Act 2009 (AML) comes into force and this legislation will have a major impact on the way we interact with financial institutions.
From tomorrow financial institutions will be required to undertake due diligence on all new customers, particularly trusts, and ongoing due diligence on existing customers.
Trusts will also be required to reveal the source of their funds.
The new AML requirements will create tension between finance industry employees and their clients. No one wants to have to prove who they are, particularly when they have been customers for a long period of time, or be asked about the structure of their trust or source of its funds.
Even though we are lagging well behind the rest of the world as far as anti-money laundering regulation is concerned many New Zealanders believe that the AML Act has gone too far, it is using a sledge hammer to crack open a nut.
An appropriate way to explain the new regime is that our financial institutions are being required to adopt security procedures to counteract fraud and terrorism that are similar to the security checks at airports. These airport checks apply to everyone, they are a pain in the butt but are a feature of modern society.
The best way to deal with the frustrations of the new AML regime is to understand how it works and avoid becoming too frustrated when subjected to its scrutiny.
Money laundering is the term given to the process by which criminals introduce the proceeds of a crime (from drug trafficking, arms trafficking, human trafficking, illegal fishing, fraud, tax evasion, corruption or other sources) into the financial system so that they are indistinguishable from legitimate funds. In simple terms it is the attempt to turn “dirty” money into legitimate funds.
Money is laundered primarily through banks, insurance companies, currency exchanges, the securities industry, casinos and through the purchase of motor vehicles, real estate, jewellery and gold.
There are a number of ways that money is laundered but these are the three generally accepted stages:
• The Placement Phase – This is the transaction whereby the physical cash from the proceeds of a crime or a fraud is introduced into the banking system.
• The Layering Phase – Once the cash has been introduced into the financial systems the criminals start moving it around and around as fast as possible so that it is extremely difficult to track its origins. This layering phase includes moving funds across borders and through numerous currencies.
• The Integration Phase – This is where the money has been “cleaned” and is used for legitimate purposes, including long-term investments.
The layering phase demonstrates why financial institutions have to check unusual fund flows even though they might come directly from another financial institution.
Stockbrokers and investment managers will be required to ask trusts for the original source of their funds even though these funds may have been received directly from a major bank.
New Zealand is seen as the country of choice for international criminals because of our relatively lax rules and regulations.
In 2010 the Financial Intelligence Unit of the NZ Police estimated that approximately $1.5 billion was laundered through the country every year. The following year the EU struck New Zealand from its so-called “white list” because we had only minimal customer due diligence as far as financial transactions were concerned and in 2012 the World Bank ranked New Zealand as the easiest country in which to register a new company.
For example, Geoffrey Taylor, a Queensland resident, registered over 1000 New Zealand shell companies, many through Vanuatu. In December 2009 one of these companies, SP Trading, leased a plane that was caught transporting 35 tonnes of weapons and explosives from North Korea to Iran.
SP Trading’s address was a rented Salvation Army-owned building in Auckland and its sole director was Lu Zhang who worked at a nearby Burger King fast-food restaurant.
She was a director of 87 NZ companies and later revealed that she received about $20 for each of these directorships.
Taylor, also known as Professor Geoffrey Taylor, Sir Geoffrey Taylor and Lord Stubbington, was involved in a large number of companies in Panama, Vanuatu, United Kingdom, Hong Kong, China, Canada, Belize, Samoa, the Cook Islands, Russia and the United States.
Taylor was also chairman of Sunseeker Energy (Australasia) which was listed on the Alternative Market of the NZX and had the same Auckland address as SP Trading and hundreds of other Taylor companies.
Sunseeker, which had a sharemarket value in excess of $18 million in 2009, was delisted by the NZX the following year “due to repeated infringement of the rules, failure to provide any information to the NZAX market regarding its business or operations [and its] own admission that it is insolvent”.
The Geoffrey Taylors of the world have been the catalysts for anti-money laundering legislation just as the 9/11 New York bombers have led to tighter airport security and other anti-terrorism initiatives.
Our AML legislation will be supervised by the following government agencies:
• The Reserve Bank of New Zealand (RBNZ) will supervise banks, life insurers and non-bank deposit takers.
• The Financial Market Authority (FMA) will be responsible for issuers of securities, trustee companies, futures dealers, investment managers, stockbrokers and financial advisers.
• The Department of Internal Affairs will oversee casinos, non-deposit taking lenders, money changers and other reporting entities not supervised by the RBNZ or FMA.
One of the main features of the act is Section 11 “Customer due diligence”. Under this requirement a financial institution will have to undertake due diligence on “(a) a customer: (b) any beneficial owner of a customer: and (c) any person acting on behalf of a customer”.
There are two main types of due diligence, standard due diligence and enhanced due diligence.
Standard due diligence, which applies to individuals, is fairly relaxed as it only requires the recording of a person’s full name, date of birth, address or registered office and company identifier or registration number.
These documents must be verified by a trusted referee.
Enhanced due diligence – which applies to all trusts, to many non-residents, to companies with nominee shareholders or customers who are “a politically exposed person” – is a much bigger issue. This is because under Section 23 (a) of the act enhanced due diligence customers are required to provide “information relating to the source of the funds”.
The requirement to disclose the source of funds will cause a great deal of friction between financial institutions and clients who deposit money through their trusts or through companies with nominee shareholders. It could also create considerable tension with “politically exposed” persons.
The definition of a “politically exposed person” is wide as it includes: senior politicians, senior civil servants; senior members of the armed forces, judiciary and police force; embassy and consular staff; senior executives and board members of state-owned enterprises; religious leaders, union officials, city mayors and family members and associates of all these groups.
The AML Act is an important initiative but it will not have a major impact on individuals who deposit or invest money in their own name, unless they undertake a large number of unusual transactions. However, it will have a much bigger impact on trusts and “politically exposed” persons as their disclosure requirements will significantly increase.