The UK’s financial regulator, the Financial Services Authority warns that private banks operating out of the UK should be more vigilant about the risk of money laundering.

The UK’s financial regulator, the Financial Services Authority warns that private banks operating out of the UK should be more vigilant about the risk of money laundering as London’s, and the UK’s, position as an international financial centre continues to grow. In a report published this month, Review of Private Banks’ Anti-money Laundering Systems & Controls, the FSA said customers, inevitably including some criminals, see London as a convenient and increasingly important centre for conducting financial transactions. The ability to differentiate legitimate from suspicious activity will become more of a challenge as global financial markets expand and both the markets and criminals become increasingly sophisticated, said the regulator. And private banks must continue to develop high anti-money laundering standards and operate robust controls based on reliable and up-to-date due diligence, close links between Know Your Customer information and transaction monitoring and a robust ethical stance and oversight of controls by senior management. “As more and more wealthy Russians pour into London, or 'Switzerland on Thames' as it is beginning to be called, the UK’s financial regulator is turning its attention to the private banks that service them,” Chris Hamblin editor of Complinet Money Laundering told WealthBriefing. “This is the 'risk-based approach' in action. The regulators pulped their money laundering rules last year and are therefore loath to commit themselves to specifics. A vague dissatisfaction with the efforts of private banks nonetheless oozes from the report,” he said. Overall the FSA found that the private banks acknowledged the relatively high inherent money laundering risk within many of their business activities and recognised the need to develop and implement strong AML systems and controls to address areas of their business activities which were relatively vulnerable to money laundering. But the report also raises a number of specific issues on aspects of AML within the firms visited, which it listed as follows: Reputational Risk Private banks link financial crime and reputational risk considerations when deciding whether to enter into or continue with a customer relationship. The FSA said it would be concerned if a firm’s assessment of reputational risk resulted in a lowering of its standards in relation to financial crime. Changes to Risk Profiles Firms should be more proactive in anticipating the risks, which may arise from changes to their business models. The ability to do this relies on money laundering reporting officers and others with AML control responsibilities being sufficiently aware of business developments and ensuring that improvements to the control environment are made in a timely manner and supported with adequate resources. Applying The Risk-Based Approach Private banks should be in a good position to implement an effective risk-based approach to AML due to their close relationship with clients and relatively comprehensive view of customers’ financial activity. The 2006 JMLSG Guidance Notes appeared to have given private banks more confidence to continue to develop alternative judgment-based verification and due diligence procedures rather than lower their standards. Senior Management Oversight and Control Given the potentially high-risk client base and private banking’s attractions to money launderers, the level of senior management’s risk appetite for taking on new business, and support for an effective AML control framework, ultimately determine the level of a firm’s exposure to money-laundering risk. But the FSA saw examples within large, internationally active groups of some AML responsibilities not being clearly attributed, including an historic failure to ensure that accounts which were (partly) relationship managed from the UK but booked overseas were treated for control purposes as UK accounts, and a failure by management to allocate responsibility for the effectiveness of an automated monitoring system. The level of involvement in, and influence over, day-to-day AML controls by MLROs was however good, said the FSA. Relationship Managers The inherent risks associated with relationship managers having close relationships with customers will always exist in private banking. These strong relationships serve to both enhance the AML control environment, but also potentially increase the risks of conflicts of interest, collusion or RMs being subject to undue influence by the client. Improvements to customer due diligence would improve the transparency of customer information within firms and prevent potentially suspicious information being hidden by RMs. Given the key controlling role performed by RMs, it would also be appropriate for firms to provide RMs with more “valued added” specialist AML training than is currently delivered. Customer Due Diligence The FSA acknowledged that customer due diligence at private banks cannot be a formulaic process and that it is an inherently judgmental process. But, it said, firms must have mechanisms to ensure that these judgments are applied consistently and are guided by clear standards, sufficiently detailed guidelines and effective training. While risk-based KYC and enhanced due diligence procedures were in place and being applied at all the firms visited by the FSA, it found that firms could do even more to gather, verify and record client KYC and due diligence information and to monitor the adequacy of this on an ongoing basis. The FSA did not advocate an increase in procedural form filling, but firms should perform more analysis of the “story” behind each client and document this in a systematic way. Firms that used standard pro-forma documents to collate KYC information were in a better position to ensure that information was recorded consistently. And it was easier for them to satisfy their required standard of due diligence, without compromising relationship managers’ flexibility to record and verify information to a standard that was appropriate for the client concerned. Any exceptions or overrides could be more easily identified. Reliance on Others Although in many cases assurance could be gained from the introduction role performed by professional advisors, firms should be careful to ensure that each case is assessed on its merits and, if appropriate, further independent enquiries are made. The FSA did not see any examples of firms systematically reviewing introduced business to ensure it was reasonable to rely on introductions, but held that this could be appropriate in some circumstances to avoid complacency. The firms reviewed were generally unwilling to rely on introduction certificates, from other UK regulated firms or overseas firms within their own group, as forms of client identification. This reflected a desire to retain full control of the AML risk management process. This stance, said the FSA, was unlikely to be changed by the Third EU Money Laundering Directive; despite the opportunities the Directive gave for reliance to be placed on third parties. Approval of customer relationships, Including High Risk Customers The FSA observed some differences in firms’ risk appetite for dealing with potentially high-risk overseas clients, in particular from Russia. The FSA recognised that, within certain boundaries, firms were free to determine the amount of risk they are exposed to, but said they should ensure that these decisions are subject to thorough reviews at appropriate senior levels within firms. Periodic reviews of customer relationships should consider KYC information to establish if it remains current and whether the existing risk classification of the customer remains appropriate. They should also establish whether the conduct of the account constitutes suspicious activity, be subject to a process of independent review, require senior business line and control function management approval and in the case of high risk customers – including politically exposed persons – be governed by documented standards and guidelines. Monitoring Private banks are, in general, in an inherently stronger position than other financial services firms to determine whether customer activity is legitimate and consistent with an expected pattern of behaviour. The FSA said it expected private banks to have clearly defined policies and procedures to show how and when monitoring should be carried out by RMs, or other team members, and to whom issues should be escalated. But in some cases, it observed that the criteria for deciding whether to exit a customer relationship were not sufficiently clear in firms’ policies and procedures. This could potentially lead to inconsistent decision-making and the effectiveness of monitoring, including the follow-up and investigation of unusual or potentially suspicious activity, will be reduced if there is high turnover amongst RMs or the ratio of customers to RMs is high. Suspicion Reporting Given the relatively low volumes of suspicious activity reports made by private banks, the FSA believes MLROs should be closely involved in the suspicion reporting process. This includes being responsible for reviewing all or a selection of internal suspicion reports which the firm decides to send – or not – to the Serious Organised Crime Agency. The FSA did not consider the low volumes of SARs necessarily to be an indicator that firms are failing to identify suspicious activity. Low volumes, it said, could reflect robust due diligence during the account opening process, although at larger more diverse firms, where RMs are less familiar with their customers, low volumes of SARs could potentially be more of a concern. “The central compliance problem at these banks, as ever, is the fact that the very relationship managers who sell financial products to the rich are supposed to police their accounts and be a 'front-line defence against money laundering’,” said Complinet’s Mr Hamblin. “These salesmen, in reality, will always see compliance departments as anti-business units. In this context the FSA's report praises many firms that ‘had independent levels of control over the relationship managers’, whatever that might mean. This cannot change the uncomfortable truth that few ultra-high net worth people attain their enormous wealth without breaking laws, especially if they come from the old Soviet bloc. “The report's primary value is that officialdom is now being seen to be doing something about this ‘high risk’ area. It has come none too soon. The UK's tax regime is especially lenient towards non-domiciled residents and this has helped fuel an incredible growth in Britain's super-rich population, especially in London. This has attracted criticism. The International Monetary Fund has recently classified Britain as an offshore financial centre – whose wings should doubtless be clipped, according to a coalition of governments that the Norwegians are organising. “The aim of this global coalition, according to its founders, is to 'facilitate the recovery of assets illicitly stacked away in tax havens’, with London the first in the firing line. It is a cruel fate for a country that has done more than most to encourage swingeing measures against laundrymen, terrorist financiers and corrupt potentates,” he added.