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Last week, the Treasury Department’s Financial Crimes Enforcement Network (FinCEN) proposed a rule aimed at increasing regulations for financial advisors to prevent criminals, terrorists, and other illicit actors from laundering money through them.
“Investment advisors, in their role as gatekeepers to the U.S. financial system, are at risk of abuse by money launderers, corrupt officials, and other bad actors,” wrote FinCEN. “Thousands of investment advisers overseeing the investment of tens of trillions of dollars into the U.S. economy are generally not subject to comprehensive anti-money laundering and countering the financing of terrorism (AML/CFT) measures.”
The new proposal would change that.
FinCEN proposes that RIAs and exempt reporting advisors (ERAs) — advisors that are not required to register with state or federal regulators but still pay fees and report public information — would now fall under the Bank Secrecy Act. The rule would require that advisors create risk-based AML/CFT programs as well as report suspicious activity to FinCEN and fulfill recordkeeping requirements.
Melissa Goldstein, a former FinCEN attorney and current regulatory lawyer with Schulte Roth & Zabel who focuses her practice on anti-money laundering and sanctions regulatory compliance matters, said the impact on RIAs would be multifold.
“Advisors will now be subject to potential civil enforcement penalties for failure to comply with these AML compliance obligations,” Goldstein told RIA Intel. “In addition, advisors may not be familiar with the requirement to monitor and file suspicious activity reports. And so, monitoring for and filing suspicious activity reports and maintaining the confidentiality of suspicious activity reports will be something new that the industry will need to adjust to.”
Many financial advisors already adopt and implement anti-money laundering programs or have policies and procedures in place that are often administered by third-party organizations. However, the added rules, if adopted, would mean that many RIAs will see increased costs in compliance as well as increased requirements for investment managers beyond what is currently common practice, said Goldstein.
Under the proposed rule, the SEC would have enforcement responsibility, potentially increasing its scope during RIA examinations.
The current use of third-party administrators could potentially be problematic for RIAs if a U.S.-based administrator it uses outsources the work to a company in a foreign jurisdiction.
“There’s language in the proposal that says AML compliance needs to be conducted by persons in the U.S.,” said Goldstein. “If RIAs or ERAs use an administrator and the administrator appears to be a U.S.-based company but the administrator in turn outsources the work to an affiliate that’s located in a foreign jurisdiction, it’s not clear whether that would be permitted under the proposal.”
Currently, the rule is open for comment until April 15, 2024. Goldstein said FinCEN wants feedback on the extent to which an RIA or an ERA must have oversight over the work conducted by the administrator and how to effectively delegate AML compliance to a service provider.
The rule is decades in the making. A version of it was first proposed in 2002, withdrawn in 2008, and then re-proposed in 2015 but never finalized. Goldstein said she believes this new proposal will be different.
“I think it’s likely that this proposal will become finalized,” said Goldstein. “FinCEN is under pressure from Congress to pass this rule, and in Treasury’s annual risk assessment, it identified money laundering and terrorist financing risks posed by the private fund industry.”
The Treasury’s 2024 risk assessment specifically stated that investment advisors have served as a point of entry into the U.S. for “illicit proceeds associated with foreign corruption, fraud, and tax evasion, as well as billions of dollars ultimately controlled by Russian oligarchs and their associates.”
The assessment also alleged that U.S. VC funds had been used by China and Russia to access technology with “national security implications” and that advisors themselves have defrauded clients.
If finalized, advisors will have 12 months to get in compliance before the rule goes into effect.
Ultimately, Goldstein believes the proposal will be a good thing if one with increased costs for advisors.
“The industry already does much of what is required, and this formalizes the effort that this industry puts in to ensure that it is not abused or used by money launderers and terrorist financiers,” said Goldstein.
