United States: FinCEN To Impose Broad AML Obligations On Investment Advisers

For many years, key U.S. anti-money laundering laws (in particular, rules under the Bank Secrecy Act) have applied to financial institutions other than investment advisers. This may soon change.

On February 13, 2024, the Financial Crimes Enforcement Network ("FinCEN") proposed a rule (the "Proposed Rule") that would extend various anti-money laundering ("AML") and countering of terrorism financing ("CFT") obligations to investment advisers.

Background

FinCEN has tried several times to subject investment advisers and private funds to AML/CFT regulations. These efforts have been unsuccessful, partly because client funds and securities are typically custodied and transferred through other regulated financial institutions (in particular, banks and broker-dealers), not investment advisers.

This time, FinCEN's proposal refers extensively to risks raised in the Treasury Department's 2024 risk assessment of the investment adviser industry. For example, the Proposed Rule argues that the anonymity of private funds makes them appealing investments to investors with illicit proceeds. Additionally, Russian elites use private funds to obscure ownership of U.S. assets, while Chinese and other foreign state actors may use funds to access sensitive technology. FinCEN also notes that investment advisers are increasingly mentioned in suspicious action reports.

FinCEN has issued the Proposed Rule to address these 'regulatory gaps.'

Summary of Proposed Rule

The Bank Secrecy Act ("BSA") requires financial institutions to comply with a wide range of AML/CTF obligations. The Proposed Rule would apply many of these obligations to SEC-registered investment advisers and exempt reporting advisers ("Advisers") – including private fund advisers and venture capital fund advisers – by adding them to the definition of "financial institution" in the BSA rules.

Under the Proposed Rule, Advisers would need to:

1. Maintain an AML/CFT program.

Advisers would need to implement a risk-based AML/CFT program, approved in writing by the Adviser's board of directors. The Adviser would also need to:

• Conduct independent testing of the AML/CFT program.
• Designate an AML compliance officer.
• Conduct ongoing employee AML training.
• Implement a customer due diligence program that includes developing a customer risk profile, conducting ongoing monitoring, and maintaining current client information.
• Consider AML/CFT risks relating to private funds, even if the primary risks arise from investors who are not clients of the Adviser.

2. File SARs with FinCEN

Advisers would need to file Suspicious Action Reports with FinCEN if:

• A transaction is conducted or attempted by, at, or through the Adviser;
• The transaction involves $5,000 in the aggregate; and
• The Adviser knows, suspects or has reason to suspect that the transaction (i) facilitates money laundering or other criminal activity, or involves funds derived from illegal activity, (ii) is designed to evade BSA requirements, or (iii) has no business or apparent lawful purpose, and no reasonable explanation is available upon examination.

3. Comply with other generally applicable AML obligations.

Advisers would need to comply with other BSA obligations applicable to financial institutions. For example, Advisers would need to:

• File a Currency Transaction Report for currency transactions over $10,000.
• Retain information relating to transmittals of funds of $3,000 and pass such information to other financial institutions.
• Maintain procedures relating to suspected terrorists or money launderers.
• Maintain procedures relating to correspondent accounts of foreign financial institutions and private banking accounts of non-U.S. persons.
• Maintain procedures to share information with FinCEN, law enforcement agencies, and certain financial institutions.

Delayed Obligations

Unlike many other financial institutions, advisers would not be required to implement a Customer Identification Program, which FinCEN plans to address through future joint rulemaking with the SEC.

Additionally, FinCEN will delay requiring advisers to identify beneficial owners of legal entity clients until it revises its Customer Due Diligence Rule pursuant to the Corporate Transparency Act. (For more information about the Corporate Transparency Act and how it applies to most regular companies, take a look at our prior alert).

Implementation

The Proposed Rule is open for comments until April 15, 2024. If adopted, RIAs/ERAs will be required to comply with the final rule before 12 months from the effective date of the final rule.

Under the Proposed Rule, FinCEN would delegate its examination authority over Advisers to the SEC. The SEC has been exercising its examination authority aggressively in recent years, and Advisers should stay well ahead of its obligations if the Proposed Rule is adopted. The Broker-Dealer & Investment Adviser team at Michael Best has attorneys that can help Advisers navigate finalized AML obligations, in addition to other compliance matters. Please contact a member of our team for more information.

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.