On 5th February 2013 the European Commission adopted two proposals to reinforce the European Union’s existing rules on anti-money laundering and fund transfers for terrorist activities. The proposals include: a draft Directive on the prevention of the use of the financial system for the purpose of money laundering and terrorist financing (commonly known as the 4th AML Directive) and a Regulation on information accompanying transfers of funds to secure “due traceability” of these transfers. Both proposals fully take into account the recommendations of the Financial Actions Task Force (FATF), based on MEMO/12/246, published on 11th April 2012. More specifically, however, the proposals provide for a more targeted and focussed risk-based approach.

The International AML/CFT standards which led to the 4th AML Directive

Since the FATF is an international body the standards which it sets are those expected to be implemented by the jurisdictions in order to ensure a safe financial services industry. To this end, the FATF concluded an agreement with the stakeholders on 16th February 2012, which have since given rise to a number of procedures aimed at implementing new standards. These standards include:

• Introduction of the risk-based approach (discussed in the section below);
• Improvement of transparency measures;
• Establishment of a framework for increased international cooperation;
• Identification of clear operational standards;
• The covering of new threats and new priorities.

The improvement of transparency measures: At the moment there is a significant deficit in transparency measures in a number of jurisdictions, particularly in the field of electronic transfers. This makes them vulnerable to misuse and abuse by individual criminals or criminal organisations and terrorists. The new agreement obliges member states to collect and process, preserve and provide, when necessary, information about the ultimate ownership of companies, trusts and other legal persons or legal arrangements. This also means that by default member state authorities are required to apply more rigorous requirements with respect to information which must accompany electronic fund transfers. The increased number of control measures on such transfers will improve transparency which, when implemented on a global basis, will make it more difficult for criminals and terrorists to conceal their activities.

On the establishment of a framework for increased international cooperation: Money Laundering and terrorist financing has become a globalised activity – the internet/information age has turned the world into a smaller place, and one where illegal activity has become easier to execute. For this reason the FATF has enhanced the scope of the already existing measures of international cooperation between government agencies and between financial groups, such as through the introduction of simplified extradition mechanisms. The recommendations shall now enable more effective exchanges of information, tracing, freezing, confiscation and repatriation of assets deriving from the carrying out of illegitimate or illegal activities.

The identification of clear operational standards: The FATF’s recommendations with respect to law enforcement and Financial Intelligence Units (FIUs) have been expanded significantly. The revisions provide much needed clarification with respect to the role and functions of the operational agencies charged with responsibilities of safeguarding and combatting money laundering and terrorist financing. Moreover, the recommendations have also successfully set out the range of investigative techniques and powers which should be made available to such persons.

On the covering of new threats and new priorities: The FATF have made it a point to address new and aggravated threats, as well as respond to priorities set out by the international community.

The risk-based approach taken by the 4^th AML Directive

The risk-based approach does not refer to any given or particular activity indicated in the Directive; it is an approach to combatting money laundering and terrorist financing – a mechanism guiding the implementation of directions as set out in the Directive. Among the more immediate repercussions of this approach is the removal of white and black lists of jurisdictions with respect to anti-money laundering defences, as this would go against the idea behind the approach. Great effort was made to significantly alter the scope and methods of the Due Diligence procedures.

Minimum standards of due diligence were abolished, so the financial operators in the respective jurisdictions are no longer required to satisfy minimum standards of documentation to collect, a minimum amount of questions to ask the prospective client et cetera. The monitoring authorities saw this to be a very limited approach to the combatting of money laundering and terrorist financing. Instead the financial services operator is granted absolute discretion to determine which measures shall be adopted for the purposes of due diligence, subject, however, to the extremely important requirement that should the pertinent authorities require the operator to justify his due diligence checks, tests and safeguards, such will be able to provide it to a satisfactory degree. In effect, what the 4^th AML Directive does is alter the very nature of the burden with respect to due diligence, from compliance authority to the financial services operator – hence the term ‘risk-based approach’.

Key changes in the 4th AML Directive

Changes introduced through the 4th AML Directive may be classified under three headings: (1) Criterial amendments which cover a number of prior legislative and regulatory shortcomings in the previous AML Directive; (2) Duties imposed on Governments, most importantly of which includes National Risk Assessments; and (3) Duties imposed on Operators. This final heading contains perhaps the most significant changes to the AML regime.

Although tax crimes have long been predicate money laundering and terrorist financing offences in a number of jurisdictions across the EU, such as in the UK, some jurisdictions in the bloc still do not cater for this. The proposed directive suggests the inclusion of tax crimes in the scope. This means that tax evasion and other serious financial offences shall now become predicate offences under the AML/CFT regime, applicable throughout the EU bloc.

The FATF had recommended that the “white list” and “black list” method should give way to a new model by which AML operations take place. The proposed directive does in fact remove every reference to the “white list” countries. This, moreover, shall have an impact on those operating in finance and the financial services since the concept of equivalence of third country regimes no longer applies. The concept of ‘equivalence’ refers to a system or procedure whereby the policies in place in third countries permit finance and financial services operators in a jurisdiction to apply less onerous standards of due diligence on the potential client. It also refers to the idea whereby the due diligence checks conducted by an operator in a third country may more readily be accepted by another. Under the new system, however, Firms and other finance and financial services operators must remove any references to ‘equivalence’ from their Global AML Policies and replace it with reference to the Risk-Based Approach. Effectively, this shall impact the local operators by forcing them to be more vigilant about which portfolio they accept.

The scope of the 4th AML Directive has been widened to include providers of gambling services; the penumbral spheres of operation have been extended far beyond casinos so that practically all areas of gambling are contemplated by the AML regime. Without a doubt the gambling industry has become among the most attractive sources for criminal offenders because of the fact that it is very easy to cover the crumb trail of the source of funds, especially when they originate from criminal activities. In order to mitigate the risks related to the sector, as well as to provide parity among providers of gambling services, it has been suggested by the FATF, supported by a number of banking, finance and financial services institutions, as well as government stakeholders, that due diligence tests should be made when the value of a single transaction is of at least €2,000.

It has been suggested that Member States should consider applying this threshold both to the collection-of-winnings stage and the wagering-a-stake stage. Providers of gambling services with physical premises, such as casinos and gambling houses should ensure that customer due diligence, if it is taken at the point of entry to the premises, can be linked to the transactions conducted by the customer on those premises.

After having considered all available empirical data and statistical analysis collected from numerous jurisdiction around the globe, the FATF concluded and thus recommended a reduction in the threshold for traders in goods. The threshold has been reduced from €15,000 to €7,500 in the case of cash transactions. The reduced threshold has an effect when due diligence procedures are conducted; by virtue of this amendment whenever a customer pays cash above the limit the high value dealer (referring to the person selling the good) shall be required to carry out a risk assessment and customer due diligence procedures (which include both checks and reports with respect to suspicious activities). The provision reflects a criterial change in the law, but the practical effect is that it makes the obligations of the operators more onerous in nature.

The draft 4th AML Directive imposes a new obligation on Governments of Member States, that of carrying out national risk assessments. Each member state of the EU shall now be required to carry out a risk assessment at national level in order to ascertain, measure and accordingly take action, as well as make publically available the risk to which the jurisdiction is exposed from a money launder and terrorist financing perspective. It is proposed that the national risk assessments should be accompanied by an assessment of European Supervisory Authorities, which shall complement the respective national risk assessment by Governments of EU member states. However, the assessment of the European Supervisory Authority is not primarily intended to keep governments in check, but to provide regulatory and technical advice and input on standards on specific issues.

The concept of ultimate beneficial owner (UBO) has not been changed by the proposed AML Directive. However, the ideas applicable to the concept and obligations pertinent to the identification and collection of data with respect to the ultimate beneficial owners have undergone notable changes. A person is deemed to be an ultimate beneficial owner is that person owns a stake which is equivalent to 25% of the entire stake – this has not changed. The change comes in the form of a clarification as to exactly what constitutes the “25% threshold”. Any form of ownership, through whatever means or legal machinery, must be constituted as as forming part of the 25% minimum threshold. Furthermore, apart the obligation on banking, finance and financial services operators, the draft provisions oblige the companies themselves to hold sufficiently detailed information its ultimate beneficial owners, which includes legends, guidance maps and structure diagrams of any and all company and personal shareholders, regardless of whether the ownership is derived from machinery such as the trust or foundation.

Changes also include the treatment of politically exposed persons (PEPs); the amendments introduce new requirements for domestic PEPs, as well as PEPs working in international organisations, together with the pertinent risk-sensitive measures that must be applied. Domestic PEPs working in international organisations (Directors, deputy Directors and members of the board or any other office performing an equivalent function of the aforementioned) shall now have to undergo enhanced due diligence procedures with respect to KYC, based on the risk-based approach. Prior to the inclusion of this provision, enhanced due diligence procedures were conducted solely on foreign PEPs. The proposed amendment, therefore, largely eliminates the distinction between domestic and foreign PEPs.

Among the more significant amendments to the Directive in force at the moment comes with respect to customer due diligence. Enhanced due diligence procedures must be carried out in certain high-risk situations; simplified due diligence is now permitted in lower risk situations. It has not yet been decided whether the use of standard due diligence procedures shall be limited to a ‘specified product’ or specified customer or class of customers.

In general, each decision on ‘when’ and ‘how’ to opt for standard due diligence procedures must be justified on the basis of risk, with a list of factors to be considered when making such decision. Under the proposals, transactions involving publicly owned limited companies or authorities, public bodies, particular types of insurance pensions and some other financial products, in some defined jurisdictions will qualify for standard due diligence. Conversely, transactions involving asset holding vehicles and cash-intensive businesses, particularly those where unusual or apparently unnecessarily complex ownership structures are in place, as well as those associated with “higher risk” jurisdictions shall require the application of enhanced to diligence procedures.

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