In late August, the U.S. Treasury Department officially enacted groundbreaking anti-money laundering legislation expanding coverage over the respective residential real estate and investment adviser sectors for the first time in American history. The latest efforts taken by the Treasury – the bureau of the U.S. government tasked with promoting the country’s economic growth and maintaining financial security – aim to bolster current safeguards against illicit finance and come as part of a growing objective to better protect domestic national security interests moving forward, this given the propensity for these respective industries to be utilized as tools for money laundering. While highly contentious at the time that the notice of proposed rulemaking (NPRM) on the measure was first announced back in February, the Treasury’s Financial Crimes Enforcement Network (FinCEN) formally moved to issue two rules last Wednesday which will seek to close what are viewed two of last remaining major loopholes in U.S. AML/CFT defenses in line with the Biden administration’s U.S. Strategy on Countering Corruption. In an unprecedented development however, representatives of the Treasury recently announced that both the intensity and overall scope of the initial reporting requirements announced to cover these areas will be eased from their preliminary version, allowing those covered by the new measures to breathe a little easier.
The influx of foreign investment into the United States commercial and residential property market, coupled with the exponential rise in interest rates seen over the past 4 years have created a growing problem for American citizens attempting to purchase a primary residence, an issue which many believe will soon reach its breaking point in spite of anticipated Federal Reserve rate cuts slated for mid-September. The effects of these developments are much deeper than the exponential increases in costs on monthly mortgage/rent payments that lie on the surface however. With the real estate and private investment markets being abused as tools for laundering ill-gotten funds from a number of avenues, there has been an equal rise in destabilizing activities (such as drug and human trafficking exploits, organized crime, as well as an uptick in other forms of financial crime such as fraud) seen both in the United States and abroad. FinCEN has continued to highlight notable criminal trends that have included sanctions evasion tactics taken by foreign diplomats – specifically by Russian actors and politically exposed persons (PEPs) who were heavily affected by economic sanctions in wake of the Kremlin’s recent invasion of Ukraine – specifically with respect to laundering funds through high-value real estate purchases.
The trending tactics of criminals and sanctions evaders alike to facilitate laundering their funds have long been to use shell companies to purchase real estate and obfuscate any sort of paper trail leading back to them. The criminals hide behind layers of complex ownership structure and the anonymity provided by a lack of legislative oversight in this regard had made it all but impossible for law enforcement to apprehend those behind these activities in isolated case, let alone stop the trend from continuing. Those looking to evade sanctions have also historically used financial advisers who both knowingly or unknowingly become tools themselves for laundering illicit funds. These professionals, who by their standard of professional conduct are bound to keep information about current, former and even prospective clients confidential unless directly tied to illicit activity, have historically been found to toe the line of ethicality. A prime example of this being that many of these individuals will utilize their own name for purchases in order to mask the identities of their clients. And of course, when these transactions are backed by cash, the purchasing process becomes much simpler and finalized much quicker, also contributing to a decreased risk of detection for the bad actors behind them.
As such, the topic of beneficial ownership has long been on the government’s chopping block with regards to prioritized anti-money laundering initiatives. Not until January 1st, 2024 did FinCEN’s final rule on beneficial ownership reporting come into effect under the greater Corporate Transparency Act (CTA) however. For decades, various companies and trusts, as well as the individuals operating behind these fronts, were able to effectively hide in the shadows and maintain anonymity while growing their asset portfolio and laundering funds potentially derived from illicit activity. This measure attempted to slow the cycle of misuse by requiring certain legal entities to identify and verify their customers before later submitting to FinCEN a report containing information related to the “beneficial owner” – i.e. the individual(s) that “control” a company – and the company applicant of the reporting company. Further, the measure requires that covered entities better establish the nature of customer relationships in order to develop customer risk profiles, as well as requiring these institutions conduct ongoing monitoring to identify and report suspicious transactions to further limit wrongdoing in this domain.2
With respect to the real estate sector, the Biden administration has attempted to build upon the Trump Administration’s framework for identifying illicit activity of this nature in this specific sector by continuing the immensely successful residential real estate geographic targeting orders (GTO’s) put in place by FinCEN in 2016. GTO’s were originally imposed to enhance anti-money laundering reporting obligations on financial institutions operating in different regions of the United States that were perceived to be particularly vulnerable to money laundering activity (expanding to cover a total of over 20 major metropolitan areas across the country as of 2023). These GTO’s required all domestic financial institutions and all other non-financial businesses within these covered regions to report on the natural persons behind shell companies used in non-financed real estate transactions greater than a set threshold value of $300,000. Fast forward to today, and the new rule proposed by FinCEN would expand targeting orders with nationwide reporting requirements to bring them up to speed with the current standards of the U.S. Bank Secrecy Act.
All told, FinCEN’s final rules covering real estate and investment advisers will formally require certain persons involved in real estate closings and settlements to submit reports and keep records on certain non-financed transfers of residential real property to specified legal entities and trusts on a nationwide basis.1 Transfers made directly to an individual are not covered by this rule, however. FinCEN’s second rule will apply anti-money laundering/countering the financing of terrorism (AML/CFT) requirements – including the creation of compliance programs and implementation of suspicious activity reporting obligations – to certain investment advisers that are registered with the U.S. Securities and Exchange Commission (SEC), as well as those that report to the SEC as exempt reporting advisers. The rule will help address the uneven application of AML/CFT requirements across this industry.2
At the time the NPRM was announced, the Treasury requested feedback from members of the soon to be affected industries – and they received no shortage of it. Unfortunately, the feedback received could more accurately be described as “backlash.” Rather than viewing these legislative developments in a positive light with respect to increasing financial transparency for two sectors highly lacking in this regard, the reception was instead significantly negative. Those affected viewed the potential changes as excessive and stifling in nature, claiming they would cause more harm than good to the future of these industries. Andreessen Horowitz, one of the largest venture-capital firms in the U.S., said in a letter that the proposed rule for investment advisers likely would result in “expensive and duplicative regulation with no material benefit to law enforcement or reduction in the risk of illicit financial activity.”3
The Treasury appears to have heard the criticisms loud and clear. Rather than stifle the industry with increasingly burdensome and over-arching regulations, the Treasury instead dialed back their restrictions from their initial iterations. For example, several types of advisers, including midsize and family advisers as well as pension consultants, will now be exempt from the anti-money laundering requirements altogether due to lack of relevance.4 The DOT also dropped a requirement that the individual maintaining an investment adviser’s anti-money-laundering program be located in the U.S. and subject to oversight by the Treasury and any other appropriate federal regulator. Foreign advisers will only fall under these requirements to the extent that a U.S. adviser is involved, or if service is provided to a U.S. person.4
When it comes to real-estate, the finalized rule creates a “cascade” system when it comes to reporting requirements. Those required to report will generally be settlement agents, title insurance agents, escrow agents, and attorneys. While the scope still seems significant, the relief comes from the fact that only one person/partner in a real estate venture will need to file a report for each transaction, further cutting down on the redundancy and inefficiency of the proposed rule. The standard of culpability is also being lowered to a more reasonable level as the rule assumes that the person reporting a transaction is reporting to the best of their ability if they do not have any apparent reason to suspect the reliability of the information, while also allowing this person to rely on the information provided by an outside party which should cut down on their workload immensely. Essentially, it promotes a more “good faith” relationship between regulators and those in the industry. Altogether these new requirements, even in their lightened form, should provide a significant boost to ongoing AML/CFT efforts and effectively close the book on the sweeping regulatory changes that had been rumored for these industries for the better part of the past three years.
Citations
- “Anti-Money Laundering Regulations for Residential Real Estate Transfers.” Federal Register, 29 Aug. 2024.
- “Fincen Issues Final Rules to Safeguard Residential Real Estate, Investment Adviser Sectors from Illicit Finance.” Financial Crimes Enforcement Network, Department of the Treasury, 28 Aug. 2024.
- Tokar, Dylan. “Real-Estate Agents, Investment Advisers Chafe at New Anti-Money Laundering Rules” The Wall Street Journal, 19 Apr. 2024.
- Tokar, Dylan. “Treasury Loosens Final Anti-Money-Laundering Rules for Investment Advisers, Real-Estate Agents.” The Wall Street Journal, 8 Aug. 2024.
