Securities Regulation Daily Wrap Up, INVESTMENT ADVISERS—SEC, FinCEN propose new customer ID requirements for certain investment advisers, (May 13, 2024)
The proposal would extend requirements for anti-money-laundering (AML) and countering the financing of terrorism (CFT) to certain investment advisers with the goal of preventing bad actors from accessing the U.S. financial system.
To boost efforts against money laundering and terrorist financing, the SEC and FinCEN jointly proposed a new rule requiring certain investment advisers to have customer identification programs (CIPs). The rule would require SEC-registered investment advisers (RIAs) and exempt reporting advisers (ERAs) to establish, document, and maintain written CIPs to identify and verify the true identity of their customers (Customer Identification Programs for Registered Investment Advisers and Exempt Reporting Advisers, Release No. BSA-1 (May 13, 2024)).
SEC Chair Gary Gensler said the proposed rule is designed to make it more difficult to use false identities to establish customer relationships with investment advisers.
“I support this proposal because it could reduce the risk of terrorists and other criminals accessing U.S. financial markets to launder money, finance terrorism, or move funds for other illicit purposes,” said Gensler.
The SEC said the proposal is generally consistent with CIP requirements for other financial institutions including brokers or dealers in securities and mutual funds.
Bad actor entry point. A Treasury risk assessment found that investment advisers (IAs) have served as an entry point into the U.S. market 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.
IAs including exempt IAs and their advised funds—particularly venture capital funds—are also being used by foreign states to access certain technology and services with long-term national security implications through investments in early-stage companies, said Treasury. Most notably this includes the People’s Republic of China (PRC) and Russia.
Treasury noted that IAs are generally not subject to comprehensive regulations on AML/CFT and are not examined for AML/CFT compliance. While some IAs may perform certain AML/CFT functions under various circumstances, the practice is voluntary and not uniform or subject to comprehensive enforcement or examination.
The lack of uniform AML/CFT requirements for advisers creates arbitrage opportunities, allowing bad actors to access the U.S. financial system through advisers with weaker or non-existent client due diligence. Further, said Treasury, entities with AML/CFTC obligations may not be able to require an adviser to disclose relevant information. Further, certain business practices often promote the secrecy of client or investor identity and information and the outsourcing of key compliance responsibilities.
The assessment found that the highest illicit finance risk in the investment adviser sector is among ERAs (who advise private funds exempt from SEC registration), followed by RIAs who advise private funds, and then RIAs who are not dually registered as, or affiliated with, a broker-dealer (or is, or affiliated with, a bank).
Proposed rules. According to a fact sheet, the proposed rule complements a separate FinCEN proposal to designate RIAs and ERAs as “financial institutions” under the Bank Secrecy Act and subject them to AML/CFT program requirements, as well as obligations to file suspicious activity reports.
Under the proposed rule:
RIAs and ERAs would be required to, among other things, establish, document, and maintain written CIPs appropriate for their respective sizes and businesses;
The CIP would include risk-based procedures for verifying the identity of each customer to the extent reasonable and practicable within a reasonable time before or after the customer’s account is opened;
The procedures would have to enable the RIA and ERA to form a reasonable belief that it knows the true identity of each customer;
RIAs and ERAs would be required to obtain certain identifying information with respect to each customer, such as the customer’s name, date of birth or date of formation, address, and identification number; and
Procedures are included for, among other things, maintaining records of the information used to verify a customer’s identity and notifying customers that the adviser is requesting information to verify their identities.
Commissioner statements. Gensler explained that the proposed rule would fill a gap in the current U.S. U.S. regime to guard against illicit financial activity by extending a CIP mandate to certain investment advisers. Financial institutions are already subject to CIP requirements under the Bank Secrecy Act through USA PATRIOT Act amendments in 2001.
Commissioner Mark Uyeda did not support the proposal, expressing concern that overly broad definitions would sweep in advisory services that should not be subject to the rule.
FinCEN Director Andrea Gacki supported the rule, stating that criminal, corrupt, and illicit actors have exploited the investment adviser sector to access the U.S. financial system and launder funds.
“This proposal would help investment advisers better identify and prevent illicit actors from misusing their services, while advancing a harmonized set of CIP obligations,” said Gacki.
Public comment. The proposal will be open for comment for 60 days following publication in the Federal Register.
The release is No. BSA-1.
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