FinCEN Withdraws Proposed Anti-Money Laundering Regulations for Investment Advisers and Others

November 5, 2008

In separate notices issued on October 30, 2008, the Financial Crimes Enforcement Network (“FinCEN”) of the United States Department of the Treasury (“Treasury”) withdrew notices of proposed rulemaking that would have required unregistered investment companies (RIN 1506-AA51, the “Hedge Fund Notice”), investment advisers (RIN 1506-AA57, the “IA Notice”) and commodity trading advisors (RIN 1506-AA75, the “CTA Notice”) to establish and implement anti-money laundering programs.  Section 352 of the USA Patriot Act (Public Law 1097-56) amended the Bank Secrecy Act (codified at 31 Part 103, the “BSA”) to require that every “financial institution” establish an anti-money laundering program (the “AML regulations”).  While the proposed rulemaking withdrawn by the IA and CTA Notices has been pending since May 5, 2003, the proposed rulemaking withdrawn by the Hedge Fund Notice has been pending for more than six (6) years (since Anti-Money Laundering Programs for Unregistered Investment Companies, 67 FR 60617 (Sep. 26, 2002), the “September 2002 Notice”).

Investment companies are defined as financial institutions in the BSA.  Currently, domestic mutual funds registered as such under the Investment Company Act of 1940 (the “1940 Act”) are the only investment companies required to comply with specific anti-money laundering regulations (Anti-Money Laundering Programs for Mutual Funds, 67 FR 21117 (Apr. 29, 2002)).  All other investment companies were temporarily exempted from the BSA.  Consequently, in the September 2002 Notice, FinCEN proposed to subject “unregistered investment companies” to the AML regulations.  The proposal would have covered unregistered investment companies; i.e., hedge funds, private equity funds, venture capital funds, commodity pools, and real estate investment trusts with total assets or subscriptions of $1,000,000 or more.  Excluded would have been, among other things, any issuer that subjected its participants to a two-year lock-up period.

Investment advisers were never enumerated within, and commodity trading advisors were specifically exempted from, those entities enumerated as financial institutions in the BSA.  The proposed rulemaking from May 5, 2003 would have applied the AML regulations to (a) investment advisers, as they provide services to investors that mirror those of securities broker-dealers and other enumerated entities (Anti-Money Laundering Programs for Investment Advisers, 68 FR 23646 (May 5, 2003)), and (b) commodity trading advisors that are registered or required to be registered with the Commodity Futures Trading Commission and that direct client commodity futures or options accounts, reversing the earlier exemption (Anti-Money Laundering Programs for Commodity Trading Advisors, 68 FR 23640 (May 5, 2003)).

In 2007, FinCEN took “a fresh look” at that earlier proposed rulemaking.  As part of that, it determined that because unregistered investment companies, investment advisers and commodity trading advisors operate within the scope of and are effectively answerable to “financial institutions” that are subject to the AML regulations, those unregulated entities were not entirely immune from their application.  In effect, direct regulation was not an imperative and the proposals could be withdrawn because those entities’ “activity is not entirely outside the current BSA regulatory regime.” Finally, FinCEN committed to the withdrawal process—requiring that it publish new proposals—in concession to the “passage of time”.  In light of FinCEN’s favorable view that those entities currently outside the direct application of the AML regulations must operate with institutions and other entities constricted by the AML regulations, it would appear that FinCEN remains committed to pursuing BSA’s full and direct coverage of them. 

While the withdrawn proposals related to compliance programs for anti-money laundering under the USA Patriot Act and most of the AML regulations apply only to various members of the financial services community subject to the BSA, investment companies, investment advisers and commodity trading advisors are nevertheless subject to the Treasury’s Office of Foreign Assets Control’s Global Terrorism Sanctions Regulations.  These regulations require the creation or maintenance of procedures to detect and deter money laundering or terrorist financing to prohibit any transaction with a blocked individual, including providing accounting, financial or other services.  Applicable laws include federal criminal statutes sanctioning domestic money laundering and participation in transactions involving criminal proceeds, and BSA record-keeping and reporting requirements to identify the source, volume, and movement of currency and other monetary instruments into or out of the United States or United States financial institutions. At a minimum, domestic investment companies, investment advisers and commodity trading advisors—and their United States citizen staff—whether located in the United States or abroad, should review current procedures to confirm compliance with those laws and regulations. 

For additional information on this topic, you may contact Howard A. Neuman or Carol Spawn Desmond.