The Third EU AML Directive: Impact on European Banks
A new European Directive on the fight against money laundering has just been adopted by the European Ministers for Finance and Economic Affairs. European banks fully support this initiative, albeit with certain reservations related to the new onus imposed upon them by some of the measures of the Directive. Less than three years after the adoption of a second Directive on the fight against money laundering1, the European Commission presented in June 2004 a proposal for a Directive on the prevention of the use of the financial system for the purpose of money laundering and terrorist financing (hereafter the Third Directive) due to replace the two existing Directives2.
Besides the proposal for a new definition of money laundering predicate offences, the Third Directive is meant to ensure a coherent application in all Member States of the revised 40 Recommendations adopted by the OECD’s Financial Action Task Force on Money Laundering (FATF) in June 2003.
On 7 June 2005, the Council of Ministers for Finance and Economic Affairs of the European Union (ECOFIN) reached an agreement and approved in first reading the text of the Third Directive by endorsing the amendments tabled by the European Parliament two weeks earlier. There was thus no need for a second reading. The Third Directive can be now considered as approved. It will be formally adopted in the coming months after the official translations have been finalised and published in the Official Journal of the European Union, which triggers its entry into force. Though the text of the Third Directive as adopted by the ECOFIN Council generally takes European banks’ concerns into account, some specific issues still remain problematic.
Following the FATF 40 Recommendations, the European Commission proposal introduced a risk-based approach. Accordingly, banks are obliged to implement customer due diligence requirements proportionally to the concrete risks involved. Risks may differ depending on inter alia the types of customers, countries and transactions. The banking industry welcomes this measure, as it feels that a risk-based approach is the only valid method to guarantee a focused and efficient fight against money laundering and terrorist financing.
The risk-based approach is particularly developed in recital 9 – 9b of the Third Directive for the identification of customers and beneficial owners. It is indeed recalled that banks have to rely on the information given by their customers. This notion is also specifically recalled in Article 7.1.b for the verification of the identity of the beneficial owners or the identification of politically exposed persons (Article 7.1.4.a)
European banks are also reassured that for the first time, the Third Directive acknowledges the principle of mutual recognition of customer due diligence procedures between Member States (Article 12a). Such a principle should greatly contribute to the EU Internal Market for financial services, by avoiding a cumbersome application of due diligence exercises with each cross-border transaction.
The Third Directive now defines a beneficial owner as the natural person who ultimately, directly or indirectly, owns or controls 25 per cent or more of the shares or of the voting rights of a legal person (Article 3.8). The Commission proposal originally suggested a 10 per cent threshold. The European banking sector considered that this was neither adequate nor practical and insisted therefore on increasing the threshold to at least 25 per cent, below which credit institutions would not be able to comply with the provision. The final result is therefore quite positive from the banks’ viewpoint.
Within three years after the entry into force of the Third Directive, the Commission will publish a report to the European Parliament and the Council of Ministers on the possible reduction of the 25 per cent threshold to 20 per cent (Article 39a). A proposal for amendments to the Third Directive could be published on the basis of that report.
Banks still have serious concerns about the approach taken on beneficial owners since the Third Directive includes an obligation to identify and verify the identity of the beneficial owners (Article 7.1.b). The main problem is that banks often do not have access to reliable information enabling them to carry out such identification.
The draft Directive defines the politically exposed persons as “natural persons who are or have been entrusted with prominent public functions and immediate family members or persons known to be close associates of such persons” (Article 3.10). European banks were concerned that the treatment of family members and associates may not be easily carried out (e.g. how do you identify family members and associates apart from relying on what the customers declare?). The definition has been limited to “immediate” family members and the “persons known” to be associates and should therefore enable a proper implementation of the text.
It is important to note that the definition finally adopted is still very broad. European banks regret in particular that a part of the previous definition of the European Commission proposal3 – “Natural persons (…) whose substantial or complex financial or business transactions may represent an enhanced money laundering risk” – was eventually rejected.
National/domestic PEPs are in the end excluded from the obligations to apply enhanced due diligence. The European banking industry would have preferred, however, that the EU be considered as a single jurisdiction and that PEPs from EU Member States be excluded from the definition, especially since credit institutions in the Member States already apply appropriate due diligence procedures which cover PEPs. Therefore the European banks favoured a PEPs’ definition limited to persons from third countries having prominent public functions at state level (i.e. high ranking PEPs) and whose substantial or complex transactions may represent enhanced money laundering and reputational risks.This point of view was unfortunately not followed.
Bank employees may be under direct threat after having reported a suspicious transaction. Besides the fact that this is an intolerable situation for bank employees, it could also lead to counter-productive effects in the fight against money laundering as bank staff may become reluctant to report suspicious transactions. Recital 22 and Article 24 set the obligations for Member States to develop the necessary measures to ensure the protection of bank employees in this regard. It is important to recall here that this obligation to protect bank employees from any sort of harassment lies with Member States and not individual banks.
No correspondent banking relationship with a shell bank4 is allowed (Article 11.2). A remaining problem for the European banking industry is the prohibition of an indirect relationship: “the requirement to take appropriate measures to ensure that no correspondent relationship is engaged with a bank known to permit its account to be used by a shell bank”. It is generally difficult for banks to verify whether their correspondents have relations with shell banks. This obligation to know “the customer’s customer” is generally not workable, regardless of whether the customer is another credit institution, legal entity or natural person.
Banks’ long-standing plea to receive concrete feedback from financial intelligence units (FIUs) on reports of suspicious transactions has finally been taken into account (Recital 25 and Article 29). Feedback from FIUs to banks has always been deemed essential for banks, in particular as motivation and training of their staff is concerned. It is therefore particularly welcomed that a case-by-case feedback was introduced in the Third Directive. For this purpose, Member States are also required to improve the relevant statistics made available to credit institutions.
Any disclosure to the customers that information related to their transactions has been transmitted to the authorities is prohibited (Article 25). An element to be considered, however, as a lobbying success for the European banking industry is that the disclosure between credit institutions belonging to the same group and situated in Member States applying the directive’s provisions or third countries applying equivalent requirements is allowed. It is indeed vital under certain circumstances, to allow banks to inform other banks of possible subsequent money laundering attempts. For example, a bank may have reported a customer to the competent authorities because of the suspicion of money laundering. In addition, this bank may already have closed the account and the reported customer may then move his funds to another bank. Without information of the reporting bank the other bank will not be able to take appropriate measures to counter the risk of being misused by the reported customer.
A “committee on the prevention of money laundering and terrorist financing” will be set up in order to assist the European Commission in the adoption of the relevant implementing measures, e.g. definition of the criteria for identifying low and high risk situations leading to simplified due diligence or enhanced due diligence (Recitals 26b and 29; Articles 37 and 38). The Third Directive also recalls the necessity for the European Commission to consult with industry when preparing implementing measures. Similarly, the European Parliament and the Council of Ministers shall be consulted as well.
It is important for the banking industry to note that the Commission shall adopt the first implementing measures within six months after the Third Directive’s entry into force (this provision was added by the European Parliament’s amendments).
The Third Directive enters into force 20 days after its publication in the Official Journal (Article 41 and 42). The text of the Third Directive is expected to be published in autumn 2005. Member States will have to implement the Third Directive within two years after its publication in the Official Journal.
The European Banking Federation generally welcomed the draft text of the third Anti-Money Laundering Directive approved by the ECOFIN Council last June. This balanced result was the outcome of the good level of co-operation between the European institutions and the European banking industry, which remains extremely committed to developing the legislation. The introduction of the “risk-based” approach is particularly welcome, as it will guarantee a focused and efficient fight against money laundering and terrorist financing, without disproportionately lumbering the banking industry with unworkable and impractical obligations.
The banking industry’s remaining concerns related to the treatment of beneficial owners and politically exposed persons should, however, not be forgotten. The banking industry will now closely monitor the adoption by the European Commission of the implementing measures subject to a necessary consultation with the industry.
Note: The author wrote this article in her personal capacity and as such the views expressed do not necessarily represent those of the European Banking Federation.
1 Directive 2001/97/EC of the European Parliament and of the Council of 4 December 2001 amending Council Directive 91/308/EEC on prevention of the use of the financial system for the purpose of money laundering.
2 Directive 2001/97/EC and Directive 91/308/EEC of 10 June 1991 on prevention of the use of the financial system for the purpose of money laundering.
3 Also present in the FATF definition- See definition of the Politically Exposed Persons in the Glossary of the FATF 40 Recommendations
4 (Article 3.11): A shell bank is defined as “a credit institution, or an institution engaged in equivalent activities, incorporated in a jurisdiction in which it has no physical presence, involving meaningful mind and management, and which is unaffiliated with a regulated financial group“.