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THE PRACTICAL IMPACT OF ANTI MONEY-LAUNDERING LEGISLATION IN THE VARIOUS OFFSHORE JURISDICTIONS
 

By Eric Andersen, Manager of Fund Services for Amicorp Fund Services, Curażao, Netherlands Antilles.

Anti money-laundering initiatives have proliferated in the last ten years as a result of the increasing concern over money-laundering activities which were well publicized in the preceding decades. From the perspective of many offshore financial centers, this publicity was unduly critical of their role in the money-laundering process. The attention derives from the misperceptions regarding the offshore industry in general which generally result from ignorance of what that industry does and the market it serves. It is too often assumed that the industry serves an illicit client base primarily facilitating illegal transactions on behalf of its clients. This perception is supported by the industry's policy of confidentiality and regulatory limitations on the dissemination of information and the offering of products to the general public. The industry recognized that if these perceptions had substance, it would spell the end of legitimate business. Since industry service providers are aware of the degree to which legitimate business dwarfs the volume of illicit business, most of them took steps to protect themselves from the possibility of being involved with business activities which could be viewed as illegal. When one looks at the number of service providers which are branches of some of the world's largest and most respected financial institutions, it is easy to understand why these defensive steps were taken prior to the existence of specific regulations.

The Financial Action Task Force ("FATF") was established in Paris at a G-7 summit in 1989 in recognition of the popular view that criminal activities could be curtailed if the illegal origin of vast amounts of cash could no longer be disguised. In 1990 the FATF originally drafted what has come to be known as "The 40 Recommendations" which summarized its recommended policies to create a financial system that would deter and limit the possibility for ill-gotten gains to be made to appear as if they originated from legitimate sources. The 40 Recommendations became prominent when they were revised in 1996 to reflect the changes which occurred and the experience gained over the previous six years. It is important to note that these recommendations were not promulgated to specifically address problems which existed in offshore jurisdictions, but were guidelines for policies which would restrict the ability of criminals to disguise the illegal origin of criminal proceeds in any jurisdiction.

In response to pressure being applied by the international community and organizations such as the FATF and the OECD, most offshore jurisdictions began approving legislation creating an anti money-laundering framework which they considered appropriate for their circumstances. Such legislation has typically been crafted with a view to the FATF's 40 Recommendations. Legislation was passed regardless of the existence and application of adequate procedures by service providers in those jurisdictions. Regulations in many cases served to legalize and enforce minimum standards and best practices which were already implemented by service providers. The existence of legislation allowed jurisdictions to offer a defense to the international bodies that asserted that money-laundering activity was centered in offshore jurisdictions. Legislation was enacted in 1996 in the Bahamas, Caymans and Netherlands Antilles and in 1997 in Bermuda and the British Virgin Islands.

Press reports in the last ten years support the contention that most significant money-laundering activities actually occur in onshore locations. Any one who has tried to open an account with a financial institution in an offshore jurisdiction knows that it is far more difficult and is subject to a significantly more thorough due diligence review than opening an account with a financial institution in most onshore jurisdictions.

Today, only a handful of jurisdictions have not passed some form of anti money-laundering legislation. The practical result of legislation on fund administrators has been the requirement of financial institutions to obtain and maintain identification information for each of their customers and to establish systems whereby transactions deemed to be "unusual" can be identified and evaluated for possible disclosure to fiscal and law enforcement authorities. The term "financial institution" is defined broadly in the FATF's 40 Recommendations. Recommendation 8 states that recommendations delineating procedures should "apply not only to banks, but also to non-bank financial institutions". This provision has provided legislative support for the application of anti money-laundering procedures to a variety of commercial ventures including offshore hedge funds.

In response to the changing environment, offshore fund administrators have adapted their shareholder servicing systems and procedures to encompass compliance. The changes have become commonplace in the past few years. The typical impact is that administrator documentation requirements for fund subscriptions include identification documentation for each shareholder. Required documentation is summarized below:

For individual shareholders:


1. Copy of a valid passport matching the registered shareholder's name.
2. Current utility bill
3. Bank reference letter

For corporate shareholders:


1. Articles of association
2. Certificate of good standing (or equivalent)
3. Details of members of the managing board
4. Bank reference letter

For individuals, a current utility bill of the shareholder is obtained to provide a higher degree of assurance that address information provided with the subscription is the actual address for the shareholder. The utility bill requirement is most frequently instituted by administrators doing business in Ireland and is currently gaining popularity. Bank reference letters are usually not required in connection with establishing shareholder accounts in connection with offshore hedge fund investments but the requirement is common in connection with establishing a cash account. Recently, certain institutions prior to the establishment of an account require verbal confirmation of details disclosed in bank reference letters. Neither a utility bill nor a reference letter is a requirement under the legislation of any jurisdiction, rather these requirements are instituted by service providers in their efforts to ensure they do not transact business with anyone involved with any step of a money-laundering process.

In an effort to make compliance with anti money-laundering procedures appear transparent to shareholders, some administrators rely on procedures of regulated members of the financial services industry who participate in a fund shareholder transaction. For instance, if it can be established that subscription proceeds have been sent from an account with a bank that complies with adequate anti money-laundering procedures, then identification procedures applied by the bank are relied upon by the administrator. In this example the administrator would have to be associated with a bank since detailed information regarding the source account for a cash transfer is available only to entities within the banking system.

Shareholder servicing systems have had to adapt to the additional documentation requirements. To properly service offshore hedge fund clients, a document tracking system has become essential. It's no longer adequate to only ensure the receipt of funds prior to issuing shares. Today's administrator must classify a shareholders status with respect to domicile, NASD hot issue, US pension plan (to name a few), in addition to ensuring adequate documentation is on file with respect to fund specific and anti money-laundering requirements. Additionally, administrators should be able to assess whether a shareholder is qualified to participate in an offshore fund based on their domicile, financial status, and form of incorporation as applicable. State of the art computing systems have been developed and are in use by many administrators which provide tools for tracking shareholder attributes and the status of required documentation. The human component of shareholder servicing systems has had to keep up with the additional requirements. Upon receipt, documentation must be reviewed by personnel able to use professional judgment to determine that it is adequate in light of legal requirements and that forms have been properly completed consistent with the shareholders legal status and domicile. The cost of systems and education has been substantial and is rivaled by the additional time expended to comply with the new requirements.

Recently, both shareholders and administrators have become so accustomed to the requirements of anti money-laundering regulations that compliance with the requirements has become routine. Most Offering and Private Placement Memorandums include references to the additional information requirements both in the body of the documents and in appendices providing detailed subscription instructions. Further, since shareholders need to be identified only when accounts are established and as shareholder servicing systems mature and are able to identify that a shareholder has been identified in connection with the establishment of an account with another fund under administration, the need to provide identification documentation with every investment has declined.

The offshore fund industry recognized long before the scrutiny of international regulatory bodies and the imposition of uniform benchmark rules that it had to protect itself from a tiny minority of unscrupulous participants. The industry responded to this threat to its huge legitimate market (recent estimates indicate that the market exceeds half a trillion US dollars) by implementing procedures to ensure the exclusion of shareholders who were not willing to prove their legitimacy. Some funds have gone so far as to require a legal opinion from competent counsel indicating that the shareholder is eligible to participate in an offshore hedge fund investment in accordance with the laws of the shareholder's jurisdiction. With the existence of such restrictive and effective procedures, it is difficult to understand why the perception of the general public continues to center on the proliferation of unscrupulous participants in the offshore industry. Despite the slow change in perception regarding the offshore fund industry, it has willingly complied with the changes and the significant additional work resulting from the institution of anti money-laundering procedures. The result has been positive. The size of the market has increased substantially along with the scrutiny of international bodies. Perhaps this is the silver lining: as the world finally begins to realize the legitimacy of offshore jurisdictions, the success of those jurisdictions in attracting legitimate capital has been enhanced. u

 
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