November 2011 | Earn one hour of MCLE Credit in Legal Ethics
Beware of helping finance terrorists
Transactional lawyers, especially those who create entities and handle funds, should perform a risk analysis to detect and combat money laundering and terrorist financing
Tuft & Chapman
Last year, the American Bar Association crafted new guidelines termed “Voluntary Good Practices Guidance for Lawyers to Detect and Combat Money Laundering and Terrorist Financing” (Voluntary Guidance) in an effort to provide attorneys with tools to prevent the legal profession from being used as an avenue for money laundering and terrorist financing. The following is only an overview of the ABA’s guidelines; however, for more detail please visit the full text of the Voluntary Guidance available on the ABA’s website. The ABA also has a detailed set of Frequently Asked Questions regarding the Voluntary Guidance on its website.
The Voluntary Guidance was approved in response to action by the Financial Action Task Force on Money Laundering (FATF). FATF is an intergovernmental policy-making body that was formed in 1989 by the United States and other major industrial nations to coordinate efforts to combat money laundering. After the 9/11 terrorist attacks, FATF’s mandate was expanded to address the financing of terrorism. Today, FATF’s mission is to develop, recommend and coordinate policy intended to prevent money laundering and terrorist financing in both the international financial system and the domestic financial systems of the member nations.
In 2005, FATF determined that certain “designated non-financial businesses and professions,” including the legal profession, should be subject to the same anti-money laundering and counter‑terrorist financing rules and regulations as financial institutions. These businesses and professions, so-called “gatekeepers” to domestic and international monetary systems, include lawyers, notaries, trust and company service providers, real estate agents, accountants and auditors who assist in transactions involving the movement of money in the domestic and international financial systems.
(Attorneys are subject to criminal prohibitions against: (1) participating in a money laundering offense (see, e.g., 18 U.S.C. §§ 1956, 1957); and (2) doing business with terrorists or other criminals such as narcotics traffickers. A list compiled by the Office of Foreign Assets Control identifies individuals and companies owned or controlled by, or acting for or on behalf of, targeted countries. It also lists individuals, groups and entities that are not country-specific. Collectively, such individuals and companies are called “Specially Designated Nationals" and U.S. persons are generally prohibited from dealing with them. See http://www.ustreas.gov/offices/enforcement/ofac/sdn/ for the list posted on the U.S. Dept. of Treasury website. In addition, an attorney engaged in a business must file a Form 8300 report with the Internal Revenue Service if cash payments of $10,000 or more are received. Although United States laws require banks and other entities to establish anti-money laundering programs to detect and report suspicious transactions to law enforcement, attorneys are not covered by these laws (see 31 U.S.C. §5312(a)(2)).)
After receiving extensive input from the legal profession, FATF issued broad risk-based guidance in 2008. The FATF Lawyer Guidance identifies the money laundering and terrorist financing issues specific to the legal profession and outlines the risk factors that lawyers need to consider in developing a risk-based system for identifying suspicious circumstances. Instead of offering one-size fits all directives for action, the FATF Lawyer Guidelines urge the legal profession to develop an effective risk-based approach that sensitizes a lawyer to the threat of legal services being used for money laundering and terrorist financing.
What is the Voluntary Good Practices Guidance?
In response to the FATF Lawyer Guidance, the ABA — through its Task Force on Gatekeeper Regulation and the Profession and several ABA sections with expertise in this area — worked in cooperation with a number of specialty bar associations to develop voluntary good practices guidance designed to inform lawyers how to assess the risks posed by each of their clients on an individual basis in order to aid the efforts to prevent money laundering and terrorist financing. The Voluntary Guidance was formally adopted by the ABA in August 2010.
The Voluntary Guidance suggests a risk-based assessment. This type of approach is intended to focus greater resources and requires greater due diligence where the risks of money laundering and terrorist financing are the highest; conversely, it focuses fewer resources and requires less due diligence where such risks are lower.
Purpose of the Voluntary Guidance
The purpose of the Voluntary Guidance is to encourage lawyers to develop and use a risk-based assessment to evaluate the money laundering and terrorist financing risks of each of their clients and potential clients. It is not intended to be a statement of the standard of care governing the activities of lawyers in implementing a risk-based approach to combat money laundering and terrorist financing. Due to the vast differences of practices, firms and lawyers throughout the United States, the Voluntary Guidance seeks to serve as a resource for lawyers to aid in the development of their own voluntary risk-based approaches.
Who should follow the Voluntary Guidance?
Not all lawyers are subject to the Voluntary Guidance. It is principally focused on transactional lawyers, especially those creating entities and those handling funds. The Voluntary Guidance describes in detail the different roles of practitioners and why certain roles are given special consideration. For example, in-house lawyers are not covered by the Voluntary Guidance, and local counsel and trustees find themselves in special situations with varying levels of due diligence depending on the nature and degree of their involvement in the matter.
The Voluntary Guidance is applicable to lawyers who “prepare for and carry out specified activities.” The Voluntary Guidance does not define “prepare for and carry out,” but it does define “specified activities.” These include: (1) buying and selling real estate; (2) managing of client money, securities or other assets; (3) management of bank, savings or securities accounts; (4) organization of contributions for the creation, operation or management of companies; and (5) creation, operation or management of legal persons or arrangements and the buying and selling of business entities.
Activities (2), (3) and (4), listed above, involve situations where the lawyer would be handling the client’s funds. The Voluntary Guidance emphasizes that the risk must be addressed at some level in any situation where the lawyer controls the use, application, or disposition of funds or has signatory authority over the client’s financial account. Generally, any time a lawyer “touches the money,” he should satisfy himself as to the bona fides of the sources and ownership of the funds.
Client Due Diligence
The Voluntary Guidance describes Client Due Diligence (CDD) in greater detail; in general CDD is intended to assist lawyers in forming a reasonable belief that their clients are not engaging in money laundering and/or terrorist financing. CDD is not intended to place the lawyer in an adversarial relationship with the client; rather, the purpose is to make sure the lawyer knows the true identity and business goals of the client.
The Voluntary Guidance recommends performing CDD at client intake as well as periodically during the course of the engagement. The Voluntary Guidance describes three levels of CDD in detail: (1) basic or standard level; (2) reduced; and (3) enhanced. For example, at the basic or standard level, the type of CDD contemplated involves steps taken as a matter of course in connection with all client intake, including verifying client identity using reliable and independent source documents (e.g. review of a prospective client’s driver’s license or other government-issued photographic identification).
What are the risk categories?
FATF believes every client poses some risk of money laundering and terrorist financing, but the risks posed by certain types of clients and cases are greater than those posed by others. The risk factors are intended to attune the lawyer to these differences so as to enable the lawyer to design and implement a risk-based approach that is tailored and appropriate to their specific and unique practice profile.
There are three major risk categories with regard to legal engagements and they include: (1) country/geographic risk; (2) client risk; and (3) service risk. The Voluntary Guidance discusses in detail the challenges associated with each of these risk categories. The relative weight given to each risk category in assessing the overall risk of money laundering and terrorist financing will vary from one lawyer or law firm to another due to the size, sophistication, location, nature and scope of services offered by the lawyer or law firm. The Voluntary Guidance provides a detailed set of risk variables that a lawyer should consider when evaluating his or her client’s risk. For instance, the risk profile of a lawyer or law firm whose practice is limited to domestic family law differs from the risk profile of a lawyer or law firm that engages in international and cross-border transactions.
The Voluntary Guidance does not contain a lot of detail for this particular risk factor; however, it does identify the profile of certain countries which, in FATF’s opinion, pose a higher risk of money laundering and terrorist financing. Generally, these higher risk countries include those that are subject to sanctions, embargoes or similar measures issued by certain bodies, such as the United Nations, and those identified by credible sources as having significant levels of corruption or other criminal activity, or are locations from which funds or support are provided to terrorist organization.
The Voluntary Guidance identifies nearly a dozen categories of potentially higher risk clients. Lawyers should determine whether their clients fall into one or more of these categories warranting a risk evaluation. Some of the client risk categories include: (1) politically exposed persons; (2) unusual activity; (3) masking of beneficial ownership; (4) cash intensive business; (5) charities and non-profit organizations; (6) clients with certain criminal convictions; (7) clients with no address/multiple addresses; (8) unexplained change in instructions; and (9) structures with no legal purpose.
The Voluntary Guidance includes “practice pointers” throughout the risk categories section. A “practice pointer” offered in the Client Risk section explains that the masking of beneficial ownership may include a client who insists on the formation of a complex, multi-tiered entity (such as a limited liability partnership, corporation or limited liability company) involving other entities and a notable absence of any individuals, and offers only the briefest of explanations or no justification as to the purpose or ownership structure of the new entity.
With respect to cash intensive businesses, the “practice pointer” states lawyers need to be especially sensitive to these types of businesses, such as residential rental operations, which generate substantial amounts of cash. Money launderers have been known to use bars, restaurants, car washes, and parking lots — all legitimate enterprises, but cash-intensive. In fact, the Voluntary Guidance observes that money launderers have sought to launder funds through collection plates at churches.
FATF has determined that the performance of some legal services are at higher risk for money laundering and terrorist financing than others. Typically, these services involve the movement of funds and/or the concealment of the controlling interest. Some of the key considerations discussed in detail include: (1) a “touching the money” test; (2) concealment of beneficial ownership; (3) requests for performance of services outside the lawyer’s area of expertise; (4) accelerated real estate transactions; (5) cash payments or payments from unknown sources; (6) transactional matters where inadequate consideration is apparent and there is no client explanation; (7) estate administration where the decedent was convicted of proceeds generating crimes; (8) offers to pay extraordinary legal fees; (9) unclear source of client funds or wealth; (10) out of character transactions; (11) shell companies; (12) hard-to-identify trust beneficiaries; (13) services that deliberately provide client anonymity; and (14) trust services involving unusual features.
If a lawyer is requested by the client to perform services the client knows are outside the lawyer’s area of expertise, a “practice pointer” from the Service Risk section suggests the lawyer should inquire as to why the client would like that lawyer, and not another lawyer who is experienced in the proposed area of law, to handle the work. For instance, a lawyer who regularly represents a client in real estate transactions should have his suspicions raised when the client asks him to handle the creation of various offshore trusts, and the client is not agreeable to having an experienced lawyer take on the work.
Controls for higher risk clients
Following an assessment of the applicable risk factors, a lawyer may conclude that the client may be a higher risk. The Voluntary Guidance does not prohibit a lawyer from representing a higher risk client; rather, it advises the lawyer to implement appropriate measures and controls to mitigate the potential money laundering and terrorist financing risks of that client. Lawyers and appropriate staff should be trained to identify and detect suspicious changes in client activity by referencing risk-based criteria.
The Voluntary Guidance provides the measures and controls for higher risk clients in greater detail; however, it includes some of the following points:
- General Training — lawyers and appropriate staff should receive general training on money laundering methods and risks relevant to lawyers.
- Specific Training — targeted training for increased awareness by lawyers who provide services described as Specified Activities, listed above, to higher risk clients. The Voluntary Guidance places importance on assuring that lawyers who will be exposed to the higher risk work receive adequate training so that they are attuned to the relevant risks.
- Peer/Managerial Oversight — additional review and/or consultation by the lawyer or within a law firm at the commencement of an attorney/client relationship. Peer or managerial review may detect other risk factors or may reveal factors that mitigate the risk.
- Evolving Evaluation of Services — Services offered by a lawyer may, over time, become more susceptible to money laundering and terrorist financing. Lawyers should periodically review their services to determine if the risks of money laundering and terrorist financing have increased.
- Ongoing/Evolving Evaluation of Clients — Clients may enter into new businesses or affiliate with other investors, all of which may increase the risk of money laundering and terrorist financing. Reviewing client relationships from time to time will help determine whether the risk of money laundering or terrorist financing has increased.
What if a client presents an unacceptable risk?
Following a risk-based approach analysis of a potential client, a lawyer may believe that, even with appropriate controls, the lawyer cannot accept and proceed with the proposed engagement. The lawyer’s analysis may result in a decision to reject the engagement or withdraw from the representation. The Voluntary Guidance refers lawyers to ABA Model Rule 1.16 when the lawyer decides to decline or terminate the attorney-client relationship. ABA Model Rule 1.16(a)(1) permits an attorney to decline to represent a client if the representation will result in violation of the rules of professional conduct. Rule of Professional Conduct 3-700 is California’s termination of employment rule and it varies slightly from the ABA Model Rule in that it does not set a standard governing when a lawyer must decline to accept a representation. Rather, Rule 3-700(B)(2) provides for mandatory withdrawal if the member knows or should know that continued employment will result in violation of the California Rules of Professional Conduct or the State Bar Act. In addition, Rule 3-700(C)(1)(b) provides for permissive withdrawal where the client seeks to pursue an illegal course of conduct. Lawyers in California should recognize that if they are representing a client before a tribunal, Rule 3-700(A)(1) prohibits the lawyer from withdrawing from employment in a proceeding before a tribunal without its permission.
Aside from ABA Model Rule 1.16, the Voluntary Guidance does not analyze other potential professional responsibility issues. Such issues might include client confidentiality, conduct constituting moral turpitude, conflicts of interest, waiver of attorney-client privilege, and a lawyer’s duties to properly account for client funds and property. These issues are important considerations but are beyond the scope of this article.
The Voluntary Guidance provides information to help attorneys recognize and evaluate the situations where providing legal services may assist in money laundering and/or terrorist financing. By implementing some of the risk-control measures detailed in the Voluntary Guidance, lawyers will be helping to avoid in aiding in these illegal activities. FATF appears concerned that without an understanding of these particular risks, lawyers may be exposed to aiding in money laundering and terrorist financing unwittingly.
As previously stated, the foregoing discussion is merely an overview. Implementing an effective evaluation of a particular attorney’s risk in aiding in money laundering or terrorist financing requires careful consideration of the Voluntary Guidance. It also requires consideration of all applicable standards of attorney professional responsibility, including the California Rules of Professional Conduct and the State Bar Act portion of the California Business and Professions Code.
• Andrew Tuft and Rachel Chapman work for the State Bar of California’s Office of Professional Competence.
This self-study activity has been approved for Minimum Continuing Legal Education credit by the State Bar of California in the amount of one hour of legal ethics.
The State Bar of California certifies that this activity conforms to the standards for approved education activities prescribed by the rules and regulations of the State Bar of California governing minimum continuing legal education.