Beneficial ownership and the dark side of the moon

In the world of Bank Secrecy Act (BSA) and Anti-Money Laundering (AML), it all comes down to perspective. For many financial institutions, the perspective sometimes becomes locked down tight. Day in and day out, the systems look at the same things over and over again. In a sense, it’s like they’re looking at one side of the moon, ignoring what’s on the other side because it is harder to see.

To support this analogy, permit me a brief detour to one of my favorite subjects, the Moon. It is the only heavenly body that shows its features to the naked eye. Imagine, if you were given a telescope and the job to focus solely on the Moon. Undoubtedly you would eventually know every “inch” of it quite well. But would that really tell you what the entire moon looked like? Of course, the answer is a definite no.

To us earthlings, the Moon appears not to rotate. We see basically the same side of the Moon each time we gaze upon it. That’s because its rotation is synchronized with the Earth. As such, it always faces Earth.

The familiar side of the Moon is called the near side. It has dark and light patches with parts that look like seas. The dark side of the Moon, as many of us call it (courtesy of Pink Floyd), is not actually called that by scientists. It isn’t any darker than say India is compared to the United States. The moon’s rotation means that it does receive light. But what does it look like?

Scientists, not being quite so creative as Pink Floyd, simply call it the far side. No one knew what that it looked like until 1959 when the Soviet spacecraft Luna 3 managed to capture some images. Here is what they saw as compared to the near side of the moon:

Near

Far

Isn’t it impressive how different the far side is compared to the near side? Much of the difference is because the crust is thicker on the far side. The near side became “locked” to the Earth and remained geologically active longer. As such, lava flows filled in craters created by meteors and the like, forming large, dark basaltic plains called maria.

I suspect that seeing few of the large and dark maria must have puzzled scientists mightily when they first saw it. However, having that added perspective naturally gave opportunities to better understand the full nature of the Moon.

Gaining Perspective in AML

In the world of BSA/AML, institutions face a daunting challenge. They are tasked with identifying patterns associated with the placement, layering, and integration of funds from illegal activity to create the appearance of legitimacy. Identifying such patterns is fundamental to AML, but often is weakened by a lack of meaningful perspective. Trying to do this without an AML system is akin to trying to understand the Moon through the naked eye. You might acquire some significant understanding, but it would still be limited.

AML systems were created to help identify placement, layering and integration patterns. They’re like telescopes, in that they provide a far more powerful capacity to understand the Moon. While this enhanced perspective is valuable, it does not provide the full picture necessary to understand the entirety of the situation.

2018 will usher in a new phase of BSA/AML with the implementation of beneficial ownership requirements. As I’ve worked with financial institutions seeking to implement sound controls and systems to handle beneficial ownership requirements, I have come to view beneficial ownership as a sort of Soviet spacecraft Luna 3. It will give financial institutions a new perspective, unlike anything they’ve seen for most of their history.

Of course, the new rule focuses on customer due diligence related to verifying a legal entity customer’s beneficial ownership at the time a new account is opened. That is a good start. However, to complete that far side orbit requires the principle of “event-driven” triggers, such as when the credit department obtains new financials or obtains a tax return per standard ongoing monitoring.

A financial institution subject to beneficial ownership requirements must conduct ongoing monitoring to identify and report suspicious transactions and to update its customer information. Event-driven monitoring will result in triggers that will require updating that information.

There is another element where the near-side/far-side of the Moon analogy can be applied here. The beneficial ownership rule is not limited merely to deposit relationships from checking, savings and certificates; it also includes loans.

Historically, most financial institutions have functioned as isolated departments, with the two primary departments being deposit and lending. Like a balance sheet, these sides remained as distinct from each as the near and dark side of the Moon.

Beneficial ownership changes that equation. While there are few event-driven aspects with deposit relationships that might impact monitoring, there are many in the world of lending, especially in the world of commercial lending, such as the annual conducted relationship review or receipt of standard documentation required per a loan’s or line of credit’s covenants. Capturing the information especially ownership information from such events will clearly usher in a new world of monitoring.

In a sense, beneficial ownership is merely another mile marker for where BSA/AML monitoring is being directed. It was launched with USA PATRIOT Act back in 2001, which started the drive to understand the connection between customers and their behavior. But, to merely focus on beneficial ownership’s technical requirements is to miss a valuable opportunity to get the full picture.

Seeing the Entire Moon

Even the most powerful AML systems typically provide powerful – but often one-sided – visuals. To empower them to peer into the dark side, they must be fed enhanced information. Institutions that have implemented, either by force or by internal decision, customer due diligence — including enhanced due diligence — are frequently armed with powerful data. The trick is t make sure those data are fed into the AML system. The more effective an organization is in integrating these elements, the greater its perspective will be.

Moreover, most AML systems continue to progress in their monitoring of quantitative aspects against qualitative aspects. Yet often these systems neglect perhaps the greatest arsenal of data: information obtained from the institution’s lending side. This is where beneficial ownership will give a full view of the moon.

Like a full moon that wanes toward a new moon, 2017 will inevitably give way to May 11, 2018, and beneficial ownership requirements. Institutions would be well advised to launch their efforts towards system integration and monitoring to ensure compliance with the technical aspects of the regulation. But, more importantly, 2017 provides a true opportunity to move forward towards the sometimes subjective – yet certainly more valuable aspects – of beneficial ownership. This new phase can usher in an era of the comprehensive understanding needed to more fully identify suspicious patterns associated with layering, placement, and integration.