| Third Money Laundering Directive - an opportunity to provide clarification for fund administrators |
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| It will be very important to ensure that the forthcoming legislation to implement the EU’s Third Money Laundering Directive (Directive 2005/60/EC)( the 'Directive') clearly establishes the legal obligation of fund administrators to apply customer due diligence measures to the investors in the funds for which fund administrators provide administration services, writes Joe Beashel. |
Under the current regime for the prevention of money laundering and the financing of terrorism set out in the Criminal Justice Act 1994 (as amended) (“CJA”), entities called “designated bodies” are required to “take reasonable measures” to identify any person for whom those entities proposes to provide certain services or “specified operations”. The language of the statute is not consistent in that it refers to a “service” and an “operation” and an “activity” and it is not clear whether there is a distinction between these terms or whether they are interchangeable. Although designated bodies often ignore the distinction between which activities are “specified operations”, in circumstances where there is a possible breach, it is important to understand whether the breach is of an internal procedure or of a criminal statute. | | Joe Beashel |
Irish Funds and Unit Trust Managers
The list of designated bodies was extended beyond those listed in the CJA by a number of statutory instruments including one which became effective on 2 May 1995 (SI No 104 of 1995) which added the following:
1. an investment company authorised under the European Communities (Undertakings for Collective Investment in Transferable Securities) Regulations, 1989
2. a management company of a unit trust scheme authorised under the European Communities (Undertakings for Collective Investment in Transferable Securities) Regulations, 1989
3. a management company of a unit trust scheme authorised under the Unit Trusts Act, 1990
4. an investment company authorised under Part XIII of the Companies Act, 1990
5. a general partner of an investment limited partnership authorised under the Investment Limited Partnership Act, 1994.
We would note that a management company of an investment company authorised as a UCITS or a non-UCITS is not included as a designated body.
The relevant “specified operations” are those listed in a further statutory instrument (SI No 324 of 1995) which became effective on 11 December 1995 and include:
“The purchase or sale of units or shares of collective investment schemes authorised under the European Communities (Undertakings for Collective Investment in Transferable Securities) Regulations, 1989, Unit Trusts Act, 1990, Part XIII of the Companies Act, 1990, or the Investment Limited Partnership Act, 1994 are prescribed as activities to which the CJA applies.”
Therefore where one of the entities listed above carries out the activity of the purchase or sale, of units or shares, as the case may be, in respect of an Irish authorised fund, the CJA provides that the entity must identify the person for whom it provides that activity.
The language could be clearer but this is taken to mean that a fund must identify its investors.
Fund Administrators
The language relating to the obligations of fund administrators is particularly unclear.
In September 2003, a statutory instrument (SI No 242 of 2003) added the following to the list of designated bodies:
1. administration companies providing services to collective investment schemes
2. an investment business firm
3. a trustee or custodian of a collective investment scheme where it is regulated in the State.
There is some duplication in the above to the extent that an investment business firm is defined in the Investment Intermediaries Act, 1995 to include a firm that is involved in “the administration of collective investment schemes, including the performance of valuation services or fund accounting services or acting as transfer agents or registration agents for such funds”. It is not clear why administration companies are effectively listed twice as designated bodies in this statutory instrument though it may be that some administration companies, in addition, to fund administration activities also carried out the service of “receipt and transmission of orders” or “execution of orders” which would have been an Investment Services Directive service (ISD) and now a Markets in Financial Instruments Directive service (MiFID).
A collective investment scheme for the purposes of this statutory instrument is not limited to Irish authorised funds, rather there is a more general definition which is now contained in section 88(1)(a) of the Stamp Duty Consolidation Act, 1999 and means “… a scheme which is an arrangement made for the purpose, or having the effect, solely or mainly, of providing facilities for the participation by the public or other investors, as beneficiaries, in profits or income arising from the acquisition, holding, management or disposal of securities or any other property.”
As outlined above, the CJA only applies in respect of certain specified services/operations/activities of fund administrators. The list of specified activities set out in SI No 324 of 2005 apply, that is the purchase and sale of units or shares in Irish authorised funds. In addition, in February 2004 SI No 3 of 2004 prescribed the following:
“Activities consisting of:
(a) the provision of investment business services or investment advice, or
(b) the carrying out of trustee or custodian duties for a collective investment scheme, or
(c) the provision of money remittance services.
Activities of administration companies consisting of the provision of services to collective investment schemes.”
The duplication between the definition of investment business services and the activities of administration companies is continued into this statutory instrument too.
The CJA will therefore apply to fund administration companies such that they are required to identify the persons for whom such companies propose to:
Carry out the activity of the purchase or sale of units or shares in Irish authorised funds and/or
Provide investment business services and/or
Provide administration services to collective investment schemes.
It is clear that where an administration company enters into an administration agreement with a fund it is providing all of the above specified operations for that fund and as such the CJA obligations apply so that the administrator must identify the fund. It is less clear whether CJA obligations extend to the underlying investors in the fund resulting in the following questions
Does a fund administrator provide any service, or undertake any of the specified operations, for investors or is everything carried out for the fund?
In particular, does an administration company carry out the activity of the purchase or sale of units or shares in Irish authorised funds for the funds or for investors in those funds or both?
Does an administrator provide the former ISD, now MiFID service of “receipt and transmission of orders” or “execution of orders” for the funds or for investors in the funds?
Does an administration company provide the investment business service of “the administration of collective investment schemes, including the performance of valuation services or fund accounting services or acting as transfer agents or registration agents for such funds” for the funds or for the investors in those funds?
Finally does a fund administrator providing administration services to collective investment schemes do so for the funds or for investors?
The answers to these questions drive the analysis of why a fund administrator undertakes the identification of underlying investors in funds. Is it an independent legal requirement under the CJA or a matter of contract with the relevant fund?
There is no judicial interpretation of these particular provisions though there is judicial precedent to the effect that penal statutes, such as the CJA, must be construed strictly by the courts so that any ambiguity will be construed against the State (See Mullins v Harnett [1998] 2 ILRM 304).
In practice of course, fund administrators do identify underlying investors in the funds in respect of which they provide administration services.
Third Money Laundering Directive
A General Scheme of a Bill (the “Scheme”) for the implementation of the Directive was published in February 2008. It proposed the repeal of all of the statutory instruments referred to above. The Scheme refers to “designated bodies” but the concept of specified services/activities/operations will be removed. Instead, obligations under the new Act will apply to designated bodies where a designated body establishes a “business relationship” or when carrying out “occasional transactions” that amount to €15,000 or more.
A business relationship is defined as “a business, professional, or commercial relationship which is connected with the professional activities of the institutions and persons designated …and which is expected at the time when the contact is established to have an element of duration”
Fund administration companies are currently not included as designated bodies in the Scheme. This is not a surprise as the Scheme largely follows the Directive and the Directive itself does not include fund administrators within its scope. The Directive does permit super-equivalence and we expect fund administrators will be added by way of statutory instrument as permitted in Head 3(1)(d) of the Scheme.
While it would generally be accepted that where a fund will have a commercial relationship with its investors, albeit that the relationship is more that of an equity holder rather than a customer, it is not, in our view clear that fund administrators will also have a “business, professional or commercial relationship” with those investors. The Scheme provides that where there is such a business relationship the financial institution must identify the customer and undertake other customer due diligence. We would query whether an investor in a fund in respect of which a fund administrator provides administration services is a customer of the administration company in the manner contemplated by the Scheme or indeed the Directive itself.
The new legislation will also apply “in respect of occasional transactions that, either as an individual transaction or a series of transactions which are or appear to be linked, amount in the aggregate to €15,000 or more….” On the basis that a fund administrator will process subscription and redemption requests it is clear that the customer due diligence obligations under the Scheme will arise though again it is not clear whether the fund or the underlying investor is the “customer” for the purposes of the Scheme.
The current draft of the Sectoral Guidance Notes for Investment Funds provide that a fund administrator might be responsible for customer due diligence when agreed with a fund or when a promoter does not fall within the scope of the Directive or is not regulated in one of the countries to be prescribed in the new legislation. This doesn’t really clarify the legal responsibility of the fund administrator. As we mention above, this is important as a breach will either be a breach of contract with a fund or it could be a breach of a statute (or both) in which case both criminal and civil sanctions are possible. We would note too that the Financial Regulator will have significantly enhanced enforcement powers under the new legislation. This difficulty of interpretation is compounded by the fact that fund administrators are not in scope of the Directive so one cannot find any guidance there.
One possible solution is that the Scheme be amended, when it is finally published as a bill, to clearly deem there to be a “business relationship” between fund administrators and the underlying investors in those funds for which they provide services and further specifically state that for the purposes of the legislation, the investor in the fund is deemed to be a customer of the fund administration company to which customer due diligence obligations arise. This begs the question of the extent to which there should be separate customer documentation between fund administrator and investor though the new legislation could specifically state that the “business relationship” is only deemed for the purposes of anti-money laundering legislation. Another possible solution would be to exclude fund administrators from the definition of designated bodies, as contemplated by the Directive, and rely on the fact that funds themselves will have obligations to prevent money laundering and the financing of terrorism. If the former is adopted then fund administrators will, for every fund, have the clear legal responsibility to conduct customer due diligence. They may, on a contractual basis, undertake this role for funds which will themselves have legal responsibilities but this will be in addition to, rather than as a substitute, for their own legal responsibilities.
Whatever solution is adopted, the opportunity should be taken to ensure that the legal responsibilities of fund administrators under new anti money-laundering legislation are clear and unambiguous. |
Author Details: Joe Beashel is a partner in the Banking and Financial Services Department and Head of the Regulatory Risk Management and Compliance Group at Matheson Ormsby Prentice and can be contacted on +353 1 232 2000 or by email: joe.beashel@mop.ie.
Further information on Matheson Ormsby Prentice is available at www.mop.ie
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