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Anti-Money Laundering and
Countering the Financing of Terrorism

Submissions on the third discussion document (Supervisory Framework)

New Zealand Bankers' Association

October 2006

Introduction

1. This submission on Anti-money Laundering and Countering the Financing of Terrorism: New Zealand's Compliance with FATF Recommendations on Money Laundering: Third Discussion Document of October 2006 ('discussion document') is the collective view of the Association being the following eight member banks:-

  • ANZ National Bank Limited
  • ASB Bank Limited
  • Bank of New Zealand
  • Citibank NA
  • The Hongkong and Shanghai Banking Corporation Limited
  • Kiwibank Limited
  • TSB Bank Limited
  • Westpac Banking Corporation

2. The Association supports the Government's objectives of maintaining New Zealand's reputation as a safe place to do business and minimising the threat of money laundering and terrorist financing in a manner that is cost effective to business. The Association appreciated the opportunity to talk to officials from the Ministry of Justice and the Reserve Bank of New Zealand (Reserve Bank) on 5 December 2006 about the discussion document and hopes to work closely with the working group with the aim of ensuring proposals to achieve compliance with the Financial Action Task Force (FATF) Recommendations:-

  • are workable and cost effective for member banks; and
  • minimise customer inconvenience and loss of their financial privacy.

3. The Association attempts to answer all of the questions asked in the discussion document about the supervisory framework but will be in a position to provide more specific comment when proposals concerning the inter-linked legislative framework are refined.

SUPERVISORY FRAMEWORK

4. The Association:-

  • welcomes proposals to create an effective AML/CFT supervisory framework; and
  • supports the working group's intention to design a framework which meets the ultimate objective of "detecting and deterring money laundering and terrorist financing in line with international standards, and in a manner that is best fit for New Zealand, while at the same time imposing the least amount of cost on industry."

5. The Association supports all of the design principles and desired outcomes stated in the discussion document and, in addition, the principles of partnership and proportionality noted in the 2nd AML discussion document.[1]

Detecting And Deterring Money Laundering

6. The Association supports the statement in the discussion document that an overall outcome sought in establishing an AML/CFT supervisory framework is detecting and deterring money laundering. The Association supports a supervisory environment which focuses on convicting money launderers and confiscating laundered funds rather than policing industry compliance with regulation. In addition, if the AML/CFT framework is perceived as effective at detecting and deterring money laundering and terrorist financing, then it will be perceived as less of a burden on legitimate businesses.[2]

Partnership

7. The discussion document notes that "the supervisory system must be judged effective against its ability to detect and deter money laundering and terrorist financing. Transactional monitoring - already conducted by the FIU - addresses the need for detection. An effective supervisory regime will address the deterrence angle." However the comment understates the role that industry will necessarily play in achieving the government's objective. A close working partnership between industry and government is fundamental to the supervisory framework as well as the legislative framework. The Association agrees with the working group's comment that monitoring of suspicious transaction reports by the FIU addresses the need for detection - but only to an extent. The FIU relies on the suspicious transaction reports produced by financial institutions to inform their investigations. In turn, financial institutions need feedback on suspicious transaction reports and information on money laundering trends and risks from regulators to manage AML/CFT risks effectively. The Association also agrees with the working group's comment that supervision will assist in deterring money laundering and terrorist financing but only to the extent that financial institutions' customer due diligence policies and controls are effective.

8. Accordingly the Association wants to work closely with government in the development, implementation and ongoing management of the legislative and supervisory framework. As part of this, the Association strongly supports the proposal to require the FIU to provide feedback [see 19]. The Association also submits that in the spirit of partnership:-

  • the government officially provide all private sector stakeholders with a government managed forum to share views about the AML/CFT framework and that the proposed AML/CFT Advisory Group should be required to take the views of this group into account when formulating AML/CFT strategy [see 42 - 44]; and
  • banks and others with the ability to co-regulate, draft their own detailed mandatory guidance notes/regulations in consultation with a supervisor [see 34 - 36].

REQUIREMENTS TO REGULATE AND SUPERVISE

9. The Association supports the proposed approach to regulating financial institutions for the purposes of FATF Recommendation 23, in particular:-

  • greater prudential regulation of non-bank financial institutions;
  • the Companies Office registering all financial institutions, as defined by the FATF, not otherwise subject to a registration reqime suitable for the purposes of Recommendation 23 and, as part of this, undertaking negative assurance checks; and
  • the financial institution's regulator undertaking qualitative/fit and proper checks and supervising for AML purposes.

10. Some members who wish to provide banking services to money/currency changing service businesses and money value transfer service businesses will be interested in the anticipated government announcement about the 'fourth agency' which will supervise them.[3]

SUPERVISORY FUNCTIONS AND POWERS

SUPERVISORS

Functions

11. The Association agrees with the Working group that the supervisor's function:-

  • could include "the provision of education and information to reporting entities and the wider public"; and
  • will include educating businesses on AML/CFT risks and risk assessments.

12. The Association supports the proposed risk-based approach to supervision with resources targeted proportionately to the AML risk posed by a particular activity or product. The Association notes the discussion document mentions that high-risk businesses may be visited more frequently by supervisors. The Association suggests that supervisors regard registered banks as low risk in principle because of:-

  • banks' extensive experience in AML;
  • banks' sophisticated risk mitigation frameworks, which include policies and procedures, training and systems embedded throughout banks' business operations; and
  • the importance to banks of maintaining depositor trust and confidence and, accordingly, banks need to comply with regulation and deter money laundering.

13. It is appreciated however that banks offer some products that may be considered high risk (e.g. telegraphic transfers). The Association submits that the supervisor's approach needs to be proportionate so that the supervisor focuses on high-risk products and activities and does not scrutinise banks' lower risk products and activities - to reduce unnecessary compliance costs.

14. The Association strongly supports the Working group proposal to develop a risk-assessment methodology for supervisors to ensure cross-sector consistency in identifying and monitoring risks - with supervision tailored to the specific sector.

15. The Association also supports a permissive approach to risk-based assessment and the development of default requirements for "those businesses that do not want to carry out risk assessments." The Association suggests the following principles guide development of default requirements:-

  • default requirements should preserve incentives for industries to invest in developing collective and individual risk based approaches. If the default requirements are set too low, organisations will see no benefit in developing a risk-based approach that subjects high risk customers and products to increased levels of scrutiny;
  • default requirements should be set at a high enough level to enable the government to meet its international AML obligations; and
  • financial institutions should be able to "pick and mix" between a risk based assessment and the default requirements (i.e. a financial institution may develop a risk-based approach for retail banking customers where it has a large customer base and the approach is cost effective but not for politically exposed persons where the number of customers may be too small).

16. The Association would like to explore these issues with the working group and the Reserve Bank with a view to developing the most workable model for member banks which encourages consistency within and between sectors without restricting innovation.

Powers

17. The Association strongly supports the Working group statement that as a matter of principle sanctions must be effective and proportionate. The Association would support criminal sanctions but only to the extent that they:-

  • apply to intentional acts or omissions; and
  • are implemented through the courts using the normal judicial process.

18. The Association also supports proportionality as a guiding principle in relation to supervision and enforcement. Senior managers of financial institutions are best placed to manage their money laundering risks and should be given the responsibility and the incentives to do so [see 26]. Enforcement efforts are best directed at the quality of a financial institution's risk management systems and controls and the extent to which they are effectively implemented - not penalties for every breach no matter how small. The penalty for a minor error should be proportionate to the breach.

FINANCIAL INTELLIGENCE UNIT

Functions

19. The Association strongly supports the Working group's proposal that the FIU should be required to provide formal feedback to reporting entities which includes the following:-

  • the quality of suspicious transaction reports;
  • the number of reports;
  • the number and nature of prosecutions and convictions arising from reports; and
  • current trends and typologies.

20. Banks devote considerable human and financial resources to making suspicious transaction reports under the FTRA. The Association refers to paragraph 31 of its submission on the 2nd AML discussion document and notes that formal feedback will enable financial institutions to be a more effective partner to government in relation to its objective of detecting and deterring money laundering by:-

  • targeting suspicious transaction reports more precisely;
  • creating more effective risk-based models; and
  • increasing motivation within banks.

Powers

21. The Association supports in principle the narrow production power proposed for "the purpose of enforcing statutory requirements for the filing of STRs and to ensure that STR reporting requirements are being complied with." The Association agrees with the Working group that reliance on agencies' discretion at principle 11, s 5 of the Privacy Act (or in relation to customers which are not individuals, exceptions to banks' duty of confidentiality) to obtain additional customer information from reporting entities, is inadequate and carries inherent risks. The Association supports the power to the extent it could be exercised by way of written notice but not by way of an on-site visit as proposed. The Association notes the risks of:-

  • police taking a wider view than banks of the proposed STR enforcement power so that it is treated as a general investigative power used to undertake 'fishing expeditions' with requests for information not strictly needed to ensure STR reporting requirements are being complied with ; and
  • information requests:
    • exposing banks to the risk of breach of the Privacy Act or common law duties of confidentiality in relation to customer information;
    • unnecessarily eroding customers' rights to financial privacy; and
    • undermining citizens' protections in section 21 of the New Zealand Bill of Rights Act from unlawful or unreasonable search and seizure by the State.

22. The proposal would adversely affect banks' relationships with their customers if banks were unable to ensure that they could maintain high levels of confidentiality regarding their customers' information. There is a significant difference between cases where client confidentiality is overridden by a search warrant issued on the basis of reasonable suspicion of criminal offending, and those where access is provided to client information on the basis a transaction is, or may be, relevant to an investigation or prosecution.

23. Accordingly the Association supports the Working group proposal to restrict the power to the FIU or to the Police acting on behalf of the FIU for STR enforcement purposes only (not for wider investigative purposes). This will reduce the risk of the wider Police force relying on the proposed production power as an alternative to a search warrant.

24. The Association would like more information about the proposed "legal safeguards" and to contribute to development of policy which precisely defines and makes more transparent the limits and elements of this proposed production power.[4] For example, it would be helpful for all stakeholders, particularly customers if:-

  • all requests are made in writing (not via an on-site visit as proposed) specifying the:-
    • delegated authority of the requesting officer; and
    • information required including the full name and address of the account holder, the account numbers and the period to which the information request relates; and
  • financial institutions may provide electronic copies of records required.

As examples, the Association refers to limits placed on wide ranging information gathering powers possessed by the IRD [5] and the Ministry of Social Development. [6]

SUPERVISORY MODELS

MULTIPLE AML/CFT SUPERVISORS

25. There is support within the Association for a multi-supervisor model for the reasons outlined in the discussion document - in particular the view that supervision may be tailored to the specifics of each sector. The working group will need to take care that financial institutions with businesses which cut across multiple supervisors will not face unnecessary practical difficulties and increased compliance costs [see 27 - 29].

Reserve Bank of New Zealand

26. The Association also fully supports the Working group's view that the Reserve Bank is best equipped to be the supervisor for banks given the synergies of AML and prudential supervision, its knowledge of the sector and its obligations under Basel Core Principles in respect of AML. Banks have existing relationships with the Reserve Bank and are comfortable with the Bank's approach under the Reserve Bank of New Zealand Act 1989 in which directors take responsibility for (and face liability in relation to) the accuracy of bank disclosure statements. The Association supports extension of a similar model to AML/CFT regulation with the senior manager's attestation of the rigour and application of each bank's AML compliance plan under that guidance.

Banking Group Operations - Possible Multiple Supervisors/Regulation

27. Based on the information in the discussion document, it appears that up to four different agencies may supervise different parts of the operations of some banking groups.

28. In relation to supervision, the Association supports the Reserve Bank alone as a lead supervisor for a banking group's entire operations (i.e. including securities and insurance), as this will:-

  • reduce the burden/impact on customers shared by bank businesses;
  • minimise compliance cost on business through duplication, eg of reporting and site visits;
  • ensure there are no misaligned or conflicting objectives/processes internally to meet the different needs of different regulators;
  • minimise the number of external relationships a bank needs to run, with scope for differing messages;
  • ensure that the supervisor has a good overall understanding of the business, rather than a fragmented one;
  • place the emphasis on supervisors to communicate well with each other to obtain information, rather than putting the onus on the business; and
  • reduce barriers to entry and innovation, where a bank is engaged in one area and wants to expand into another, it does not have to meet additional requirements of a different supervisor.

29. In relation to detailed AML/CFT regulations developed in consultation with supervisors, in principle the Association suggests that banks should have the option of applying bank-tailored AML/CFT regulations to their non-banking operations. Where a bank has a finance, insurance and/or investment subsidiary(ies) accessing the same customer base, AML/CFT requirements need to be consistent to reduce overall compliance costs and customer inconvenience. Where the products of these related businesses are sold through a single channel (e.g. stand-alone car insurance sold by a bank), front line staff should not have to implement two different requirements where a customer wants multiple products e.g. a banking product plus an insurance product. The Association would like the opportunity to consult further on this issue as proposals are refined.

SINGLE AML/CFT SUPERVISOR

30. There is also some support within the Association for a single supervisor model because there is a belief that the model may:-

  • ensure more consistent AML/CFT supervision and reduce the risk of market distortion;
  • encourage greater AML/CFT expertise within the supervisor and, accordingly, more effective deterrence and detection of money laundering and terrorist financing in New Zealand; and
  • reduce the risk of duplicated effort and AML resources where a financial institution has business overseen by several AML supervisors.

31. The discussion document notes that the set up costs for a single supervisor are likely to be relatively high and the multi-supervisor model would minimise costs on government and business. It would be helpful to review data and analysis supporting these assumptions.

TWO STAGED IMPLEMENTATION OF SUPERVISORY REFORMS

32. The Association supports the proposed two-staged approach to implementation of the supervisory framework. The Association agrees with the suggestion in the discussion document that the FIU should be entitled to enter the premises of non-supervised groups during the non- supervised period to determine the level of compliance with STR reporting requirements (subject to appropriate legal safeguards).

33. The Association supports a minimum implementation period of three years following finalisation of the AML/CFT legislative framework (ie legislation passed and regulations/guidance notes completed). Member banks are large institutions, employ thousands of staff across hundreds of locations, have portfolios of hundreds of products and significant legacy systems issues (often have hundreds of systems) and have hundreds of thousands of customers that will be impacted. Implementing such a complex change program against this backdrop will be a difficult task. There is also a risk that public and private sectors in Australia and New Zealand will be competing for the same small pool of AML/CFT experts - particularly in software development. This may lead to inflated costs and delays.

PROPOSED AML/CFT SUPERVISORY FRAMEWORK

Legislation

34. The discussion document does not identify a preferred legislative model or analyse the issue any further. In its response to the 2nd AML discussion document, the Association noted that support for the three options for the legislative framework proposed was fluid in the absence of information about the closely linked issues of regulatory oversight, supervision and enforcement of the new AML/CFT regulatory regime. In the light of the information in the 3rd discussion document about the supervisory framework, the Association submits that it supports a hybrid legislative model of options 2 and 3. Sectors such as banking which are able to effectively co-regulate should be entitled to draft detailed AML standards and procedures made enforceable through regulation under option 3. Supervisors should support this process and vet/approve the final version.

35. Other sectors which do not meet the criteria for effective co-regulation would be subject to option 2 with the supervisor drafting detailed AML default requirements in consultation with the relevant sector. To prevent unwieldy or unworkable practices or default standards, the Association supports clear prescription in the legislative framework/supervisor's charter of how consultation will occur (including a requirement for the supervisor to respond to submissions from financial institutions in writing as a general rule and standard time frames for comment). The framework must provide means of resolving situations where agreement cannot be reached on an issue. For example, industry bodies or financial institutions which are uncomfortable with either the consultation process or the substance of draft guidelines should be able to appeal to an overarching specialist AML/CFT body before those guidelines are finalised. The legislative framework should allow a sector, regulated under option 2 which later 'matures' and develops the criteria for co-regulation, to move to option 3.

36. For registered banks, the Association supports option 3 with bank drafted guidance notes made enforceable via regulation for the reasons notes at paragraphs 64 and 65 of the Association submission on the 2nd discussion document of 13/09/06.

37. The Association submits that regardless of which legislative model is chosen, government and industry in partnership need to agree the objectives of the detailed rules, the principles they should be based upon, and how they should be pitched.

Financial Intelligence Unit

38. The Association supports the proposal that the FIU will not be empowered to make rules or any form of enforceable guidelines. The law making and enforcement arms of the government should remain separated i.e. the New Zealand Police incorporating the FIU should not be creating the same rules that they investigate and prosecute.

39. The Association agrees that the FIU should have input into the development of legislation around STR requirements as it is a key stakeholder. In the spirit of partnership, the Association submits that financial institutions should also have the opportunity to provide significant input into the legislation supporting STRs including an opportunity to respond to FIU input which will affect financial institutions before the draft legislation is finalised. Financial institutions are also key stakeholders in relation to the STR legislation with significant AML responsibility. The Association would not support the FIU having the right to exert more influence over the STR legislation than financial institutions solely because it is a government agency.

40. The Association notes that the Police will be empowered to issue non-enforceable guidelines. The Association sees value in the FIU developing guidelines in consultation with industry relating to its areas of expertise only such as the nature of suspicious transactions and descriptions of money laundering and terrorist financing techniques. The Association submits that requirements relating to the format of suspicious transaction reports themselves and the way they are filed should be subject to primary or secondary legislation not FIU guidelines. For example, the Association:-

  • does not support mandatory electronic STR filing requiring specialist and costly software implementation for financial institutions; and
  • supports prescription of STR report forms themselves (ie not just the information required) in primary or secondary legislation to ensure that financial institutions can be certain about what they are required to report. Currently the Police-designed suspicious transaction report in the FIU's Best Practice Guidelines for Financial Institutions seeks more information than the Financial Transactions Reporting Act 1996 requires.

AML/CFT Advisory Group

41. The Association supports the:

  • establishment of an AML/CFT Advisory Group to provide strategic oversight of the supervisory framework; and
  • proposed Advisory Group objective of enhancing the efficiency and effectiveness of the regime.

Composition and Role

42. The Association proposes that the best way of achieving this objective is by including industry representatives alongside government agencies on the Advisory Group. Only one member of the Advisory Group, the FIU, appears to have any practical AML expertise. In line with the principle of partnership, the Association submits that the Working group consider including industry representatives on the Advisory Group because:

  • industry is well placed to assist the Advisory Group with its objective by identifying barriers to effectiveness and efficiency of the regime;
  • it will assist the Advisory Group to form a more well-rounded view rather than rely on a synthesis of agencies' perspectives; and
  • it will likely improve communication and understanding between government and industry.

43. If this is not appropriate, then the Association submits that the framework explicitly provide for the establishment of a joint public/private sector forum managed by government similar to the Money Laundering Advisory Committee (MLAC) in the UK.[7] The objectives for this group could be similar to those of the MLAC's which include:

(a) enabling better co-ordination and coherence of the AML regime;
(b) reviewing the efficiency and effectiveness of AML strategy, taking into account the potential costs and benefits;
(c) providing a forum in which key stakeholders can comment and advise on the appropriate domestic response to international AML developments; and
(d) examining industry produced guidance notes and making recommendations prior to submission for government approval.

44. The Association submits that the framework establish a formal relationship between this group and the AML/CFT Advisory Group including a requirement that the AML/CFT Advisory Group is to take the collective view of this group into account when formulating AML/CFT strategy.

45. The Association also submits that:

  • the Advisory Group's performance will need to be measured against its objectives; and
  • the Advisory Group must have clear lines of accountability.

Advisory Group Sub-set

46. The Association strongly supports any measure that will promote consistency of regulation and supervision across sectors under the proposed fragmented supervisory framework. Accordingly the Association supports:

  • the proposed role of the sub-set of the Advisory Group to consider each sector's regulations, rules or industry guidance material (depending on the legislative framework model) before it is approved by the supervisor; and
  • the proposal to develop a risk-assessment methodology for supervisors to ensure cross-sector consistency in identifying and monitoring risks.

    • 47. The Association submits that industry representatives have a formal opportunity to provide input into the work of the sub-set of the Advisory Group similar to MLAC in the UK.

    Footnotes

    1. New Zealand's Compliance with FATF Recommendations: Second Discussion Document, June 2006

    2. In terms of the overall cost of the AML/CFT framework (rather than the supervisory framework in particular), the Association notes that a UK study sponsored by the Institute of Chartered Accountants in England and Wales and the Corporation of London Anti-Money Laundering Requirements: Costs, Benefits and Perceptions June 2005 indicates an average cost for the banking sector of 0.0015% of GDP for certain European countries implementing changes. For New Zealand this roughly equates to $150m across all financial services.

    3. The Association refers to the recent FATF Report on New Payment Methods of 13/10/06 which notes in relation to prepaid cards issued by money changers, that only New Zealand and Pilau do not license or supervise money changers.

    4. See also Law Commission Entry, Search and Seizure Preliminary Paper 50, April 2002.

    5. Tax Administration Act 1994, s 17. See SPS 05/08 Section 17 Notices (July 2005) which is available on Inland Revenue's website at www.ird.govt.nz although aspects of this practice statement are currently under negotiation with the New Zealand Bankers' Association.

    6. Social Security Act 1964, s 11. Code of conduct under s 11B.

    7. The overall aim of MLAC is to ensure that the UK's anti-money laundering regime is fair, effective and proportionate to the risks involved and responds flexibly to change by providing a forum for discussing the views of all relevant stakeholders. The MLAC's terms of reference note that "MLAC will enable all voices to be heard by bringing together representatives from Government, law enforcement, trade bodies and industry representatives, regulators, and consumer representatives." Membership of the MLAC includes representatives from HM Treasury, Home Office, National Criminal Intelligence Service, Association of Chief Police Officers, Financial Services Authority, The Consultative Committee of Accountancy Bodies, The Law Society, The Financial Services Consumer Panel, the Joint Money Laundering Steering Group, investment banks, large retail financial institutions, small banks and building societies, financial intermediaries.
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