• Treasury proposed a new rule that would require investment advisers to establish an AML/CFT program and file certain reports, such as Suspicious Activity Reports (SARs), with FinCEN (Proposed Rule).
• The Proposed Rule would apply to investment advisers registered with the Securities and Exchange Commission and investment advisers that report to the SEC as exempt reporting advisers.
• The Proposed Rule would apply to private funds and investors in such private funds and to non-discretionary advisory clients.
• The Proposed Rule would not require investment advisers to apply AML/CFT program or SAR filing requirements to registered open-end mutual funds they advise.
• Treasury did not propose Customer Identification Program or Beneficial Ownership Information collection requirements for investment advisers at this time, but indicated such requirements are on the horizon.
• Comments on the Proposed Rule are due April 15, 2024.

The U.S. Department of Treasury’s (Treasury) Financial Crimes Enforcement Network (FinCEN) issued a Notice of Proposed Rulemaking (NPRM) on February 13, 2024 that would require certain investment advisers to establish an anti-money laundering/counter-terrorism financing program (AML/CFT Program).[1] FinCEN Director Andrea Gacki stated “[t]he current patchwork of AML/CFT requirements creates regulatory gaps that criminals and foreign adversaries exploit to launder money, hide illicit wealth, and compromise American innovation,” and the “proposed rule would level the regulatory playing field, protect U.S. economic and national security, and safeguard American businesses.”

The Treasury previously indicated its intention to propose a rule in the first quarter of 2024, announcing via press release that it was re-examining its 2015 rule proposal (discussed in further detail below) with an aim to issue an updated proposal that would apply AML/CFT requirements pursuant to the Bank Secrecy Act (BSA) to certain investment advisers.

Comments on the Proposed Rule will be accepted until April 15, 2024.

Brief history of AML Rule Proposals for Investment Advisers

The BSA requires financial institutions to have in place AML programs consisting of certain minimum elements (as discussed below). The BSA defines “financial institution” to include a number of entity types, such as (but not limited to) banks, broker-dealers in securities, investment companies and introducing brokers in commodities and futures commission merchants. Investment advisers are not included in the enumerated list of entities defied as financial institutions in the BSA and therefore historically have not been required to have in place an AML program.

Although investment advisers are not listed as a financial institution in the BSA, the BSA authorizes Treasury to add to the statutory list “any business or agency which engages in any activity which Treasury determines, by regulation, is similar to, related to, or a substitute for any activity” in which any of the statutorily listed entities engage. FinCEN has attempted to use this authority with respect to investment advisers on two occasions in the past.

In 2003, FinCEN issued a proposed rule requiring certain investment advisers to establish AML programs. The rule was withdrawn by FinCEN in 2008. In 2015, FinCEN issued a new proposal that would require certain investment advisers to establish AML programs and report suspicious activity to FinCEN pursuant to the BSA (2015 Proposal). The 2015 Proposal received significant resistance from commenters who cited, among other concerns, the redundant and duplicative compliance burden given that many investment advisers already (i) are dually registered as broker-dealers and therefore subject to AML requirements or (ii) have voluntarily implemented an AML program as part of their organization’s enterprise-wide AML obligations. The 2015 Proposal also would have brought in scope investment advisers that only advise registered investment companies where AML program requirements are either required at the fund level (for open-end mutual funds) or are required at points of entry through the broker-dealer selling or executing trades in investment company shares (for closed-end funds).

The 2015 Proposal was listed on FinCEN’s Regulatory Agenda consistently since it was initially proposed, but up until Treasury’s December 2023 statement indicating its intent to issue a rule proposal in 2024, its adoption was generally viewed as unlikely given other more pressing initiatives for FinCEN. The NPRM states that FinCEN is officially withdrawing the 2015 Proposal in connection with the updated Proposed Rule.

Scope of the Proposed Rule

The Proposed Rule would apply to investment advisers that FinCEN believes may be at risk for misuse by actors who seek access to the U.S. financial system for illicit purposes and threaten U.S. national security. Under the Proposed Rule, both registered investment advisers (RIAs) and exempt reporting advisers (ERAs) (together with RIAs, Investment Advisers) would be classified as “financial institutions” under the BSA. State-registered advisers would not be within scope of the Proposed Rule.

Investment Advisers would be required to apply an AML/CFT Program to all “advisory activities”, such as managing customer assets, providing financial advice and executing transactions for customers. However, Investment Advisers would not be required to apply an AML/CFT Program to their activities related to advising registered open-end mutual funds. FinCEN noted that registered open-end mutual funds are subject to their own obligations under the BSA and as such, applying an AML/CFT Program to registered open-end mutual fund clients is unnecessary.

The NPRM indicates that a main area of concern the Proposed Rule is intended to address is the use of private funds by illicit actors. In this regard, FinCEN stated that “[a]n investment adviser that is the primary adviser to a private fund or other unregistered pooled investment vehicle is required to make a risk-based assessment of the money laundering and terrorist financing risks presented by the investors in such investment vehicles by considering the same types of relevant factors, as appropriate, as the adviser would consider for clients for whom the adviser manages assets directly.” Accordingly, the Proposed Rule would treat private fund investors as direct clients of the Investment Adviser.

FinCEN also noted in the NPRM that the requirements of the Proposed Rule would not apply to “non-advisory” services. As an example, FinCEN explained that if personnel of an Investment Adviser to a private equity fund make managerial/operational decisions about portfolio companies, such activities would not be “advisory activities” for purposes of the rule. However, the Proposed Rule does not formally define “advisory activities.”

Proposed Requirements

1. AML/CFT Program Requirement

The Proposed Rule would require Investment Advisers to adopt a reasonably designed, risk-based AML Program to combat the laundering of money and financing of terrorism through the institution, as required by the BSA. FinCEN noted in the NPRM that it has tailored the requirements of the proposed rule to minimize potential business burden to Investment Advisers given they are subject to other regulations similar in certain ways to the AML/CFT Program requirements FinCEN is proposing.

The Proposed Rule would require Investment Advisers to establish and implement policies, procedures and internal controls reasonably designed to prevent money laundering, terrorist financing and other illicit finance activities. Such policies must, at a minimum:

• Provide for independent testing of the AML/CFT Program by the adviser’s personnel or a qualified outside party.
• Designate a person or persons to be responsible for implementing and monitoring the operations and internal controls of the AML/CFT Program.
• Provide for ongoing training of appropriate persons.
• Implement appropriate risk-based procedures for conducting ongoing customer due diligence (CDD) that includes:
  • Understanding the nature and purpose of customer relationships for the purpose of developing a customer risk profile.
  • Conducting ongoing monitoring to identify and report suspicious transactions and, on a risk basis, to maintain and update customer information.

The AML/CFT Program must be approved in writing by the Investment Adviser’s board of directors or trustees, or if it does not have a board, by its sole proprietor, general partner, trustee or other persons that have functions similar to a board of directors.

2. Reports of Suspicious Transactions

The Proposed Rule would require Investment Advisers to file SARs with FinCEN for a transaction that involves or aggregates at least $5,000 in funds or other assets, if it knows, suspects or has reason to suspect that the transaction meets any of the following criteria:

• The transaction involves funds derived from illegal activity or is intended or conducted to hide or disguise funds or assets derived from illegal activity.
• The transaction is designed, whether through structuring or other means, to evade the requirements of the BSA.
• The transaction has no business or apparent lawful purpose, and the Investment Adviser knows of no reasonable explanation for the transaction after examining the available facts.
• The transaction involves the use of the Investment Adviser to facilitate criminal activity.

The Proposed Rule would also require Investment Advisers to maintain records of SARs filed.

3. Other Requirements

In addition, certain other filing and recordkeeping rules would become applicable to Investment Advisers under the proposed rule. For example, Investment Advisers would be required to comply with the requirements of the Recordkeeping and Travel Rules, which require financial institutions to create and retain records for transmittals of funds that equal or exceed $3,000 and to ensure that certain information pertaining to the transmittal of funds “travels” with the transmittal to the next financial institution in the payment chain.

Additionally, Investment Advisers would be required to file Currency Transaction Reports (rather than filing on joint FinCEN/Internal Revenue Service Form 8300, as they do currently), upon the receipt of more than $10,000 in currency and certain negotiable instruments. Investment Advisers would further be subject to the information-sharing provisions of the BSA and “special measures” imposed by FinCEN pursuant to Section 311 of the USA PATRIOT Act.

If adopted as proposed, Investment Advisers would have one year to comply with the rule’s requirements.

Other Considerations

In 2016, FinCEN issued final regulations that amended AML program requirements for certain financial institutions to include the following CDD requirements: (i) legal entity customer beneficial ownership identification and verification; (ii) understanding the nature and purpose of customer relationships to develop a customer risk profile; and (iii) ongoing monitoring for reporting suspicious transactions and, on a risk-basis, maintaining and updating customer information (including beneficial ownership of legal entity customers).

FinCEN did not propose a customer identification program requirement for Investment Advisers or an obligation for Investment Advisers to collect beneficial ownership information for legal entity customers in the Proposal. However, FinCEN noted that it anticipates addressing these elements in future rulemakings. FinCEN is required to rewrite its beneficial ownership requirements in connection with the Corporate Transparency Act mandate to establish a database for beneficial ownership information of legal entities. FinCEN also noted that any customer identification program rulemaking is required to be a joint rulemaking with the SEC under section 326 of the USA PATRIOT Act.

FinCEN requested comment on a number of important areas, including the scope of advisory services to which the Proposed Rule would apply. For example, as proposed, Investment Advisers would be required to apply their AML/CFT Programs to model delivery clients or other non-discretionary clients where the Investment Adviser does not control any assets of the advisory client. It is also unclear how FinCEN would treat Investment Advisers located outside of the United States, particularly where the Investment Adviser’s home jurisdiction already has AML/CFT requirements.

Conclusion

The Proposal represents the latest effort in a two-decade long attempt at applying AML obligations on investment advisers. Investment Advisers looking to clarify or crystallize the scope of the Proposed Rule should submit comments. Although many larger investment advisers already have voluntary AML Programs in place, any final rule will require Investment Advisers to expend significant resources to calibrate existing programs or implement new programs to comply with a final rule.

1. See Anti-Money Laundering/Countering the Financing of Terrorism Program and Suspicious Activity Report Filing Requirements for Registered Investment Advisers and Exempt Reporting Advisers (February 15, 2023). At times, this Dechert OnPoint tracks the NPRM without the use of quotation marks.