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From the Archives: Will Tranche 2 Ever Happen?

Friday 8 October 2021
People on a street, Will Tranche 2 ever happen ? AML Compliance

This article by Anthony Quinn was originally published in the GRC Professional in 2015 before the media storm of the Panama Papers. 

Food for thought in light of the most recent Pandora Papers.  

As the clock ticks over into 2016, nearly a decade on from when the AML/CTF Act was first introduced into Australia, I wanted to examine the potential future shape of the AML/CTF Act, following both the FATF Mutual Evaluation report1 , published last year, and the Statutory review of the AML/CFT Act 2006.

 In particular, I want to look into whether AML/ CTF laws in Australia are any closer to applying to Designated Non-Financial Businesses and Professions (DNFBPs)—for example, accountants and trust services businesses, lawyers, real-estate agents, precious metal and other high-value dealers— and, if so, what the likely timing and implications will be on these gate-keepers or Tranche 2 businesses as they are commonly known.

We will also examine the challenges faced by the AML/CTF regulator, AUSTRAC, in overseeing the extension of the long-awaited AML/CTF laws to a numerous and diverse set of sectors, and what Tranche 2 businesses operating in these sectors should be starting to think about.

Before we get into this, it is important to give a quick history lesson for the uninitiated. In 2006, when the AML/CTF Act was first introduced, the regulator made a commitment to extend the law to Tranche 2 businesses by 2007. This did not happen. Nearly a decade later, these businesses remain outside the legislation, making Australia very attractive to money launderers when compared to the same industries in other countries that are subject to AML laws.

In April 2015, the Financial Action Task Force (FATF), the international body established to provide guidance to the 190 member countries on the effectiveness of AML regimes, published the Mutual Evaluation Report on the effectiveness of Australia’s AML regime, and found it wanting in many areas.

One of the major criticisms levelled at Australia was that AML laws do not apply to Tranche 2 businesses. This is certainly justified, given the nearly decade-long delay. It is anticipated that AUSTRAC’s response to both the FATF report, and outputs of its own statutory review, are expected to be published shortly This will shed much-needed light on the expected changes; however, until this happens, it begs the question: will AML/CTF laws ever apply to Tranche 2 business in Australia, and if so when?

 My view is that, whilst strong resistance remains from many powerful lobbying groups—for example, the Law Council of Australia, who have argued it would be ‘undesirable and unjust’3 were AML laws applied to their sector, citing an expected implementation cost to the sector of nearly $800m— if Australia’s commitment to stamping out financial crime is ever to be taken seriously on the international stage, then AML laws must be applied to these sectors, and as soon as practicable.

Resistance is to be expected. The changes will undoubtedly impact upon systems, policies, procedures and operating practices across these businesses, and will certainly prove a significant challenge to all. I remember similar defensive arguments being put forward by the Financial Services industry back in 2005, but in-spite of initial protests, the AML laws were introduced and are now accepted as a fact of life and a cost of doing business.

In fact, after nearly 10 years in effect, AUSTRAC receives approximately 85,000 Suspicious Matter Reports (SMR’s) every year, detected through KYC and transaction surveillance systems. This has prompted the financial, gaming and bullion sector to report suspected money laundering or terrorism financing activity, a clear sign that criminal activity is alive and well in the Australian economy.

Globally, there has been a rising trend in Tranche 2 businesses being exploited by increasingly sophisticated criminal networks who, unsurprisingly, look to launder the proceeds of crime in ways least likely to be detected. After all, criminals, if they are smart, will always look to exploit the weakest link in the chain, and Australia right now has a lot of weak links.

You don’t have to be a criminal mastermind to figure out that Australia’s lack of action in expanding the AML laws to Tranche 2 businesses provides the perfect opportunity to exploit unregulated businesses, who, without any systems, procedures or controls to identify, detect, investigate and report suspicious activity, are sitting ducks, ripe for criminal exploitation.

Another global trend in AML laws is to require existing regulated businesses to tighten customer due diligence (CDD) controls, such as expanding checks on politically-exposed persons (PEPs), to domestic PEPs and close associates/family members, and to obtain more granularity in respect of the beneficial owners and controllers or entities. Ironically, it is often the gate-keepers, such as lawyers and tax accountants, who provide services specifically to establish complex company and trust structures, purposefully designed to obfuscate ownership structures. Thus, lobbying efforts to prevent AML laws from applying to Tranche 2 sectors are directly at odds with what the AML/CTF regime is trying to achieve.

There is little logic in the argument that AML laws should be strengthened for existing regulated businesses, whilst simultaneously precluding gatekeepers from being subject to the same; thus, I would argue it is a case of when, not if, AML laws are introduced to Tranche 2 businesses. But as to when this will happen? That is the $15bn question (the amount the Attorney General’s Department estimates is laundered in Australia every year).

 So, what exactly, is preventing Australia from expanding the laws to Tranche 2 businesses?

 The short answer is: nothing. The long answer is more complicated, but arguably, it boils down to a few key issues:

 Firstly, introducing new laws to any sector is never going to be popular. The FATF Mutual Evaluation Report indicated that there are around 85,000 Tranche 2 businesses that would be affected, and collectively, these industries are a formidable force, in terms of their contribution to Australia’s GDP. For example, the real-estate sector is reported to employ over a million people, across 35,000+ real-estate agencies, with over $182bn of property settlements every year. Even if 1% of this was the proceeds of crime (but I’dbet it’s higher), the sector could, conservatively, be estimated to represent $1.8bn of laundered proceeds each year.

Secondly, the Australian political landscape has been in an almost constant state of turmoil for the last 5 years, with successive leadership and party changes. Thus, the current leadership likely view the introduction of AML changes to these sectors in an election year as risky and disruptive. It would be nice to think that, given both domestic and international interest in financial crime prevention, money laundering, terrorism financing, tax avoidance and evasion, bribery and corruption and sanctions, that the introduction of such laws should be a no-brainer.

 Last, but by no means least, is the ability for AUSTRAC to handle oversight for another 85,000 reporting entities, on top of the existing 14,000 reporting entities for which they are responsible, currently. Given Government cutbacks (AUSTRAC have about 260 staff4 , around 30 operating in enforcement, a ratio of 3,300 regulated entities per employee), it is not entirely surprising that, in its history, there have been less than 20 enforceable undertakings, and netted a top fine of less than $350k5 . It could be argued that AUSTRAC are underresourced for the job. In comparison, since 2008, US banks have been fined USD$260bn for noncompliance, with much of these funds being used to bolster regulators and law enforcement agencies. So maybe a move towards this style of regime is needed to give our regulator the resources needed to take on this challenge?

 Given these resource constraints, it would be reasonable to expect AUSTRAC to adopt a selfcertification model, where CEOs and/or MLROs would need to attest to compliance, with personal liability exposure for non-compliance. We shall have to wait and see, however, how AUSTRAC will respond to a six-fold increase in the number of regulated entities.

 So, what challenges can Tranche 2 businesses expect, if AML laws apply to them in the future?

Having been responsible for designing, implementing and operationalising the AML/CTF Program for the retail division of a major investment bank for over four and a half years, I have a good idea about the challenges Tranche 2 businesses will face in complying with AML laws. So let’s explore some of these lessons learned from first-hand experience.

The first challenge is usually acceptance. As we all know, however, many different emotions come before this—shock, denial, anger and bargaining to name a few. One early, key factor of success is to identify the core business sponsor, to ensure they are as senior as possible, with the ability to influence other key executives (and board members where appropriate) and to raise their awareness of the requirements and the potential depth of impact the changes will have on the business. The aim of this is not only to ensure a firm commitment is provided in terms of ‘tone from the top’, but ultimately, that they dedicate the time and financial resources required to deliver an effective AML/CTF Program.

 The second challenge, once you have the buy-in and support of the board and senior executive team, is to identify and appoint a Money Laundering Reporting Officer (MLRO), who will take responsibility for driving AML compliance across the organisation. Fortunately, for Tranche 2 businesses, there are many more experienced AML resources now than there were back in 2006, where experienced AML practitioners were as rare as hen’s teeth. However, finding an experienced and qualified AML practitioner that is not already fully and gainfully employed by the existing 14,000 regulated entities won’t be easy.

Once the MLRO is on-board as the day-today sponsor—ideally working side-by-side with a project lead to drive the changes—the next step is to break the news to the various, affected business stakeholders, and engage them in a meaningful way to first conduct an impact assessment, to evaluate the scale of changes required, and secondly, to take ownership for making the AML/ CFT Program implementation as painless as possible.

A core outcome of the impact assessment is to fully understand the AML/CTF risks faced by the organisation, so the AML/CTF Program can then be designed proportionate to the risks faced. This requires the further development and implementation of an AML/CTF Risk Assessment, which must be maintained and embedded into the day-to-day operational processes of the business. For organisations new to this process, this will, undoubtedly, prove challenging. It is a core pillar of our business to provide the tools to help reporting entities in this regard.

The exact components of the AML/CTF Program, as it will relate to Tranche 2 businesses, is unpublished currently; however, the table below summarises my view on the core elements I would reasonably expect to be included:

Each of these elements are significant in their own right, and future articles will break down some of the challenges that Tranche 2 businesses can expect to overcome.

So, what is the likely timing for AML laws to come into effect for Tranche 2 businesses?

 To be honest, this is anyone’s guess. Assuming, for a minute, that the scope of the AML/CTF Program lands as described above, and Tranche 2 businesses will be afforded an ‘assisted compliance period’, (which at best could be 12 months), where shortly after the AML/CTF laws are enacted, they must demonstrate to AUSTRAC that the board has approved and adequately resourced an implementation program that will achieve the operationalisation of the AML/ CTF Program within the required timeframes, the typical implementation plan could look like the one above.
What this timeline illustrates is that, whilst the industry consultation period, enactment of the laws and implementation windows may seem like a lifetime away, and given the complexity and impact on organisations to comply, forward-thinking organisations should start to get on the front foot and conduct preliminary impact analyses now.

So, what could Tranche 2 businesses be doing to prepare?

Whilst this period could be viewed as “the calm before the storm,” and no business wants to spend money unnecessarily, the fact is that the better-prepared Tranche 2 businesses are, the less painful this change will be.

 It is expected that, over the coming months, once (not if) Australia decides to introduce AML/CTF laws for Tranche 2 businesses, AUSTRAC will engage in a period of industry consultation. During this time, AUSTRAC will explain the core elements required to be implemented and outline the timeframes within which they expect these industries to be compliant. After consultation, this will hopefully further refine the final form of the AML/CTF laws.

Tranche 2 businesses should now, therefore, be examining the current AML/CTF laws as they apply to other sectors, as well as looking at how AML laws have been introduced in other jurisdictions. This information can be used to conduct impact analyses on what changes will need to be made in order to comply with an AML/CTF Program. Boards and executives can be prepared to expect change within the next oneto-two years, and to be prepared to provide both time and resources to deliver this capability.

Tranche 2 businesses would also benefit from hearing about the experiences of implementing an AML/CTF Program from those who have implemented it within an existing Tranche 1 business (financial institutions, gaming firms and bullion dealers). This would give Tranche 2 businesses the opportunity to learn about the implementation challenges, how they were overcome, the mistakes that were made and how to avoid these.

Tranche 2 businesses should start to look at who will be the business sponsor and owner for AML/CTF, determine how they will engage in industry consultation and, ultimately, mobilise the resources required to meet the challenge.

Final thoughts

AML/CTF laws for Tranche 2 businesses are coming. Whilst we don’t know when and in what form the final AML/CTF regulations will take, there are certainly things that AUSTRAC can be doing to engage industry in meaningful dialogue once its strategic direction is published in response to the FATF Mutual Evaluation and the AML/CTF Act statutory review.

Similarly, there are things Tranche 2 businesses can be doing to prepare themselves for the changes: being on the front foot will make this process as painless as it can be.