Fighting fraud: AML and CFT in the EU

November 2021  |  FEATURE | FRAUD & CORRUPTION

Financier Worldwide Magazine

November 2021 Issue

Although a longstanding priority across the European Union (EU), efforts to tackle money laundering and terrorist financing have met with limited success to date, due largely to an inconsistent regulatory environment between member states.

This lack of coordination, in turn, allows money launderers and terrorist financiers to exploit loopholes and differences between national anti-money laundering (AML) and countering financing of terrorism (CFT) systems, to successfully launder money or move assets to finance terrorism through the financial system, thus wreaking havoc.

While the scale of money laundering is difficult to estimate (as its nature dictates, such fraud is not disclosed unless detected), according to the European Court of Auditor’s 2020 report, ‘The EU’s anti-money laundering policy in the banking sector’, annual financial flows due to money laundering are estimated at trillions of euros worldwide, and hundreds of billions within the EU.

For its part, Europol has estimated that approximately 1 percent of the EU’s annual GDP is associated with suspicious financial activity. In 2020, this would represent some $150bn (likely to be a conservative estimate) – a scale that highlights the ineffectiveness of EU efforts to tackle the issue to date.

“The EU’s approach to date has been largely to implement global standards promoted by the Financial Action Task Force (FATF), of which the EU and leading EU member states are members,” says John Cusack, chair of the Global Coalition to Fight Financial Crime. “This has required a ‘follow the money’ approach and an expansion of all crimes and extension of those with responsibilities both from the public and private sector.

“Yet, while a lot of effort has been expended, results were not what was expected,” he continues. “Although more is known about criminality and who the criminals are and how they operate than at any time in the past, the problem is that this information is not being used, shared and acted upon across the EU and elsewhere sufficiently to improve effectiveness.”

However, in an attempt to beef up and harmonise disparate provisions across the EU, on 20 July 2021, the European Commission (EC) presented an ambitious package of legislative proposals to improve the detection of suspicious transactions and activities, and close loopholes used by criminals to launder illicit proceeds or finance terrorist activities through the financial system.

The new EU AML and CFT legislation – part of an overarching commitment by the EC to protect EU citizens and the EU’s financial system from the devastating impact of money laundering and terrorist financing – consists of a package of four legislative proposals, as outlined below.

The first proposal is for regulation establishing a new EU AML/CFT authority. The creation of a new EU-level AML Authority (AMLA) will coordinate national authorities to ensure the private sector correctly and consistently applies EU rules. The AMLA will also support financial intelligence units (FIUs) to improve their analytical capacity around illicit flows and make financial intelligence a key source for law enforcement agencies.

The second proposal is for regulation on AML/CFT containing directly-applicable rules, including customer due diligence and beneficial ownership. Referred to as the Single EU Rulebook for AML-CFT, the objective of this regulation is to harmonise measures taken in each member state. The regulation also includes the setting up of an EU-wide limit of €10,000 on large cash payments.

The third proposal is for a sixth directive on AML/CFT (AMLD6). The directive will replace the existing Directive 2015/849/EU (the fourth AML directive, as amended by the fifth AML directive) and contains provisions that will be transposed into national law, such as rules on national supervisors and FIUs in member states.

Finally, the fourth proposal is for a revision of the 2015 regulation on transfers of funds to trace transfers of crypto assets. Presently, only certain categories of crypto asset service providers are included in the scope of EU AML/CFT rules. The proposals will extend these rules to the entire crypto sector, obliging all service providers to conduct due diligence on their customers. It will ensure full traceability of crypto asset transfers, such as bitcoin, and will allow for prevention and detection of their possible use for money laundering or terrorism financing.

“Every fresh money laundering scandal is one scandal too many – and a wake-up call that our work to close the gaps in our financial system is not yet done,” states Valdis Dombrovskis, executive vice-president of the EC for An Economy that Works for the People. “We have made huge strides in recent years and our EU AML rules are now among the toughest in the world.

“But they now need to be applied consistently and closely supervised to make sure they really bite,” he continues. “This is why we are today taking these bold steps to close the door on money laundering and stop criminals from lining their pockets with ill-gotten gains.”

In the view of Mairead McGuinness, commissioner for financial stability, financial services and the capital markets union at the EC, the proposals are an important milestone in tackling existing challenges and facilitating cooperation among FIUs across the EU. “Money laundering poses a clear and present threat to citizens, democratic institutions and the financial system,” she acknowledges. “The scale of the problem cannot be underestimated and the loopholes that criminals can exploit need to be closed.

“The package of proposals significantly ramps up our efforts to stop dirty money being washed through the financial system,” she continues. “We are increasing coordination and cooperation between authorities in member states and creating a new EU AML authority. These measures will help us protect the integrity of the financial system and the single market.”

A focus on the AMLA

The heart of the EC’s AML/CFT legislative package is the AMLA, a central authority coordinating national authorities to ensure the private sector correctly and consistently applies EU rules.

Moreover, the AMLA will support FIUs to improve their analytical capacity around illicit flows and make financial intelligence a key source for law enforcement agencies. Specifically, the AMLA will: (i) establish a single integrated system of AML/CFT supervision across the EU, based on common supervisory methods and convergence of high supervisory standards; (ii) directly supervise some of the riskiest financial institutions (FIs) that operate in a large number of member states or require immediate action to address imminent risks; (iii) monitor and coordinate national supervisors responsible for other financial entities, as well as coordinate supervisors of non-financial entities; and (v) support cooperation among national FIUs and facilitate coordination and joint analyses between them, to better detect illicit financial flows of a cross-border nature.

“By establishing the AMLA, the EC aims to tackle fragmentation of supervision at member state level by introducing EU-level AML/CFT supervision, as well as to facilitate better cooperation between the FIUs,” notes Mr Cusack. “The measures should enhance information sharing to help detect criminal activities. We hope that the AMLA will take a risk-based approach to its new role and not simply introduce another layer of ex-post ‘tick the box’ reporting.”

In terms of the timetable for implementation, Mr Cusack suggests that an extension may be required to address the weaknesses of the current AML/CFT system. “The EC is envisaging only a 12-month negotiation period for the package,” he explains. “However, more time and resources might be needed given the expected political debate over the texts on issues such as data protection and third-country policy.”

New and emerging challenges

One of the key questions arising from the EC’s package of legislative proposals is how the new regime will tackle new and emerging challenges linked to technological innovation, such as the increasing proliferation of virtual currencies, including cryptocurrencies.

“With the dawn of the FinTech disruptors, new payment methods and virtual currencies, the landscape has significantly changed,” says Meagan Birch, global head of anti-money laundering at Comply Advantage. “While no regulator wants to stifle innovation, it is now clear that the EC wants to bring all of these new advances into the fold. Know your customer (KYC) has never been so important and rogue players will have a difficult time manipulating known loopholes with the new legislative powers under the AMLA.”

In the view of Mr Cusack, it is important that money laundering protections encompass virtual currencies. “The concern with virtual currencies is to ensure that protections are not avoided just because crypto is not money, even though it purports to have many of the same characteristics,” he opines. “As such, crypto will be treated as if it is cash with those banking it, for example exchanges and wallet providers responsible for AML controls.”

Next steps

With money laundering and terrorist financing “posing a serious threat to the integrity of the EU economy and financial system and the security of its citizens”, it is vitally important for the EC to deliver on its remit: to make legal frameworks to fight financial crime across the globe more effective.

That said, the prospect of delivering a significant improvement in effectiveness remains a challenge. “The proposals reflect a broad consensus that these measures or inputs make sense,” says Mr Cusack. “However, whether they will be successfully implemented and achieve the right outcomes is far from clear. Unless clear output targets are set, there will be little ability to measure progress, or to determine if the proposals have worked.”

For Ms Birch, there is likely to be more demand for better governance decisions and outcomes from FIs obliged to implement AML/CTF controls. “FIs that are complacent will fall behind and executives can be personally prosecuted,” she warns. “It is also important to consider the impact of recent surges of investment based upon environmental, social and governance (ESG) considerations for investors and European geopolitical friction which drives investment away.

“We must never forget that money laundering and terrorist financing have huge societal impacts and scores of victims,” asserts Ms Birch. “As more enforcement actions become public, the damage on these firms is immense. Moreover, penalties imposed serve as a ‘wake up’ call to the whole industry.”

Envisaging a speedy legislative process, the EC’s package of proposals will be scrutinised by the European Parliament and Council, with the aim for the AMLA to be operational in 2024, once new regulations and directives have been transposed and new regulatory frameworks start to apply.

“As Europe keeps focused on preserving financial stability, having a cohesive regulatory environment to prevent money laundering and terrorist financing is a paramount goal,” concludes Ms Birch. “Why? Because it drives better business and, in turn, better financial performance and economic stability.”

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Fraser Tennant