FinCEN Issues Interim Regulations Concerning Anti-Money Laundering Programs for Operators of Credit Card Systems and Money Services Businesses.

As discussed in the April 23, 2002 issue of the Alert, the Financial Crimes Enforcement Network of the U.S. Department of Treasury ("FinCEN") issued four interim final rules ("AML Rules") implementing Section 352 of the USA PATRIOT Act. One of the AML Rules ("Operator AML Rule") focuses upon anti-money laundering ("AML") programs of "operators of credit card systems" ("Operator" or "Operators"). Another of the AML Rules ("MSB AML Rule") focuses on the AML programs ("AML Programs") of money services businesses ("MSB" or "MSBs"). Both Operators and MSBs must establish AML Programs by July 24, 2002. An AML Program must include, at a minimum: (1) the establishment of internal policies, procedures, and controls; (2) the designation of a compliance officer; (3) an ongoing employee training program; and (4) an independent audit function to test programs. The AML Rules took effect on April 24, 2002, but are still subject to public comment. Comments may be submitted on or before May 29, 2002.

A.Operators of Credit Card Systems

An Operator is defined as "any person doing business in the United States that operates a system for clearing and settling transactions in which the operator’s credit card, whether acting as a credit or debit card, is used to purchase goods or services or to obtain a cash advance," and "who has authorized another person (whether located in the United States or not) to be an ‘issuing’ or ‘acquiring’ institution for the operator’s credit card." However, merchants, vendors or banks who exclusively issue credit cards that may be used only for purchases made from a particular merchant or vendor are excluded from the definition of an Operator. Moreover, the Operator AML Rule adopts the federal Truth in Lending Act definition of a credit card, and thus applies to charge cards and debit cards that also function as credit cards.

The Operator AML Rule recognizes that many important AML functions reside with the card-issuing and merchant-acquiring institutions ("Members"). Members in the U.S. are already subject to AML regulations. Nevertheless, Operators bear the sole burden of assessing the risk associated with the initial and continuing authorization of both U.S. and foreign Members and with the processing of credit card transactions. FinCEN expects that an Operator’s existing anti-fraud and risk of loss assessment procedures may be tailored to incorporate AML functions.

As part of its AML program, an Operator must undertake a risk assessment concerning Members using the system. In making that assessment, the Operator must presume that a Member is associated with a heightened risk of money laundering or terrorist financing if it is: (1) a foreign shell bank that is not a regulated affiliate of a U.S. financial institution; (2) on the Treasury Department Office of Foreign Assets Control Specially Designated Nationals List; (3) located in or licensed by a jurisdiction that sponsors international terrorism; (4) a foreign bank operating under an offshore banking license, other than certain comprehensively supervised foreign bank branches; (5) located in or licensed by a jurisdiction uncooperative with international AML principles; or (6) located in or licensed by a jurisdiction as to which the Treasury Department has money laundering concerns.

An Operator’s AML Program must be in writing and approved by senior management and should be reasonably designed to ensure that the Operator takes appropriate steps to guard against Members using the system in circumstances that facilitate money laundering or the financing of terrorist activities. An Operator’s testing of its AML Program may be provided by employees of the Operator so long as the employees conducting the test are not involved in operating or overseeing the AML Program. Furthermore, employees of the Operator should be trained (in a manner that is relevant to their respective functions) both as to federal Bank Secrecy Act ("BSA") requirements as well as to effective means of recognizing possible signs of money laundering.

B.Money Services Businesses

The MSB AML Rule applies to currency dealers or exchanges; check cashers; issuers of traveler’s checks, money orders, or stored value devices; sellers or redeemers of traveler’s checks, money orders, or stored value devices and money transmitters. The MSB AML Rule recognizes that a number of MSBs sell their products through other MSBs and thus permits such MSBs to allocate the responsibility for developing AML policies among themselves. An MSB’s AML program must be in writing and should reflect an analysis that takes into account the size and location of the MSB and the nature and volume of the financial services it offers. An MSB’s

AML program must include provisions for complying with BSA requirements to (1) verify customer identification, (2) file reports, (3) create and retain records, and (4) respond to law enforcement requests. Moreover, the MSB AML Rule provides that MSBs that have automated data processing systems should integrate AML compliance procedures into their systems. Furthermore, an MSB’s testing of its AML Program may be provided by employees of the MSB so long as the employees conducting the test are not involved in operating or overseeing the AML Program. In addition, the employees of the MSB should be trained (in a manner that is relevant to their respective functions) both as to BSA requirements as well as to effective means of recognizing possible signs of money laundering.

FDIC Issues Letter Concerning Risks to Banks of Custodial Relationships with Failed Securities Broker-Dealers

In the wake of the failure and liquidation by the Securities Investors Protection Corporation ("SIPC") of a large, regional securities broker-dealer, the FDIC issued a supervisory letter (FIL-38-2002, the "Letter") alerting banks to concerns the FDIC has identified regarding bank custodial relationships with failed securities broker-dealers. The FDIC notes in the Letter that SIPC was established to provide protections to certain customers against losses from the failure of a securities broker-dealer. To the extent that a bank is acting as agent for its investor-customer, the customer, after the failure of the broker-dealer, is eligible to receive advances from SIPC up to a $500,000 per customer limit. A bank acting on its own behalf is not eligible to receive such advances from SIPC and will only receive a pro rata share of the "customer property" remaining at the failed broker-dealer after any of the property registered in the name of specific customers has been distributed. Accordingly, the FDIC reminds banks that they should exercise due diligence when selecting broker-dealers and establishing a custodial relationship. Banks should consider and review periodically a broker-dealer’s financial condition and reputation and should assess the broker-dealer’s "ability to honor its commitments." The FDIC states that banks should review their existing custodial relationships and the underlying documentation. Moreover, the FDIC asserts, banks should maintain relationships with more than one custodian so that their risks are appropriately diversified.

Sixth Circuit Rules Overlimit Fee is Finance Charge under TILA

The United States Court of Appeals for the Sixth Circuit in Pfennig v. Household Credit Services, Inc. ("Pfennig") held that an overlimit fee charged in connection with a credit card plan is a finance charge under the federal Truth in Lending Act ("TILA") when the customer and the card issuer agree that the credit limit may be exceeded, i.e., the customer does not exceed the credit limit unilaterally. The defendant card issuer in Pfennig allowed the customer to exceed her credit limit and treated the fee incurred as a result as a purchase and not as a finance charge. The Court stated that an agreement by the card issuer to extend the customer’s credit limit may be inferred from the card issuer’s routine practice of authorizing card transactions that exceed customer credit limits.

The Court’s holding is contrary to the treatment of overlimit fees under Regulation Z, which implements TILA, and which explicitly excludes overlimit fees from the definition of finance charge. The Court rejected the defendant’s arguments that deference should be given to the FRB’s interpretation of TILA’s requirements in Regulation Z, but found that the card issuer was immune from civil liability under TILA because it had complied in good faith with Regulation Z. A petition for rehearing en banc has been filed by the defendant. Pfennig, 2002 U.S. App. LEXIS 6677 (Apr. 11, 2002).

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