United States: Responses to September 11 Attacks

Originally Published in Investment Services Advisor - February 2002

On October 26, 2001, President Bush signed the USA Patriot Act. On December 28, 2001, the Treasury Department issued proposed regulations under the USA Patriot Act to (1) require broker-dealers (including mutual fund distributors) to report suspicious transactions by their customers to the Financial Crimes Enforcement Network; (2) prohibit U.S. financial institutions from providing correspondent accounts to foreign shell banks; and (3) require "nonfinancial trades or business" (which may include some transfer agents) to report certain currency transactions.

Broker/Dealer Suspicious Activity Reports. Under the proposal, registered broker-dealers would be obligated to report any customer transaction (or attempted transaction) involving at least $5,000 that:

• involves a known or suspected violation or attempted violation of a federal criminal statute; or
• is known or suspected by the broker-dealer:

Broker-dealers would not be required to report transactions that are reported under Exchange Act Rule 17f-1 (dealing with lost or stolen securities) or violations of securities laws or regulations that are otherwise reported by the broker-dealer to the SEC or applicable SRO. Broker-dealers would be prohibited from notifying any person involved in a reported transaction that the transaction had been reported or disclosing to anyone except a proper law enforcement or regulatory agency that a transaction had been reported. The USA Patriot Act and the proposed regulations provide broker-dealers with a safe harbor from liability (in a lawsuit or arbitration) for making such a report or for failing to disclose that a report was made.

Correspondent Accounts for Foreign Banks. Under this proposal, financial institutions (including registered broker-dealers) would be prohibited from providing correspondent accounts to "foreign shell banks," and institutions that provide correspondent accounts to foreign banks would be required to maintain records of the ownership of such banks and their agents for service of process in the U.S. "Foreign shell banks" do not have a physical presence - such as employees or an office - in the country where they are authorized to conduct banking activities. The Treasury expects that U.S. financial institutions will terminate their accounts with foreign shell banks immediately.

U.S. financial institutions would be required to obtain and maintain records regarding the ownership of foreign banks for which they maintain correspondent accounts. Financial institutions would be required to update their foreign bank ownership information every two years or whenever the institution has reason to believe that the previously provided information is no longer correct.

Reporting of Currency Transactions by Nonfinancial Trades or Businesses. The TreasuryDepartment issued this rule in both proposed and interim final form, meaning that it is in effect during the comment period. It requires "nonfinancial trades or businesses" (which may include transfer agents not covered under current regulations) to report the receipt of more than $10,000 in cash in a single transaction or a series of related transactions. Essentially, this duplicates an existing reporting requirement previously issued by the Internal Revenue Service and is similar to currency transaction reporting requirements that have been in effect for banks, broker-dealers, and other financial institutions for some time.

The USA Patriot Act also directs the Treasury, the Federal Reserve Board and the SEC to jointly submit a report to Congress making recommendations for effective regulations to apply the requirements of the Bank Secrecy Act to investment companies within one year of enactment.

According to the October 2001 edition of Fund Directions, the September 11th terrorist attacks have raised compliance concerns for fund directors regarding the sufficiency of both disaster recovery and mass redemption liquidity plans. According to an industry consultant, boards should examine the contingency plans of all primary service providers, including the adviser, custodian and transfer agent, and ask for such information on an annual basis prior to voting on the renewal of advisory contracts. For example, boards should ask about the contingency plans of all of the fund’s primary service providers, what system is being used to back up shareholder and trading data, how often the data is backed up, whether the fund is capable of opening for business the next day following the destruction or incapacitation of its offices, and whether the fund has adequate lines of credit.