United States: When Borrowers Go Up The River, Is Your Bank Up A Creek?

Last Updated: September 4 2013
Article by Jose E. Sirven

Jose "Joe" Sirven is a Partner in our Miami office.

Will your bank's security interest survive a forfeiture action?

In today's regulatory environment "knowing your customer" is absolutely essential. Even a novice banker can rattle off the myriad compliance reasons why failing to know your customer may mean trouble, particularly from the perspective of the Bank Secrecy Act and the Anti-Money Laundering laws.

Accordingly, bankers routinely gather background information and conduct site visits where appropriate, in order to minimize the incidence of doing business with high-risk customers—and to keep the regulators in check. Much of the due diligence, however, takes place at the front end of a relationship and the bulk of regular monitoring usually relates to a customer's use of its deposit accounts, related wire transfer activity, and potentially suspicious activity that comes to the attention of bank personnel.

On the lending side of the business, the necessary due diligence takes place during the credit underwriting process, considering the intended use of the loan proceeds, the credit strength of the borrower and any guarantors, and the value of any collateral intended to secure the credit facility. However, typically, after the loan has closed there may not be a reason to closely monitor the customer's activities or the use of the bank's collateral.

Furthermore, few banks can profess to keeping such close tabs on their loan customers that they would be alerted to activities that may be criminal and subject the borrower to fines, penalties, incarceration, and asset forfeitures. And it is important to note that, while it is still a fairly unusual occurrence, corporations and other business entities do get indicted for a variety of crimes.

So, if a lender has exercised great care upfront and is confident that it has conducted the requisite due diligence, what is the issue?  If the lender has a perfected security interest in personal property or a properly filed mortgage on real estate and the value of that collateral supports the potential repayment of a defaulted loan, why worry? 

Unfortunately, even if the collateral is strong and the loan papers impenetrable, a lender may have to battle Uncle Sam if the Department of Justice files a forfeiture complaint against your collateral.

That's correct—against your collateral, not your customer.

Your borrower may already be in jail—or on the run.

How you could hit trouble

Assume the following facts:  ABC Inc. is in the business of renting residential properties with more than a dozen multi-family pieces and a dozen single-family residences. None of the properties are encumbered.

Town Bank makes a term loan of $2 million to ABC secured by a pool of a portion of the real estate assets. ABC insisted on very light financial covenants and instead agreed to a borrowing base that would require ABC to mortgage enough real estate to maintain a loan-to-value ratio of not less than 40%. The base is tested quarterly using recent appraisals. The loan was funded on Nov. 1, 2012 and additional real estate, a single-family home, was added to the collateral pool on July 15, 2013, to meet the borrowing base requirement.

Now here's the rub. ABC began laundering money for a drug cartel in February 2013, and starting June 5, ABC allowed, for a significant fee, the single-family home to be used as a meth lab.

The bank's analyst visited the home on July 1, 2013, and reported in her notes that the appraisal seemed to amply support the value of the home. But she added that there were suspicious characters renting the home carrying away packages and there was one room in the home to which the tenants did not allow her access. She suspected that drug-related activities may be taking place. The bank's senior lending officer challenged her "speculation" and the additional collateral was approved without further inquiry.

In late August, the US Attorney announced that ABC had been indicted on a number of federal charges that include money laundering and that the United States has filed a civil forfeiture complaint seeking to forfeit all of ABC's assets. The bank's senior management expresses shock and dismay at this turn of events because they had no clue that ABC itself was involved in any illegal activities and assumed that the suspicious tenants were acting on their own without ABC's knowledge. The senior lending officer had assured the CEO and the board that the bank was very well secured and would ultimately collect the entire debt, including default interest, from its considerable collateral.

How civil forfeiture works

A civil forfeiture complaint is a complaint against property—in legal jargon, an in rem action. Federal statutes permit the government to forfeit property that is used or involved in certain crimes. If the property is forfeited, the property owner will be divested of its ownership. Money laundering is a covered crime. In simplistic terms, if the government is able to prove by a preponderance of the evidence that the property was used or involved in money laundering, the property will be forfeited.

The statutes recognize that there may be third parties who may have a legitimate claim to the tainted property. Those parties are referred to as "innocent owners."  A bank holding a mortgage on real estate (or a security interest in personal property) that is subject to a forfeiture complaint may claim innocent owner status and will have to prove by a preponderance of the evidence that it meets the requirements of an innocent owner. The statute (18 USC Section 983) provides the framework for notices, claims, standards of proof, and other procedural matters.

What is an innocent owner?

The forfeiture laws were substantially revised in 2000 pursuant to the Civil Asset Forfeiture Reform Act of 2000 (CAFRA).

CAFRA created a uniform approach to innocent owner status—contained in Section 983(d) of Title 18—and divided the analysis into two distinct circumstances. One set of rules applies to situations in which the claimant acquired its interest in the property before the criminal acts occurred, while the other set of rules applies when the claimant acquired its interest in the property after the criminal acts occurred.

Pre-criminal acts interest

If the secured creditor acquired its mortgage/security interest in the tainted property before the illegal activities took place, the creditor will be deemed an innocent owner (to the extent of its security interest).

That is, it will be so deemed if it can prove either that it did not know of the illegal conduct. Alternatively, it can prove that upon learning of the illegal conduct it did all that reasonably could be expected under the circumstances to terminate the illegal use. In a lending situation, the first test is the more likely test to apply.

Post-criminal acts interest.

If the secured creditor acquired its mortgage/security interest after the illegal activities have taken place, the innocent owner test is somewhat more complicated.

In such a situation, the secured creditor must prove that at the time it obtained its security interest it was a "bona fide purchaser for value" of the tainted property, and that the creditor did not know and was reasonably without cause to believe that the property was subject to forfeiture.

It is clear that the CAFRA bifurcation between pre- and post- illegal conduct requirements is based on the political decision that a criminal should not be able to benefit by transferring his property to his spouse, child, or other associate in an effort to thwart the forfeiture statutes.

Accordingly, a claimant must demonstrate that the security interest was the result of an arms-length transaction—and the claimant must have given "value" in the deal to achieve the statutory threshold. The knowledge element of the test seems much more subjective and will be driven by the specific facts of each case.

The ABC, Inc. case

For purposes of this writing we will assume that the Department of Justice will be able to prove by a preponderance of the evidence that ABC's real estate portfolio was directly involved in the company's money-laundering operations. And with respect to the single-family residence there is no doubt that the home was used to engage in criminal activity.

Town Bank filed its claim as an innocent owner. However, the US Attorney's office has made it clear to Town Bank that it has "issues" with the bank's claim and will challenge it.

How will the bank fare in a head-to-head battle with the US over the property serving as collateral?

  • Single-family residence:  The bank will likely face a very difficult burden in its innocent owner claim as to the single-family residence. First, it is not clear that the bank gave up anything of value for that property. While it is difficult to question that the initial term loan was anything but bona fide and arms-length, all of the loan was funded in November 2012.

The government will strenuously argue that the addition of that property to the pool was for antecedent debt and that the bank did not give new value at the time the security interest was created. The bank will argue that it would never have made the loan without the borrowing base covenant, so that the value question should relate back to the original funding.

However, even if the bank were to succeed on the test of being a bona fide purchaser for value, the bank's inaction relating to the suspected drug activity will materially weaken its position. Did the bank "turn a blind eye" to the analyst's suspicions regarding drug activity on the property?  The analyst's testimony will likely support a government contention that the bank either knew or at least had reasonable cause to believe that the property may be subject to forfeiture.

  • The remaining portfolio:  The bank's position as to the remaining properties should be stronger.

First, the loan was made and the mortgages put in place before ABC turned to criminal activities. Consequently, the bank should be able to prove that it did not know of the money laundering activities because it did not have actual knowledge of such activities.

Whether the issues relating to the single family residence might infect the rest of the portfolio is not entirely clear. The government may argue that the suspected drug activities should have been reported to law enforcement or at least to ABC, meaning that the bank did not do all that it could have reasonably done to stop the illegal activity.

The bank would counter by introducing evidence that any suspicion it had related solely to the meth lab activity at the one single-family residence and that it had no reason to suspect that ABC knew of or condoned its tenant's activity or, even more important, that ABC was involved in money laundering using the remaining rental properties that were mortgaged to the bank.

Taking precautions against forfeiture

It should be clear from the above that a bank customer's illegal activities may have direct financial repercussions beyond the compliance-related issues that are front and center of any robust bank KYC/BSA policies and procedures.

Banks should not rely solely on their documentation, lien status, and collateral value in analyzing their realistic position when faced with a borrower that is alleged to be involved in criminal activity. And banks should be prepared to act when learning of facts that may jeopardize their collateral from a forfeiture perspective.

The facts may not be of the type that would cause the bank to file a suspicious activity report. And it is not clear that filing a SAR, by itself, would be sufficient to meet the burden of doing "all that reasonably could be expected" of the bank under the particular circumstances.

The lesson to be learned is that any time a loan customer is accused of criminal activity or if the bank suspects that its loan customer may be involved in criminal activity or that its collateral is being used in or connected to criminal activity, the bank needs to promptly review the entirety of the circumstances to determine what steps, if any, it should take to preserve its lien position, and to determine whether the loan merits any special reserves resulting from that analysis.

Previously published in the ABA Banking Journal

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

*** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .


This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.