On 4 September 2019, the Financial Action Task Force (FATF) and Asia/Pacific Group on Money Laundering (APG) issued the Fourth Round Mutual Evaluation Report of Hong Kong, China (Report). As part of the evaluation process, an onsite visit took place in Hong Kong from 30 October 2018 to 15 November 2018.1
The Report evaluates Hong Kong's level of compliance with the FATF 40 Recommendations2 and the level of effectiveness of Hong Kong's anti-money laundering (AML) and counter-financing of terrorism (CFT) system. In the Report, FATF/APG also provided recommendations on how to strengthen Hong Kong's AML/CFT regime.1
This article summarises the key findings and recommended actions identified in the Report that are relevant to the financial services sector.
1. Key findings
Hong Kong's AML/CFT regime is assessed to be overall compliant and effective.3 Hong Kong has a strong legal and institutional framework to combat money laundering (ML) and terrorist financing (TF) risks. Compared to its previous Mutual Evaluation in 2008, Hong Kong has improved significantly in its technical compliance with the FATF Recommendations, and is particularly strong in confiscation, law enforcement, preventive measures for, and the supervision of, financial institutions (FIs), and international co-operation. Nevertheless, there are some notable deficiencies in the areas of transparency of legal arrangements, preventive measures for politically exposed persons (PEPs), and supervision of Designated Non-Financial Businesses and Professions (DNFBPs).4
I. The level of understanding and awareness of ML/TF risks
Hong Kong has a reasonably good level of understanding of its ML and TF risks.4 Hong Kong largely recognises the range of ML/TF threats it is exposed to, its main ML/TF risks, and the common typologies used to launder proceeds,4 as well as demonstrating an ability to prosecute all forms of ML and having a high conviction rate.5 However, Hong Kong needs to deepen its level of understanding for some other higher risk ML areas, for example, ML linked to foreign tax and corruption offences.1
With respect to the financial services sector, large FIs and members of large international financial groups have a good level of awareness and understanding of their AML/CFT obligations and ML/TF risks, including specific higher risk situations which require enhanced customer due diligence (EDD). Moreover, there is an adequate level of implementation of customer due diligence (CDD) and beneficial ownership requirements, and EDD measures.6 These FIs have sophisticated internal control policies and procedures, and there are no apparent obstacles with respect to information sharing within international financial groups.7
For smaller FIs (especially in the money service operators (MSOs) and moneylender sectors), improvements are required on the level of awareness and understanding of ML/TF risks, and the implementation of AML/CFT measures, especially with regard to risks posed by non-resident customers, foreign PEPs and other higher risk areas.6, 7 Moreover, smaller FIs do not seem to have a comprehensive understanding of high-risk situations and obligations, particularly in relation to targeted financial sanctions (TFS) obligations (further details below).6 There are also weaknesses in the understanding and implementation of PEP requirements derive from technical deficiencies regarding obligations for PEPs from other parts of China.8 These smaller FIs, especially non-banking FIs, appear to have less sophisticated internal AML/CFT measures.9
II. Suspicious transaction reporting
Regarding filing of suspicious transaction reports (STRs), most STRs were submitted by the banking sector, with the majority being large banks. This result has demonstrated the increased awareness of the banking sector.10 Yet, the low level of reporting by MSOs and moneylenders raised concerns.11 There are also issues with the quality of STRs filed by MSOs and defensive filing by authorised institutions.6
III. Proliferation financing (PF) and targeted financial sanctions (TFS)
Hong Kong is recognised as an international financial centre due to the relative ease of company formation and its geographic location. However, this has also increased its exposure to potential proliferation financing (PF) activities, particularly through the misuse of legal persons and financial channels.12 Interestingly, the Report stated that, as a strategic priority, Hong Kong should monitor and manage its exposure to exploitation for PF purposes by the Democratic People's Republic of Korea (DPRK).13
In May 2018, Hong Kong amended its legal framework to implement TFS, and is currently implementing TF and PF TFS without delay. The Report noted that there were previous delays in implementing TFS, particularly PF TFS. This was mitigated to some extent as many large/international FIs and DNFBPs have, in practice, demonstrated good awareness and understanding of their PF risks and PF TFS obligations.14
On the other hand, for smaller entities and newly regulated sectors, there are gaps in the understanding and implementation of the PF TFS obligations and in monitoring the compliance of these sectors, which may impact Hong Kong's ability to demonstrate effectiveness.14
In general, the Report stated that there are some concerns regarding whether it is reasonable that no PF TFS case has been substantiated by Hong Kong so far given its exposure.12
2. Recommended actions
Below are some of the recommended actions suggested in the Report:
- To deepen the understanding of ML/TF risks: Hong Kong should continue strengthening its understanding of ML/TF risks and to closely review the ML threats arising from foreign crimes, for example, corruption and tax crimes.15 In addition, Hong Kong should ensure that FIs (especially smaller FIs) and DNFBPs deepen their understanding of ML/TF risks, such as on cross-border financial flows, non-resident customers and PEPs and TFS requirements.15, 8
- To enhance implementation of AML/CFT measures: Hong Kong should take further actions to strengthen AML/CFT implementation by DNFBPs and smaller FIs, particularly with regard to the risks posed by non-resident customers, beneficial ownership requirements, EDD requirements in relation to foreign PEPs, and TFS requirements.15 Regarding PEPs, Hong Kong should close the technical gap in relation to the coverage of PEPs from other parts of China.15
- To improve suspicious transaction monitoring and reporting: Hong Kong should ensure that FIs, in particular MSOs, strengthen their transaction monitoring systems and ensure adequate, appropriate and timely reporting of STRs. Government authorities (e.g., the Joint Financial Intelligence Unit ) are encouraged to provide more feedback and guidance to FIs in relation to the STR obligations, including typologies, red flag indicators and avoiding defensive filing where appropriate.8
- To closely monitor and manage its exposure to PF as a strategic priority: Hong Kong should monitor and manage its exposure to PF as a strategic priority, and ensure an understanding of risks across all authorities is a focus at the jurisdictional level.16 Hong Kong should conduct targeted outreach to smaller entities in all sectors, and focus in particular on those sectors that demonstrated more systemic gaps in understanding of their TFS obligations. Hong Kong should pursue the identification of PF-related funds, assets and economic resources and review whether there are impediments to the identification of such assets in Hong Kong.15
3. Next steps
Based on the Report, we have identified four key takeaways for the financial services sector:
- Review your exposure to ML/TF risks, as well as the
effectiveness of your compliance in managing the exposure, with
specific reference to:
- sufficiency of due diligence for high risk sectors or groups, such as PEPs (particularly China PEPs), dealers in precious metals and stones, MSOs and moneylenders;
- the DPRK including any potential exposure through your customers, your customers' customers, and other third parties;
- foreign tax evasion using information derived from, for example, International Consortium of Investigative Journalists, and the Organised Crime and Corruption Reporting Project;
- other FIs/corporates that have recently been the subject of negative news regarding their internal compliance and controls around ML and/or corruption;
- Consider an independent review of the effectiveness of automated transaction monitoring systems, including data quality and its alignment to industry standards;
- Perform a review or audit of STR filing including the quality of filings, and a sample-based review of any decisions to not report; and
- Conduct targeted training on non-fraud ML with a particular focus on identifying foreign tax and corruption issues, and developing a greater understanding of PF TFS.
1 The Report, P.3.
3 The Report, P. 5, 13; Out of the 40 FATF Recommendations, there are 11 Recommendations rated as "Compliant", 25 Recommendations as "Largely Compliant", and 4 Recommendations as "Partially Compliant". For the effectiveness component, there are 6 Immediate Outcomes rated as "Substantial", which need moderate improvements, and 5 Immediate Outcomes rated as "Moderate", which need major improvements.
4 The Report, P.5.
5 The Report, P.7.
6 The Report, P. 107.
7 The Report, P. 111.
8 The Report, P. 108.
9 The Report, P. 119.
10 The Report, P. 117, 118.
11 The Report, P. 117.
12 The Report, P. 4.
13 The Report, P. 12, 85, 105.
14 The Report, P. 4, 104.
15 The Report, P. 12.
16 The Report, P. 85.
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