Expect Scrutiny from BSA/AML Regulators on Reporting Ponzi Schemes, Other External Frauds
- A less obvious but inevitable consequence of the economic downturn and decline in the markets associated with the COVID-19 outbreak is the unraveling of an increased number of Ponzi schemes and other external financial frauds.
- As these fraudulent devices implode in increasing numbers during the current economic downturn, history shows that federal regulators will closely scrutinize financial institutions' efforts to detect and report suspicious activity in accounts used by criminals in connection with such schemes.
- Financial institutions should take steps now that will demonstrate to regulators that they recognize and have responded to the likelihood that they will increasingly encounter external fraud indicators in their transactions, as well as in their interactions with customers.
Now is the time for financial institutions to prepare for a less obvious but inevitable consequence of the economic downturn and decline in the markets associated with the COVID-19 outbreak: the unraveling of an increased number of Ponzi schemes and other external financial frauds.
In its Performance and Accountability Report following the market crisis of 2008, the U.S. Securities and Exchange Commission (SEC) reported that it filed "a significantly higher number of enforcement actions" involving Ponzi schemes exposed as a result of that market collapse. As these fraudulent devices implode in increasing numbers during the current economic downturn, history shows that regulators – such as the Financial Crimes Enforcement Network (FinCEN), Office of the Comptroller of the Currency (OCC), and Federal Deposit Insurance Corporation (FDIC) – will closely scrutinize financial institutions' efforts to detect and report suspicious activity in accounts used by criminals in connection with such schemes.
Although memories of the eye-popping penalties imposed by regulators after the collapse of the Bernie Madoff Ponzi scheme stand out as a result of widespread press, assessments imposed in other cases based upon alleged Bank Secrecy Act (BSA) violations were also notable in the aftermath of the 2008 recession. For example, one bank in 2011 agreed to pay more than $50 million to resolve allegations from FinCEN, OCC and the SEC that it willfully violated reporting requirements by failing to identify allegedly suspicious transactions that occurred in its accounts between April 2008 and October 2009 connected to a Ponzi scheme run by a former Florida attorney, Scott Rothstein. Rothstein was sentenced to 50 years in prison after pleading guilty in 2010 to conducting the $1.2 billion fraud scheme.
Regulators have also demonstrated readiness to penalize financial institutions for alleged failure to detect far more modest frauds. For example, in 2011, the U.S. Department of Justice (DOJ) entered into a deferred prosecution agreement with a regional southeastern bank that required it to pay $400,000 in restitution to victims of a third-party Ponzi scheme that was operated in part between April 2007 and September 2009 through accounts maintained at the bank. Significant reputational damage also was inflicted on the bank when high-level law enforcement officials denounced the financial institution's anti-money laundering (AML) program in a press release, stating that the bank had "turned a blind eye" to the conduct and was "asleep at the switch." The government also noted that the bank had not filed any suspicious activity reports (SARs) in connection with account activity associated with the fraud scheme.
Key Considerations for Financial Institutions
The government expects banks to employ dynamic risk assessment policies that respond to changes in a financial institution's risk climate. Now is the time to take steps which will demonstrate to regulators that your institution recognizes and has responded to the likelihood that it will increasingly encounter external fraud indicators in its transactions, as well as in its interactions with customers.
For example, although the bank's compliance professionals are likely aware of the money laundering "red flags" contained in the BSA/AML Manual issued by the Federal Financial Institutions Examination Council (FFIEC), several are directly relevant to external frauds such as Ponzi schemes. A message from bank management specifically identifying such indicators and communicating a need for increased diligence in this regard would likely be viewed favorably by examiners. Refreshing customer service personnel on the telltale signs of external fraud schemes, alerting them to the increased likelihood that bank clients may be affected by such crimes and directing them to bring such reports to the attention of management would likewise be prudent. Review of the financial institution's manual and automated transaction monitoring protocols to assess whether they adequately account for the likely increase of external fraud indicators should also be considered. Finally, ensuring that SARs are timely filed when transactions that may be linked to external fraud are identified will be paramount.
Holland & Knight has an experienced AML team that regularly advises financial institutions and other clients on successfully navigating the complex web of laws and regulations imposed on businesses to stem money laundering and counter the financing of terrorism. For further guidance on assessing AML/BSA risk and reporting obligations relating to external fraud in the current economy, contact one of the authors or another member of Holland & Knight's Anti-Money Laundering Team.
DISCLAIMER: Please note that the situation surrounding COVID-19 is evolving and that the subject matter discussed in these publications may change on a daily basis. Please contact your responsible Holland & Knight lawyer or the author of this alert for timely advice.
Information contained in this alert is for the general education and knowledge of our readers. It is not designed to be, and should not be used as, the sole source of information when analyzing and resolving a legal problem. Moreover, the laws of each jurisdiction are different and are constantly changing. If you have specific questions regarding a particular fact situation, we urge you to consult competent legal counsel.