On July 21, 2009, in its first rulemaking effort regarding loan and finance companies under the Bank Secrecy Act (BSA), the Financial Crimes Enforcement Network (FinCEN) published an advance notice of proposed rulemaking (“ANPRM”). The ANPRM solicited public comment regarding the application of BSA anti-money laundering (“AML”) program and suspicious activity report (“SAR”) requirements to non-bank residential mortgage lenders and originators, a subset of loan and finance companies. Loan and finance companies have enjoyed an exemption from AML requirements since November 2002.
Why target non-bank residential mortgage lenders and originators, and why now? FinCEN is following the lead of the Obama administration, Congress, federal regulators and law enforcement in a post-financial meltdown focus on abuses, fraudulent sales and financing practices in the primary and secondary residential mortgage markets. See Multi-Agency Crackdown Targeting Foreclosure Rescue Scams, Loan Modification Fraud entitled Civil Enforcement Cases, State Enforcement Actions, Alert to Financial Institutions Among New Efforts to Protect American Homeowners Seeking Relief, available at here. Its efforts are particularly relevant in the context of a major drive to rehabilitate home owners, prevent foreclosures, encourage home buying, and stabilize the financial system.
FinCEN’s initiative began earlier this year. On April 6, FinCEN published an advisory entitled Guidance to Financial Institutions on Filing Suspicious Activity Reports Regarding Loan Modification/Foreclosure Rescue Scams. For financial institutions already required to file SARs, FinCEN requests that the term “foreclosure rescue scam” be included in the narrative portion of applicable SARs. The guidance also identifies “red flags” that may indicate loan modification fraud or a foreclosure rescue scam, and warrant the filing of a SAR. This guidance is a key part of a multi-jurisdictional effort announced by Treasury Secretary Geithner, on behalf of the Obama Administration, to combat loan modification schemes and foreclosure rescue scams. See http://www.treas.gov/press/releases/tg83.htm.
FinCEN also published two mortgage fraud reports this year. In February 2009, it published Filing Trends in Mortgage Loan Fraud, and in March 2009, it published FinCEN Report Shows Connection With Mortgage Fraud and Other Financial Crime. Both of these reports depict continued growth in mortgage fraud SAR filings. FinCEN consistently lauds the value of SARs, pointing to law enforcement successes in crime prevention and detection based on information provided in SARs. The May 15, 2009, issue of The SAR Activity Review – Trends, Tips & Issues highlights two cases where SARs helped law enforcement prosecute fraudsters. To further market these successes, FinCEN has re-published the cases on its website. See http://www.fincen.gov/law_enforcement/ss/html/Issue15-story6.html and http://www.fincen.gov/law_enforcement/ss/html/Issue15-story7.html. Since publishing the April 6th guidance on loan modification and foreclosure rescue scams, FinCEN reports that it has made 307 case referrals involving more than 140 suspects to law enforcement investigators, and contributed to 35 investigations involving multiple suspects and hundreds of BSA reports. See Prepared Remarks of FinCEN Director James H. Freis, Jr., The Cambridge International Symposium On Economic Crime, August 31, 2009.
With these successes as the backdrop, FinCEN seeks to add non-bank residential mortgage lenders and originators to its list of possible sources of information. FinCEN Director James H. Freis, Jr., maintains that non-bank mortgage lenders and originators “are in a unique position to assess and identify money laundering risks and possible mortgage fraud while directly assisting consumers with their financial needs and protecting them from the abuses of financial crime.” July 15, 2009, Release, FinCEN Seeks Comments on AML Plan for Non-Bank Mortgage Lenders and Originators, available at http://www.fincen.gov/news_room/nr/html/20090715.html. In addition, FinCEN sees the rulemaking as complementary to current regulatory reform and consumer protection initiatives because regulators and consumer protection agencies benefit from the data provided by SARs.
Under the BSA, the Secretary of the Treasury, who has delegated his authority to the Director of FinCEN, is authorized to issue regulations requiring financial institutions to maintain records and file reports that “have a high degree of usefulness in criminal, tax, or regulatory investigations or proceedings, or in the conduct of intelligence or counterintelligence activities, including analysis, to protect against international terrorism.” 31 U.S.C. 5311; see Treasury Order 180–01 (Sept. 26, 2002). In addition to other requirements, the BSA requires financial institutions to establish an AML program. At a minimum, the program must include: (1) appropriate internal policies and controls; (2) a designated compliance officer; (3) ongoing employee training; and (4) independent audits. In its rulemaking, FinCEN must “consider the extent to which the requirements imposed under [the AML program requirement] are commensurate with the size, location, and activities of the financial institutions to which such regulations apply.” Pub.L. 107-56, Title III, § 352(c), Oct. 26, 2001, 115 Stat. 322, codified at 31 U.S.C. 5318 (as a note). Other requirements imposed by the BSA and for which FinCEN has rulemaking authority include the filing of SARs, filing currency transaction reports (“CTRs”) and recordkeeping requirements.
In the ANPRM, FinCEN requested comments to the following questions:
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What are the money laundering risks in the non-bank residential mortgage finance sector?
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Should FinCEN pursue an incremental approach to regulation of loan and finance companies that focuses on persons engaged in non-bank residential mortgage lending or origination?
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How should persons engaged in non-bank residential mortgage lending or origination be defined?
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How should the anti-money laundering requirements for persons engaged in non-bank residential mortgage lending or origination be structured?
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Should FinCEN require persons engaged in non-bank residential mortgage lending or origination to file SARs or comply with any other BSA requirements?
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Should any persons or transactions be exempt from coverage of AML or SAR regulations?
The comment period expired August 20, 2009. FinCEN received nine comments, including letters from the American Bankers Association, the Mortgage Bankers Association, DHI Mortgage, the National Association of Realtors, Howard Lax, National Association of Federal Credit Unions, Visions Federal Credit Union, the Department of Justice, and the Conference of State Bank Supervisors (“CSBS”). Interestingly, it appears as if only one or two non-bank residential mortgage lenders and originators submitted a comment letter.
Most parties that commented agreed with the incremental approach to regulating loan and finance companies for AML purposes – beginning with non-bank residential mortgage lenders and originators and progressively applying it to other types of loan and finance companies. While several parties that commented recognized that money laundering occurs in the mortgage industry, the overwhelming majority urged FinCEN to concentrate on mortgage fraud. Mortgage fraud was reported as being the primary risk of criminal activity encountered by non-bank residential mortgage lenders and originators. In keeping with this, most suggested that FinCEN focus on SAR reporting. Suggestions included defining the categories of mortgage fraud, expanding the instances when a SAR is required to be filed, developing a mortgage-specific SAR form, and providing additional guidance regarding the content of the mortgage fraud SAR.
Most commenters opposed implementing other BSA requirements, including an AML program. It was noted that any suspected money laundering could be reported in a SAR. Several comments explained that virtually all funds presented at closing pass through a depository institution already subject to AML program requirements. In addition, if enough cash were to be presented at closing, the IRS Form 8300 reporting requirement for cash transactions over $10,000 would apply.
With respect to the definition of persons engaged in non-bank residential mortgage lending or origination, many agreed with applying the definitions in the SAFE Act, as suggested by FinCEN in the ANPRM. Interestingly, CSBS did not believe the cost associated with compliance would be prohibitive, and it asserted that if it were “prohibitive, the company likely should not continue to conduct this business.”
While not addressed in the comment letters, an important factor FinCEN should consider is the dramatic increase in the volume of SARs that will likely result if a SAR program is required of non-bank residential mortgage loan originators. Significant outreach will be necessary to educate the thousands of non-bank residential mortgage lenders and originators – some sophisticated, some unsophisticated – regarding the specifics of SARs. FinCEN’s well-intentioned goal of receiving more quality data to combat crime, money laundering, and terrorism will be frustrated if the old adage “junk in, junk out” becomes a reality.
Patty Covington is a partner in the Maryland office of Hudson Cook, LLP. Basis Points readers can reach Patty at 410-865-5409 or by email at pcovington@hudco.com.