Anti-money laundering: Is anyone asleep on your watch?

Failure to implement and document money-laundering procedures may lead to criminal sanctions and an irreparable loss of reputation. With so much at stake, the time to mitigate the risks has never been more apt.

By Shaun O’Leary, Huntswood Consulting

With the Clementi reforms looming many law firms will be undertaking a strategic review of their operations and the implications to their business. However, it is important that other narrower responsibilities are not forgotten in the process: recent changes to the UK’s anti-money-laundering (AML) regime have had far reaching implications and are seen by some as presenting continued uncertainty. There is still a degree of scepticism around the AML regime – some feel that it is a sledgehammer approach and raise questions about how believable the huge figures quoted for dirty money really are. However, there is certainly a sizeable amount of dirty money in existence and senior management needs to be sure that everything is satisfactory in their practice: dirty money is everybody’s problem. Setting up a suitable AML framework within a law firm is a non-negotiable requirement and part of the challenge is to keep the motivation around maintaining it and the personnel involved alert and focused on why it is important to the firm.

AML does have teeth

A few solicitors have already paid the penalty and seen the inside of a prison cell as a result of AML deficiencies. Such cases are more persuasive than any well-argued moot in conveying the seriousness of AML, but we have yet to see a major law firm partner sanctioned for AML shortcomings.

In the absence of such a significant case, there is still some very compelling precedent to show how fragile a firm can be when its reputation is lost.

It is sobering to cast one’s mind back to the relatively recent past. Who has forgotten the slightly sorrowful figure of Joseph Berardino in 2002 as he stood on the burning deck of the famous consultancy firm Arthur Andersen with its reputation crashing alongside Enron? Berardino was the relatively recent appointment as CEO and essentially the firm was tainted by association with corporate malpractice (as opposed to anything to do with AML). However, the events present many parallels to the risks that law firms run in the AML context and a quick reminder may help refresh any partner’s views on the subject.

The Arthur Andersen demise

Arthur Andersen was a worldwide brand name, a famous Chicago-based consultancy, probably as near to the status of a magic-circle firm as non-lawyers are likely to be. The CEO of Arthur Andersen announced his resignation as allegations of document shredding flew around, hoping the move would help Arthur Andresen survive the steady loss of clients and cope with the criminal charges stemming from its alleged destruction of Enron audit documents. Berardino wrote in an e-mailed message to his Andersen colleagues, “The fact is that the improper shredding of documents took place on my watch... and I believe it is now in the best interests of the firm for me to step down from the CEO position.” In the background, there were serious attempts to save the firm. Former Federal Reserve chairman Paul Volcker was called in by Arthur Andersen to head an internal oversight board and tried to negotiate some kind of settlement with the US Justice Department over obstruction-of-justice charges. The CEO’s decision was presented as demonstrating the firm’s commitment to reform.

Business for the firm had dropped dramatically since the indictment was announced. Blue chip “corporates” will find it very difficult to deal with publicly tainted professionals. Thirteen companies had ended their relationships with Andersen in the period leading to the resignation – more were to follow. Berardino spoke of Arthur Anderson having “a lot of great people who deserve a career and if my sacrifice helps just a few of those, I will feel really good about what I’ve done today.” Nothing could be done, too many things were going wrong and the magic ingredient – reputation – was lost. The firm was finished.

Isolated pockets of non compliance?

So why draw any parallels? Simply because it helps people see why AML is important. In any reasonably big law firm there are going to be a lot of honest and able people working hard to serve their clients (just like at Arthur Andersen). We can generally assume that those clients in turn will mostly be honest but if there is dirty money around, and if the firm has clients that present a money-laundering risk, can firms sleep comfortably? How can they be sure that there are no pockets within the firm where the partner in charge is less diligent or less honest? It’s hard to challenge and control strong willed or imposing lawyers, it is hard to challenge the biggest fee earners or to understand the more esoteric areas of practice.

Yet, if the firm was exposed with AML wrongdoing or shortcomings, it is easy to see how events could get out of control. The authorities would probably love to have a scalp in order to send a clear message to others, while the media would relish the collapse of a law firm – what fun it would be for them.

It is a fine balance of judgment to know how much effort the firm should invest in AML, but it is dangerous to rely solely on all the partners and staff to do the right thing. AML needs to be on the agenda of senior management regularly, even though completely removing AML risk is probably impossible. Provided the overall AML controls are in place it seems that it would be theoretically possible to protect or salvage a firm even if one or two bad apples were found lurking in the barrel. The key to success is to have controls in place that will identify the bad apples and for them to be dealt with in a timely manner.

What are the key AML changes?

The essential change in AML has been the move to a risk based approach. A lot of firms are still trying to get a grip on what exactly that means for them, as indeed are financial-services businesses, accountants and estate agents. Principles-based regulation and the risk-based approach are a far cry from the original prescriptive style rules first applied to AML, and with the Third EU Anti-Money Laundering Directive on the horizon it is likely that the landscape will continue to change. By focusing on the risks that a firm’s particular clients present – factoring in all the different elements: the transaction itself, the geography of the key persons, the sums involved and their source, as well as factors such as sanctions lists and politically exposed persons, it is possible to take a pragmatic and judgmental approach to AML risks and issues.

This can lead to a lighter touch to AML within the firm as a whole, but it does require skilled staff and commitment and involvement from senior management if it is to work.

Have you made the right changes in your practice?

The Law Society provides a wealth of material and support to the profession and many plaudits have landed at the profession’s feet. With the regulatory landscape changing at such a pace, now is a good time to step back and consider the impacts on your business to date and whether these have been addressed appropriately.

In October 2006, The Law Society’s efforts to provide support to solicitors in complying with their anti-money laundering obligations came in for high praise at the annual “City Banquet” hosted by the Lord Mayor of London, Alderman David Brewer, on 25 September.

The Lord Mayor commended the Law Society in his address to 375 of the city’s top UK regulators and leading businesses. The Lord Mayor made a rallying call for unique co-operation between regulators and business to combat global crime. Regulators were also urged to recognise the co-operation extended by businesses in the fight against money laundering and financial crime by providing appropriate feedback.

The Law Society provides guidance notes, a Money Laundering Helpline, an online discussion forum, and regional MLRO group meetings. In addition to supporting solicitors to help them to meet their identification and reporting duties, the Law Society lobbies the UK government and the European Union on behalf of the profession for a more proportionate anti-money laundering regime.

Clearly, there are many good stories to tell around the response of the legal profession as a whole to AML, but there is no scope for complacency. Lawyers are of course trained to be competent in the handling of rules and regulations and AML – it can be argued – is just another sub set of rules to deal with. Nevertheless, sometimes clever people can be blinkered and narrow in their perspectives, trapped by their own specialism from seeing the bigger picture or the clues that others would see and respond to. AML addresses a big issue, the movement of ill-gotten gains around the system by terrorists and criminals that can produce transactions that straddle all sorts of areas and activities. Although lawyers as a group seem to be doing well, is this the case for your particular firm? The question of whether your firm has responded to the new risk-based approach can be used to take a health check on your firm’s AML systems as a whole.

Maintaining a robust AML framework is comparable to keeping up a good team performance, but in a sporting season that never ends: each week the team has to perform and good results one week do not carry forward to the next. Looking at your firm, is it clear where anti-money laundering sits on the agenda?

Has AML been incorporated into the firm’s business plan for 2007?
Have procedures been updated in line with changes to regulation?
Who is responsible overall at senior partner level for monitoring compliance with the AML legislation?
Have^l staff received the appropriate and required training?
What exactly has the firm done to embrace a risk-based approach to AML?
Does the firm actively seek outside perspectives and understanding?
Is the money-laundering reporting officer satisfied with the systems and controls?
What are the benefits of those changes to your practice?

The benefits of the new approach depend on where you are at present.

A law firm’s reputation is one of its greatest assets and at some stage one or more legal firms are bound to be tainted by association with money laundering.

Although an AML framework is a must-do investment, the introduction of a risk-based approach may provide opportunities to streamline the client identification and monitoring processes and identify opportunities to apply a lighter approach to running the AML framework. On the other hand, it may be that the firm isn’t in the state that it would ideally wish and it might be time to identify AML gaps and to close those gaps and mitigate the risks.

By using the risk-based approach as a reason to take a health check on where your firm’s AML framework is today, you may be able to reduce the burdens overall or at least find out where you have serious exposures that need closing quickly.

How can I sleep at night?

The AML requirements apply to every relevant person in the firm from the senior partner to the non-fee earners. There must be a mechanism in place in the firm to deal with every issue on its merits in a timely fashion and to escalate and report the matter when that is appropriate. The topic is serious and relevant to every firm and worth formal consideration at the highest level at least once a year. As a finance director is this something that concerns you? Would you advocate that the firm carry out a ‘spot’ audit to gain some comfort that you are collectively where you need to be? It doesn’t take too much time or cost to walk through the firm to check that relevant staff have been trained, that clients are appropriately identified, that records are being kept, that the money-laundering reporting-officer function is active and that the firm has considered the risk based approach.

‘Keeping the watch’ can seem to be an unrewarding endeavour but the consequences of not doing so can lead to a sinking feeling.

Shaun O’Leary is principal consultant at Huntswood Consulting Regulatory Practice. He can be contacted on soleary@huntswood.com