Trust or Company Service Providers (TCSPs) play a crucial role in facilitating the establishment, administration, and management of trusts and companies. However, due to their involvement in financial transactions and corporate structures, TCSPs are vulnerable to exploitation by money launderers and terrorist financiers. As a result, TCSPs in Hong Kong are obligated to comply with the Anti-Money Laundering and Counter-Terrorist Financing Ordinance, Cap. 615 (AMLO) to prevent their services from being used for illicit activities.
Compliance with Anti-Money Laundering and Counter-Terrorist Financing (AML/CTF) requirements is essential to TCSPs. It not only helps protect their reputation and business operation, and avoids legal and financial consequences, but also maintains the integrity of Hong Kong’s financial system and business environment.
This article offers valuable insights into the vulnerabilities associated with concealing beneficial ownership and provides practical tips for TCSPs to strengthen their AML/CFT compliance efforts and operate with confidence in an increasingly regulated environment.
Unveiling AML/CFT Risks: Concealment of Beneficial Ownership in the TCSP Industry
Concealing the identity of beneficial owners is one of the most common typologies for money laundering and terrorist financing in the TCSP industry. This typology involves various methods aimed at obscuring the true beneficial ownership and control of assets. There are three common techniques used by criminals as indicators of AML/CFT risks that TCSPs should alert.
(I) Use of Nominee Shareholders and Directors
Directorship services are frequently exploited by criminals to conceal the identity of beneficial owners and exert control over legal structures or arrangements. Nominee shareholders hold shares on behalf of the actual owners, while nominee directors serve as representatives of the company without real decision-making power. Through the use of nominees, the actual owners can maintain their anonymity, as only the names of the nominees are listed on public documents. This practice makes it difficult for authorities and other service providers to ascertain the actual beneficiaries behind. Therefore, the status of nominee directors is not recognized as legal in many jurisdictions to ensure any person who serve as a director are bound by their fiduciary duties and hold the legal obligations and liability.
Additionally, criminals may employ informal nominal shareholders and directors, often with personal connections to the true beneficial owners, to maintain fictitious ownership. These individuals, commonly referred to as “frontline” or “straw” personnel, may be unaware of the true activities conducted by the legal entities they represent. In some cases, stolen identities are exploited to establish legal structures, with victims of identity theft unknowingly serving as agents, shareholders, or directors.
(II) Forgery of Documents
Another method to conceal beneficial ownership is the forgery of documents. This can include:
- Using fabricated loans and invoices, or other transaction documents to mask the true beneficial ownership of transactions.
- Employing the “Cash Back” scheme, which involves issuing loans to third parties after paying commercial invoices.
- Falsifying prospectuses, accounting records, and other statements to achieve a favourable outcome in registrations, acquisitions, or other business transactions
(III) Multiple Layers of Legal Structures and Legal Arrangements
Criminals often employ complex ownership chains to conceal beneficial ownership through multiple layers of legal structures and legal arrangements. These legal structures and legal arrangements may be consolidated or established across different jurisdictions or involve various Designated Non-Financial Businesses and Professions (DNFBPs), such as attorneys, accountants or foreign trust and company services providers.
While the sophistication of legal structures and arrangements is not inherently illegal, TCSPs should exercise extra caution to prevent their services from being exploited for the purpose of disguising beneficial ownership and facilitating illicit activities such as money laundering, terrorism financing, proliferation financing, or other financial crimes.
When conducting assessments of complex structures, TCSPs should diligently examine potential high-risk features. These may include:
- Shell Companies
These are entities that lack real economic activity and primarily exist as a front to conceal the true purpose and ownership of the legal structure. - Fictitious Persons
The inclusion of fictitious individuals within the ownership structure is a red flag indicating an attempt to disguise the actual beneficial ownership of the legal entity. - Illegal Phoenix Activity
This refers to the creation of another company with the intention of continuing the operations of the other businesses of the original company, while evading obligations such as paying creditors, taxes, and other liabilities. This deceptive practice seeks to exploit legal loopholes for fraudulent purposes.
Effective Customer Due Diligence in the TCSP Industry
By promptly identifying and scrutinizing these indicators, TCSPs can effectively mitigate the risk of involvement in money laundering, terrorism financing, proliferation financing, and other illicit financial activities. Implementing robust customer due diligence (CDD) measures and conducting thorough background checks are essential to ensure compliance with anti-money laundering and counter-terrorism financing regulations.
Customer due diligence (CDD) is a crucial process to verify the identity of customers, understanding the nature of their business, and assess the potential risks they pose. In practice, conducting customer due diligence becomes more challenging when dealing with legal persons or companies that have complex multi-level ownership structures. Identifying the actual beneficiaries in such cases can be a demanding task. Professional institutions often face the delicate balance of promoting business development while ensuring compliance with legal requirements. This ongoing challenge is one that all TCSPs will continue to grapple with in the future.
However, it is crucial for trust and company service providers to implement robust measures to address this issue and mitigate the risks of money laundering and terrorist financing. Here are some tips for TCSPs to comply with the AML/CFT requirements while balancing the business needs and operations:
(I) Adoption of a Risk-Based Approach
The adoption of a risk-based approach is paramount in effectively preventing and reducing money laundering and terrorist financing risks. This approach ensures that implemented measures are proportionate to the identified risks, enabling efficient allocation of resources by prioritizing attention to areas posing the greatest threats.
In contrast, allocating resources equally or considering factors other than risk when making resource allocation decisions can result in ineffective mitigation efforts. TCSPs should align their internal AML/CFT policies, procedures and control (APPC) with regulatory and professional requirements, diversifying their approaches as needed.
A risk-based AML/CFT regime benefits TCSPs by balancing the facilitation of services for honest customers while creating barriers to deter potential misuse of trust and company structures. An effective risk assessment based on risk-based approach should be capable of identifying areas where the risks of money laundering and terrorism financing are highest, including considering the factors of the products, services, delivery channels, and geographical locations of their customers. These assessments should be dynamic, adapting to evolving environments and changing threats.
(II) Customer Background Check
Customer background checks, also referred to as customer screening, encompass thorough investigations into the individuals and entities associated with a customer, such as beneficial owners, directors, key executives, and related parties. Background screening helps uncover any adverse information or red flags linked to these individuals or entities. This may include involvement in criminal activities, sanctions lists, politically exposed persons (PEPs), or negative media coverage.
TCSPs are advised to leverage technological solutions and external data sources to enhance the screening process, such as utilizing AML/CFT screening software and reputable databases. By harnessing these tools, TCSPs can streamline the customer background check process, improve accuracy, efficiently identify potential risks and make informed decisions.
SentroWeb AML/CTF screening and customer due diligence software is one of the reputable tools that help TCSPs conduct customer background checks against sanction lists, politically exposed persons (PEPs) and special interest persons and entities. Check out the features now:
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(III) Enhanced Verification Procedures
When dealing with high-risk customers or complex ownership structures, TCSPs should employ enhanced verification procedures, by requesting additional identification or business supporting documentation, and asking appropriate questions, such as the reason for making large cash transactions, or receiving numerous remittances within a short period of time, to ensure the accuracy and authenticity of information provided by customers.
(IV) Ongoing Monitoring and Reporting
Implementing robust monitoring systems allows for ongoing scrutiny of customer transactions, business activities, and patterns. Unusual or suspicious activities should be promptly reported to the Joint Financial Intelligence Unit (JFIU) via various ways, as required by AML/CFT regulations.
(V) Staying Abreast of AML/CFT Requirements & Development
TCSPs should ensure that they are staying informed about future developments and publications by the Financial Action Task Force (FATF) and other international standard setters in the development of risk indicators. In the latest AML/CFT regulation for TCSPs in Hong Kong, TCSPs are required to comply with the following requirements and subject to inspections and assessment by the regulators:
- Procedures to identify money laundering risks and signs of suspicious activity.
- Anti-money laundering controls measurement, internal communication, organizational risk awareness and employee training while onboarding and continuously.
- Customer due diligence measures, including Know Your Customer (KYC) procedures.Procedures for identifying, recording and reporting different risk level and high value transactions.Procedures for identifying, recording and reporting any suspicious transactions that are indicators of money laundering or terrorist financing activity.
- Auditable recordkeeping and data confidentiality control procedures.
- Procedures for reporting criminal activity (including money laundering)
Conclusion
In the ever-evolving landscape of financial crimes, TCSPs must remain committed to upholding the highest standards of transparency, due diligence, and compliance. By doing so, they will contribute to a stronger and more resilient financial system, preventing the exploitation of their professional service, and safeguarding the integrity of global markets and protecting the interests of both their clients and society as a whole.
