Introduction
Earlier this month, Chancellor Jeremy Hunt asked the UK’s Financial Conduct Authority (FCA) to investigate whether financial institutions are closing politicians' bank accounts on a widespread basis. Sparked by a controversy involving former Brexit Party leader Nigel Farage, who accused the private bank Coutts of closing his account because of his political views, the topic of politically exposed persons (PEPs) and debanking has come to the fore. The discussion arises against the backdrop of a significant increase in account closures because of anti-money laundering efforts over the last few years.
The FCA has now issued a data request to banks, specifically asking if accounts have been closed due to political opinions and has confirmed it aims to provide an initial assessment by mid-September - a phenomenally fast turnaround for a potentially tricky exercise.
Payment account regulations in the UK state that everyone has a right to open a basic bank account. Financial service providers cannot discriminate on the basis of protected characteristics such as gender, religion, and race, as per non-discrimination legislation. However, outside of these protections, financial institutions are entitled to decide which customers they choose to bank in line with their risk appetite. For example, firms may turn away specific industries, such as adult entertainment, gambling, or manufacturers of firearms and ammunition, if they are deemed too risky. While the Coutts case focuses more on political views and reputation rather than financial crime risk, a buzz has been created around PEPs and debanking in an anti-financial crime context.
In response to this recent development, FINTRAIL has looked at some of the requirements and best practices for financial institutions when dealing with PEPs.
The basics
First, let’s visit the definition of what a PEP actually is. While each jurisdiction has its own specific meaning in line with its legal and regulatory framework, the Financial Action Task Force’s (FATF) influential definition is “an individual who is or has been entrusted with a prominent public function”. Family members and close associates of PEPs may also receive PEP designations. PEPs can be further broken down into the following categories:
Foreign PEPs: individuals given significant public roles by a foreign country.
Domestic PEPs: individuals given significant public roles within their own country.
International organisation PEPs: senior management in international organisations such as UN bodies, including directors, deputy directors, board members, or those with similar responsibilities.
The reason financial institutions are required to identify PEPs is that they pose a heightened risk of bribery and corruption, due to the opportunities afforded to them by their political office
In the UK, a PEP, as defined by the Money Laundering, Terrorist Financing, and Transfer of Funds (Information of the Payer) Regulations 2017 is “an individual who is entrusted with prominent public functions, other than as a middle-ranking or more junior official.” The regulations include some helpful but non-exhaustive examples such as heads of state, ambassadors, and members of the supreme court. They state regulated institutions must be able to identify if a customer is either a PEP or “a family member or a known close associate of a PEP”.
PEP obligations for financial institutions
Each country differs in what it requires of financial institutions when it comes to PEPs. UK regulations state that financial institutions should place PEPs and their family members under enhanced due diligence. Similarly, in other jurisdictions like Singapore and Australia, regulators require financial institutions to apply enhanced due diligence to PEPs. While the exact nature of what constitutes enhanced due diligence has no prescriptive meaning and should form part of a risk-based approach, it commonly entails additional ongoing monitoring and screening measures such as adverse media screening. Some other examples of enhanced due diligence measures compiled by the FCA include establishing the source of wealth to ensure its legitimacy, commissioning external third party intelligence reports where necessary, and obtaining more robust verification of customer information from a reliable and independent source.
In the United States, the term PEP refers to foreign individuals “who are or have been entrusted with a prominent public function, as well as their immediate family members and close associates.” There is no obligation to identify domestic PEPs. While not expressly requiring PEPs to undergo any enhanced due diligence, firms must take the appropriate action in line with a risk-based approach and the client’s risk profile. Notably, recent developments with the Anti Money Laundering Act 2020 have increased scrutiny on PEPs, encouraging financial institutions to enhance their policies.
Not all PEPs are created equal
In the last decade, PEPs have come into the spotlight for illicit activities and corruption revealed in investigations by organisations like the International Consortium of Investigative Journalists, such as the Panama Papers and Luanda Leaks. More recently, news has centred on Russian kleptocrats and the global sanction regimes targeting them, bringing the abuse of power of those politically connected to Vladimir Putin into public discourse. But are all PEPs automatically high-risk clients?
While PEPs are generally considered at higher risk for bribery and corruption, this is contingent on a few factors. The FCA’s guidance outlines some of the indicators that make a PEP a higher-risk client for financial institutions, including involvement with a product “capable of being misused to launder the proceeds of large-scale corruption.” Another indicator centres on geographical considerations, like if a PEP is “entrusted with a prominent public function in a country that is considered to have a higher risk of corruption”, taking into account a range of factors like political instability, widespread organised criminality, human rights abuses and more. Another consideration is the personal and professional nature of the PEP - if they have wealth inconsistent with known legitimate sources or are responsible for large public procurement exercises.
So while there is a regulatory obligation in most countries to apply extra measures to all PEPs, not all genuinely pose a significant risk of bribery or corruption. It is also vital to note that conducting enhanced scrutiny of PEPs should never be done under the assumption that all politicians (or their families or close associates) are likely criminal actors. The overwhelming majority are not. In fact, a 2017 FCA guide explicitly states that firms are “required to recognise the lower risk” of UK PEPs, or PEPs from a country that has “similarly transparent anti-corruption regimes”. Depending on a holistic range of risk factors, some may be lower risk than others. Firms should effectively identify and monitor PEPs to ensure that in the event suspicious activity does occur, you will flag it, investigate it, and report it. This approach is foundational to an effective anti-financial crime programme.
Best practices
Firms should regularly revisit their policies concerning PEPs to ensure their alignment with their internal risk appetite and risk-based approach.
Some areas of focus include:
Having a clear risk appetite statement regarding PEPs, based on a nuanced understanding of the financial crime risk they pose whilst remembering simply banning PEPs is not appropriate.
Fortifying enhanced due diligence measures and processes to ensure the risks associated with PEPs are truly understood and mitigation measures are appropriate.
Regularly training staff on how to identify a PEP, the associated risks, and the processes to be followed once a PEP is identified.
Designing clear onboarding processes and exit strategies for PEPs.
At FINTRAIL, we combine deep financial crime risk management with industry expertise to optimise your anti-financial crime programmes. We’re here to support you in creating robust policies and procedures; refining, enhancing or testing your systems and processes; and providing context-based training to your teams. Get in touch to find out how we can help you refine your enhanced due diligence measures and incorporate an effective risk strategy for PEPs in a practical and efficient way.