U.S. Real Estate Sector Becomes Focus of Increased AML Scrutiny

Over the past decade, numerous government reports and media investigations have warned about the U.S. real estate sector’s vulnerability to money laundering. Global Financial Integrity estimates that in the past five years more than $2.3 billion has been laundered through U.S. real estate transactions. Recent developments involving the Pandora Papers exposed potential gaps in Anti-Money Laundering (AML) compliance and highlighted the increased use of shell companies to launder money in the sector. Despite calls for more regulatory scrutiny, from both domestic¹ and international stakeholders², real estate professionals do not currently have AML compliance obligations under the Bank Secrecy Act (BSA).

It appears that this is about to change. On December 6, 2021, the Biden administration issued an Advance Notice of Proposed Rulemaking (ANPRM), seeking comments on proposed requirements that could further close the gap in the US BSA/Anti-Money Laundering (AML) regime and target specified real estate entities and transactions.

History of Proposed BSA Oversight of the U.S. Real Estate Industry

As written, under the BSA and USA PATRIOT Act, persons involved in real estate closings and settlements are covered financial institutions, which could require them to implement AML programs, file Suspicious Activity Reports (SARs), and adhere to record-keeping requirements³. However, in 2002 the Financial Crimes Enforcement Network (FinCEN) granted them an exemption. FinCEN’s reasoning for the exemption was that it needed to study the impact of AML requirements on the industry and to consider the extent to which AML program requirements should be applied, taking into account specific characteristics of the entities defined as “financial institutions” under the BSA.

FinCEN’s efforts to analyze possible laundering through real estate has been done largely through the establishment of Geographic Targeting Orders (GTOs) issued by FinCEN. Pursuant to 31 CFR § 1010.370, FinCEN has the authority to impose certain additional record-keeping and reporting requirements on one or more domestic financial institutions or nonfinancial trades or businesses in a specific geographic area. The GTO on title insurance companies (Real Estate GTO) was first issued on January 13, 2016. It required title insurance companies in certain cities at higher risk of money laundering through real estate to identify and report via Currency Transaction Reports, Legal Entities⁴ and their beneficial owners of residential real estate purchases. FinCEN continued to focus on the real estate industry as it renewed the Real Estate GTO on November 1, 2021, which is its 11th renewal. Over the years, the renewals have changed the parameters of “Covered Transactions”⁵ to include additional monetary instruments such as virtual currency, new geographic locations, and a modified reporting transaction threshold.⁶

From data obtained from the Real Estate GTOs, FinCEN found that a significant number of the beneficial owners of the legal entities engaged in non-financed real estate purchases reported had a nexus to reported suspicious activity. The overlap between subjects of the Real Estate GTOs and SARs, FinCEN argues, suggests a link between all-cash purchases of residential real estate and individuals determined by financial institutions to have been engaged in suspicious activity. FinCEN notes that the usefulness of the Real Estate GTO reporting data to law enforcement suggests that a regulatory requirement to ensure consistent reporting on a nationwide basis would facilitate law enforcement and national security agency efforts to combat illicit activity in this sector.

2021 Advance Notice of Proposed Rulemaking

In seeking comment for the ANPRM, FinCEN considers two different approaches in addressing money laundering in the U.S. real estate sector for non-financed transactions across the residential, as well as the commercial, real estate sectors. FinCEN is seeking input on how it should implement such a system, consistent with the BSA, to maximize benefits while minimizing burdens on reporting financial institutions and nonfinancial trades or businesses. Given the complexities and nuances of the real estate industry, Guidehouse believes that FinCEN might incorporate a combination of these two broad approaches outlined below.

FinCEN is seeking comment on removing the exemption for real estate entities involved in real estate closings and settlements as covered financial institutions under the BSA. Notably, FinCEN is also seeking comment, on application of the fifth pillar requirement (CDD Rule) to these entities, which typically has only been a regulatory requirement for a limited number of financial institutions.⁷

FinCEN is also seeking comment on establishing a national record-keeping and reporting requirement to include certain financial institutions and individuals not covered under the BSA’s general requirements. Such a specific reporting requirement may be imposed under 31 U.S.C. 5318(a)(2), as amended by Section 6102(a) of the AML Act, which authorizes the Treasury secretary to “require a class of domestic financial institutions . . . to maintain appropriate procedures, including the collection and reporting of certain information as the Secretary of the Treasury may prescribe by regulation, to . . . guard against money laundering, the financing of terrorism, or other forms of illicit finance.” FinCEN seeks comment on whether to include the following elements in a national record-keeping and reporting requirement: 

• Additional Types of Persons Required to Report
  FinCEN seeks comment on which persons should be required to collect information, maintain records, and report information regarding non-financed purchases of real estate. Entities FinCEN lists for comment include the following: (i) real estate lawyers and law firms; (ii) real estate agents/brokers/settlement agents; (iii) title insurance companies; (iv) title and escrow agents and companies; (v) real estate investment companies; (vi) real estate development companies; (vii) real estate property management companies; (viii) real estate auction houses; (ix) investment advisers; (x) private money lenders; and (xi) money service businesses.
  
  
• National Geographic Scope and No Threshold Amount Covered
  FinCEN is seeking comment on whether reporting should apply nationwide, irrespective of geographic location. FinCEN indicated that limiting the scope of regulations by distinct geographic areas may push money laundering of real estate into other locations and that a uniform national requirement could mitigate this concern.
  
  FinCEN is also seeking comment on whether to propose a reporting requirement with no transaction threshold. The lack of a threshold, FinCEN opined, would not substantially increase the burden on entities required to report under any future regulation.
  
  
• Legal Entities Covered to Include Trusts and Nominees
  In addition to applying the definition of Legal Entity already covered under the Real Estate GTOs, FinCEN is seeking comment whether a national reporting and record-keeping requirement should include trusts and natural persons through the use of nominee or straw-man purchasers as subject to the reporting requirement. FinCEN focuses on trusts and nominee purchasers due to what it says is their inherent opacity and ability to launder illicit funds. FinCEN believes that expanding the scope of the Real Estate GTOs definition of Legal Entity for a national reporting requirement will ensure more transparency in the real estate industry.
  
  
• Type of Real Estate Transactions Covered to include Commercial Real Estate
  Lastly, FinCEN is seeking comment on whether to extend reporting requirements to include non-financed commercial real estate transactions in addition to non-financed residential real estate transactions. Given the complexities and differences between both real estate markets, FinCEN is seeking comment on how to structure such a regulation and justify the burdens that a reporting requirement for non-residential real estate could impose. FinCEN notes that it is open to a phased approach by focusing on residential real estate, followed by additional actions to issue regulations covering the commercial real estate sector.

How Can Guidehouse Help?

Whether or not the potential requirements outlined in the ANPRM are implemented, the mounting attention and focus by the media, regulators, and legislators indicates that real estate professionals need to be prepared. Guidehouse continually reminds its clients that it is a criminal offense to facilitate laundering the proceeds of crime, whether or not there is a regulatory requirement to have a compliance program. An adequate and effective compliance program is a factor that the Department of Justice uses to determine whether to bring charges, negotiate pleas, or other agreements. Therefore, Guidehouse can help real estate firms assess their compliance programs to prepare for regulatory updates and to mitigate risks, including developing updates to operations, policies, procedures, controls, and technology.

Special thanks to Michal Ilewski for contributing to this article.

¹ On October 6, 2021, several legislators proposed the Establishing New Authorities for Business Laundering and Enabling Risks to Security Act (ENABLERS Act).  The ENABLERS Act would repeal 31 CFR § 1010.205, in place since 2002, that states persons involved in real estate closings and settlements are exempt from establishing AML programs.
² There has also been mounting international pressure on the US regarding the need to apply Financial Action Task Force’s (FATF) recommendations. In its December 2016, US Mutual Evaluation Report, FATF indicated that the US failed to meet its recommendations for specified designated non-financial businesses and professions (DNFBP).  DNFBPs include: (1) real estate agents, when they are involved in transactions for their client concerning the buying and selling of real estate; and (2) lawyers, notaries, other independent legal professionals, and accountants, when they prepare for or carry out transactions for their client involved in the buying and selling of real estate.
³ 31 U.S.C. § 5312(a)(1)(U), Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism (USA PATRIOT ACT) Act of 2001.
⁴ Per the Real Estate GTOs, Legal Entity is defined as a corporation, limited liability company, partnership, or other similar business entity, whether formed under the laws of a state, or of the United States, or a foreign jurisdiction, other than a business whose common stock or analogous equity interests are listed on a securities exchange regulated by the US Securities and Exchange Commission (SEC) or a self-regulatory organization registered with the SEC, or an entity solely owned by such a business.
⁵ The 2016 GTO defined Covered Transactions as transactions involving a covered business where: (i) a legal entity; (ii) purchased residential real property; (iii) located in the Borough of Manhattan in New York, or Miami-Dade County in Florida; (iv) for a total purchase price of $1,000,000 or more in Miami, or $3,000,000 or more in Manhattan; (v) the purchase was made without a bank loan or other similar financing; and (vi) the purchase was made, at least in part, using a monetary instrument (e.g., a cashier’s check, currency, or a money order).
⁶ On November 15, 2018, FinCEN drastically lowered the monetary threshold for all jurisdictions to $300,000 (formerly, the threshold was as high as $3,000,000 in several jurisdictions) and expanded the scope of the GTOs to include purchases made with virtual currencies, in addition to wire transfers, currency or checks.
⁷ Federally regulated banks and federally insured credit unions, mutual funds, brokers or dealers in securities, futures commissions merchants, and introducing brokers in commodities.