By Alma Angotti, Irene Pasternak
The multinational response to the Russian invasion of Ukraine has so far resulted in 12,961 total sanctions against individuals, entities, vessels, and aircrafts levied against Russia1. As of March 2023, the members of the Russian Elites, Proxies, and Oligarchs (REPO) Task Force have successfully blocked or frozen more than $58 billion worth of sanctioned Russians’ assets, tracked sanctioned Russian assets across the globe, and heavily restricted sanctioned Russian individuals and entities from the international financial system2. Financial institutions (FIs) are facing growing regulatory scrutiny over Russian sanctions violations. This article explores the challenges that FIs are encountering in complying with the Russian sanctions, as well as offers guidance on how to approach them.3
Why Should FIs Establish a Robust Sanctions Compliance Program (SCP)
The Office of Foreign Assets Control (OFAC) regulations require FIs to block accounts and other assets under their management and reject certain transactions that are the subject of OFAC sanctions4. The organizations under U.S. jurisdiction are not mandated but are encouraged to adopt an effective SCP with internal controls, including policies and procedures to identify, interdict, escalate, report (as appropriate), and keep records pertaining to activity that may be prohibited by the regulations and laws administered by the OFAC.5
As covered in depth in our previous article, “Beyond Sanctions,”6 in light of multiple sanctions imposed against Russia and significant risk of enforcement by OFAC, banking regulators, or the Department of Justice (DOJ), FIs must constantly improve their internal controls and update their screening procedures to remain in compliance. In the current sanctions environment, designated individuals and entities go to extreme lengths to conceal true ultimate beneficial owners (UBOs) identities. They often change the ownership or grant control of the properties to unrelated parties before or at the time of their designation as a sanctioned individual or entity, employing complex ownership schemes. It is, therefore, critical that financial institutions understand their exposure to sanctioned parties and take appropriate actions to mitigate their risks through the implementation of SCP.
The benefits of a robust SCP cannot be understated when considering the severity of consequences for noncompliance, which can range from large fines7 and a requirement to engage an independent compliance monitor8 to the potential seizure of U.S. operations. For example, in 2017 one of the largest Asian banks was fined and forced to close its U.S. branch due to, among other issues, failure to establish controls around its high-risk clients and clear the transactions of the weapons manufacturer that was subject to U.S. sanctions9. More recently, in March 2023, Wells Fargo was fined a combined $98 million for allowing an unidentified European bank to conduct $532 million in transactions that breached sanctions against Iran, Sudan, and Syria from 2010 to 2015.10
As mentioned earlier, sanctioned individuals and UBOs of sanctioned entities and assets utilize a variety of creative techniques in their attempts to evade sanctions. Some of the most common sanctions evasion schemes used by Russian nationals can be observed in the three examples below:
Complex ownership structure and the use of shell companies —A dual Russian and Swiss national ran a yacht management company in Spain. After a Russian oligarch was sanctioned, the yacht management company took over the yacht management. At the same time, a United Kingdom national designed a complicated ownership structure of shell companies to hide the oligarch’s ownership of the yacht.11
Use of proxy — Another sanctioned Russian oligarch needed to find a way to sell his four real properties in the U.S. and maintain them in the meantime. A close friend and business associate of the oligarch, who also happened to be a dual Russian and U.S. national, acted as a proxy in a scheme to make over $4 million in USD payments to maintain these properties, as well as participated in the attempt to sell two of those properties.12
Use of professional services to facilitate sanctions evasion — Sanctioned Russian oligarch brothers evaded sanctions through art purchases by employing a complex scheme with different layers of offshore companies, law firms, and art agents to conceal the identity of a true buyer.13
The majority of FIs have controls in place to keep sanctions lists updated and conduct continuous screening, which would result in detecting the accounts of individuals and entities newly added to the Specially Designated Nationals list as part of the FI’s monitoring. Proper screening is an essential baseline for a robust SCP, however, as the saying goes “A lock only keeps honest people out.” Identifying accounts or assets owned or controlled by sanctioned parties can be difficult due to the use of proxies, intermediaries, and complex ownership structures.
As noted in the above examples, ownership is often concealed through anonymous shell companies, offshore corporate structures with multiple layers of ownership, nominal shareholders, relatives, etc. It is also difficult to identify the UBO when proxy companies get closed, thereby breaking off the tracing trail, while new companies emerge in their place. In practice, the gap that allowed many sanctioned entities or individuals to slip through was not a lack of Know Your Customer/Enhanced Due Diligence/Customer Due Diligence (CDD) protocols, but rather issues related to change of ownership or control that occurred before or at the time of their designation as a sanctioned individual or entity.
It is important to develop and maintain a comprehensive SCP to better manage the process of tracking rapidly evolving regulations and tackle the complexity of identifying the true UBOs. A comprehensive SCP can also be taken as a mitigating factor if OFAC determines that an apparent violation has occurred. Taking away the lessons from the three examples of sanctions evasion above, as well as Guidehouse’s real-world experience, Guidehouse recommends the following for FIs’ consideration:
Ensuring a Risk-Based Approach to Overall Sanctions Compliance
To mitigate the risk of non-compliance with the Office of Foreign Assets Control (OFAC) requirements, FIs should establish and maintain an effective, written OFAC compliance program that is commensurate with their OFAC risk profile14. While sanctions are a strict liability regulatory regime, OFAC takes a sound risk-based compliance program into account in determining penalties if there is a violation15. Regulated entities should rely on internal risk assessments to inform their efforts to mitigate illicit finance risks their businesses face. Ensuring those risk assessments remain up to date is a key to capture changes that may threaten their businesses16, including applying a risk-based approach to trade finance, wealth management, art banking, and other services. Once clear on the risks and depending on their client portfolio, FIs may consider adding special investigative groups staffed with well-trained multilingual investigators and analysts who employ enhanced investigative techniques, perform complex analyses of the business records and transactional activity, find potential patterns and connections between entities, accounts, or groups of affiliated customers, and trace any potential link between the account or transactions and any sanctioned entity.
Monitoring Customer and Transaction Life Cycle
FIs should consider standing up a process that will include a feedback loop between customer information and transactional activity. Did the account or asset ownership change? And, if so, why? Are there any links between the new owner and a recently specially designated individual or entity? Was there a sudden and/or unexplained shift in transacting patterns or parties? Are transactions originating from companies registered to addresses in offshore financial centers or tax havens, or generally located in jurisdictions known to cater to Russian-speaking customers?18
For example, when conducting an independent testing of an FI with a prominent share of Russian-speaking customers, Guidehouse observed a lack of sufficient CDD, including information regarding expected transaction activity, exacerbated by limited to no information on UBOs. As a result, this FI incorrectly assessed customer risks, missed monitoring of related-party transactions, and did not react to a change in their customers’ activity when they initiated multiple transactions among related accounts that lacked a clear economic or business purpose.
Monitoring Change of Ownership
As noted earlier, one of the most common evasion tactics is to mask the connection between accounts and assets and a specially designated individual or entity by using proxies, complex ownership structures, and intermediaries. It is, therefore, worth questioning the reasons behind the account or asset ownership change if it happens around the time of new sanctions and determining where there are any links between the new owner and a recently specially designated individual or entity. Does the new owner have reasonable qualifications, experience, and wealth to take over the business account, or are they spouses, relatives, or other inner-circle members?
As the Financial Crimes Enforcement Network (FinCEN) notes, Russian oligarchs moved or transferred funds and assets around the time of the Russian invasion of Ukraine in February 202219. At that time, several Russian oligarchs transferred beneficial ownership of their companies, trusts, or accounts to their children, other family members, or close business associates. For example, through early April 2022, a Russia-based and U.S.-based, OFAC-sanctioned oligarch had financial activity that appeared indicative of an attempt to hide assets to evade economic sanctions, primarily through the transfer of assets to his U.S.-based ex-wife20. The The U.S. Treasury has also released a targeted list of facilitators in the network of Uzbek-Russian businessman Alisher Usmanov, who is subject to sanctions in multiple jurisdictions.21
Data Matching and Entity Resolution
Besides implementing simple automated sanctions screening processes, FIs could consider using more robust automated data analytics solutions such as data visualization or similar tools to assist with connecting the dots on the ultimate beneficiaries and provide the necessary insights and intelligence to support their investigators. Well-designed SCP should allow FIs to mitigate risks in an efficient and cost-effective manner. Applying advanced technology to minimize the amount of required manual labor and leveraging managed services, will allow FIs to keep costs at a reasonable level.
Guidehouse has completed multiple engagements involving specialists with an understanding of the specifics of regional business culture/behavior/traditions. Guidehouse financial crime consultants work with FIs of all sizes to build effective and efficient risk management and compliance frameworks to help clients protect against legal, fiduciary, shareholder, and reputational risks. In addition, Guidehouse specialists’ experience spans Sanctions and Transaction Monitoring systems, Financial Crimes Compliance, Gap Analysis, Know Your Customer Support, Transaction Lookbacks, Financial Intelligence Unit Support, Transaction Reviews, and Suspicious Activity Report Alert Processing for banks and FIs. Further, Guidehouse’s experts offer regional, cultural, and linguistic investigative expertise in relation to export control, entity resolution, and sanctions screening of customers and third parties that pose risks of being tied to Russian oligarchs. Guidehouse professionals include distinguished former prosecutors, regulators, in-house compliance officers, attorneys, and consultants, who leverage their combined experience to help clients conquer their compliance challenges.
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