Inside Money: ABC (and maybe D) that's how easy AML can be

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I never imagined, all those years ago, watching the twin towers collapse on TV that it would result over a decade later in me reading these two terrifying paragraphs:

"If B has a direct relationship with the underlying clients, that A authorises B, and B agrees, as agent of A to:

- conduct CDD on the underlying clients;
- hold the CDD information; and
- on request from A, provide the CDD information to A.

"Or, if B does not have a direct relationship with the underlying clients, that A authorises B, and B agrees, as agent of A to appoint a third person ('C') as agent of A (and of B, as applicable) to attend to the matters referred to above, or to appoint a further person ('D') as agent of those back up the chain to attend to those matters."

Apart from providing evidence that, maybe, the terrorists have won, the above alphabetical attempt to explain certain aspects of New Zealand's new anti-money laundering (AML) obligations could set the country's financial literacy improvement program back by decades.

But this is not for beginners. The ABC of AML is contained in the Financial Market Authority's (FMA) latest move to clarify for the industry how the new reporting regime will work in practice.

The FMA consultation paper, 'Practical implications of Reporting Entities transacting with other Reporting Entities and the Factsheet on Managing Intermediaries', is intended sort out just who in the multi-tiered investment money handling business has to verify the reality of underlying clients - or, literally, who has to do the 'customer due diligence' (CDD).

In the paper, the FMA says it will "encourage a pragmatic approach to compliance with the CDD obligations so as to minimise unnecessary duplication of work."

"This may involve one reporting entity relying on another reporting entity... but it does not mean that a reporting entity dealing with a managing intermediary can turn a blind eye to the source of funds," the FMA paper says.

In effect, this means that most of the dreary document-collecting CDD duties will fall on those who are the first point of contact for investment clients - that is, financial advisers or fund managers (in the case of direct clients).

Behind the scenes, however, trustee companies, custodians, banks, investment platforms and all the other hangers-on also must ensure any third-party is doing the CDD adequately, while retaining the right to access the identities of underlying customers.

In particular, this creates an interesting situation for the fund manager/platform relationship. Platforms act as an aggregating mechanism, collecting client money and investment instructions before passing on bulk orders to fund managers, who usually don't get to see the identities of the individual investors involved.

Potentially, under the AML rules fund managers could demand the names of all their platform-received clients, opening up direct marketing opportunities.

"We would also expect appropriate restrictions to be placed on the use of personal information by reporting entities up the chain," the FMA says, "but even where an agent is appointed... the reporting entities up the chain must have the ability to promptly obtain the CDD information where necessary for AML/CFT purposes."

In fact, the FMA singled out investment platforms (also known as 'wrap' accounts) for special mention: "... being a one-stop shop, [platforms/wraps] are potentially efficient vehicles for layering and integration stage of money laundering and terrorism financing," the paper says.

Look out for 'Terrorist caught in wrap trap' headlines once the industry gets on top of the AML rules. In the meantime, the regulator advises: "If you are still unsure about your obligations after reading this factsheet, please contact your AML/CFT Supervisor or take legal advice."

Lay readers, however, can skip the body text and view the diagrams in appendices 1 and 2 for a simple breakdown of how their money flows from A to D.