Due diligence for profit in private banks and trusts

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Due diligence for profit in private banks and trusts

Under the International Money Laundering Abatement and Anti-Terrorist Financing Act of 2001 there is a lot of confusion as to what constitutes appropriate exercise of due diligence. The confusion is more than theoretical, since there is, in this case, no established “safe harbor” that allows you to feel comfortable. A bank might make every reasonable effort to do what they thought best – or even what they thought of – and find themselves in trouble.

While this is a serious and obvious problem for all financial institutions and financial gatekeepers, it causes particularly strong concerns as well as provides big opportunities for private banks and trust companies.

The special concerns are the result of the wider range of services provided by private banks and trusts versus commercial banks, thereby expanding the number of areas in which they can get in trouble. In addition, while they deal with a smaller number of customers, these customers have a lot of money, a lot of clout, and a lot of ideas about how they want their wealth managed on their behalf. This means that the bank has to be willing to stand up and do the right thing, which in this case means they should do nothing that will result in they, the bankers, ending up in the slammer. Included on the list is appropriate discretion in selection of clients, particularly those that fall into the politically exposed persons category, as well as particular caution in knowing their client, and where the funds are being invested.

In other banking environments this is actually somewhat easier to do, as much of the initial due diligence can be handled by formula, with little need, in terms of the number of exceptions, for much beyond the initial screening.

In addition, because the sums associated with any given account are likely to be relatively small, it is not much of an emotional difficulty to tell someone you don’t want their business. As an example, we were in a bank last year when a young French girl, just beginning her college studies, came in to open an account, and was refused because she didn’t already have an account. The loss of the small amount of income she would generate was simply not worth the effort for them to investigate further. Even adding in the loss of our account after having watched this (and having been asked to fill in a full-page form to change five twenty dollar bills for a single hundred dollar bill as a birthday present for a child), a strong case can be made from the point of view of the bank that the risks associated with pushing the envelope don’t justify the costs. The number of potential wealthy customers for a private bank, however, is much smaller, and it is therefore more difficult to turn one away.

However, vetting a new customer appropriately is only half the battle. For American citizens, it is a relatively straightforward process to find out if there is any legal impediment to taking in a specific customer. Then the bank has to deal with the issue of risk to reputation risk to decide if they want the customer, or, if undesirable, whether they can be excluded. Thus, while banks no longer tend to be so quick to exclude someone directly because they are Black, Irish, Jewish, or Native Americans, they can decide that they don’t want to deal with, for example, pornographers, on the theory that respectable folk wouldn’t want their money in the same place as Playboy keeps its money.

When dealing with funds from overseas, or investments overseas, however, none of these issues is quite so straightforward. First, if you are not from the region, you may not be equipped to handle the most basic of the Know Your Customer requirements. You are unlikely to recognize whether the person is a politically exposed person, where the funds came from, or whether the funds represent a risk to you. In many cases, institutions simply take a conservative approach and turn away these accounts.

Other companies, however, see this as an opportunity, and have turned to companies such as LUBRINCO to exercise the appropriate due diligence in geographical locations in which they have no expertise or reliable contacts. Thus, while other private banks and trust companies feel forced to shrink their foreign-customer pool, others are empowered to expand it by recognizing their limitations, and surmounting them with outside help.

By the same token, globalization has opened up investment opportunities for wealth managers some of which offer good prospects, but hide lot of dangers. Within LUBRINCO’s geographical area of economic expertise (Central and Eastern Europe, the offshore financial centers, Beijing and Shanghai, and Latin America) we are constantly astonished at the number of firms who go in to do business with the expectation that everything works in much the same manner as it does in the U.S., and come out wiser but poorer for the experience. Some prudent companies decide not to venture too far afield from their comfort zones. Others, more prudent still, recognize that both the opportunities and the risks are great, and bring in outside help to deal with the risks in areas where there is great potential for profit for those willing to go after them, and great potential for loss if there is not an appropriate exercise of due diligence.

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