New “Know Your Client” Rules Have Banks Forming Intelligence Departments

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New “Know Your Client” Rules Have Banks Forming Intelligence Departments

Are you a potential criminal? Are you a threat to banks or airlines, a potential spy, or perhaps an IRS tax protester? The government would like to know, and they are about to force banks to be their detectives.

The federal government wants banks to investigate you. Soon your banker will know more about you than anyone else in town. Banks must not only determine your correct identity, they must also know how you make your money, and how you spend it. Once you establish a pattern of deposits and withdrawals, banks must inform federal agencies when you deviate. Bank customers may soon find themselves explaining to the FBI, Internal Revenue Service, and the Drug Enforcement Agency why they made a $15,000 deposit to their bank account.

According to current Federal Deposit Insurance Corporation plans, banks will soon establish “profiles” of their customers and report deviations from those profiles. If you sell a car, for example, and place the proceeds in your account while you shop for a new one, a red flag may go off in the bank computer. Such a situation puts law-abiding citizens in a situation where they must prove they are innocent.

A recent announcement by the FDIC provides for citizen comment prior to implementation of their new banking regulations. The deadline for comments is Dec. 27, 1998, although experts in the field expect it will be extended. “The FDIC is proposing to issue a regulation requiring insured non-member banks to develop and maintain ‘Know Your Customer’ programs,” according to a recent FDIC information package sent to Congress to provide notice of proposed rule making, and to banks for comment. “As proposed,” the 29-page FDIC document begins, “the regulation would require each non-member bank to develop a program designed to determine the identity of its customers; determine its customers’ source of funds; determine the normal and expected transactions of its customers; monitor account activity for transactions that are inconsistent with those normal and expected transactions; and report any transactions of its customers that are determined to be suspicious, in accordance with the FDIC’s existing suspicious activity reporting regulation. By requiring insured non-member banks to determine the identity of their customers, as well as to obtain knowledge regarding the legitimate activities of their customers, the proposed regulation will reduce the likelihood that insured non-member banks will become unwitting participants in illicit activities conducted or attempted by their customers.”

It will also level the playing field between institutions that already have adopted formal ‘Know Your Customer’ programs and those that have not. Many banks across the country have already begun to implement such programs, according to the FDIC. A quick search of the Internet found many stories in press accounts of problems reported at such banks. There have been a number of stories dealing with banks requiring fingerprints to open accounts and to cash checks. There are several lawsuits presently underway testing the right of banks to make that requirement. Detractors of the rule point out the many errors found on credit reports, and suggest that banks will soon make similar errors when they begin creating profiles of their customers. All of us who have had errors on our credit report know how difficult that is to correct.

The FDIC is selling the proposed regulations by pointing out the need for prevention of financial and other crime. “By identifying, and, when appropriate, reporting such transactions in accordance with existing suspicious activity reporting (SAR form) requirements, financial institutions are protecting their integrity, and are assisting the efforts of the financial institution regulatory agencies and law enforcement authorities to combat illicit activities at such institutions” says the FDIC. The proposed regulation is, according to FDIC spokesperson Carol A. Mesheske, authorized by current law. It comes from the statutory authority granted the FDIC under section 8(s)(1) of the Federal Deposit Insurance Act (12 U.S.C. 18189s)(1), as amended by section 259(a)(2) of the Crime Control Act of 1990 (Pub. L. 101-647). The FDIC claims that the law requires them to develop regulations to require banks to “establish and maintain internal procedures reasonably designed to ensure and monitor compliance with the Bank Secrecy Act. Effective ‘Know Your Customer’ programs serve to facilitate compliance with the Bank Secrecy Act.” The proposed regulations will mandate that all banks insured by the FDIC must maintain an intelligence gathering department that screens out customers and keeps an eye on existing customers. Before you decide to move your money to a credit union, you should know that the FDIC is not the only federal organization making such plans. “Each of the other Federal bank supervisory agencies is proposing to adopt substantially identical regulations covering state member and national banks, federally-chartered branches and agencies of foreign banks, savings associations, and credit unions. There also have been discussions with the Federal regulators of non-bank financial institutions, such as broker-dealers, concerning the need to propose similar rules governing the activities of these non-bank institutions,” reports FDIC attorney Karn L. Main in the proposal.

The purpose of the regulations is to protect the reputation of the banks, to facilitate compliance with the law, to improve safe and sound banking practices, and to protect banks from being used by criminals as a vehicle for illegal activities. Current customers will be subjected to the new regulations in the same way that new customers will be scrutinized. The FDIC does not wish to permit any loophole which would leave any bank customer unidentified or unsupervised. Each bank will create profiles. The first profile will determine the amount of risk a potential customer might present by opening an account. The system of profiling potential customers will be different from one bank to the next, since the FDIC does not provide a uniform program. The purpose of the profile is to identify potential customers who might use a bank account for funds obtained through criminal activity. The next profile will be one used by computers to determine when suspicious activity is taking place in an account (transactional pattern analysis). When activity in the account does not fit the profile, banks will notify federal authorities. Banks are expected to identify their customers, determine normal and expected transactions, monitor account transactions, and determine if a particular transaction should be reported. The FDIC has sent copies of the proposal to all banks and is asking for input. The questions asked by the FDIC in the proposal do not ask whether the regulations should be put into place, only how to implement them in the best way. None of the questions in the proposal are directed to bank customers. The FDIC reassures banks that, because the requirements will be universally applied to all banks, it will not hurt their business and drive away customers. The proposal does not mention penalties for noncompliance, nor is there any mention of regulation to provide access to bank records by customers so errors can be found and corrections made. “If ‘Know Your Customer’ programs are required, insured non-member banks can more easily collect the necessary information because customers cannot turn readily to another financial institution free of such requirements,” stated the proposal.

Editorial Comment

The regulators are fools to think that a talented criminal couldn’t blow through these new regulations. It will only bother those who have unusual patterns in their deposits. These are typically the small business owner and the self-employed who have irregular income and expense patterns. It will also drive the costs of banking up. While the regulators are correct in the assumption will effect all depository institution equally, it will not affect all customers of depository institutions equally. The average base cost of a checking account in the United States is $205 per year in check charges and monthly fees, not including wire fees, bounced or returned check fees. A full 18% of the population does not have checking accounts, and as the costs of banking increase more will opt out of the system. It will drive more to the check cashing centers and peso brokers that are currently driving enforcement officials nuts.

The interesting debate will form around whether or not the information generated by the bank intelligence departments will be subject to the Fair Credit Reporting Act. If not, how will the banks be held liable for errors in their intelligence department? Libel? Slander? Blacklisting? Will these and the resulting errors cost more than the amount of funds supposedly laundered or not taxed? It appears that they will.

The government, in its zeal to wipe out drug activities, continuously impinges upon the liberties of its citizens. Something different must be done to change the attitude of a government who views all of its citizens as potential criminals. What do you suggest? Please let us know.

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