In 2013 the UK’s Serious Organized Crime Agency (since transformed into the National Crime Agency) identified instances in which not-for-profit organizations had been unwittingly involved in donation scams using fraudulently obtained credit cards. One frequent scam involves a fraudster informing a non-profit that he wishes to donate a large sum of money (using a compromised or stolen credit card) on condition that the organization sends half of it onto another non-profit, which is actually the fraudster’s personal bank account. The beauty of the arrangement, for the fraudster, is that the card issuer then spots the fact that the credit card has been compromised and recalls the full amount from the non-profit. The organization is therefore liable for the full sum, having been involved, unknowingly, in money laundering. This is why KYC Due Diligence is critical when securing new major donors.
A variant on this theme is the insistence of a donor that the non-profit must purchase services from another company (controlled by his network) if it is to receive his donation. He might also insist that the payment must come through a suspicious-looking third party. This is not to say that not-for-profit organizations are not legally free in Western countries to accept donations with strings attached – they are – but circumspection is now vital.
The Non-Profit Checklist
How can non-profits protect themselves against such abuse? One way is to exercise ‘KYC due diligence,’ which is to say they should check the identities of donors, the sources of their funds, and, in some cases, the sources of their wealth. Another way, in the case of several donations by the same high net worth individual, is to monitor the transactions. The British Charity Commission believes the key to identifying suspect donations is to look for exceptional features, such as unusually large amounts or conditions, complex banking or transfer arrangements, and donations that are actually loans. This advice is of practical value but has its limitations. Around the time of the Gulf War, the UK and US were the only jurisdictions that insisted on banks (charities were included later) working out whether transactions were ‘suspicious’ rather than ‘unusual’ – the word that was used by all continental European countries with AML laws. The snag with unusual transactions is that many HNW individuals, with their unique lifestyles, make them all the time and, in doing so, are not acting suspiciously for members of their social stratum. ‘Exceptional features’ are therefore often red herrings.
Some trustees and, in some countries such as Bermuda, compliance officers at non-profit organizations in the Western world ascribe a certain amount of suspicion to unsolicited donations, but to do so seems a rather cynical surrender to the idea that people have to be gulled into making donations by publicity rather than acting on generous impulse. The same can be said about one-off donations; people of modest means make them all the time, so no one should expect HNW individuals to be any different. Some non-profit trustees or compliance officers are suspicious of donations in forms other than money, such as shares or goods. This, however, has always been common in the non-profit world, and its stigmatization might also be a sign of excessive zeal. None of these things should generate as much suspicion as the ‘red flag’ that must go up whenever the trustee in question cannot satisfy himself about the credentials of the person or people involved.
PEP Donors
‘Enhanced due diligence’ (or EDD, a term invented by the USA PATRIOT Act 2001 to delineate superior AML effort) should always occur when the donor in question is a ‘politically exposed person’ or PEP, as well as in various other instances of the HNW individual being suspect. The Financial Action Task Force, the world’s AML standard-setter, dictates in its recommendations of 2012 that countries should encourage non-profit organizations to use regulated financial channels (such as financial institutions) to conduct their business. In relation to PEPs, recommendation 12 says that those financial institutions should employ EDD, which takes reasonable steps to obtain information about the donor’s source of wealth and the source of his/her funds.
With this in mind, Regulation 35(5) of the UK’s Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (issued as secondary legislation under the Financial Services and Markets Act 2000) states that a relevant firm that wants to have a business relationship with a PEP, or a family member or known close associate of a PEP must not only have approval from senior management but must also take adequate measures to establish the source of wealth along with the source of funds. ‘Ongoing monitoring’ of the relationship (assuming it is not a one-off payment) through KYC due diligence is essential too, although this might be of limited value in a relationship where the money is flowing only one way (i.e. into the charity’s coffers) from exactly the same source time after time.
The KYC due diligence measures a firm should take to establish the PEP’s source of wealth/funds should depend on the degree of risk associated with the relationship and the place where the individual sits on the PEP continuum. The data on which it relies should be, in the words of the Joint Money Laundering Steering Group which interprets the British regulations, reliable and independent if the risk associated with the PEP relationship is particularly high. It should, where possible, be drawn from information sources such as asset and income declarations, which some jurisdictions expect certain senior public officials to submit. These often include information about the PEP’s sources of wealth and business interests. Of course, not all declarations are available to the public (i.e. to the trustee or compliance officer), and a PEP might have legitimate reasons for not providing a copy. Moreover, some jurisdictions impose restrictions on the PEP’s ability to hold foreign bank accounts, other offices, or paid employment – further increasing the need for KYC due diligence.
The Brass Tacks of KYC Due Diligence
For PEPs (or other HNW individuals) who inhabit the higher rungs on the ladder of risk, a firm that is conducting source of wealth checks on funds from inheritance is expected to ask for a copy of the relevant will. If the PEP says that his wealth/funds originate from the sale of some property, the firm should ask for evidence of conveyancing. Cayman National – a bank that provides fiduciary services to HNW clients who require help in structuring their assets offshore while offering trust administration and front-line philanthropy services in the bargain – hands its customers a typical “Enhanced Due Diligence Source of Wealth Declaration Form” to fill in, which contains the following typical stipulations.
If the wealth comes from an inheritance or divorce settlement, the form asks the high-risk HNW individuals to provide a grant of probate, i.e. a copy of the will with details of the estate he has inherited, or (failing that) a signed letter from a solicitor providing the full details of the settlement, or (failing that) bank statements, although the bank only wants to see these if they clearly show the HNWs full name, address, and origin of the funds.
If the wealth comes from company ownership and the sale of a company or its assets, the bank wants to see either a signed letter from a solicitor, or a signed letter from a regulated accountant, or a copy of the contract of sale plus a bank statement that displays the investment monies. In the case of a property sale, it wants to see a complete sales contract, or a signed letter from a solicitor, or a signed letter from a real-estate agent. If the wealth comes from a compensation payment, it wants to see a letter from the compensating body, or court documents that set out the details of the claim, or a signed letter from a solicitor.
The HNW individual’s wealth might be derived from income from his profession or employment, in which case the bank wants to see a contract/letter from the human resources department that displays his remuneration, or a résumé of his employment history that contains details about the firms he worked at and the positions he held, along with tax returns/written evidence, from a revenue authority, of tax he paid on income, plus bank statements showing receipt of the most recent three months’ regular salary payments from his named employer.
In the case of investments or savings, Cayman National wants to see some form of verification, whether it be certificates, contract notes, statements in the HNW individual’s name, confirmation from the relevant investment company, a bank statement showing receipts of funds from the investment company, or a letter signed by a regulated accountant that contains details of funds. If the wealth comes from company ownership and profits, it wants a copy of the audited accounts, or a signed letter from a regulated accountant that details profits. If it comes from a gift, the bank wants legal documents that contain evidence of that gift, where possible. Failing that, it wants written consent from the HNW individual to confirm details of the gift with the benefactor.
The PEP might have won a lottery; this was a prevalent tactic for money-laundering on the Spanish Costa del Sol in the first decade of this century, with many otherwise inexplicable fortunes being made through easily manipulated lottery companies. If the HNW individuals wealth comes from a source of this kind, he is expected to provide a letter from the relevant organization (lottery headquarters), or a bank statement showing the funds deposited by the lottery company. If the wealth comes from another source not listed, he must produce appropriate supporting documents and/or a signed letter from an accountant that contains details of the funds.
Each of these are KYC due diligence checks that non-profits should undertake (or rely on from the financial institutions that handle the payments) with regard to donors at the top end of ‘HNW risk.’
Charities of Fire
Charitable trusts, foundations, and organizations might be surprised to learn that the non-profit world is intimately tied up with the world of sanctions, regimes, and alleged terrorism. This is because many countries that the United States and its allies dislike – notably Iran with its nuclear weapons program – re-route clandestine payments through their private charity sectors.
The (Financial Action Task Force) FATF is keen to see that measures countries take to protect the non-profit sector from terrorist abuse should not disrupt legitimate charitable activities. Instead, the FATF is promoting ‘transparency’ and ensuring charitable funds and services reach their intended legitimate beneficiaries. HNW donors account for three-quarters of philanthropic giving in the US, so they are the most common targets for KYC due diligence background checks.
The United States is the world leader in this area, achieving good results in the prevention of, investigation of, and prosecution of terrorist finance in the non-profit sector, also countering the funding of nuclear proliferation and other abuses. Its government communicates regularly with non-profit organizations and has an expectation that they will engage in some form of KYC due diligence. The Internal Revenue Service’s Tax Exempt and Government Entities Division oversees non-profits on a federal level by reviewing applications for tax-exempt status and subsequent examinations (regulatory visits). Its 1,700 staff members and 690 examiners ensure that non-profits are sending returns and uses the information to decide whether they are funding terrorists. Obviously, it considers non-profits that make international payments to be the riskiest, and it collects information about their stated missions, programs, finances, donors, activities, and overseas funds on its extensive Form 990.
Each U.S. state exercises AML/TF control as well. For instance, in 2014 New York State prosecuted a money-laundering case that took in fraud, kickbacks, and theft. Both defendants pled guilty to stealing $9 million from the non-profit of which they were executives during their 20 years at the helm. Other countries can now boast of similar cases as well.
New Obligations; New Solutions
The trustees of non-profit organizations are now legally obliged to carry out KYC due diligence checks on donors, beneficiaries, and local partners and must also monitor the end-use of funds to at least some degree. They are duty-bound to know who they are dealing with; to verify identities wherever it is reasonable, or when the risks are high; to watch out for unusual or suspicious activity, conduct, or requests; and to know where the donor’s money and wealth comes from. As they generally lack the compliance personnel of banks, their best hope in checking such data lies in a judicious use of software.
To learn more about Wealth-X Diligence products and services visit: Wealth-X Diligence
For further information on donors check out: High Net Worth Donors: The Power of Effective Storytelling
Photo credits:
Robert Hickerson, Unsplash
PublicDomainPictures, Pixabay
About The Author
Chris Hamblin is one of the UK’s foremost compliance journalists, having edited a range of publications including Compliance Monitor, Money Laundering Bulletin, Fraud Intelligence and now Compliance Matters. He was Complinet’s group commissioning editor between 2000 and 2009 and set up and ran Complinet Money Laundering from 2001 onwards. In the wealth management area he has written for FT Adviser, Wolters Kluwer and WealthBriefing.