CHINA’S financial institutions are gearing up for yet another big upheaval – this time stemming from the revised Anti-Money Laundering (AML) Law that aims to make it harder for criminals to hide the proceeds of any illegal activity including financial fraud, gambling and terrorist financing.

The updated legislation, which goes into effect on Jan 1 after five years of deliberation and revision, aims to modernise and strengthen the legal framework to combat money laundering. It takes into account the changing nature of financial crime and the increased role of nonfinancial institutions such as real estate developers and agents, accountants, and precious metals traders; the growing use of technology and products such as virtual and cryptocurrencies in money laundering; and the potential threats to the country’s financial and national security.

This is the first substantial amendment to the AML Law since it was introduced in 2007 and goes into effect just months before the Financial Action Task Force (FATF), a global watchdog for money laundering and terrorist financing, begins another review of China’s AML framework and regulations. Revisions to the law are partly aimed at addressing the criticisms and shortcomings highlighted in the FATF’s 2019 report and bringing China into line with international standards.

“The AML Law serves as the foundational legal framework for AML mechanisms in a country or region,” Wang Xin, a professor at Peking University Law School, said. “The formulation or revision of AML laws in many countries is a very challenging process which involves finding a balance in dialectical relationships.”

For China, this has meant finding a balance between following international standards while taking account of its own AML conditions, and between ensuring compliance with AML requirements, which requires disclosure of personal information, while also ensuring the protection of customer data, he said.

Typically, when drafting legislation, the Standing Committee of the National People’s Congress (NPCSC) only needs to solicit public opinions once, Wang said. However, the revision of the AML Law involved soliciting public opinions three times. “This is highly unusual and highlights the great caution exercised in revising the AML Law,” he said. The NPCSC passed the final draft of the updated law on Nov 8.

Due diligence

The law expands the definition of money laundering and specifies its coverage of nonfinancial institutions in sectors such as real estate, accounting and law. It requires these institutions, along with banks and non-bank financial institutions (NBFIs), to monitor risks stemming from new technologies and products such as cryptocurrencies, virtual assets, and livestreaming that are increasingly being used to launder money. The law also, for the first time, makes AML a national security issue and extends jurisdiction to AML-related offences outside of China that impact Chinese security or disrupt financial order.

The revised law also requires institutions to beef up due diligence on customers. They will have to not only gather information about and verify the identity of their customers and the ultimate beneficial owners of entities – those who ultimately own and control them – but also continuously monitor customers throughout their business relationship and keep transaction records for at least 10 years. They will also be required to understand the money laundering risks associated with each customer and adopt risk management measures that correspond to those risks.

Penalties for non-compliance will increase significantly, with fines up to 10 million yuan (S$1.9 million) or more for severe violations, compared with a maximum of five million yuan currently.

Financial watchdogs have been beefing up AML supervision since the FATF report and many of the regulations, which are benchmarked against international standards, are included in the updated law.

The People’s Bank of China is now preparing to revise the four departmental regulations and 13 normative documents on AML previously issued to make them consistent with the new law, sources with knowledge of the matter told Caixin. It is also considering formulating new regulations involving special preventive measures, they said.

As new regulations have proliferated, and updates to the law have been in the works since 2019, China’s financial institutions and NBFIs are already aware of many of the changes and the work they need to do to comply. Even so, compliance is onerous, even for banks that have been involved in AML supervision for years.

“The more stringent requirements of the new law mean commercial banks have had to undertake a comprehensive review of their internal controls for AML and their money laundering risk management systems,” the head of compliance at a major bank told Caixin. “The workload is quite substantial.”

While the FATF’s evaluation of China’s AML measures and compliance in 2019 praised the work of the financial industry, it highlighted the lack of supervision of nonfinancial sectors and the failure of companies to take any AML measures or report suspicious transactions.

As a result, the scope of the revised AML law has specifically included sectors such as real estate developers, real estate agents, precious metals and gemstone traders, and accounting firms.

“This has never happened before at the legal level,” said Yu Pei, head of financial crime compliance for FTI Consulting in China. “Although the People’s Bank of China had previously issued documents targeting nonfinancial institutions, those were vague and lacked sufficient legal authority.”

The challenges companies in these sectors face in complying with the law will be even greater as many have little, if any, experience of AML regulation.

Risky business

Supervisory authorities for these sectors, such as the Ministry of Housing and Urban-Rural Development and the Ministry of Finance, are preparing to issue guidance documents on AML work in areas under their jurisdiction and promote implementation, sources with knowledge of the matter told Caixin.

A senior AML regulatory official said that compliance will to a large extent be based on the risks faced by each company.

“Those with low risks can do less, while those with high risks may need to do more,” he said. “The regulatory focus will definitely be on large chain organisations and industry leaders, as any money laundering vulnerabilities in these entities could lead to significant consequences.”

A fundamental change in the regulatory framework brought about by the updated law is the introduction of a risk-based approach to AML, as per guidelines set out by the FATF. This approach emphasises that countries, financial institutions, and other entities should proactively assess and identify money laundering and terrorist financing risks and allocate resources in proportion to those risks.

The challenge for regulators is to ensure that institutions who, under the original law, just passively implemented the rules and ticked the compliance boxes become proactive managers of money laundering risks.

“We have long followed a paternalistic approach to regulation, where financial institutions have been very passive in compliance,” the senior AML regulatory official said. “Regulators would instruct financial institutions to ‘take action A in situation A and action B in situation B’, which is certainly not appropriate.”

Under the new risk-based approach, “the authorities will provide guidance, but they cannot make judgements for institutions”, the official said. “They need to evaluate their own risks, take measures that are proportional and appropriate to manage those risks, and allocate resources based on the degree of risk, rather than taking a ‘one size fits all’ approach.”

Although the updated law has increased financial and other penalties on institutions that break the law, provided they have been “diligent and responsible” in fulfilling their AML obligations, the administrative authorities responsible for AML under the State Council may reduce or even waive any punitive action.

FTI Consulting’s Yu said this principle is crucial. “With such a safeguard provision in place, institutions will have the confidence and willingness to engage in AML efforts,” he said. “Otherwise, one would have to question the sustainability of AML initiatives.” CAIXIN GLOBAL

Sources: The Business Times