Earlier this month, in The Ink Patch Money Transfer Ltd v The Reserve Bank of New Zealand case, the High Court rejected four money remitters’ claims that the Reserve Bank of New Zealand (Reserve Bank)’s actions (or lack of action) was encouraging trading banks to be “overly zealous” resulting in a refusal to provide bank accounts to remitters and alleged “blanket de-risking”. The money remitters submitted that the Reserve Bank was not taking appropriate steps to address that problem.
Instead, the judgment confirmed that the Courts are reluctant to second-guess the Reserve Bank’s exercise of its powers, and that generally the trading banks are best placed to assess and manage their anti-money laundering and countering financing of terrorism (AML/CFT) obligations – as they should be doing so on a case-by-case basis, in accordance with the Reserve Bank’s existing guidance.
Who needs to read it? Why?
This will be of specific interest to money remittance service providers and their prospective banks. However, it also provides insights into the approach all AML/CFT reporting entities should take to managing their obligations, including for customers who are categorised as high-risk.
The High Court’s judgment
Four money remittance companies who service customers with a Pacific Islands connection brought judicial review proceedings against the Reserve Bank and the Minister of Finance, essentially on the basis that the Reserve Bank’s guidance had led to alleged ”blanket de-risking”, practices by trading banks, which excluded the remitters from being able to operate a business bank account.
The remitters argued that the Reserve Bank’s guidance did not give sufficient credit to the fact that the remitters themselves are AML/CFT reporting entities with their own AML/CFT programmes to manage the risks in their business. Instead, the trading banks were allegedly encouraged by the Reserve Bank to assess the adequacy of the remitters’ own AML/CFT processes, on the basis that it is a high-risk sector, in order to be satisfied that the remitters were meeting their AML/CFT obligations. That meant that the remitters were seen by the banks as expensive customers to service, and as a result the banks were reluctant to take them on. The remitters said the Reserve Bank’s guidance was based on a misunderstanding of the law (i.e. the Anti-Money Laundering and Countering Financing of Terrorism Act 2009 (AML/CFT Act) did not require that approach), and it had failed to take steps to correct that error of law.
The applicants brought the proceedings because, they say, since mid-2013 when the AML/CFT Act came into force, banks have consistently refused to open new bank accounts for them and had moved progressively to close existing accounts. This issue was brought to a head during the COVID-19 pandemic when the remitters required a business bank account to receive wage subsidy support, and as a result they could not receive the subsidy.
In fact, existing Reserve Bank guidance has “explicitly denounced” blanket de-risking and had stated such an approach would be inconsistent with the AML/CFT Act objectives. Instead, banks are to exercise judgment on a case-by-case basis. In addition, the Reserve Bank has established the Pacific Remittance Project in 2019 to address the increasing isolation of Pacific Island nations from the banking system. The Project is continuing to work towards a code of practice designed to provide a liability “safe harbour” for banks providing services to lower-risk Pacific focussed remitters. The remitters said that merely showed there was a problem, and would fail to adequately address it.
There were six grounds of review in this case, however we focus on three key findings from the case of more general interest below.
Inherent AML/CFT risk of remitters
The remitters claimed that, through categorising money remittance as a high-risk activity for the purposes of the AML/CFT Act, the Reserve Bank has fostered and supported an incorrect view of the law. It was alleged that, due to this categorisation, trading banks believed they were required to supervise whether money remitters had complied with their AML/CFT obligations in relation to their own clients – effectively auditing the money remitters’ compliance.
The Court declined to challenge the Reserve Bank’s risk classification of remitters, stating that the view of money remittance as a high AML/CFT risk activity is in line with international experience and the risk assessment of comparable jurisdictions. The Court agreed with the Reserve Bank that the guidance in fact encouraged a risk-based approach, and noted that this was not a scenario where a whole sector had been excluded from the banking system – in fact, some remitters do operate bank accounts for the purpose of money remittance to the Pacific Islands. The reason for an appearance of blanket de-risking was attributed to the commonality of risk factors that money remitters present, which had been identified by the trading banks’ risk-based approach.
The Court stated that “considerable allowance” should be afforded to the Reserve Bank as the body to which Parliament has vested the power and discretion to make the assessment, and without an issue of unreasonableness the opportunity for judicial intervention is very limited.
Customer due diligence on beneficial owners and the effect of the SMI exemption
The second major point related to the obligation to conduct customer due diligence (CDD) and the potential application of Part 6 of the Schedule to the AML/CFT (Class Exemptions) Notice 2018 (SMI Exemption) to partially exempt reporting entities (in this scenario, trading banks) whose customers are managing intermediaries from that obligation.
The idea of identifying a “person on whose behalf a transaction is conducted” (powbatic), in addition to the customer, comes from the FATF.[1] Under the New Zealand legislation, there had been some historical contention as to how that idea is carried through as an obligation. In short, s 11 of the AML/CFT Act creates the obligation to conduct customer due diligence on a customer, any beneficial owner of a customer, and any person acting on behalf of a customer. Section 5 then defines a beneficial owner as:
“the individual who—
(a) has effective control of a customer or person on whose behalf a transaction is conducted; or
(b) owns a prescribed threshold of the customer or person on whose behalf a transaction is conducted”
The three AML/CFT supervisors[2] have made clear they consider that a beneficial owner is any individual who satisfies any one element, or any combination of three elements, being a person:
- who owns more than 25 per cent of the customer;[3]
- who has effective control of the customer; and/or
- on whose behalf a transaction is conducted.
When applied to a chain of intermediaries, the obligation to identify powbatics means all reporting entities in that chain are obliged to determine whether powbatics exist and conduct CDD on those individuals, in addition to any other person in the chain they are required to identify.
The SMI Exemption defines specified managing intermediaries (SMIs) as including a financial institution to which the AML/CFT Act applies (and which therefore is itself a reporting entity). It exempts other reporting entities whose customers are SMIs from having to conduct CDD on the SMIs’ customers, since the SMIs are already reporting entities for the purposes of the AML/CFT regime.
The Court agreed that the SMI Exemption functions to alleviate the “obvious inefficiencies” that arise from multiple layers of CDD, and that it exempts trading banks from carrying out CDD on any of the money remitters’ clients.
However, the Court accepted the Reserve Bank’s position on what this means in practice. It held that the exemption for SMIs has a narrow scope, and therefore does not exempt trading banks from the requirement that the banks should have adequate and effective procedures and controls to manage and mitigate the risks of money laundering and the financing of terrorism arising from doing business with SMIs. Whether that requirement was met should be judged taking into account, amongst other things, the level of risk inherent in the business of the banks’ customers (i.e. the remitters), and with an assessment of higher risk it was to be expected that the banks’ processes would be more demanding.
The Court’s view was that, although trading banks are not required to verify written confirmation of money remitters’ compliance with AML/CFT requirements, it is up to their discretion whether they wish to accept confirmation without such verification.
The Court therefore considered that trading banks’ risk appetite failing to accommodate money remitters did not constitute evidence of an error of law in the Reserve Bank’s understanding of, and guidance on, the class exemption. The Court considered that it is not the role of the Reserve Bank to substitute its own assessment for the trading banks’ by suggesting they are able to accept written confirmation of AML/CFT compliance from money remitters without verification as sufficient to meet the banks’ obligations.
The Court then concluded that the trading banks were entitled to withhold their services. It said that:
Refusing to provide banking services following a risk-based assessment of the money remitters’ AML/CFT risk in fact represents more careful compliance with AML/CFT Act obligations and may very well suggest a greater prudence on the part of the trading bank.
The view that banks have a right to choose who they take on as customers reflects the High Court’s approach in an earlier case E-Trans International Finance Ltd v Kiwibank Ltd,[4] where the Court declined to grant an injunction against Kiwibank’s decision to close a money remitter’s account on the basis that it did not want to invest in monitoring their AML/CFT compliance,[5] which might be more expensive to undertake than for other less risky customers.
Reserve Bank’s failure to issue a direction
The money remitters also claimed that the Reserve Bank should have issued a direction under the Reserve Bank Act to trading banks, to the effect that the banks were not conducting themselves in a prudent manner in regard to money remitters because of the difficulty the remitters faced in obtaining a bank account.
On this issue, the Court focussed on how such a direction is to be exercised for the purpose of promoting the maintenance of a sound and efficient financial system. The applicants alleged that failing to facilitate financial inclusion poses a risk to the financial system.
The Court agreed with the Reserve Bank that this was not a case where the efficacy or soundness of the financial system as a whole was under threat, instead that some (but not all) money remitters were unable to open bank accounts. It also noted that the direction power is intended to address scenarios where registered banks are failing to take adequate precautions, which was not the case here.
The Court’s view was that it must be accepted that Parliament, through legislating in line with the FATF, accepted that some persons would be unable to obtain banking services. This outcome was not seen to jeopardise the soundness or efficacy of the financial system, and in fact the Court believed that if the respondents had taken the remitters on as clients after assessing them as high-risk then doubts would be raised as to whether they had acted prudently.
The applicants further alleged that the Reserve Bank failed to fulfil its statutory duties by not raising blanket de-risking as a topic for the Pacific Remittance Project (which aims to enhance access to, and reduce the cost of, remittances to the Pacific). This was rejected on the basis that there was nothing in the AML/CFT Act or the Reserve Bank Act requiring the Reserve Bank to have raised the issue. The Court also believed the guidance issued by the Reserve Bank was enough to discharge its statutory duty.
Our view
The goals of the AML/CFT Act are reflected in the Court’s decision, which shows deference to the FATF and public confidence in the financial system. It also respects the right of banks (and other reporting entities) to have autonomy over who they take on as customers and to manage costs, which is to be undertaken on a case-by-case basis. In that regard it is to be welcomed.
However, the decision does make clear that reporting entities may, depending on the assessment of risk, have a responsibility to go beyond their immediate CDD obligation in respect of their customer and take steps to manage and mitigate the risks of money laundering and the financing of terrorism arising from doing business with that customer. It indicates that this applies even when the customer is themselves a reporting entity subject to the supervision of their own AML/CFT supervisor and is not addressed by the SMI exemption. That will be a significant development for many reporting entities outside the banking sector.
Further, the case does not resolve the tension that exists between the public interest in countering money laundering and terrorism financing and the needs of people with little or no access to banking services – especially those who financially support overseas family members. Remittance services are undeniably vulnerable to facilitating unlawful money transfers, but vulnerable members of our community are financially disenfranchised through the exclusion of such services from the banking system. In addition, the unintended result is that they are incentivised to operate outside the formal banking system – unfortunately increasing the overall level of money laundering risk in New Zealand and world-wide because monitoring becomes non-existent.
Ultimately, what the case makes clear is that there is an urgent need for law reform to address the issues highlighted. One hopes that the Ministry of Justice’s Statutory Review of the AML/CFT Act which is due to be delivered to the Minister of Justice today (30 June 2022) will propose solutions. Promisingly, the consultation paper for the statutory review specifically identified the consequences of de-risking on money remitters in particular, and the flow-on effects on communities in New Zealand and overseas. It was acknowledged that this needs to be balanced with businesses’ prerogative to make commercial decisions about their customer base.
What next?
The applicants are planning to appeal the High Court’s decision.
If you have any questions in relation to the High Court’s decision, or the AML/CFT regime more generally, please contact one of our experts.
This article was co-authored by Elise Plunket, a Law Clerk in our Financial Services team.
Footnotes
[1] The Financial Action Task Force (FATF) is the international body that sets standards and promotes effective implementation of legal, regulatory, and operational measures for combating money laundering, terrorist financing, and other related threats to the integrity of the international financial system. However, its recommendations do not directly have force of law in New Zealand.
[2] Beneficial Ownership Guideline, jointly issued by the Reserve Bank, Financial Markets Authority, and Department of Internal Affairs in December 2013, at para 14.
[3] The prescribed threshold under regulation 2 of the AML/CFT (Definitions) Regulations 2011 is owning more than 25%
[4] [2016] NZHC 1031, [2016] 3 NZLR 241.
[5] For more background see Money Remitters Left Out in the Cold: Blanket De-Risking Policies, Counterterrorism and Government Intervention in New Zealand 23 (2017) AULR 204
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