Financial Crime Regulations, Innovation, and the Need to Co-Exist

What is innovation? When considering that question, many people first think of technological innovation. That is part of it, but innovation comes in many forms. Within the realm of financial crimes (FinCrime), regulatory and technological innovation were put into overdrive by the events of 9/11. The USA PATRIOT Act, and many subsequent regulations around the world, kicked off a paradigm shift in how the private and public sectors would tackle FinCrime globally.

This blog post explores the evolving global FinCrime regulatory environment and the importance of embracing innovation.

Regulations and innovation – friends?

While regulations and innovation can at times be at odds, they also need each other. With the rapid pace of technological advancement and a financial system that is more interconnected than ever before, it's more important than ever for technology and regulations to have a strong relationship, especially in the realm of FinCrime.

For the past several years, we have seen the pace of regulatory change spurred on by industry pressure, technology, and expanding global FinCrime risk. Notable regulatory changes include the AML Act of 2020 (AMLA) and the Corporate Transparency Act (CTA) in the U.S.; the Economic Crime and Corporate Transparency Bill in the UK; and numerous changes to the EU’s AML/CFT regulations (e.g., the 5^th AML Directive), including the creation of a new AML Authority.

One of the more significant regulatory changes is the AMLA. The main point of the AMLA is to modernize the U.S. AML/CTF regime, and three key themes resonate throughout—transparency, collaboration, and innovation. There are six main purposes of the AMLA, three of which are focused on innovation:

• Modernize the AML and 25 CTF laws to adapt the public-private response to new and emerging threats

• Encourage technological innovation and the adoption of new technology

• Reinforce that AML/CTF policies, procedures, and controls should be risk-based

Each purpose adds several codified laws, which, if properly implemented by the regulators and enacted by the private sector, will spark fundamental, innovative change across the FinCrime landscape.

5 key areas driving innovation

Industry pressure is not the only driver of innovation. Here are some other forces moving things forward:

1. Digital currencies
   One of the most notable areas driving FinCrime regulatory change is the recognition by global regulators of digital currencies. Regulators have been grappling with how to strike a balance between fostering innovation and preventing their use in illicit activities. For example, the 5^th AML Directive, adopted by the EU in 2020, extended AML regulations to cover digital currency exchanges and wallet providers.
   

2. Information sharing
   FinCrime does not respect national borders, requiring cross-border collaboration. Enhanced collaboration has increasingly become a focal point of regulatory innovation to effectively combat FinCrime. Intergovernmental bodies such as FATF promote international private-private and private-public collaboration standards (e.g., Private Sector Information Sharing, Partnering in the Fight Against Financial Crime, and Consolidated Standards on Information Sharing), and the U.S. has had arguably the most robust information-sharing regulations for the last 20+ years through Section 314. To find out more about information sharing, take a look at this blog post.
   

3. Cybersecurity
   Countries are collaborating on strengthening cybersecurity regulations to counteract the growing threat of cybercrimes (e.g., ransomware and hacking). Focus areas include sharing threat intelligence, setting common standards, and introducing ways to exchange information swiftly.
   

4. Environmental, social, and governance (ESG)
   ESG factors have also been impacting FinCrime regulatory and compliance frameworks. Societal impact areas such as climate change, human rights, and ethical business practices have led regulators to rethink the importance of regulations in addressing the impact of FinCrime within ESG. Global organizations have been taking note and responding.
   

5. Beneficial ownership
   One of the most significant areas of frustration and recent regulatory change has come in the form of beneficial ownership. Understanding the ultimate beneficial ownership of a business is critical in preventing FinCrime. A lack of beneficial ownership disclosure requirements has underpinned the ability of sanction evaders and other criminals to mask and facilitate their crimes.

In response to growing pressure from the private/public sectors and increasing international standards and expectations (e.g., FATF – Beneficial Ownership of Legal Persons), many jurisdictions have been strengthening beneficial ownership regulations to increase transparency and accountability. Examples:

• UK: Measures to enhance the accuracy of its beneficial ownership register were implemented through the Companies House. For example, in 2016 the People with Significant Control (PSC) register and in 2022 the Register of Overseas Entities were established. Both were the first of their kind globally.

• U.S.: The CTA, passed into law in 2021, requires certain companies, including shell corporations and LLCs, to disclose beneficial ownership information to FinCEN.

• European Union: The 5^th AML Directive introduced regulations regarding beneficial ownership transparency.

Is the industry responding?

The answer is yes and no (-ish). If you move beyond the largest global organizations, it is a mixed bag. Within large organizations, we've been able to witness amazing things when it comes to leveraging technology not just to fight FinCrime, but to support customer intelligence, credit risk, and beyond. Within smaller organizations, the desire to innovate is being embraced and pursued by many of the people we've engaged with. Some are taking the leap, but many others have been slow to adopt the next-generation or advanced technologies being leveraged by large organizations.

To fast-track the adoption of innovative technologies, education, trust, and collaboration, are paramount, as is FinCrime being viewed as a strategic pillar of an organization's goals. Also, making technology historically only available to the largest organizations more widespread is critical, though not easy, and rarely done. Until now.

Conclusion

Global governments and regulatory bodies, spurred on by the private and public sectors, have recognized the need for more robust frameworks to combat evolving and sophisticated FinCrime threats. This has led to a transformative shift in the FinCrime regulatory environment, with a greater focus on risk-based (i.e., threat-based) approaches that leverage collaboration, technology, and data/analytics to fight FinCrime. This shift is much needed, with AI/ML gaining traction, allowing for the analysis of vast amounts of data in real-time to more efficiently detect suspicious patterns.

Ultimately, the more successful organizations are at innovating their FinCrime programs and their broader technology, the more regulators will embrace such innovation via regulatory change. These new regulations would lead those on the fence of innovation to follow suit. So take a chance, and take advantage of regulatory innovation, and own your story.

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