View Full Version : U.S. Data Spying Extends To Mutual Funds

12-03-2006, 11:13 AM
U.S. data spying extends to mutual funds


By Laura Smitherman
Originally published December 3, 2006

Mutual funds are now the latest front in the war on terror.

Five years after passage of the Patriot Act in response to the Sept. 11 attacks, the mutual fund industry was required by federal law to begin reporting the suspicious activities of customers last month.

The information can then be used by a broad range of law enforcement agencies for tracking down mobsters, tax scofflaws, drug dealers and terrorists.

Banks have been required to file the confidential suspicious activity reports, or SARs in regulatory shorthand, since the mid-1990s. More recently, casinos, brokers, money transmitters and insurance companies also have been charged with keeping an eye out for dubious transactions.

As a result, the number of these reports rose by a third in each of the past two years to nearly 1 million in 2005. In the first six months of this year, more than 550,000 reports were filed, according to the Treasury Department's Financial Crimes Enforcement Network, or FinCEN.

Federal investigators say the reports, filed on transactions of several thousand dollars when customer behavior seems amiss, are invaluable. The information has been instrumental in recent cases exposing investment and real estate fraud and in busting an under-the-table payroll scheme and a sports-gambling ring.

But the reports also have fostered concerns about invasions of privacy and increased compliance expenses being passed on to consumers, who are not told if a company files a suspicious activity report about them.

And there are worries about businesses being deputized as "citizen cops" and filing more reports, possibly in situations that turn out to be innocent, to avoid liability. So-called defensive filing, industry officials contend, likely inundates investigators with useless information.

"The American people do not want gratuitous fishing expeditions into their financial records," said former Georgia Rep. Bob Barr, who is chairman of Patriots to Restore Checks and Balances. The group was formed last year to seek changes in the Patriot Act.

These reports "are costing banks and taxpayers billions of dollars so that the government can collect data that they don't have the capability to efficiently process," Barr added.

The widening universe of companies filing the reports has transformed a program that was used primarily as a way for investigators to construct a paper trail in money-laundering cases after the crime. The reports took on a new significance after revelations that all of the 9/11 hijackers had opened bank accounts in their own names and received thousands of dollars in wire transfers.

"There was a huge shift after 9/11 in the focus of money-laundering investigations," said Thomas P. Vartanian, a Washington lawyer and former federal bank regulator.

"Now they are trying to find a way to stop the flow of money to terrorist organizations before it gets there," Vartanian said.

Steve Hudak, chief of public affairs at FinCEN, said that with all of the banking and law enforcement officials looking at the reports, "most of them are read or at least have a cursory review." Reports of suspected terrorist financing are "absolutely read," he said.

"We don't think there's a problem of superfluous SARs; the ones we get are of good quality and address significant issues," Hudak said. "Even if we were to collect 2 million SARs a year, with our technology, it wouldn't make a difference. Think of Google and how quickly it's able to process through millions of records."

In fact, the suspicious activity report regime might be expanded again. The Treasury Department is considering a requirement that travel agencies, car dealers, and real estate professionals have anti-money laundering programs in place. Those rules were proposed more than three years ago, and final rules could require they also file the reports.

"We have not moved forward on those industries, and I can't give a timeline," Hudak said, adding that the agency is researching those businesses and assessing the risks.

The terrorist attacks changed the dialogue in Washington. Just two years earlier, federal regulators had withdrawn a proposal that banks keep closer tabs on customers and more routinely report financial activity to authorities.

The idea drew protests from civil liberties and privacy advocates, and regulators received more than 250,000 letters, mostly negative, from the public.

In contrast, the proposal that mutual funds file suspicious activity reports got five comment letters. One from the Investment Company Institute, the industry's trade group, expressed support for the rule and suggested only a few technical changes.

The three-page SAR forms includes the subject's name, address and other identifying information as well as the suspected wrongdoing, such as fraud, market manipulation, theft and terrorist financing. It also has a section for a narrative to describe the suspicious activity.

In general, mutual funds must report transactions of at least $5,000 if they are out of the norm for the customer or if there is reason to suspect that money has been derived from illegal activity.

Some "red flags" might be that a customer refuses to provide identifying information or gives false information, or that fund transfers appear to be designed to hide the country of origin.

Many mutual funds, including two Baltimore firms, Legg Mason Inc. and T. Rowe Price Group Inc., have been voluntarily reporting dubious transactions for several years. The funds also have been required to determine whether anyone opening an account appears on any lists of known or suspected terrorists.

Laura H. Chasney, associate legal counsel at Price, said suspicious activity reports are rare, perhaps because the company doesn't accept cash. She said two committees review potentially dubious transactions before a report is filed with the Financial Crimes Enforcement Network.

"It's a judgment call, but from our perspective when we see the activity, we file," she said.

Separately, financial institutions have long had to report cash transactions of more than $10,000. About 13 million of those currency transaction reports are filed annually.

Many companies have chafed under the regulatory burden. The American Bankers Association lobbied Congress this year to exempt longtime customers, such as restaurants, retailers and gas stations that frequently deal in large amounts of cash, from currency transaction reports. Congress instead directed the Government Accountability Office, its investigative arm, to study the issue. Bankers also have been clamoring for more guidance on when suspicious activity reports need to be filed.

Federal Reserve Chairman Ben S. Bernanke, in remarks to an industry convention recently, said more feedback should be given on the usefulness of the reports and how to better identify the most significant risks.

Meanwhile, regulators continue to pursue compliance cases. Regulators fined Israel Discount Bank of New York $12 million in October for what they said was an inadequate system for detecting money laundering and reporting suspicious transactions. Last year, ABN Amro was fined $80 million, in part for being lax about reporting suspicious activity.

The Financial Crimes Enforcement Network says that even if many of the reports on their own have "minimal investigative value," the data together is essential to identify and trace potential avenues of terrorist financing, according to a recent report.

The agency gives the FBI access to electronic copies of the reports from financial institutions that are imported into a data warehouse. The network says an examination of millions of documents revealed more than 80,000 filings "with some relationship to subjects of terrorist investigations."

Companies, by law, cannot tell the target of a suspicious activity report that one has been filed.

Industry insiders say they have heard about innocent customers being refused an account or having an account frozen, actions that are typically at a bank's discretion, because of suspicious activity. But they say those incidents are rare.

"Sometimes, unfortunately, it weighs against the customer," said Richard M. Whiting, general counsel at the Financial Services Roundtable, a trade group.

Hudak said that "routine transactions that any consumer would go through would likely not draw attention." He added, "If for some reason a SAR was filed and law enforcement didn't have an interest in that person, it would likely never come up."