Foreign Bank Fights for Its Life with U.S. Regulators

WASHINGTON — The largest bank in Tanzania has sued the U.S. Treasury Department to halt a rule that designates the bank as a "primary money laundering concern," which cuts off its access to dollar funding and may prove to be a death sentence for the institution.

The Financial Crimes Enforcement Network last month finalized a "special measure five" against $2 billion-asset FBME, formerly the Federal Bank of the Middle East, prohibiting U.S. financial institutions from keeping correspondent accounts for the bank or processing payments that have flowed through it.

But in a rare move, FBME has opted to fight the rule in court, arguing that Fincen has not recognized improvements it has made to its anti-money-laundering compliance regime. The case, a decision on which is expected in the next few days, represents a critical test for Fincen, and could have significant ramifications if the agency's rule is overturned.

"It is extremely unusual," said Dennis Lormel, a former FBI agent and principal at DML Associates, referring to FBME suing Treasury. "If for any reason the court rules against Fincen … they are going to have to be a lot more careful and their evidentiary thresholds are going to have to be higher."

But a victory for the bank appears to be a long shot. At a hearing on the case on Tuesday, Judge Christopher Cooper of the U.S. District Court of the District of Columbia acknowledged that "it's fair to say that the plaintiffs have an uphill battle to establish that the substance of Fincen's imposition of Special Measure Five was arbitrary and capricious."

Still, the judge suggested that he had concerns about whether Fincen followed its process correctly.

"I still have questions, however, as to whether the agency adhered to the required procedures, both under the [Administrative Procedures Act] and under the due process clause to the extent that FBME is entitled to due process protection, and those are the areas that I would like to focus most on today, in addition to the question of irreparable harm," Cooper said.

Fincen accused the bank of processing at least 4,500 "suspicious" wire transfers totaling $875 million through U.S. correspondent accounts between November 2006 and March 2013. It also said that other financial institutions involved in the wire transfers were unable to verify the identities of FBME's customers.

But FBME argues that Fincen won't specifically identify exactly which transactions it's referring to and is withholding unclassified and nonprivileged materials that could help the bank identify any illegal transactions.

Moreover, the bank says it took significant steps to change its anti-money-laundering compliance regime, including hiring KPMG and Ernst & Young as outside auditors.

"Notwithstanding the difficulty it faced trying to refute Fincen's cryptic allegations, FBME did all it could to address those it could comprehend," the bank said in court filings.

"As opaque as Fincen was in its notice, at least two things were clear. First, none of the specific misconduct alleged in the Notice extended past 2012. That is, Fincen identified no transaction or account holder of concern postdating the compliance updating and remediation that FBME had been undertaking for years with the benefit of reviews by KPMG and Ernst & Young."

The bank said despite these changes, Fincen continued to focus on deficiencies it found rather than an overall finding that its compliance program met international standards.

A spokesman for Fincen declined to comment. But in court filings, Fincen responded that the audits "identified several critical deficiencies in FBME's AML compliance program" and that they "served to confirm Fincen's concerns that FBME was still susceptible to being used for money laundering and other illicit activity by its customers."

David Schwartz, chief executive officer and president of the Florida-based International Bankers Association, said its inability to identify what activity Fincen is referring to could be part of the problem.

"That could almost be an argument in Fincen's favor from that standpoint that they are unable to detect who it is and what the issue is," he said.

Fincen first proposed to cut off FBME in a proposal last year, invoking Section 311 of the Patriot Act, before finalizing a rule in July. The rule will take effect Aug. 28 unless FBME can convince the court that it should be delayed or overturned. The bank says that without relief, the Fincen rule will "imperil its survival."

Once the rule is in effect, U.S. banks must purge any accounts that may be associated with FBME, update their filtering systems to identify accounts associated with the bank and prevent them from entering the U.S. financial system. Banks must send out notices to all of FBME's correspondent accounts notifying them that they can no longer do business with the bank.

"U.S. banks need to notify correspondent account holders and implement monitoring to make sure that money originating from FBME or has flowed through FBME does not flow through the U.S. financial system," said Chadwick Welch, an associate at McGuireWoods.

That could prove challenging for U.S. banks to do. Spotting accounts associated with FBME is relatively straightforward, but identifying all subsidiaries and affiliates is more difficult. The American Bankers Association, the Securities Industry and Financial Markets Association and The Clearing House have all asked Fincen to identify those associations for U.S. banks.

"Fincen is much better equipped and positioned to identify these entities and should provide that information," the ABA said in its comment letter.

But Fincen has declined to publish that information.

Carlos Garcia-Pavia, a director of AML and compliance at LexisNexis Risk Solutions, said that, while Fincen might not publish a list identifying all the affiliates and subsidiaries of the bank, institutions will do additional investigations and there is often "a lot of cooperation between the different financial institutions" in sharing information and findings from those investigations.

But he said "the small ones may be struggling with this because they don't have the manpower to do these kinds of investigations," which is why it would be helpful for Fincen to provide a list.

He also warned that some smaller banks might run the risk of feeling they are not "exposed" to a bank like FBME because their operations are "very local."

"That might be dangerous because they might not have all the controls that are needed in order to identify that if some point they establish a relationship with someone that might be transacting with those banks," Garcia-Pavia said.

Many observers said the case against FBME appears to be another cog in the "derisking" trend, forcing banks to cut ties with businesses that might be affiliated with certain kinds of firms. They suggested that banks may begin cutting any ties to foreign banks because they won't be worth the extra potential compliance hassle.

"This points out a key aspect that it becomes more challenging to deal in the correspondent banking arena," Schwartz said. "How much can you really know about that banks' local activity? Because now you are getting into knowing your customer's customer's customer, and that information isn't readily available."

Some said FBME will not be the only one affected.

"It could have a pretty strong ripple effect," Lormel said. "U.S. banks are going to start questioning other similar institutions that operate like this bank operates and exiting relationships."

Robert Rowe, vice president and associate general counsel at the ABA said, "What banks are doing is saying 'do we need all these foreign correspondent relationships' it is not just a matter of opening an account on the books and not worrying about it."