FinCEN Extends Anti-Money Laundering Program and Suspicious Activity Reporting Requirements to Non-Bank Residential Mortgage Lenders and Originators

By: András P. Teleki, Kathryn S. Williams

Residential mortgage lenders and originators (RMLOs — known as “mortgage companies” and “mortgage brokers” but not individual loan originators) now are subject to the Bank Secrecy Act’s (BSA) anti-money laundering regime pursuant to a long expected new regulation published in the Federal Register on February 14, 2012 by FinCEN, a part of Treasury that implements the U.S.’s anti-money laundering regime. Under the new rules, RMLOs are required to develop and implement an anti-money laundering program (AML Program) and begin suspicious activity reporting (SAR Filings) by August 13, 2012.

Financial institutions such as banks and broker-dealers have been required to maintain AML Programs for some time. By requiring RMLOs to implement AML Programs, FinCEN is attempting to “fill a regulatory gap that can be exploited by criminals, particularly in the conduct of mortgage fraud.” In November 2011, FinCEN issued a similar proposed rule that would require Fannie Mae, Freddie Mac, and the Federal Home Loan Banks to develop AML Programs and require them to make SAR Filings.

For purposes of the new regulations, RMLOs include mortgage lenders, which are defined as a “person to whom the debt arising from a residential mortgage loan is initially payable on the face of the evidence of indebtedness or, if there is no such indebtedness, by agreement, or to whom the obligation is initially assigned at or immediately after settlement,” and residential mortgage originators, which are defined as “a person who accepts a residential mortgage loan application or offers or negotiates terms of a residential mortgage loan.” Although this definition is similar to the definition of loan originator under the SAFE Act, FinCEN states that it does not intend the rule to cover individuals, and in fact, has intentionally tweaked the definition of RMLOs so that interpretation of the new regulations is not based on interpretation of the SAFE Act. The rule would, however, cover individuals to the extent the individual is a sole proprietor. The new regulations do not apply to banks, persons registered with, and functionally regulated or examined by, the Securities and Exchange Commission or Commodity Futures Trading Commission (many of the foregoing types of companies are already covered by separate sets of anti-money laundering requirements), and any government sponsored enterprise regulated by the Federal Housing Finance Agency and any Federal or state agency or authority administering mortgage or housing assistance, fraud prevention or foreclosure prevention programs.

Loan servicers are not expressly exempt from the new regulations; however, FinCEN generally views loan servicers as businesses that support post-origination principal and interest collection and taxation, and not as a business or activity that offers or negotiates the terms of a mortgage loan. FinCEN believes that “the typical activities of mortgage servicing companies do not fall within the definition of residential mortgage originator” in the new regulations. Although FinCEN has said that the new AML Program requirement is intended to cover initial purchase money loans and traditional refinancing transactions facilitated by RMLOs, a number of interpretive issues arise when dealing with loss mitigation and whether assisting in these activities, such as mortgage modifications, triggers the AML Program requirement. These issues will be explored in a future K&L Gates regulatory alert.

The new regulations require RMLOs to develop and implement an AML Program that is reasonably designed to prevent the RMLO from being used to facilitate money laundering or the financing of terrorist activities. The AML Program must be approved by senior management and must, at a minimum:

• Incorporate policies, procedures and internal controls based upon the entity’s assessment of the money laundering and terrorist financing risks associated with its products and services;

• Designate a compliance officer;

• Provide for ongoing training of appropriate persons considering their responsibilities under the program; and

• Provide for independent testing of the program.

As with all FinCEN anti-money laundering regulations, businesses are required to implement risk-based AML Programs that take into account the unique risks associated with that particular business’ products and services, as well as the business’ size, market and other issues. Thus, RMLO AML Programs would necessarily vary based on product, geographic, and other risks. Recent FinCEN reports and other research underscore that mortgage fraud is one of the most significant operational risks facing RMLOs in the ordinary course of business. Under a risk-based approach to implementation of the new regulations, FinCEN expects fraud prevention, as well as money laundering prevention, to be key goals underlying the various policies and procedures in an effective AML Program for an RMLO.

The new regulations also require that RMLOs make SAR Filings. A transaction requires reporting if it is conducted or attempted by, at or through the RMLO, it involves or aggregates funds or other assets of at least $5,000 and the RMLO knows, suspects, or has reason to suspect that a transaction or pattern of transactions:

• Involves funds derived from illegal activity or is intended to conceal funds derived from illegal activity;

• Is designed to evade the reporting requirements of the BSA;

• Has no business or apparent lawful purpose or is not the sort in which the particular customer would normally be expected to engage, and the RMLO knows of no reasonable explanation for the transaction after examining the available facts; or

• Involves the use of the RMLO in facilitating criminal activity.

SAR Filing obligations for RMLOs are similar to SAR Filing obligations of banks and other financial institutions. SAR Filings are made by completing a Suspicious Activity Report and submitting it to FinCEN. In general, the filing must be made within 30 calendar days after the date of the initial detection by the RMLO of facts that may constitute a basis for filing a SAR. The new SAR Filing regulations apply to transactions on or after August 13, 2012.

FinCEN and its delegates have examination authority with respect to a RMLOs compliance with its anti-money laundering obligations under the new regulations. Currently only the Internal Revenue Service has been delegated such examination authority. FinCEN will provide public notice of other agencies that will exercise delegated compliance examination authority with respect to certain classes of RMLOs.

FinCEN has explained that expanding anti-money laundering obligations to RMLOs is a first step in an incremental approach to implementing anti-money laundering regulations for the broad loan or finance company category of financial institutions under the BSA. As an indicator of things to come, FinCEN has signaled that it could further expand application of the AML Program requirement to other types of consumer or commercial finance companies and may even extend to real estate agents and persons involved in real estate closings and settlements.