June 20, 2016

FinCEN Continues Emphasis on “Know Your Customer” Money Sources – This Time, Secret Real Estate Buyers

On January 13, the Financial Crimes Enforcement Network (FinCEN), a unit of the U.S. Treasury Department, announced new rules targeting secret buyers of high-end real estate properties. From March 1 through August 27 of this year, FinCEN is requiring U.S. title insurance companies to report the identity of the beneficial owners of Limited Liability Companies (LLCs) and other shell companies who exclusively use cash to purchase high-end real estate in two locations – Manhattan and Miami. This is the first time the federal government is requiring real estate companies to disclose the identities of purchasers in all cash transactions.

Historically, certain high net worth individuals have used LLCs and other structures to purchase expensive real estate in cash, thereby concealing their identities and avoiding the need to disclose background information to banks in mortgage loan applications. The New York Times reported in 2015 that nearly half of the most expensive residential properties in the United States are purchased anonymously through shell companies, and that the real estate industry is not legally required to conduct a full examination of buyers’ identities or backgrounds, at least until now. Foreign buyers have increasingly invested their money in the United States, often in real estate. For example, between 2003 and 2014, the percentage of condos purchased by shell companies in a single building rose from one-third to over 80 percent. 

FinCEN believes that certain of the individuals using front-companies to make all-cash purchases of high-end real estate could be foreign officials or foreign criminals who are secretly investing criminal proceeds – “dirty money” – in American real estate to move the ill-gotten gains out of their home countries. In its press release announcing the new rules, FinCEN wrote that it was “concerned that all-cash purchases – i.e., those without bank financing – may be conducted by individuals attempting to hide their assets and identity by purchasing residential properties through limited liability companies or other opaque structures.” FinCEN Director Jennifer Shasky Calvery recently said, “We are seeking to understand the risk that corrupt foreign officials, or transnational criminals, may be using premium U.S. real estate to secretly invest millions in dirty money.

FinCEN intends to submit the identities of individuals using front-companies to purchase real estate in Manhattan (over $3 million in cash only) and Miami (over $1 million in cash only) to a law enforcement database, which will be used to identify natural persons who are typically able to disguise themselves in these transactions. If FinCEN’s review of the Manhattan and Miami front-company purchases uncovers useful law enforcement leads, FinCEN plans to make the reporting requirements permanent and to apply the requirements nationwide. Publicly reported rumors suggest that Los Angeles and Houston may be the next cities in which title insurance companies will be required to report purchasers using front-companies to engage in cash real estate transactions. FinCEN also plans to use the data it collects from this self-described “pilot program” to track where it sees the greatest risks for money laundering, especially by foreign persons, in the real estate market.

As for the title insurance companies involved in the real estate transactions, they face criminal and civil penalties if they do not comply with FinCEN’s Geographic Targeting Orders (or GTOs). Specifically, the title insurance companies must report the identity of the beneficial owner – an individual who, directly or indirectly, owns 25 percent or more of the equity interests of the purchaser – where a legal entity – the purchasing corporation, LLC, partnership, or other entity – purchases residential real estate in Manhattan for over $3 million in cash, and in Miami for over $1 million in cash, and does so without a bank loan or other external financing. The title insurance companies must submit a form to FinCEN within 30 days of closing in a qualifying real estate transaction. The title insurance company is also expected to implement procedures reasonably designed to ensure compliance with the terms of the GTOs, including reasonable due diligence to determine whether it is involved in a transaction subject to the GTOs and to collect and report the required information. At a minimum, the title insurance company must collect the beneficial owner’s driver’s license, passport, or other identifying information. The title insurance company may reasonably rely on information provided to it by third parties, including third parties who are part of the transaction.

The new GTOs are the latest in a recent string of efforts by FinCEN to combat money laundering by targeting the means and methods often used to conceal the true source of criminal proceeds. For example, FinCEN increased its scrutiny on casinos in the last two years, investigating and fining several casinos. FinCEN has prioritized investigating casinos for willful violations of the Bank Secrecy Act and failure to know the source of customer funds. FinCEN has been particularly critical of casinos for the failure to develop what it considers sufficient anti-money laundering (AML) compliance programs and failing to report suspicious activity.

While FinCEN released the GTOs on the heels of a New York Times investigation in 2015 into the use of shell companies to purchase high-end real estate in Manhattan and other large cities, its focus on money laundering outside of the traditional banking arena is not new. Under a new regime in 2012, FinCEN began to focus its enforcement approach on nonbank financial institutions, such as casinos and money service businesses. As for the real estate market specifically, FinCEN has viewed this industry as vulnerable to money laundering for several years and has reacted by tracking the rise of mortgage fraud suspicious activity reporting and geographic trends, and by establishing AML requirements for nonbank mortgage lenders and originators.

FinCEN’s latest efforts demonstrate that FinCEN is continuing its trend of aggressively reviewing source of cash funds and is focused on industries beyond typical financial institutions. FinCEN’s latest rules started March 1 in two real estate markets. There is almost certainly more to come.