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Last month we alerted our clients to newly proposed anti-terrorism and anti-money laundering regulations in New York that sought to impose increased compliance requirements and vastly expanded personal liability (including criminal liability) for senior compliance officers.1 Such regulations have been followed by similar federal legislative proposals and we believe signal a trend of increasing compliance and regulatory scrutiny on financial institutions and particularly their management and boards of directors.2
In light of increasing focus on AML/BSA compliance, we believe a corresponding regulatory trend is occurring that warrants equal attention from money services businesses, particularly money transmitters serving customers across the United States and facilitating international transfers. In response to an increasingly digital marketplace, state governments are becoming more innovative in their approach to regulating and taxing goods and services provided by companies engaging in commerce with their residents via the internet. The main driving force of these new regulations and interpretations is an attempt to extend the regulator’s reach beyond its borders to businesses with no physical presence in the state. This shift from a “physical presence” to an “economic presence” test implicates a state’s taxing, licensing and general regulatory jurisdiction.3 Unfortunately, there has been very little uniformity and consistency among the several states in adapting to a changing environment.4 We believe the resulting patchwork of inconsistent regulations requires attention from all those potentially affected, especially given the current enforcement and compliance climate.
One area of regulation where physical presence as the sole nexus of jurisdiction is diminishing is state licensure of money transmitters. Many states are specifically advising that licensing requirements apply to businesses notwithstanding that no physical contacts with the state exist. For instance, the state of Texas recently issued a Supervisory Memorandum requiring any money services business, regardless of location, that transmits money for persons located in Texas through a website, must obtain a license from the Texas Department of Banking, among other requirements.5 Theoretically, this means that an institution with no location, employees or agents in the entire United States could fall under the jurisdiction of the Texas Department of Banking by accepting a single transmission order from a customer in Texas. Similar regulations can be found in California, New York, Indiana and other states. Operating a money transmitting business without the appropriate license can lead to severe consequences from both state and federal authorities.6 Money transmitters should be aware that there is no “knowledge” requirement for criminal prosecution under the federal statute, making the failure to obtain a required state money transmitter license a strict-liability offense.7 Recent experience suggests that risk of prosecution is higher where transfers involve residents of countries on the Financial Action Task Force’s (FATF) list of high risk and non-cooperative jurisdictions.
While a state financial services regulator will often make the determination whether an entity is engaged in money transmission services and thus requiring of a license, the Secretary of State in a given state will often determine whether an entity is “transacting business” in the state requiring foreign qualification. These determinations are entirely separate and do not need to be consistent. While our experience has been that US branches of foreign banks are often found not exempt from registering as a money transmitter, a situation may arise in which such a branch is exempt by a financial regulator and yet deemed to “transact business” by the state’s Secretary of State.
Across state lines, consistency is even less apparent. For instance, in some states, registering to do business with a Secretary of State is sufficient contact with a state for that state to exercise its taxing authority on the registrant, while for others, such registration is not dispositive. Similarly, in some states holding a specialty license (such as a money transmitting license) establishes a taxable relationship while not in others.8
We believe uniformity among the various state jurisdictions is unlikely to be achieved anytime soon.9 In the meanwhile, money services businesses are forced to contend with an evolving and often inconsistent regulatory environment. We especially caution large national and international institutions with a global customer base. It is becoming more likely that an unsuspecting business may unintentionally run afoul of state regulations because of expanded concepts of jurisdiction. For example, acquisitions of companies that have an immaterial amount of business from money transmittal operations may well be subject to state prior approval requirements. The consequences are becoming more severe and can expose an entity to business disruption, considerable fines or other enforcement actions. We recommend businesses in this space retain experienced counsel with a national presence to advise them through an increasingly complex regulatory environment at both the state and federal levels.
1 Locke Lord QuickStudy: Newly Proposed Anti-Money Laundering Regulations in New York Signal Increasing Personal Criminal Liability for AML/BSA Compliance Officers (December 11, 2015). See also Locke Lord QuickStudy: Multiple Staff Layoffs in the UK – The Scope for Criminal Liability for Directors (November 12, 2015).
2 See Holding Individuals Accountable and Deterring Money Laundering Act, H. R. 4242, 114th CONGRESS, 1st Session (December 11, 2015). See also Financial Crimes Enforcement Network, Advisory to U.S. Financial Institutions on Promoting a Culture of Corporate Compliance (August 11, 2014).
3 2015 Survey of State Tax Departments, Bloomberg BNA (Vol. 22, No. 4).
5 Texas Department of Banking, Supervisory Memorandum 1035 (May 1, 2013).
6 See 18 U.S. Code § 1960 – Prohibition of Unlicensed Money Transmitting Business
8 2015 Survey of State Tax Departments, Bloomberg BNA (Vol. 22, No. 4).