In February, former Baltimore mayor Catherine Pugh became the latest in the long line of Maryland politicians sentenced to prison for corruption-related crimes. According to the Department of Justice, Pugh sold copies of a self-published children’s book series to a variety of local organizations that already had or were attempting to win contracts with the city and state governments. Over eight years, Pugh and her longtime aide failed to deliver, re-sold, and double-counted the orders, squirrelling away nearly $800,000 into bank accounts belonging to two shell corporations registered to Pugh’s home address. Pugh, who did not maintain a personal bank account, used the funds to purchase and renovate a private home as well as fund her re-election campaign, among other activities.
These facts are classic red flags in the anti-money laundering (AML) world. Pugh would have had more difficulty executing this corrupt scheme, and might have been brought to justice much earlier, if the banks handling her illicit revenues had conducted the sort of enhanced customer due diligence and monitoring that financial institutions are required to perform on so-called “politically exposed persons” (PEPs), as well as their immediate family and close associates. While there is no uniform definition, PEPs are typically understood to be someone who holds a powerful government position, one that provides greater opportunities for engaging in embezzlement, bribe-taking, and other illicit activity. (Defining a PEP’s “close associates” is more challenging, but the category is generally thought to include someone like Pugh’s aide, who has the requisite status and access to carry out transactions on behalf of the PEP.) But U.S. financial institutions were not required to subject Pugh or her aide to enhanced scrutiny, because under the U.S. AML framework, such scrutiny is only obligatory for foreign PEPs, not domestic PEPs.
For many years, that was the standard approach internationally. But a new consensus is emerging that financial institutions should subject all PEPs, both domestic and foreign, to enhanced scrutiny. This position has been embraced by the Financial Action Task Force (FATF), the international body which sets standards for combating corruption in the international financial system, by the Wolfsberg Group, an association of the world’s largest banks, and by the European Union’s Fourth AML Directive. But far from joining the growing tide of domestic PEP screening, the United States seems to be swimming against it. The United States is one of the few OECD countries that does not require domestic PEP screening, and this past August, the Financial Crimes Enforcement Network (FinCEN), the primary U.S. agency tasked with investigating financial crimes, reiterated that it “do[es] not interpret the term ‘politically exposed persons’ to include U.S. public officials[.]”
This is a mistake. It’s time that the United States joined the international consensus by formally requiring enhanced scrutiny of domestic PEPs as well as foreign PEPs.
Of course, wading into domestic PEP territory would not be without its challenges, but ultimately each of the principal rationales that have been advanced for resisting domestic PEP screening turns out, on closer inspection, to be unpersuasive:
First, some say that domestic PEP screening is unnecessary because the risk of U.S. PEPs engaging in corruption is substantially lower than for their foreign counterparts. This view is short-sighted. Whether or not the incidence of domestic PEP corruption is lower than foreign PEP corruption, U.S. public officials are hardly immune to corruption, as Pugh’s case illustrates. (For other examples, see here, here, and here.) In fact, the perception of corruption in the United States is at an all-time high. There is thus no basis to assert that U.S. PEPs present such a minimal risk that there is no need to scrutinize their transactions more closely.
Second, and relatedly, some argue that U.S. PEP transactions typically involve much smaller sums of money than transactions involving foreign PEPs, making detecting suspicious transactions too difficult to be worth the costs of enhanced scrutiny. But significant technological advances reduce the compliance burden—especially when implemented at scale—and enable more accurate detection of suspicious patterns in account activity, even with small sums. And institutions would calibrate the cost based on their internal risk assessment, as with all other AML requirements. Moreover, cases like Pugh’s highlight that domestic PEPs are often less sophisticated at obscuring shadowy money trails, indicating that detection of domestic PEP illicit activity could even be easier than in the case of foreign PEPs.
Third, some posit that domestic PEP screening is redundant, because suspicious activity reports (SARs), which banks are obligated to file on all customers, together with other reporting requirements that apply to public officials, such as tax and campaign finance regulations, effectively serve the same function. This thinking is misguided. SARs are only generated when a transaction falls outside of an institution’s risk-based parameters. These parameters are necessary because U.S. financial institutions process a staggering number of transactions: in 2019 alone, institutions sent more than 100 million wire transfers, 15.5 billion automated clearing house payments, and $300 billion in peer-to-peer transactions—and these were only some of the types of purely inter-bank transfers. Given this volume, it is unlikely that existing screening procedures would identify domestic movements of potentially small sums as suspicious activity if U.S. PEPs are not considered high risk within the screening parameters. Similarly, existing reporting requirements for public officials are insufficient. Tax and campaign finance reporting occur on a quarterly or annual basis, potentially much less frequently than domestic PEP screening. Furthermore, and perhaps more importantly, the penalties for money laundering far exceed the penalties for false reporting.
There’s no such thing as American exceptionalism when it comes to the need to scrutinize more carefully the financial transactions of public officials. Public corruption is a domestic problem, not just a foreign problem, and there’s no good reason to give U.S. PEPs a special exemption from the due diligence obligations that apply to all other PEPs.