How the U.S. Should Tackle Money Laundering in the Real Estate Sector

It is no secret that foreign kleptocrats and other crooks like to stash their illicit cash in U.S. real estate (see here, here, here and here).  A recent report from Global Financial Integrity (GFI) found that more than US$2.3 billion were laundered through U.S. real estate in the last five years, and half of the reported cases of real estate money laundering (REML) involved so-called politically exposed persons (mainly current or former government officials or their close relatives and associates). The large majority of these cases used a trust, shell company, or other legal entity to attempt to mask the true owner of the property.

Shockingly, the U.S. remains the only G7 country that does not impose anti-money laundering (AML) laws and regulations on real estate professionals. But there are encouraging signs that the U.S. is finally poised to make progress on this issue. With the backing of the Biden Administration, the U.S. Treasury Department’s Financial Criminal Enforcement Network (FinCEN) has published an advance notice of proposed rulemaking (ANPRM) that proposes a number of measures and floats different options for tightening AML controls in the real estate sector. The U.S. is thus approaching a critical juncture: the question no longer seems to be whether Treasury will take more aggressive and comprehensive action to address REML; the question is how it will do so. And on that crucial question, I offer three recommendations for what Treasury should—and should not—do when it finalizes its new REML rules:

  • First, while the most straightforward approach to REML might seem to be imposing on real estate service providers requirements comparable to those imposed on the financial sector (and other entities) under the Bank Secrecy Act (BSA), this is not the approach FinCEN should embrace. (Most real estate transactions involve a financial institution, and so the BSA already applies to a gatekeeper in such transactions; the main question for FinCEN is what to do about the roughly 22% of real estate transactions that do not involve a financial institution.) The BSA requires covered entities to develop elaborate internal compliance systems, including a designated compliance officer and ongoing employee training programs for relevant employees, with regular independent audits of these systems. But such systems are extremely costly, and most of the settlement service providers in the real estate industry—including real estate agents, brokers, title agents, and real estate attorneys—are small-sized businesses that do not have the capacity to take on such a labor-intensive program. Additionally, the nature of the relationship between the customer and the service provider is quite different in the real estate sector as compared to the banking sector, due to the fact that real estate transactions are more likely to be one-time transactions between a buyer and seller rather than an ongoing client-customer relationship. This makes it inherently more difficult for real estate professionals to conduct the kind of customer monitoring that is expected of banks.
  • Second, while applying the full set of BSA requirements to the real estate sector would be inappropriate, FinCEN can and should impose on this sector greater reporting obligations, particularly concerning the true ownership of legal entities involved in real estate transactions. FinCEN already took an important step in this direction in 2016 when it announced its so-called Geographic Targeting Orders (GTOs). Under the GTO program, for real estate transactions in certain designated areas (originally a handful of large cities like New York and Miami, later expanded to include a total of twelve metropolitan areas), in all residential real estate transactions over a threshold amount (originally $1 million, later lowered to $300,000) that do not involve bank financing, the title insurance company is required to acquire and report the purchasing entity’s true beneficial owner (that is, the real human being who owns the entity). While there is some debate over how substantial an impact GTOs have had on the frequency of non-financed real estate purchases by legal entities (compare here and here), pushing for greater beneficial ownership transparency is almost certainly a good idea. But the current GTO program, while helpful, is far too limited. Not only does the policy apply only to large residential purchases in a dozen cities, but GTOs are temporary (they require renewal every six months). Additionally, because GTO requirements apply to title insurance agents, they are of no use when the parties to the transaction choose to forgo title insurance. FinCEN should replace the current GTO system with a nationwide, permanent rule—one that ensures that there is always a party involved in the transaction that is obligated to verify and report beneficial ownership information. (When a title insurance agent is not involved, that reporting obligation should fall on the real estate agent.) To ensure consistency and avoid duplicative reporting and unnecessary costs, FinCEN should ensure that the definition of “beneficial owner” used under this rule aligns with the definition in the Corporate Transparency Act (CTA), and should make sure that title insurance agents and real estate agents are not obligated to collect and submit information that is already in the CTA database.
  • Third, FinCEN should adopt regulations specifically targeted at commercial real estate (CRE) transactions. Most of the attention on REML has focused on residential real estate—think gaudy Malibu mansions and Manhattan penthouse apartments—but GFI’s study found that more than 30% of the U.S. REML cases it identified involved CRE properties; furthermore, these properties generally had significantly higher values than the residential real estate involved in known cases of REML. Other G7 countries have adopted REML rules that do not distinguish between residential and commercial transactions; the same AML requirements apply to both. On this point, though, the US would do better to adopt separate and distinct requirements for each segment of the market. The principal reason for this is that CRE transactions are typically much more complex, involving webs of stakeholders and a greater number of agents and possible gatekeepers across multiple jurisdictions. As explained in GFI’s report, it is one thing to identify the beneficial owner and source of funds for the purchaser of a home or apartment; it is another thing to carry out extensive customer due diligence on, for example, a group of fifteen different conglomerates and private equity firms that are trying to acquire a hotel. A typical CRE transaction is a multi-stage process, with multiple rounds of due diligence, that can easily take up to a year from start to finish. For this reason, it is important that the party with AML reporting requirements both be involved throughout the life-cycle of the deal and have the expertise to understand its financial intricacies. Therefore, FinCEN should impose reporting requirements on commercial real estate agents and investment advisors, as these important gatekeepers share proximity to clients, have the necessary expertise to understand the complexities of CRE transactions, and remain implicated throughout the various facets of the deal.

FinCEN is on the cusp of finally pushing forward vital REML regulations. By enacting a permanent nationwide rule, one that covers both residential and commercial real estate sectors and ensures ownership transparency in all real estate transactions, FinCEN can make significant headway in the fight against REML. It is high time. The U.S. can no longer afford to stay on the sidelines while malicious actors continue to exploit and taint its prosperous real estate market.

4 thoughts on “How the U.S. Should Tackle Money Laundering in the Real Estate Sector

  1. Thank you Ella for this fascinating piece! Your recommendations seem quite sound–do you have a sense of whether or not FinCEN has considered these types of suggestions to REML regulations? Also, I was surprised to read that the U.S. is the only G7 country that does not impose AML and regulations on real estate professionals–why has this been the case until now?

    • Thank you Sandy, glad you enjoyed it! Many of the above recommendations have been echoed by various stakeholders in their response to FinCEN’s call for public commentary on the ANPRM. I am hopeful that FinCEN will take this feedback into consideration when finalizing their ruling. On a different note, I too was surprised by the delay in the U.S. to regulate this sector. FinCEN claims its temporary exemption of real estate professionals from the BSA was to allow more time to “continue studying the money laundering risks posed by these institutions in order to develop appropriate anti-money laundering program requirements”. They discuss this a bit further in their ANPRM in case you’re interested: https://www.fincen.gov/sites/default/files/2021-12/RE_ANPRM_FRN_120321_FINAL_508.pdf

  2. Ella, thanks for the fascinating post. I agree that FinCEN should go beyond GTOs and ensure that someone involved in real estate transactions, including those that don’t involve title insurance and verify the beneficial owner. That said, do you have any sense of how many transactions don’t involve title insurance? Given that buyers may be reluctant to buy property without title insurance and banks unwilling to lend against such property, I could imagine an argument that the marginal benefit of going after such transactions would be relatively low. I’m not sure this argument is convincing, but it seems worth considering given the sharp fall in cash real estate transactions following the GTOs and limited law enforcement and regulatory resources. By contrast, as you point out, commercial real estate transactions are an area where there’s been relatively little scrutiny by gatekeepers but significant money laundering activity.

    • Hi Justin, thanks for your comment. Great question – you are right that many home buyers purchase title insurance. Nevertheless, I would argue that criminals are not like most home buyers, and thus would be more willing to forgo title insurance in order to evade reporting requirements.

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