Nostro Account Correspondent Banking …

1 Australian Financial Markets Association ABN 69 793 968 987 Level 3, Plaza Building, 95 Pitt Street GPO Box 3655 Sydney NSW 2001 Tel: +612 9776 7955 Fax: +61 2 9776 4488 Email: Web: 6 February 2009 Liz Atkins General Manager - Regulatory Policy AUSTRAC PO Box 5516 WEST CHATSWOOD NSW 1515 Dear Ms Atkins Nostro Account Correspondent Banking This submission arises from member concerns about the application of Correspondent Banking due diligence requirements to Nostro accounts. The submission is supported by the Australian Bankers Association. 1. Background and Summary In the context of recent AUSTRAC compliance audits of AFMA member banks, we understand that issues have arisen as to the application of the Correspondent Banking requirements in Part 8 of the Anti-Money Laundering and Counter-Terrorism Financing Act 2006 (AML/CTF Act) and associated Anti-Money Laundering and Counter-Terrorism Financing Rules (AML/CTF Rules).

2 In particular, we understand that AUSTRAC staff carrying out the audits have expressed a view that the obligations apply both to Correspondent banks and respondent banks such that due diligence must be performed in relation to both Nostro and Vostro accounts. We submit for the reasons contained in this letter that a Correspondent Banking due diligence requirement for domestic banks utilising Correspondent bank accounts provided by overseas financial institutions ( Nostro accounts) is inconsistent with the AML/CTF Act and AML/CTF Rules and with the relevant international standards. In summary, our view is that the definition of Correspondent Banking relationship in the AML/CTF Act does not extend to cover circumstances in which no Banking services are provided by the first financial institution.

3 This interpretation is consistent with international approaches to Correspondent Banking , and is appropriate in the context of a risk-based regime. 2. What is a Correspondent Banking Relationship? The term Correspondent Banking relationship has a particular legal meaning under section 5 of the AML/CTF Act. However, before analysing that definition, it is helpful to understand how such relationships work in practice. Page 2 of 7 The relationship between Correspondent and respondent banks can be depicted as follows: bank A is in Australia bank B is in a foreign country bank B has an Account held at bank A From bank A s perspective: this is a Vostro Account bank A is the Correspondent bank bank B is the respondent bank bank A has an Account held at bank B From bank A s perspective: this is a Nostro Account bank A is the respondent bank bank B is the Correspondent bank Two relationships are depicted in the above example (from bank A s perspective): (a) bank A s relationship with bank B as the provider of a Vostro Account in bank B s name held at bank A.

4 And (b) bank A s relationship with bank B as the holder of a Nostro Account in bank A s name held at bank B. While the above example is reciprocal, in that each bank holds an Account with the other, this is not necessarily the case. Each of these relationships can, and in practice does, exist independent of the other. Section 5 of the AML/CTF Act defines a Correspondent Banking relationship as follows: Correspondent Banking relationship means a relationship that involves the provision by a financial institution (the first financial institution ) of Banking services to another financial institution, where: (a) the first financial institution carries on an activity or a business at or through a permanent establishment of the financial institution of a particular country; and (b) the other financial institution carries on an activity or business at or through a permanent establishment of the other financial institution in another country.

5 And (c) the Correspondent Banking relationship relates, in whole or in part, to those permanent establishments; and (d) the relationship is not of a kind specified in the AML/CTF Rules; and (e) the Banking services are not of a kind specified in the AML/CTF Rules. Applying that definition to the example above, from bank A s perspective only one Correspondent Banking relationship exists under s5 of the AML/CTF Act. That is, when bank A, as the first financial institution, provides bank B with Banking services, that is, the provision of a Vostro Account . Accordingly, bank A would be required to comply with the requirements in Part 8 of the AML/CTF Act in relation to that relationship. We understand that AUSTRAC audit staff may be of the view that a second Correspondent Banking relationship exists for the purposes of section 5 of the AML/CTF Act, in relation to bank A s Nostro Account , held at bank B.

6 Page 3 of 7 However, in this case, bank A (the first financial institution ) is not providing any Banking services to bank B, and it follows that from bank A s perspective there is no Correspondent Banking relationship in relation to that Nostro Account . Rather, bank A is receiving Banking services from bank B. Should AUSTRAC s view be that there is ambiguity as to this interpretation, then regard should be had to those matters that can be used to aid statutory interpretation, being: (a) the objects of the AML/CTF Act; and (b) secondary legislative materials. Each of these is discussed below. 3. Objects of the AML/CTF Act Section 3 of the AML/CTF Act provides, relevantly, that: (1) The objects of this Act include: (a) to fulfil Australia s international obligations, including: (i) Australia s international obligations to combat money laundering; and (ii) Australia s international obligations to combat financing of terrorism; and (b) to address matters of international concern, including: (i) the need to combat money laundering; and (ii) the need to combat financing of terrorism; and (c) by addressing those matters of international concern, to affect beneficially Australia s relations with: (i) foreign countries; and (ii) international organisations.

7 Section 3 goes on to clarify that international obligations include obligations under specified instruments, and that particular instruments reflect international concern. This objects clause makes it clear that Parliament intended that Australia s AML/CTF regime reflect international efforts. For that reason, it is relevant to look to how Correspondent Banking obligations have been addressed in the international context. 4. International References One of the key international instruments referred to in the objects clause of the AML/CTF Act is the FATF Recommendations. The relevant FATF Recommendations are Recommendations 7 and 18. It is clear that those Recommendations envisage that in relation to Vostro accounts, the obligations are on the Correspondent bank , not the respondent bank .

8 Page 4 of 7 This is also reflected in international approaches to dealing with Correspondent Banking . References and extracts of international approaches are summarised in Appendix 1. As can be seen from those materials, international best practice is for obligations to be placed on Correspondent , rather than respondent, banks. This is reflective of relevant international obligations and matters of international concern, consistent with the objects of the AML/CTF Act. The reason for this focus relates to the different risks involved with Vostro and Nostro accounts. As mentioned above, a Nostro Account is a bank Account held with an overseas bank by a domestic bank15. Relevant Secondary Materials , for the purposes of the domestic bank facilitating transactions on behalf of its customers in the overseas jurisdiction.

9 As a customer, the domestic bank does not receive the funds of overseas Correspondent banks nor are any services or products provided by the domestic bank to the overseas Correspondent . A flow chart depicting the relevant Correspondent Banking relationship is set out at Appendix 2. In practical terms, the money laundering risks in a Correspondent Banking relationship originate from the Australian respondent bank and its customers. It does not lie with the offshore Correspondent bank which is facilitating transactions for Australian banks and their customers. It is therefore appropriate that a Correspondent bank conduct due diligence into its respondent banks, but, from a risk perspective, the position of respondent banks in relation to their Correspondent banks is quite different.

10 Australian respondent banks have Nostro accounts with a range of offshore banks. In these cases, the transactions within the Nostro Account are originated by and conducted for customers of the Australian respondent bank and are merely facilitated by the offshore Correspondent bank . It is also not possible for an Australian respondent bank to receive funds of the Correspondent bank (or its underlying customers) in the Nostro accounts maintained by that Australian respondent bank with the Correspondent as a result of that Correspondent Banking relationship (as depicted in Appendix 2). Consistent with the above, analysis of the international resources cited in the AUSTRAC Guidance Note on Correspondent Banking shows that they follow the principle that money laundering risks originate from the respondent bank , consequently the Correspondent bank has an obligation to undertake due diligence on the respondent bank , but not vice versa.