Do Banks have an AML Problem with IOLTA?
IOLTA provides Financial Institutions the means of assisting lawyers by pooling the accounts of their under-privileged clients to reduce their legal expenses. But while it may seem that lawyers bear the responsibility to maintain the accounts in question, banks must ensure that their onboarding and anti-money laundering (“AML”) controls are in place and functioning properly.
What is IOLTA?
Interest on Lawyer Trust Accounts (“IOLTA”) are interest-bearing deposit accounts established by lawyers to pool nominal or short-term funds related to the legal matters of multiple clients. The funds of each client are too small to open individual interest-bearing accounts because fees and expenses would exceed any interest earned. Financial institutions remit interest earned on IOLTA accounts directly to the state IOLTA program for charitable purposes, such as helping low-income people obtain help with civil legal problems affecting their basic needs.
The Banks’ role in monitoring AML issues re: IOLTA
Financial Institutions’ role regarding IOLTA is governed entirely by state law. With respect to IOLTA accounts in New York, N.Y. Judiciary Rule § 497(c)(v) states that the financial institution shall: Have no duty to inquire or determine whether deposits consist of qualified funds [the lawyer decides whether a client’s funds should be placed in an IOLTA account, or should be kept separate].
Under anti-money laundering regulations, financial institutions must adequately assess account risk and monitor the relationship for suspicious or unusual activity. At account opening, financial institutions should have an understanding of the intended use of the account, including anticipated transaction volume, products and services used, and geographic locations involved in the relationship. However, the Financial Crimes Enforcement Network (FinCEN) exempts IOLTA accounts from the Customer Due Diligence Requirements for Financial Institutions (“CDD Rule”). Therefore, financial institutions are not required to identify the beneficial owners of IOLTA accounts, allowing the bank to treat an IOLTA account similarly to a deposit account opened by the lawyer.
Should a bank, after conducting an investigation, determine that the activity rises to the level of being suspicious, it will have to file a Suspicious Activity Report (“SAR”) on the IOLTA-related activity. Suspicious activity reporting forms the cornerstone of the Bank Secrecy Act (“BSA”) reporting system, and monitoring for this is a critical internal control. Appropriate policies, procedures, and processes should be in place to monitor and identify unusual activity.
A review of legal cases in the last five years shows that lawyers, not financial institutions, have been disciplined for failing to follow the appropriate recordkeeping and oversight practices for their IOLTAs. The range of issues for which lawyers have been held responsible include misidentified accounts, misdirected payments, improper use of client funds for personal expenses, and overdrawn accounts. The following table shows the trends of bank liability with regards to IOLTA.
IOLTA Problem for Banks?
FinCEN determined that only the lawyers establishing IOLTAs would be deemed the banks’ customers, not the lawyers’ underlying clients. For purposes of the Customer Identification Program rules, a financial institution shall treat an intermediary or lawyer (and not the lawyer’s clients) as its customer. Therefore, financial institutions have minimal IOLTA-specific liability, including following the AML requirements when onboarding the lawyer as a customer and monitoring the activity as if it were any other deposit account. However, banks should ensure that all AML controls related to IOLTA, such as proper onboarding and the filing of SARs describing activity deviating from the expected activity of the account, are in place.
- What is IOLTA? < http://www.iolta.org/what-is-iolta >
- FinCEN final rule Customer Due Diligence Requirements for Financial Institutions <https://www.federalregister.gov/documents/2016/05/11/2016-10567/customer...
- Professional Service Providers — Overview, Bank Secrecy Act Anti-Money Laundering Examination Manual <https://www.ffiec.gov/bsa_aml_infobase/pages_manual/OLM_093.htm>.
- Lawyers, not banks, are responsible for maintaining the books and records of the underlying beneficial owners of the funds. Most issues arising from case law relate to lawyer / law firm mismanagement or malfeasance related to IOLTA funds. Banks are however, responsible for the overall compliance with statutory and regulatory requirements for monitoring, detecting, and reporting suspicious activity.
- In the event a bank identifies unusual activity during its ensuing investigation, it may make inquiries of the law firm to obtain additional information to determine if the activity is deemed suspicious.