What is ‘greylisting’, how does it affect a country economically and what compliance implications does it have? These are some of the questions to grapple with when dealing with greylisting or greylisted counterparties.
The Financial Action Task Force (FATF) highlights countries with Anti-Money Laundering / Counter-Terrorist Financing (AML/CTF) deficiencies and greylists such countries after a prescribed period if a country concerned has not been able to sufficiently remedy the deficiencies. Greylisting by the FATF triggers provisions with regulators in other jurisdictions, which call for enhanced due diligence measures to be applied to individuals, banks and organisations emanating from greylisted countries. These enhanced due diligence measures can have a negative economic impact. Greylisting occurs because of specific AML/CTF deficiencies in a country which can be singular or multiple and easy or complicated to remedy. Each greylisting is therefore unique to the country concerned and hence it is somewhat of an unknown what effects it will have on a country.. What is a common thread is t the longer a country is greylisted, the more severe the economic effects. Hence it is of paramount importance to work at removing a country from the greylist as soon as possible. Compliance specialists are necessary partners in this endeavour. We look at the recent greylisting of South Africa and the importance of experienced and knowledgeable compliance professionals after this event.
Who greylists countries?
The FATF, founded in 1989 on the initiative of the G7, is headquartered in Paris and is the global AML and CTF watchdog. It is an inter-governmental body whose purpose is to establish internationally recognised standards and to promote policies both at national and international levels to combat money laundering and terrorist financing as well as prevent the financing of proliferation of weapons of mass destruction.
The FATF has 39 members, 37 countries, including South Africa (a member since 2003) and two regional organisations (the Gulf Cooperation Council and the European Commission) and nine regional bodies called FSRBs (FATF-Style Regional Bodies). South Africa is the only African country member of the FATF, but other African jurisdictions participate through FATF regional bodies such as the Eastern and Southern African Anti-Money Laundering Group (ESAAMLG). Over 200 jurisdictions around the world are committed to the FATF Recommendations through its global network.
Why and how are countries greylisted?
The FATF has developed 40 Recommendations which provide a comprehensive guide to combat money laundering and counter-terrorist financing covering the criminal justice system, law enforcement, the financial system and its regulation and international cooperation. These Recommendations set out the principles but allow countries flexibility in how they implement them according to a country’s specific circumstances and constitutional framework. They are not binding but have been adopted as a template throughout the world to fight money laundering and terrorist financing.
After the terrorist attacks in the United States on 11 September 2001, the FATF recognised the need to take action to combat the financing of terrorism,. Pursuant to which, the FATF expediently developed and added another 9 Special Recommendations to create a framework to detect, prevent and suppress the financing of terrorism and terrorist acts.
The 40 Recommendations provided international standards against money laundering and terrorist financing. These Recommendations, however, can only be considered to be effective if they are implemented and enforced. Merely drafting and approving legislation and regulations is not sufficient. Each country must ensure the implementation and enforcement of the legislation and regulations. Hence the FATF has also developed 11 effectiveness measures and whenever the FATF undertakes mutual evaluations, they will use these to assess the effectiveness of a country’s AML/CTF efforts.
To ensure standards are adhered to and maintained, FATF members undertake peer reviews where members from different countries assess each other. These are called mutual evaluations. Mutual evaluations provide an in-depth analysis of a country’s ability to counter money laundering, terrorist financing and ability to counter the proliferation of weapons of mass destruction. It also includes an assessment of how a country addresses risks emanating from designated terrorists or terrorist organisations. The evaluation then provides recommendations on how to strengthen a country’s AML/CTF system.
There are two steps in a mutual evaluation process. First, an evaluation of a country’s AML/CFT process is undertaken and if there are deficiencies, the FATF puts together an action plan for the country to remedy such deficiencies within an agreed timeframe. If a country is not able to sufficiently remedy its deficiencies within this timeframe, it is greylisted by the FATF until such time it is considered to be compliant.
The mutual evaluations comprise two components, technical compliance with the 40 Recommendations and effectiveness with the 11 effectiveness measures.
- “The technical compliance assessment will address the specific requirements of each of the 40FATF Recommendations, principally as they relate to the relevant legal and institutional framework of the country and the powers and procedures of competent authorities. These represent the fundamental building blocks of an AML/CFT system. The level of compliance with each Recommendation will be indicated with one of the following ratings: compliant, largely compliant, partially compliant, or non-compliant.
- The effectiveness assessment will assess the extent to which a country achieves a defined set of outcomes that are central to a robust AML/CFT system and will analyse the extent to which a country’s legal and institutional framework is producing the expected results. How effectively each of the Immediate Outcomes in the Methodology is achieved by a country will be set out in the evaluation report and will include one of the following ratings: high-level of effectiveness, substantial level of effectiveness, moderate level of effectiveness and low-level of effectiveness.” (Source FATF-gafi.org)
The outcomes of all completed Mutual Evaluations, including South Africa, can be found on the FATF webpage.
What was the greylisting process for South Africa?
A mutual evaluation or peer review of South Africa’s AML/CTF capabilities was undertaken in 2019.
In October 2021, the resultant report was released, and it identified serious weaknesses in South Africa’s policies and effectiveness. Twelve recommendations were made for South Africa to implement. This was the start of a one-year observation period.
In August 2022, South Africa submitted a report on its actions taken.
In October 2022, at the end of the observation period, a further report on actions taken was submitted by South Africa, and the observation period ended with a FATF plenary.
January 2023 face-to-face meetings were held between FATF countries and South Africa
February 2023, a FATF plenary was held, and it was decided to greylist South Africa.
The outcomes of the mutual evaluation of South Africa were that it is only partially compliant or non-compliant with 20 of the forty Recommendations
In the effectiveness assessment, South Africa was found to be weak on all 11 outcomes.
The mutual evaluation report recommended 12 priority actions for South Africa to take to avoid greylisting, but they were not sufficiently addressed to avoid the greylisting in February 2023.
The main issues were there was little to no oversight of AML/CFT in non-financial business and the informal money sector, the latter which is very large in South Africa. There was not sufficient information available of beneficial ownership of companies and trusts especially, and the largest deficiency was the lack of capacity and skill to investigate and prosecute money laundering offences and terrorist financing.
What is the Impact of greylisting?
Greylisting triggers provisions in supervision requirements to treat greylisted countries as higher risk. It also has reputational effects, as it indicates the country is not compliant with international AML and CTF standards. This adds to the cost of doing business for foreign counterparts as they need to apply extra due diligence to transactions with South African counterparties. The FATF does not dictate the enhanced due diligence which needs to be applied to countries, it merely highlights countries with AML/CTF deficiencies. However, certain jurisdictions require their banks, organisations, and institutions to apply enhanced due diligence measures to individuals and organisations t emanating from greylisted countries, and they dictate the extra measures required. This extra due diligence pushes up the cost of doing business with that country.
Greylisting also negatively affects capital flows into countries and inward investments may be at risk due to the extra due diligence and the resulting increase in costs, which often is reflected in higher interest rates when it comes to loans.
The longer a country is grey-listed, the deeper the economic effects. Three years of greylisting can reduce GDP by 1 to 3%; this increases the longer a country remains greylisted.
Examples of enhanced due diligence in financial services transactions would be:
- South African individuals or corporate institutions opening new bank accounts with overseas banks could need to provide more in-depth information on the parties to the account as well as verification of this information, which will add to the paperwork burden. Also, a more senior bank official may be required to authorise the opening of the accounts, which will delay the account opening.
- Transfer/payment requests could be under more scrutiny and transfer limits reduced. Hence smaller transfers could now trigger a request for supporting documents which could delay the execution until these documents have been received.
- Cash-intensive businesses may struggle to open a bank account due to becoming reclassified to an unacceptable risk level.
- Correspondent banking relationships with a bank in a greylisted country is an increased risk. Payable-through accounts as well as nesting and downstreaming are high risk and extra due diligence may have to be performed to manage this risk.. The ownership of banks will also come under extra scrutiny with enhanced due diligence procedures to confirm all beneficial owners are identified and their identities are verified.
- Transaction monitoring systems may need to have more scenarios embedded,, different filters applied, a reduction in the size of transaction values flagged as well as frequency of transactions that trigger alerts. Hence more alerts will naturally occur and need to be investigated.
- As South African clients will likely get a higher risk rating so client risk reviews will need to be undertaken more frequently, for example, yearly.
- As a result of the enhanced due diligence required, compliance divisions may need to bolster their staff complement, adding to the cost of compliance.
- Many Environment, Social & Governance (ESG) funds use greylisting as a measure of g risk, which means they may be forced to reduce South African exposure
The above list is not exhaustive, merely an example of some of the practical requirements of enhanced due diligence. Where greylisting is concerned, it is important organisations employ compliance specialists with sufficient knowledge to navigate the enhanced due diligence and regulatory requirements. The solutions need to be context-specific and risk-based, whilst South African companies working cross-border need to understand risk assessments and how to assure counterparties globally, their controls and frameworks are aligned with international standards. Having practical knowledge of global standards is imperative, and programs such as the Global Compliance Institute (GCI) Anti-Money Laundering Specialist (AMLS) program helps to equip compliance professionals with the theory and practical implementation skills needed in international best practice in fighting financial crime. South Africa now needs to work hard to get off the greylist as soon as possible as the next observation on South Africa will be made by the FATF in January 2025.
Mauritius is an example of a country that was greylisted but came off the list quickly and stronger for it. They were greylisted in February 2020 and came off the list in 2022. The FATF identified 5 discrepancies in Mauritius’ AML/CFT oversight, with two main discrepancies, which were a lack of disclosure of the beneficial owners of management companies and ineffective supervision of licensees by the financial services sector supervisory authorities. The government rapidly put a framework into place and the private sector implemented it:
“The Financial Services Commission (FSC), which regulates the non-bank financial markets, provided guidance on money laundering and terrorist financing risks to its licensees. The FSC also updated its AML/CFT handbook and published an enforcement manual, a settlement framework and an administrative, regulatory framework aligned with the AML/CFT international standards. In addition, the FSC applied sanctions and monetary penalties for AML/CFT breaches.
The issue of beneficial owner disclosure was addressed by making it compulsory for management companies to disclose their beneficial owners to the regulator concerned, who keeps a register. Furthermore, any “reporting person”, including management companies and the administrators of global businesses, must conduct an annual independent compliance audit.”* (*Shianee Calcutteea The Africa Report 7 October 2022)
Being on the greylist is not a desirable position to be in, but it is also not an economic cliff. It highlights, activates, and accelerates needed reform and reduces crime in the longer term as money laundering is predicated by crime and terrorist activity involves loss of life. A FATF greylisting is a call to action to ensure AML & CTF supervision and implementation meets international standards to protect the global financial system. Therefore, when a greylisting occurs government and the private sector need to work together to come off the greylist as soon as possible and having qualified and experienced compliance people to navigate this will facilitate and speed up the necessary change of status.