Anti-Money Laundering: Efforts in the Securities Industry	 
(10-OCT-01, GAO-02-111).					 
								 
Money laundering is criminal activity that occurs when		 
individuals or organizations seek to disguise or place illegally 
obtained funds in the stream of legitimate commerce and finance. 
Money lauderers have traditionally targeted banks, which accept  
cash and facilitate domestic and international funds transfers.  
However, the U.S. securities markets, which are the largest and  
most liquid in the world, may also be targeted by criminals	 
seeking to hide and obscure illicit funds. Although they	 
acknowledge that the number of documented cases in which	 
broker-dealer or mutual fund accounts have been used to launder  
money was limited, law enforcement agencies are concerned that	 
criminals may increasingly attempt to use the securities industry
to launder money. Currently, most broker-dealers or firms that	 
process customer payments for mutual fund groups are subject to  
all U.S. anti-money laundering requirements. But unlike banks and
other depository institutions, most of these firms are currently 
not required to report suspicious activities that could be	 
evidence of money laundering. The Department of the Treasury is  
in the process of developing a rule requiring broker-dealers to  
report suspicious activities related to money laundering and	 
anticipates that such a rule will be issued for public comment by
the end of 2001. Various intergovernmental bodies, such as the	 
Financial Action Task Force, have worked internationally to	 
develop recommendations that pertain to financial institutions,  
including securities firms. These recommendations call for member
countries to take a number of actions to combat money laundering 
through their financial institutions, including requiring	 
securities firms to report suspicious activities. Although many  
member countries reported that they have issued all or many of	 
these recommended requirements and applied them to their	 
securities firms, ascertaining how well the measures are being	 
implemented and enforced is difficult.				 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-02-111 					        
    ACCNO:   A02225						        
    TITLE:   Anti-Money Laundering: Efforts in the Securities Industry
     DATE:   10/10/2001 
  SUBJECT:   Banking regulation 				 
	     Brokerage industry 				 
	     Financial institutions				 
	     Interagency relations				 
	     Law enforcement					 
	     Money laundering					 
	     Mutual funds					 
	     Regulatory agencies				 
	     Securities regulation				 
	     Self-regulatory organizations			 

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GAO-02-111
     
A

Report to the Chairman, Permanent Subcommittee on Investigations, Committee
on Governmental Affairs, U. S. Senate

October 2001 ANTI- MONEY LAUNDERING Efforts in the Securities Industry

GAO- 02- 111

Letter 1 Results in Brief 2 Background 6 The Securities Industry Is Viewed
as a Potential Target, but the

Extent of Actual Money Laundering Is Unknown 11 Broker- Dealer and Mutual
Fund Firms Are Not Subject to All Anti- Money Laundering Regulatory
Requirements 16

Some Firms Reported Implementing Anti- Money Laundering Measures That Go
Beyond Existing Requirements 24 Most Foreign Countries Have Anti- Money
Laundering Rules for

Securities Firms, but the Effectiveness of These Rules Is Unclear 37
Conclusions 41 Agency Comments and Our Evaluation 42

Appendixes

Appendix I: Scope and Methodology 46 Determining Potential for Money
Laundering and the Extent to Which Existing Regulations and Oversight Apply
to the Securities Industry 46

Determining the Extent to Which Broker- Dealers and Mutual Funds Have
Implemented Anti- Money Laundering Activities 47 International Anti- Money
Laundering Efforts 54

Appendix II: Example of a Data Collection Instrument Used to Survey the
Securities Industry 55

Appendix III: Demographic Information on the U. S. Securities Industry 62

Appendix IV: Identified Cases of Money Laundering Through the U. S.
Securities Industry 67

Appendix V: Survey Information on the Average Dollar Size of Transactions
Processed for Retail Customers 70

Appendix VI: Additional Information on Voluntary Anti- Money Laundering
Measures From Surveys of Broker- Dealers and Mutual Fund Groups 71

Appendix VII: Additional Information on the Caribbean Financial Action Task
Force 75 Laws Requiring Securities Firms to Report Suspicious Transactions
in Some CFATF Jurisdictions Were Recently Enacted 75

Implementation Efforts in Other CFATF Jurisdictions Have Been

Criticized 77 Securities Industry Viewed as Less Vulnerable Than Other
Sectors of Caribbean Economies 78

Appendix VIII: Comments From the Financial Crimes Enforcement Network 79

Appendix IX: Comments From the Securities and Exchange Commission 80

Appendix X: GAO Contacts and Staff Acknowledgments 82 GAO Contacts 82
Acknowledgments 82

Related GAO Products 83 Tables Table 1: BSA Reporting Requirements for
Broker- Dealers and

Mutual Fund Service Providers That Accept Customer Payments 17 Table 2:
Extent of Voluntary Anti- Money Laundering Measures Implemented by Broker-
Dealers and Direct- Marketed

Mutual Fund Groups 35 Table 3: Examples of International Anti- Money
Laundering Recommendations for Financial Institutions 38

Table 4: SARs Filed by Securities Firms in FATF Countries 40 Table 5:
Selected Characteristics of the Broker- Dealer Population 49

Table 6: Disposition of Broker- Dealer Sample 51 Table 7: Disposition of
Mutual Fund Sample 51 Table 8: Disposition of Sample of Securities
Subsidiaries of Bank

Holding Companies 52 Table 9: Identified Criminal Cases in Which Indictments
Contained

Charges of Money Laundering Through Brokerage or Mutual Fund Accounts 68
Table 10: Identified Forfeiture Cases That Involved Money

Laundering Through Brokerage or Mutual Fund Accounts 69 Table 11:
Information on the Average Size of Transactions Processed

for Retail Customers, by Type and Size of Firm 70 Figures Figure 1: Money
Laundering Stages 7

Figure 2: Introducing Broker and Clearing Broker Services 8

Figure 3: Activities of Entities Involved in Providing Mutual Fund Services
9 Figure 4: Kinds of Payments That Broker- Dealers and Direct- Marketed
Mutual Fund Groups Accept

(percentage of survey population) 26 Figure 5: Voluntary Anti- Money
Laundering Measures

Implemented by Introducing Brokers and Clearing Brokers 29 Figure 6:
Voluntary Anti- Money Laundering Measures

Implemented by Direct- Marketed Mutual Fund Groups and Their Transfer Agents
30 Figure 7: Extent to Which Introducing Brokers Conducted or Relied on
Their Clearing Brokers to Conduct Voluntary Anti- Money Laundering
Activities 33

Figure 8: Average Daily Value of Securities Traded on Major U. S. Markets
From January 1990 to June 1, 2001 62 Figure 9: Average Daily Shares Traded
on Major U. S. Markets From

January 1990 to June 1, 2001 63 Figure 10: Mutual Fund Assets From 1990 to
June 1, 2001 64 Figure 11: Growth of On- line Brokerage Accounts From Fourth
Quarter 1998 to Fourth Quarter 2000 65

Figure 12: Percentage Share of Trading for Markets in 10 Most Active
Countries During 1999 66 Figure 13: Proportion of Broker- Dealers That
Reported Implementing Various Types of Voluntary Anti- Money Laundering
Measures 72

Figure 14: Proportion of Mutual Fund Groups That Reported Implementing
Various Types of Voluntary Anti- Money Laundering Measures 74

Figure 15: CFATF Members Requiring Securities Firms to Report Suspicious
Transactions 76

Abbreviations

BSA Bank Secrecy Act CFATF Caribbean Financial Action Task Force FATF
Financial Action Task Force FinCEN Financial Crimes Enforcement Network GLBA
Gramm- Leach Bliley Act NASD National Association of Securities Dealers
NASDR National Association of Securities Dealers Regulation NYSE New York
Stock Exchange SAR suspicious activity report SEC Securities and Exchange
Commission SRO self- regulatory organization

Lett er

October 10, 2001 The Honorable Carl Levin Chairman, Permanent Subcommittee
on Investigations Committee on Governmental Affairs United States Senate

Dear Mr. Chairman: This report is in response to your request that we
conduct a review of money laundering issues related to the securities
industry. Money laundering is criminal activity that occurs when individuals
or organizations seek to disguise or place illegally obtained funds in the

stream of legitimate commerce and finance. Money launderers have
traditionally targeted banks, which accept cash and facilitate domestic and
international funds transfers. However, the U. S. securities markets, which

are the largest and most liquid in the world, may also be targeted by
criminals seeking to hide and obscure illicit funds. In response to one of
the matters raised in your request, we reported in March 2001 on the status
of regulatory efforts to oversee the anti- money laundering activities of
certain broker- dealers affiliated with banks after the passage of the

Gramm- Leach- Bliley Act (GLBA). 1 To address the remaining matters
contained in your request, this report describes (1) government and industry
views on the potential for money laundering in the securities industry, (2)
current legal and regulatory requirements relating to anti- money laundering
in the securities industry and the actions regulators have taken to oversee
these requirements, (3) the efforts that broker- dealers and mutual funds
have undertaken to detect and prevent money laundering, and (4)
international anti- money laundering

efforts relating to securities activities and the effectiveness of these
efforts. 1 See Money Laundering: Oversight of Suspicious Activity Reporting
of Bank- Affiliated Broker- Dealers Ceased (GAO- 01- 474, Mar. 22, 2001).

In completing our work, we interviewed U. S. and foreign officials from law
enforcement and regulatory agencies, broker- dealers, mutual fund groups, 2
industry associations, and international bodies formed to combat money

laundering. We also reviewed available documents, including domestic and
foreign reports on anti- money laundering initiatives, pertinent U. S. laws
and examination procedures, and proposed drafts of a suspicious activity
report (SAR) rule for the U. S. securities industry. In addition, we
surveyed

randomly selected samples of the industry and used this information to
estimate the extent to which firms in 2 key populations- 3, 015
brokerdealers and 310 direct- marketed, no- load mutual fund groups- had
implemented measures to detect and prevent money laundering. 3 We di d not,
however, verify the information that firms reported on their antimoney

laundering measures nor did we evaluate the effectiveness of these measures,
which depends on various factors such as the level of management commitment
to the area. Appendix I provides more detailed

information on the scope and methodology of our review, and appendix II
contains an example of one of the survey instruments we administered. We
conducted our work between May 2000 and May 2001 in accordance with
generally accepted government auditing standards. Results in Brief Although
they acknowledged that the number of documented cases in

which broker- dealer or mutual fund accounts have been used to launder money
was limited, law enforcement agencies were concerned that criminals may
increasingly attempt to use the securities industry to launder money. The
agencies explained that the securities industry would more likely be used in
the later stages of money laundering to obscure the origin of illegal
proceeds rather than in the initial stage when cash is first placed

into the financial system. Law enforcement officials believed that the
large, active, and liquid nature of the U. S. securities markets, along with
the

2 Mutual fund groups are firms that operate one or more mutual funds. 3 Our
survey population of broker- dealers included firms registered as broker-
dealers doing business with the public and excluded firms that conduct only
proprietary trading. Our survey population of mutual fund groups
predominantly market no- load mutual fund shares directly to investors, and,
as such, their transactions would be subject to some anti- money laundering
requirements. Our broker- dealer and mutual fund group survey populations
excluded firms that were found to be subsidiaries of depository institutions
or financial holding companies; survey responses of any firm indicating such
an affiliation were included in our analysis of a separate survey
administered to broker- dealer subsidiaries of bank holding companies.

ability to quickly move funds through wire transfers among accounts and to
other financial institutions worldwide, make the securities industry
attractive to money launderers. Industry regulators and representatives also
acknowledged that money launderers may target the securities industry.
However, the extent to which broker- dealers and mutual funds are actually
used for money laundering is not clear. In addition, the industry?s overall
vulnerability is impacted by the extent to which it is covered by anti-
money laundering requirements, overseen by regulators, and mitigated by the
anti- money laundering measures implemented by broker- dealer and mutual
fund firms.

Currently, most broker- dealers or firms that process customer payments for
mutual fund groups 4 are subject to all U. S anti- money laundering
requirements. They are required to adhere to the reporting and recordkeeping
requirements relating to currency and other transactions arising under the
Bank Secrecy Act (BSA) that are designed to detect illegal financial
activity, including the requirement to report cash deposits exceeding
$10,000. But unlike banks and other depository institutions,

most of these firms are currently not required to report suspicious
activities that could be evidence of money laundering. Most of these firms
are also not subject to related requirements such as developing written
policies and procedures for monitoring suspicious acitivites and providing
formal training to help employees identify suspicious activities. The
Department of the Treasury is in the process of developing a rule requiring
broker- dealers to report suspicious activities related to money laundering
and anticipates that such a rule will be issued for public comment by the

end of 2001. To develop this rule, Treasury is working closely with the
Securities and Exchange Commission (SEC) to resolve several issues,
including the appropriate dollar threshold for reporting suspicious
activities and the types of activities that should be reported. SEC and
selfregulatory

organizations (SRO), such as the New York Stock Exchange (NYSE) and the
National Association of Securities Dealers Regulation (NASDR), conduct
periodic examinations to ensure that the broker- dealers that they oversee
adhere to these BSA reporting and recordkeeping requirements related to
currency and other transactions that currently apply to broker- dealers.

4 Firms that process customer payments for mutual fund groups include
transfer agents that maintain records of fund shareholders and distributors
that sell mutual fund shares to investors.

On the basis of the responses to our survey, some of the 3,015 brokerdealers
and the 310 direct- marketed mutual fund groups (including the firms that
process their customer payments) 5 in our survey populations reported
undertaking voluntary anti- money laundering efforts that go beyond
applicable BSA reporting and recordkeeping requirements. Our survey results
showed that more than 90 percent 6 of broker- dealers or mutual fund firms
never accept cash, thereby reducing their vulnerability to the initial stage
of money laundering when illicit funds are first placed into the financial
system. 7 Many direct- marketed mutual fund groups and some broker- dealers
accept monetary instruments, such as money orders and traveler?s checks.
These monetary instruments can be used by money launderers as part of
attempts to structure deposits to avoid BSA currencyreporting

requirements. 8 Beyond currency- related restrictions, we found that most
firms have yet to implement other types of voluntary anti- money laundering
measures, including written policies and procedures to identify and report
suspicious activities. Overall, 17 percent of broker- dealers and 40 percent
9 of direct- marketed mutual fund groups in our survey populations did
report implementing such voluntary anti- money laundering measures. Larger
firms, which hold most of the industry?s assets and

accounts were more active as an estimated 70 percent of the 111 large
broker- dealers and the 15 large mutual fund groups 10 in our survey

5 Our survey instructed mutual fund groups to include the anti- money
laundering policies and procedures of transfer agents or principal
underwriters that processed payments for fund share purchases or
redemptions. These entities, not the mutual funds, are subject to BSA
reporting and recordkeeping requirements because many are either banks or
brokerdealers. Transfer agents that are not either banks or brokers are
subject to similar currency reporting requirements under the Internal
Revenue Code. According to our survey results, 95 percent of the mutual fund
respondents used transfer agents to process payments. Thus,

the information presented in this report on mutual fund groups and their
anti- money laundering efforts includes the efforts of their transfer agents
as well as their own. 6 All such estimates are subject to sampling errors,
which are less than +10 percentage points unless otherwise noted. See
appendix I for further explanation of sampling errors. 7 Unless otherwise
stated, survey results presented in this report have been projected to the
survey population on the basis of firms? responses. 8 Structuring involves
an individual who makes multiple deposits of cash, each of which is below
the $10, 000 threshold that must be reported to regulators but that together
total more than $10,000. Structuring can also involve multiple deposits in a
financial institution

consisting of monetary instruments, such as money orders, traveler?s checks,
or cashier?s checks purchased at other financial institutions in increments
less than the $10,000 threshold. 9 The sampling error for this estimate is
+11 percentage points.

populations reported implementing such voluntary procedures. The largest
broker- dealers- those with assets exceeding $10 billion- had been even more
active; specifically, eight of the nine largest broker- dealer respondents
reported implementing nine or more voluntary anti- money laundering
measures. However, our survey results also indicated that far

fewer of the remaining 3,200 small and medium- sized broker- dealer and
mutual fund firms 11 had implemented measures that go beyond the BSA
requirements applicable to the securities industry or other applicable cash
transaction reporting requirements.

Various intergovernmental bodies, such as the Financial Action Task Force
(FATF), have worked internationally to develop recommendations that pertain
to financial institutions, including securities firms. These recommendations
call for member countries to take a number of actions to combat money
laundering through their financial institutions, including requiring
securities firms to report suspicious activities. Although many member
countries reported that they have issued all or many of these recommended
requirements and applied them to their securities firms, ascertaining how
well the measures are being implemented and enforced is difficult. Little
information related to anti- money laundering initiatives is available from
foreign countries- for example, the number of SARs that securities firms
have filed and the number of money laundering cases involving the securities
industry. Some countries have issued their antimoney

laundering requirements only recently, and it may be too early to assess how
fully these requirements have been implemented. FATF also reported that
limited law enforcement tools and resources in certain countries may hinder
efforts to effectively implement anti- money

laundering requirements. We make no recommendations in this report. We asked
Treasury, SEC, and the Department of Justice to comment on this report. In
general, these agencies agreed with the information presented, and we
incorporated their technical comments as appropriate.

10 For sampling purposes, we defined large broker- dealers as those with
assets equal to or greater than $230 million and larger mutual fund groups
as those whose fund assets exceeded $10 billion. 11 For sampling purposes,
small broker- dealers were defined as having assets equal to or less than $1
million. The population of direct- marketed mutual fund groups was divided
into large and ?other? mutual fund groups. The latter represented medium-
sized and small fund groups with fund assets equal to or less than $10
billion.

Background Illicit activities, such as drug trafficking, robbery, fraud, or
racketeering, produce cash. Money laundering is the process used to
transform the

monetary proceeds derived from such criminal activities into funds and
assets that appear to have come from legitimate sources. Money laundering
generally occurs in three stages. As shown in figure 1, in the

placement stage, cash is converted into monetary instruments, such as money
orders or traveler?s checks, or deposited into financial institution
accounts. In the layering stage, these funds are transferred or moved into
other accounts or other financial institutions to further obscure their
illicit origin. In the integration stage, the funds are used to purchase
assets in the legitimate economy or to fund further activities.

1: Stages Figure Money Laundering Stages

Illicit Activity

Cash is generated by drug trafficking,

fraud, etc.

1 - Placement

Cash is converted to monetary instruments or is deposited into financial

Pay to the

Bank of Anytown

Order of $ institution accounts.

Funds are moved through wire transfer, checks, money orders, etc.

2 - Layering

Funds are moved to other financial institutions

to obscure origins Funds are moved through wire transfer, checks, money
orders, etc.

3 - Integration

Funds are used to acquire legitimate assets or fund

further activities Source: FinCEN Reference Series: An Assessment of
Narcotics Related Money Laundering, FinCEN, July 1992. There is no way to
determine the actual amount of money that is being laundered in general, let
alone through a single industry such as the securities industry. However,
experts have estimated that money laundering in the global financial system
is between 2 to 5 percent of the world?s gross domestic product. Estimates
of the amount of money laundered in the United States have been as high as
$100 billion.

The Securities Industry Has Money launderers can target any of the various
types of businesses that Various Participants

participate in the U. S. securities industry. Broker- dealers, for instance,
provide a variety of products and services to retail (usually individual)
and institutional investors- buying and selling stocks, bonds, and mutual
fund shares. As shown in figure 2, two types of broker- dealers- introducing
brokers and clearing brokers- perform different roles that can affect the
extent of their anti- money laundering responsibilities.

Figure 2: Introducing Broker and Clearing Broker Services Clearing Broker

Perform brokerage services for their own customers and for introducing
brokers, including

 executing securities transactions on exchanges or in the over- the-
counter markets and

 clearing transactions by paying for securities purchased and delivering
securities sold.

Introducing Introducing

Introducing Introducing Broker

Broker Broker

Broker

Provide brokerage services and offer financial advice to customers.

Source: Henry F. Minnerop, The Role and Regulation of Clearing Brokers,
Henry F. Minnerop 48 Bus. Law. 841 (1993).

Some broker- dealers regulated as clearing firms may clear only their own
firms? transactions and not those of other firms. These firms are known as a
self- clearing firms. Mutual funds are another major participant in the
securities markets. Mutual funds are investment companies that pool the
money of many investors and use it to purchase diversified portfolios of
securities. The

administrator of a mutual fund, which in most cases is the fund?s

investment adviser, contracts with other entities to provide the various
services needed to operate the fund. Figure 3 shows some of these entities,
the services they perform, and some of the institutions that usually perform
them. Depending on the extent to which these entities interact with the
fund?s customers or accept customer payments, their responsibilities for
conducting anti- money laundering activities may also vary.

Figure 3: Activities of Entities Involved in Providing Mutual Fund Services
Mutual Fund

Pool of invested assets

Investment Adviser Transfer Agent

Selects and manages fund Maintains records of fund

investments and uses shareholders, including subsidiaries or third parties
opening customer to perform other services.

accounts and accepting payments.

Money (managers, (Broker- dealers, banks, or broker- dealers, or banks)
nonfinancial firms)

Distributor Custodian

Sells fund shares, including sometimes accepting

Acts as a depository customer payments. for fund securities and cash.

(Broker- dealer, bank, or (Banks)

other financial institution) Note: In most cases, the distributor for a
direct- marketed mutual fund is a broker- dealer affiliate of the fund?s
administrator.

Source: Mutual Fund Fact Book 2001, Investment Company Institute.

SEC Is the Primary SEC has primary responsibility for overseeing the various
participants in Regulator of Securities

the U. S. securities industry, including broker- dealer and mutual fund
firms. Activities, but Other It promulgates regulations, performs
examinations, and initiates Organizations Also Provide

enforcement actions against alleged violators of the securities laws. Before
conducting business with the public, broker- dealers are required to
register Oversight with SEC and must also join and submit to oversight by an
SRO. These SROs, which include NASDR and NYSE, oversee members? compliance

with their own rules, rules enacted by SEC, and the securities laws. Federal
regulators of depository institutions have oversight responsibilities for
banks, thrifts, and their holding companies. 12 Prior to the passage of

GLBA in 1999, banks conducting securities activities directly were subject
to regulation and supervision by their respective banking regulators rather
than SEC. After GLBA is fully implemented, banks and thrifts conducting
certain securities activities will have to do so in entities registered as
broker- dealers subject to oversight by SEC and securities industry SROs. 13
The role of the depository institution regulators, with regard to the

securities activities of the entities that they regulate, now involves
sharing information with SEC, although under certain circumstances these
regulators may conduct examinations of the subsidiaries. 14 Under current
legislation governing money laundering, the Secretary of the

Treasury has a variety of responsibilities. These include issuing anti-
money laundering regulations applicable to financial institutions and other
organizations, such as banks, broker- dealers, casinos, and money
transmitters. Within Treasury, the authority to issue and administer these
regulations has been delegated to the Director of the Financial Crimes
Enforcement Network (FinCEN). FinCEN was established in 1990 to 12 The
Federal Reserve has supervisory responsibility for state- chartered banks
that are members of the Federal Reserve System and bank holding companies.
The Office of the

Comptroller of the Currency is the primary regulator for nationally
chartered banks (national banks). The Office of Thrift Supervision is the
primary regulator of all federal and many state- chartered thrift
institutions, including savings banks, savings and loan associations, and
thrift holding companies. The Federal Deposit Insurance Corporation is the
primary federal regulator of state- chartered banks that have federally
insured deposits and are not members of the Federal Reserve System.

13 The effective date under GLBA for depository institutions to conduct
securities activities within a registered broker- dealer was May 12, 2001,
but an SEC order extended this date to May 12, 2002. SEC?s order will also
require thrifts conducting certain securities activities to conduct such
activities in a registered broker- dealer. 14 See GAO- 01- 474.

support law enforcement agencies by collecting, analyzing, and coordinating
financial intelligence information to combat money laundering.

The Securities Industry Although the extent to which broker- dealers and
mutual funds are being

Is Viewed as a used to launder money is not known, law enforcement officials
were concerned that the securities industry would increasingly be a target
for Potential Target, but

potential money launderers. All financial sectors, and even commercial the
Extent of Actual

businesses, could be targeted by money launderers. The securities industry
Money Laundering Is

has characteristics similar to other financial sectors but also has some
significant differences. Criminals seeking to convert their illegal proceeds

Unknown to legitimate assets have targeted banks, which take cash for
deposit, as a

means to initially introduce illicit income into the financial system. Law
enforcement and securities industry officials said that because securities
activities generally do not involve cash, broker- dealers and mutual funds
are not as vulnerable as banks during the initial placement stage of the
money laundering process. However, some structuring schemes used in the
placement stage involve monetary instruments such as

money orders, and money launderers could attempt to use broker- dealers and
mutual funds that accept these forms of payment. According to law
enforcement officials, money launderers would more likely attempt to use
brokerage or mutual fund accounts in the layering and integration stages of
money laundering, rather than for the placement stage. Similar to their use
of banks, money launderers could use brokerage or mutual fund accounts to
layer their funds by, for example, sending and receiving money and wiring it
quickly through several accounts and multiple institutions. The securities
industry could also be targeted for integrating illicit income into
legitimate assets. In one case, illicit proceeds from food stamp fraud were
used to open brokerage accounts and invest in stocks through an ongoing
stream of deposits that ranged from less than

$1, 000 to almost $10,000.

Law enforcement officials were concerned that various characteristics of the
securities industry and securities transactions were particularly attractive
to money launderers. For example, the U. S. national money

laundering strategy for 2000, 15 issued by the Secretary of the Treasury and
the U. S. Attorney General, notes that the general nature of the securities
industry provides criminals with opportunities to move and thus obscure

funds. The report suggests that money launderers may target the industry
because funds can be efficiently transferred among accounts and to other
financial institutions, both domestically and internationally. For example,

like some banking organizations, several large broker- dealers have offices
located throughout the United States and in many foreign countries. Some law
enforcement officials noted that wire transfers, specifically those that
involve offshore accounts, can be particularly vulnerable to money
laundering. The national strategy report also suggests that money

launderers may be attracted to the industry because of the high degree of
liquidity in securities products, which can be readily bought and sold. Some
law enforcement officials pointed to the high volume, large- dollar amounts,
and potentially profitable nature of securities transactions. On a typical
day, for example, an estimated 3 billion shares of stock worth over $85
billion are traded on the main U. S. markets- a dramatic increase from about
$20 billion in 1995. (Appendix III provides additional information on the
size and growth of the U. S. securities industry.) Officials noted that the
rapid growth of the securities markets and increasing popularity of
investing in stocks and mutual funds may also have raised the industry?s

profile with money launderers, who are becoming increasingly sophisticated
and are attempting to find as many avenues as possible to launder funds.

Law enforcement and securities industry officials also identified several
specific financial activities that securities firms conduct and that they
viewed to be more at risk for potential money laundering. For example, law
enforcement officials expressed concern that on- line brokerage accounts
were vulnerable to use by money launderers, and such accounts have grown
substantially in the last few years, jumping from an estimated 7 million in
1998 to almost 20 million in 2000. On- line brokerage services provide
little opportunity for face- to- face contact with customers or for
verifying the identity of those logging into accounts- a safeguard that is
15 The National Money Laundering Strategy for 2000 issued by the Secretary
of the Treasury and the U. S. Attorney General, Mar. 2000.

important to anti- fraud as well as anti- money laundering initiatives.
Although the industry already conducts much of its customer contacts solely
by telephone, securities regulators and industry officials acknowledged that
on- line activities pose particular challenges from a money laundering
perspective. Law enforcement officials also noted that some large broker-
dealers are offering private banking services (broadly defined as financial
and related services provided to wealthy clients) that are deemed vulnerable
to money laundering. These services generally

attempt to offer considerable confidentiality as part of the client
relationship, routinely involve large- dollar transactions, and sometimes
offer the use of offshore accounts. Some law enforcement officials
maintained that the securities industry

lacks adequate anti- money laundering requirements and thus represents a
weak link in the U. S. regulatory regime that can be exploited by money
launderers in their search for new ways to hide their funds. These officials
described the securities sector as a ?money laundering loophole? within the
financial services industry that should be closed, particularly as other
financial sectors are being required to improve their defenses against money
laundering. For example, Treasury issued rules for banks in 1996 and for
money services businesses in 2000 requiring these firms to report suspicious
activities, including potential money laundering. However,

similar requirements do not yet apply to all broker- dealers and mutual fund
firms, and law enforcement officials saw this fact as a reason that
criminals may seek to use such firms to facilitate money laundering. Some
law enforcement officials also suggested that as financial institutions
continue

to merge in response to GLBA, 16 the need for consistent and adequate
antimoney laundering requirements in all financial sectors is becoming even
more pronounced.

Securities industry officials acknowledged that money launderers could
potentially target their industry. SEC staff have noted that the large
volume of money generated by illegal activities creates a risk for broker-
dealers as well as other financial institutions. In a May 2001 speech, an
SEC official stated that firms in the securities industry face great risks
if they allow

themselves to be used for money laundering. The official noted that 16 Among
other things, GLBA permits eligible bank holding companies to form
affiliations that engage in securities and insurance activities through a
financial holding company. 12 U. S. C. sect. 1843 (Supp. 2000).

trillions of dollars flow through the industry each year, and criminal
activity within the industry could taint important U. S. capital markets.
The Number of Identified Despite concerns regarding potential money
laundering in the securities Cases in Which Money Has industry, the extent
to which money launderers are actually using brokerdealers Been Laundered
Through

and mutual fund firms is not known. According to law enforcement Securities
Accounts Is officials, no organization currently collects information in a
way that lends itself to readily identifying cases in which funds generated
by illegal activity

Limited outside of the securities industry were laundered through brokerage
or mutual fund accounts. Legal searches of cases primarily identify money

laundering cases in which broker- dealers or others committed securities law
violations, such as insider trading, market manipulation, or the sale of
fraudulent securities, and then laundered the proceeds from their illegal
activities through banks or other financial institutions.

Law enforcement and securities industry officials acknowledged that a
limited number of cases involving money laundering through broker- dealer or
mutual fund accounts could be readily identified to date. At our request,
the Internal Revenue Service and the Executive Office for U. S. Attorneys
collected information from some of their field staff that identified about
15 criminal or civil forfeiture cases 17 since 1997 involving money
laundering through brokerage and mutual fund accounts. The laundered funds
in

these cases came from a number of activities, including drug trafficking,
illegal gambling, and food stamp fraud, and the estimated amounts of
laundered funds varied widely, ranging from $25,000 to $25 million per

case. 18 In contrast, during 1999 alone, the United States reported having
996 money laundering convictions, most of which involved funds that were
laundered through banks or other means. SEC and industry officials also
pointed out that the industry has not had a history of money laundering

cases. 17 A civil forfeiture case involves civil proceedings for the seizure
of personal property, including money, negotiable instruments, securities,
or other things of value that have been used or were intended to be used to
facilitate any violation of the law or that have resulted from such illegal
activity. 18 Appendix IV provides a summary of cases that included
allegations of money laundering through brokerage and mutual fund accounts.

Law enforcement officials suggested that several factors could have
contributed to the limited number of known cases involving money laundered
through brokerage or mutual fund accounts. These factors include the
difficulty of detecting money laundering at the layering and integration
stages and the lack of adequate systems to detect money laundering
activities in the securities industry. Specifically, they noted that the
absence of a SAR rule may be limiting the identification of money laundering
through broker- dealer and mutual fund accounts. 19 A few officials also
explained that some investigators faced with time constraints and multiple
leads may choose to trace illegal funds through bank rather than brokerage
or mutual fund accounts because banks are subject to SAR

rules and thus are expected to have SAR- related procedures and
documentation needed for investigations.

Law enforcement officials anticipated that more cases may surface in the
future as criminals continue to search for new ways to launder their funds
and turn to the securities industry. One U. S. attorney stated that
although, historically, money laundering through the securities industry has
not been an apparent problem, some pending investigations involving the
movement of Russian funds through various types of financial accounts,
including

brokerage accounts, indicate that activity in the area may be increasing.
Other law enforcement agencies were also attempting to identify and develop
additional cases in which brokerage and mutual funds accounts were used to
launder money. For example, staff at one agency was in the process of
analyzing whether money orders made payable to brokerdealers,

mutual funds, and other financial institutions were being used for money
laundering.

19 The extent to which broker- dealer and mutual fund transactions are
covered by antimoney laundering requirements is discussed in the next
section of this report.

Broker- Dealer and Broker- dealers and the firms that receive and process
customer payments on behalf of mutual fund groups (hereinafter referred to
as mutual fund Mutual Fund Firms Are service providers) 20 can be held
criminally liable if they are found to be Not Subject to All AntiMoney
involved in money laundering. They are also subject to certain reporting

Laundering and recordkeeping requirements. However, unless a broker- dealer
is a Regulatory

subsidiary of a depository institution or of a depository institution?s
holding company, or a mutual fund service provider is itself a depository
institution

Requirements (as are some transfer agents), it is not subject to regulations
requiring it to file SARs for transaction that could involve money
laundering. SEC and the

SROs monitor the industry?s compliance with the currency and related
reporting and recordkeeping requirements during examinations and, according
to SEC officials, are planning to conduct more extensive reviews of firms?
anti- money laundering efforts starting in the fall of 2001.

Broker- Dealer and Mutual Broker- dealers and mutual fund service providers
that accept customer Fund Firms Can Be

funds are subject to the Money Laundering Control Act of 1986, 21 which is a
Prosecuted for Aiding statute that applies broadly to all U. S. citizens.
This act makes knowingly

Money Launderers and Are engaging in financial transactions that involve
profits from certain illegal activities a criminal offense. As a result,
individuals and companies Subject to Certain BSA conducting financial
transactions on behalf of customers can be

Requirements prosecuted if they are found to have conducted transactions
involving

money from illegal activities. Broker- dealers and mutual fund service
providers can also be prosecuted if they knew or were willfully blind to the
fact that a transaction involved illegal profits. Penalties under the Money
Laundering Control Act include imprisonment, fines, and forfeiture. 22

20 Various entities may be involved with opening customer accounts or
accepting and processing customer payments. Most funds use transfer agents
or their distributor (which are usually broker- dealers) to perform these
services, but the fund?s principal underwriter could also be involved in
interacting with fund customers. In addition, the fund group or its transfer
agent may use a bank to perform cash management services, which would be
subject to any currency and other related anti- money laundering
requirements. 21 18 U. S. C. sect.sect. 1956 & 1957 (1994 & Supp. 2000). 22 The
maximum criminal penalty for a violation under 18 U. S. C. sect. 1956 is
imprisonment for 20 years; a fine of $500,000 or twice the value of the
funds laundered, whichever is greater; or both penalties. Under section
1957, the maximum criminal penalty can be 10 years in prison and a fine of
twice the value of the criminally derived property. Section 1957 contains no
civil penalty provision.

Like other financial institutions, broker- dealers and those mutual fund
service providers that accept customer funds 23 are required to comply with
various BSA or similar reporting and recordkeeping requirements. Such

requirements are designed to be useful in tax, regulatory, or criminal
investigations, including those relating to money laundering. As shown in
table 1, firms subject to these requirements are to identify and report
currency transactions exceeding $10, 000 with FinCEN, file reports on
foreign bank and financial institution accounts with FinCEN, and report the
transportation of currency or monetary instruments into or out of the United
States with the U. S. Customs Service.

Table 1: BSA Reporting Requirements for Broker- Dealers and Mutual Fund
Service Providers That Accept Customer Payments

Type of report Reporting responsibilities Report to be filed with:

Currency Transaction Must report all receipts or transfers of FinCEN a
Report U. S. currency over $10, 000. Must report all known receipts or
transfers by one entity that exceed $10,000 in 1 day.

Report of International Must report transactions involving the Commissioner
of Transportation of movement of currency or monetary Customs

Currency or Monetary instruments over $10, 000 into or out Instruments b of
the United States.

Report on Foreign Must report a financial interest in or FinCEN a Bank and
Financial

signature authority over financial Accounts

accounts in a foreign country if the aggregate value of the accounts exceeds
$10,000. a These reports are to be sent to the Internal Revenue Service?s
Detroit Computing Center, which processes them for FinCEN. b BSA regulations
define monetary instruments as including checks, promissory notes,
traveler?s

checks, money orders, or securities in bearer form or otherwise when title
passes on delivery. 31 CFR 103.11( u). Source: BSA regulations.

23 Firms that accept customer payments for mutual funds are usually either
the distributing broker- dealer or the fund?s transfer agent. Many mutual
fund transfer agents are banks or broker- dealers that are also subject to
BSA recordkeeping and reporting requirements. Transfer agents that are not
financial institutions must comply with similar currency reporting
requirements contained in the Internal Revenue Code.

In addition to imposing reporting requirements, the BSA requires
brokerdealers and mutual fund service providers to maintain certain records.
For example, broker- dealers and other financial institutions conducting

transmittals of funds of $3,000 or more (including wire transfers) are
required to obtain and keep information on both the sender and recipient and
to record such information on the transmittal order. Broker- dealers also
are required to have compliance programs in place for ensuring adherence to
the federal securities laws, including the applicable BSA requirements.

Regulations under the BSA also require that banks report suspicious
transactions of $5,000 or more relating to possible violations of law, but
these requirements do not currently apply to all broker- dealers and mutual
fund service providers. Amendments to the BSA adopted in 1992 gave Treasury
the authority to require financial institutions to report any suspicious
transaction relevant to a possible violation of a law. In 1996, Treasury
issued a rule requiring banks to report suspicious activities involving
possible money laundering to FinCEN using a SAR form. 24 In

1996, the depository institution regulators promulgated regulations that
require broker- dealer subsidiaries of bank holding companies, national
banks, and federal thrifts to file SARs if the subsidiaries identify
potential money laundering or violations of the BSA involving transactions
of $5,000 or more. Until Treasury promulgates SAR rules for broker- dealers,
only broker- dealers that are subsidiaries of depository institutions or of
their holding companies are subject to SAR requirements. Depository
institution regulators have also issued regulations that require banks to
have BSA compliance programs in place, including (1) developing internal
policies, procedures, and controls; (2) independently testing for
compliance; (3) designating an individual responsible for coordinating and
monitoring

compliance; and (4) conducting training for personnel. Efforts to Develop a

Treasury is engaged in renewed efforts to develop a SAR rule for the
Securities SAR Rule securities industry and anticipates that a proposed rule
will be issued for Renewed

public comment before the end of 2001. Working with SEC, Treasury 24 Banks
must report transactions involving $5, 000 or more that they suspect (1)
involve funds derived from illegal activity or an attempt to hide or
disguise funds or assets derived from illegal activity, (2) are designed to
evade the requirements of the BSA, or (3) have no apparent lawful or
business purpose or vary substantially from normal practice. 31 C. F. R. sect.
103.18( 2000).

initially attempted to develop a SAR rule for the securities industry in
1997. Treasury officials explained that this effort was set aside so that
the Department could focus first on cash- intensive businesses, such as the
money services businesses and casinos, that are viewed as more vulnerable to
money laundering at the placement stage. During 2001, Treasury resumed
working with SEC to develop a SAR rule for the securities industry. Key
issues being discussed include determining the appropriate threshold for
reporting suspicious activities, ensuring that the SAR rule will not
interfere with existing procedures for reporting securities law

violations that apply to broker- dealers, and providing for compliance
program requirements. One question being debated is whether the $5,000
threshold for reporting

suspicious activities that applies to banks should also apply to the
securities industry. Securities industry and regulatory officials explained
that this reporting threshold reflects the cash- intensive nature of the
banking industry and its vulnerability to money laundering at the

placement stage and, as such, should not be applied to securities firms.
They also noted that the banking threshold does not reflect the typically
high- dollar amount of securities transactions. Instead, these officials
have proposed thresholds ranging from $25,000 to $100, 000. Officials from a
few large firms stated that they currently use thresholds ranging from
$250,000 to $1 million in their proprietary systems for monitoring
suspicious transactions. They explained that $5,000 transactions would be
too

difficult to identify in the accounts of several million customers and too
burdensome for processing and review purposes. In responding to our survey,
five broker- dealer subsidiaries of bank holding companies, which are
required by bank regulators to file SARs, suggested that the threshold for
the securities SAR rule needed to be raised. 25 A few broker- dealer
subsidiaries said that the thresholds should be the same for both the
banking and securities industry rules, and the remaining 18 respondents did
not offer any comment on tailoring the SAR threshold to the securities
industry. Results from our surveys did suggest that the average securities
transaction

tends to be much larger than $5, 000. For example, broker- dealers reported
that the average size of an individual transaction processed for retail 25
Broker- dealer subsidiaries of bank holding companies, subject to the
banking SAR rule, were asked how a similar rule for the securities industry
should be tailored to the business of broker- dealers.

customers was about $22,000, 26 although the size of these transactions
ranged anywhere from $200 to $150,000. Appendix V provides additional survey
information on the size of average transaction amounts. Securities industry
representatives also pointed out that a low SAR threshold could result in an
inordinate number of SAR filings from the industry, undermining the ability
of law enforcement agencies to use the reports effectively. Federal Reserve
officials supported a higher SAR threshold for the securities industry, in
part because they thought it could help justify a higher reporting threshold
for the banking industry as well. Finally, some law enforcement officials
also viewed the reporting threshold as too low for the securities industry
but did not propose an alternative amount. Although they acknowledged that
the securities industry appears to be engaged in larger dollar transactions
than other types of financial institutions, a few officials expressed
concerns about having different reporting thresholds for the banking and
securities financial sectors.

Another issue being discussed is the scope of suspicious activities that
should be reported to FinCEN on the SAR form. Financial regulators,
industry, and law enforcement officials agree that any rule requiring the
securities industry to report suspicious activities involving money
laundering should not replace existing procedures that require brokerdealers
to report suspected violations of securities laws. Currently brokerdealers
are to report possible securities law violations to SEC, SROs, or a U. S.
attorney?s office. In turn, SEC and the SROs are to refer criminal money
laundering offenses that are reported along with suspected

securities law violations to the appropriate U. S. attorney?s office. To
minimize any potential confusion on the part of the industry, officials
emphasized that the language of the SAR rule should be written to ensure
that firms understand that they are to continue to report potential
securities violations to the appropriate securities regulators.

26 This average is based on the actual amounts reported in the survey
responses. We could not develop meaningful estimates for the entire industry
because of the low number of firms that provided information on the average
size of transactions and the wide range of responses.

Both securities industry and law enforcement officials recognize the value
of requiring compliance programs for reporting suspicious activities and are
discussing whether the SAR rule is the most appropriate mechanism for
imposing such requirements. Law enforcement officials said that industry
participants cannot fully implement a suspicious activity reporting regime
unless they are also required to set up systems to monitor their customers?
activities to prevent and detect transactions involving money laundering.

In addition, securities industry officials said that the SAR rule should
provide that broker- dealers with systems for reasonably detecting
suspicious transactions, appropriate procedures for filing SARs, and no

basis for believing that these procedures are not being followed, have a
defense against being cited for violating the SAR reporting requirement. 27
Such a provision would be an effective incentive for broker- dealers to
develop and maintain up- to- date programs designed to monitor and report

suspicious activities that may involve money laundering. In addition to
issues relating to the SAR rule itself, some unique characteristics of the
securities industry, including the variety of business structures and
processes, product lines, and client bases among brokerdealers

and mutual funds, will make implementing the rule more challenging. Not all
firms in the industry perform similar activities and thus may have to work
with other firms to fulfill their SAR- related responsibilities. For
example, determining whether particular transactions are suspicious may
require information from an introducing broker on a customer?s identity and
business activities or investment patterns and

information from a clearing broker on the customer?s payment and transaction
histories. Regulators and others have also noted that addressing anti- money
laundering considerations will be more challenging

within the securities industry because firms may not collect the same type
of information about customers as banks. Broker- dealers are expected to
collect enough information about their customers to ensure that any

recommended investments are suitable. However, for some accounts this may
not include all information, such as the customer?s source of the wealth or
income, that can be important for assessing whether this customer?s
activities are suspicious. Further, with the securities industry, there is a
greater need to focus on the layering and integration stages of money
laundering.

27 This defense would be modeled after section 15( b) 4( E) of the
Securities Exchange Act of 1934.

Securities Regulators SEC and the securities industry SROs oversee broker-
dealers? compliance Examine Broker- Dealers with BSA reporting and
recordkeeping requirements involving currency

and Mutual Fund Firms for and other related transactions. After Treasury
granted SEC the authority to Compliance With Applicable

examine broker- dealers for compliance with these BSA requirements, SEC
adopted Rule 17a- 8 under the Exchange Act, incorporating these Requirements
and Plan for

requirements into its own rules. As a result, SEC and the SROs have the
Broader Reviews

authority to both examine broker- dealers for compliance with these
requirements and bring action against firms that violate them. Along with
SEC, the SROs are to perform examinations of broker- dealers,

including reviews to assess compliance with anti- money laundering reporting
and recordkeeping requirements. These examinations do not routinely include
assessing compliance with BSA SAR requirements that do not yet apply to the
industry. During 2000, NASDR reported that it conducted 1,808 broker- dealer
examinations, and NYSE reported that it conducted 319 examinations. Both
SROs found that some broker- dealers had deficiencies in supervisory
procedures pertaining to the currency

reporting and recordkeeping requirements under SEC Rule 17a- 8. Although
most broker- dealers are not subject to SAR requirements, National
Association of Securities Dealers (NASD) and NYSE representatives noted that
they have reviewed broker- dealers? procedures relating to suspicious
activities. In 1989, NASD and NYSE issued guidance advising their members
that reporting suspicious activities could prevent

firms from being prosecuted under the Money Laundering Control Act. In its
issuance, NASD specifically warned its members that failure to report
suspicious transactions could be construed as aiding and abetting violations
of the act and could subject the broker to civil and criminal charges. 28 In
its guidance, NYSE cautioned its members to establish

procedures to detect transactions by money launderers and others who seek to
hide profits obtained from illegal activity. 29 In conducting reviews of
their members? procedures relative to such guidance, these SROs cited a

few firms for deficiencies such as failing to maintain written supervisory
procedures to identify and record suspicious transactions. 28 Reporting
Suspicious Currency and Other Questionable Transactions to the IRS/ Customs
Hotline, NASD Notice to Members 89- 12 (1989). 29 Reporting of Suspicious
Transactions Under the Money Laundering Control

Act of 1986, NYSE Information Memo 89- 5 (July 20, 1989).

Although the SROs conduct most examinations of broker- dealers, SEC staff
also perform them and examinations of certain transfer agents. For instance,
SEC staff conduct oversight examinations of broker- dealers that are
designed to test both the firms? compliance with securities laws and SEC
rules (such as SEC Rule 17a- 8) and the quality of SRO examinations. SEC
staff also perform ?cause examinations? that are initiated in response to
special concerns related to a firm. These examinations can sometimes

cover compliance with Rule 17a- 8, even though BSA compliance may not have
been the initial reason for the examination. During 2000, SEC completed 422
oversight examinations and 283 cause examinations but found no violations of
anti- money laundering requirements that had not already been identified by
the SROs.

SEC also conducts examinations of mutual funds and their transfer agents
that address some money laundering issues. Among the firms that act as
transfer agents for mutual funds are broker- dealers, banks, and
nonfinancial firms that provide other services to mutual funds. Although
Rule 17a- 8 does not apply to transfer agents that are not broker- dealers,

SEC staff explained that the examiners also inquire about these firms?
policies for detecting transactions that may involve money laundering. Most
mutual fund shares, however, are sold by broker- dealers or other financial
intermediaries that have primary responsibility for complying with the BSA
or other currency reporting requirements (such as those contained in the
Internal Revenue Code). 30 Recognizing the need to strengthen the securities
industry?s efforts to combat money laundering, and anticipating a SAR rule
for the industry, SEC and the SROs are in the process of developing a
?refocused? approach to anti- money laundering examinations. According to
SEC officials, this enhanced approach will result in a broader review of
securities firms than the current approach, which focuses on compliance with
Rule 17a- 8. The new approach is intended to assess firms? overall anti-
money laundering strategies to determine whether they include policies,
procedures, and internal control systems for monitoring suspicious
activities. SEC officials anticipated that the expanded procedures would be
used during

examinations starting in the fall of 2001. They also indicated that once 30
According to research by the Investment Company Institute, which is the
primary industry organization for mutual funds, 82 percent of new mutual
fund share sales were made through a third party or intermediary in 1999.
These third parties included banks, insurance companies, broker- dealers,
financial planners, and retirement plans.

Treasury adopts a SAR rule for the securities industry, SEC and the SROs
plan to develop additional examination procedures to review firms for
compliance with this rule. Some Firms Reported

In responding to our survey, broker- dealers and direct- marketed mutual
Implementing AntiMoney fund groups reported taking steps to combat money
laundering that go beyond the BSA requirements applicable to the securities
industry at large.

Laundering Many firms have gone beyond currency reporting requirements by
Measures That Go restricting the acceptance of cash and other forms of
payment that may be Beyond Existing used to launder money in the placement
stage. Survey results also showed

that some broker- dealers and direct- marketed mutual fund groups had
Requirements

implemented voluntary anti- money laundering measures designed to identify
and report suspicious activities that may involve money laundering, but most
have yet to take such steps. Clearing brokers were more actively engaged in
such voluntary anti- money laundering efforts than introducing brokers. 31
In some cases, introducing brokers relied on their clearing brokers to
conduct anti- money laundering activities for them, but

not all clearing firms performed such activities or subjected introducing
broker transactions to such measures. The largest broker- dealers and
direct- marketed mutual fund groups, which represent the majority of assets
and accounts in the securities industry, were reportedly much more actively
engaged in such voluntary anti- money laundering efforts than

small and medium- sized firms, although these represent the majority of
industry participants. 31 For purposes of our survey analysis, references to
clearing firms include those brokerdealers that clear only for their own
firms? transactions (i. e., self- clearing firms), perform clearing services
for other broker- dealers, or do both.

Most Broker- Dealers and A vast majority of the broker- dealers and direct-
marketed mutual fund

Mutual Fund Groups groups surveyed reported having policies that prohibit
the acceptance of Restricted Cash cash. By prohibiting cash transactions,
firms reduce their vulnerability to Transactions and the Use of

money laundering at the placement stage and the number of instances in which
they must report certain currency transactions. Our survey showed Some
Monetary Instruments that 95 percent 32 of a projected 2,979 broker- dealers
among our survey population 33 and 92 percent of the 310 mutual fund groups
never accept cash in the normal course of business. The remaining firms
accept cash only as an exception. For example, these firms might accept
small amounts (less than $1, 000) or conduct cash transactions approved by a
legal or compliance department. Industry officials explained that most
securities firms and mutual funds are not set up to handle cash. Conducting

securities business in cash is generally viewed as too burdensome, and many
firms have chosen not to develop the needed infrastructure, including
policies and procedures, storage facilities, and internal controls.
Furthermore, industry officials note that prohibiting the use of cash is a

prudent business practice that helps to reduce risks, other than money
laundering, commonly associated with handling cash, including theft and
embezzlement. Although most broker- dealers and direct- marketed mutual fund
groups have reduced their vulnerability to money laundering that involves
cash

transactions, many may still be vulnerable to money laundering using other
forms of payment or deposit, such as traveler?s checks, money orders, and
cashier?s checks. As shown in figure 4, over 55 percent of direct- marketed

mutual fund groups reported always accepting money orders. According to law
enforcement officials, such forms of payment or deposit can be used as part
of structuring schemes in which cash is converted into monetary instruments
and deposited in increments of less than the $10,000 reporting threshold. 34
In addition, a large portion of mutual fund groups and broker32

This estimate has a sampling error of +4 percentage points. All other
estimates projected to a larger survey population are also subject to
sampling errors, which are less than +10 percentage points unless otherwise
noted. See appendix I for further explanation of

sampling errors. 33 About 1 percent of our broker- dealer sample did not
respond to the specific survey question on accepting cash. For this reason,
our estimate of this characteristic for the population does not reflect the
entire 3, 015 in our total survey population. 34 In the absence of a
mandated obligation to report potential structuring using such monetary
instruments, SEC encourages broker- dealers to be cognizant of and report
these types of suspicious transactions.

dealers also reported accepting cashier?s checks, which can also be used in
money laundering schemes. A securities industry official pointed out that
cashier?s checks are a common form of payment that firms tend to monitor
rather than restrict for money laundering purposes. Personal checks are

the most widely accepted form of payment but, according to industry
officials, are viewed with less concern since they can usually be traced to
accounts at depository institutions that have their own anti- money
laundering requirements.

Figure 4: Kinds of Payments That Broker- Dealers and Direct- Marketed Mutual
Fund Groups Accept (percentage of survey population) BROKER- DEALERS

Personal/ Business checks Cashier?s checks

Money orders Traveler's checks Third- party checks

DIRECT- MARKETED MUTUAL FUND GROUPS

Personal/ Business checks Cashier?s checks

Money orders Traveler's checks Third- party checks

0 20 40 60 80 100

Percentage

Note 1: This figure reflects firms that reported always accepting the noted
forms of payment. In a few cases, we have included firms whose survey
responses indicated that they accepted these forms of payment if certain
obvious criteria were met, such as taking only personal checks drawn on the
bank

account of their customer. Note 2: This figure excludes respondents that
reported never accepting any of the forms of payment listed on our survey.
Note 3: The sampling errors for the estimates of broker- dealers that accept
cashier?s checks, brokerdealers that accept money orders, direct- marketed
mutual fund groups that accept traveler?s checks,

and direct- marketed mutual fund groups that accept money orders are +11,
+10, +11, and +12 percentage points, respectively. Source: Analysis of
responses to GAO survey. Industry representatives also pointed out that
although the survey

responses reflect the proportion of firms that accept certain forms of
payment, these figures do not likely correspond with the extent to which the
cited forms of payment are actually used to deposit funds into brokerdealer
or mutual fund accounts. For example, officials from a mutual fund industry
association said that considerable amounts of money are deposited into
mutual funds through electronic fund transfers from bank accounts or through
payroll deposits. Some Broker- Dealers and

Although not subject to SAR requirements, some broker- dealers and
directmarketed Direct- Marketed Mutual mutual fund groups reported having
implemented anti- money Fund Groups Reported

laundering measures designed to identify and report suspicious activities.
Implementing Additional

According to our survey, 17 percent of broker- dealers, or an estimated 513
of 3,015 firms, reported implementing anti- money laundering measures that
Voluntary Anti- Money go beyond BSA provisions for the securities industry
at large. In our Laundering Measures survey, we asked firms to identify the
type of voluntary anti- money laundering measures, if any, they have
implemented. We divided these

types of measures into four broad categories: 35  written policies and
procedures, such as those requiring staff to learn more about customers and
the nature of the customers? businesses;  internal controls, including
supervisory reviews to ensure that antimoney laundering policies and
procedures are being followed;  tools and processes, such as an automated
transaction monitoring

program to facilitate the detection of potential money laundering; and 
formal training programs for staff, such as those that provide guidance

on how to identify suspicious activities that may involve money laundering.

Information presented in this report that is based on our surveys was self-
reported by the respondent firms. Although in some cases we attempted to
obtain additional information or clarification on certain responses, we did
not systematically verify all responses provided by firms or the extent to
35 These categories were used to determine the general nature of industry
efforts and do not represent a comprehensive list of anti- money laundering
efforts.

which firms that reported implementing anti- money laundering measures were
actually adhering to them. In addition, the effectiveness of these measures
at any firm would depend on various factors, including the level of a firm?s
management commitment to detecting and preventing money laundering and the
degree to which the employees responsible for following anti- money
laundering policies and procedures are being supervised and held
accountable.

Although 17 percent of broker- dealers overall reported implementing at
least one voluntary anti- money laundering measure, broker- dealers that
clear trades for themselves and other firms reported being more active in
the area. According to our survey analysis, 15 percent of introducing
brokers and 63 percent of clearing brokers reported implementing voluntary
anti- money laundering measures. 36 As shown in figure 5, the extent to
which introducing brokers reported implementing the various voluntary
measures identified in our survey ranged from 2 to 10 percent. The extent to
which clearing brokers reported implementing the various voluntary measures
identified in our survey ranged from 5 to 53 percent. 36 For purposes of our
survey analysis, references to clearing firms include those brokerdealers

that clear only for their own firms? transactions (i. e., self- clearing
firms), perform clearing services for other broker- dealers, or do both.

Figure 5: Voluntary Anti- Money Laundering Measures Implemented by
Introducing Brokers and Clearing Brokers WRITTEN POLICIES AND PROCEDURES

Obtaining information on customers' source of wealth Obtaining information
on customers' source of income

Identifying and reporting suspicious activities

INTERNAL CONTROLS

Supervisory review of new accounts Supervisory review of new accounts over
threshold

Supervisory review of existing accounts Compliance officer review of
accounts Internal audit of anti- money laundering program External audit of
anti- money laundering program

TOOLS AND PROCESSES

Transaction monitoring program Automated monitoring program Guidelines for
identifying suspicious activities Centralized process for law enforcement
referral

List of high- risk activities Compliance staff with anti- money laundering
expertise

FORMAL TRAINING PROGRAM

0 20 40 60 80 100

Percentage

Clearing brokers Introducing brokers

Note 1: This figure reflects measures implemented or used specifically for
anti- money laundering purposes. Some firms may have in place similar
measures that were implemented and used for purposes other than anti- money
laundering considerations, and these were not intended to be included in
this figure. Note 2: This figure does not include institutional broker-
dealers, of which approximately 3 percent reported implementing voluntary
anti- money laundering measures.

Note 3: Sampling errors of estimates made for the clearing brokers range
from +6 to +25 percentage points. Sampling errors of estimates for the
introducing brokers are under +7 percentage points. Source: Analysis of
responses to GAO survey. Our survey results also showed that the
transactions processed by 40

percent 37 of direct- marketed mutual fund groups were subject to some type
of voluntary anti- money laundering measures. Over 30 percent of these
groups reported that they or their transfer agents had put in place policies

and many of the tools and processes for identifying and monitoring
suspicious activities (fig. 6).

Figure 6: Voluntary Anti- Money Laundering Measures Implemented by Direct-
Marketed Mutual Fund Groups and Their Transfer Agents

WRITTEN POLICIES AND PROCEDURES

Obtaining information on customers' source of wealth Obtaining information
on customers' source of income

Identifying and reporting suspicious activities

INTERNAL CONTROLS

Supervisory review of new accounts Supervisory review of new accounts over
threshold

Supervisory review of existing accounts Compliance officer review of
accounts Internal audit of anti- money laundering program External audit of
anti- money laundering program

TOOLS AND PROCESSES

Transaction monitoring program Automated monitoring program Guidelines for
identifying suspicious activities Centralized process for law enforcement
referral

List of high- risk activities Compliance staff with anti- money laundering
expertise

FORMAL TRAINING PROGRAM

020 4060 80100

Percentage

37 The sampling error for this estimate is +11 percentage points.

Note 1: This figure reflects measures implemented or used specifically for
anti- money laundering purposes. Some firms may have in place similar
measures implemented and used for purposes other than anti- money laundering
considerations, and these were not intended to be included in this figure.
Note 2: This figure excludes one mutual fund group that described its
business as exclusively institutional and indicated it had not implemented
any voluntary anti- money laundering measures.

Note 3: Sampling errors for estimates in this figure are all +11 percentage
points or less. Source: Analysis of responses to GAO survey. The extent to
which firms had implemented multiple anti- money laundering measures varied.
For example, for broker- dealers that reported

having implemented voluntary anti- money laundering measures, almost 20
percent 38 indicated they had three or fewer of these measures in place.
Almost 30 percent 39 of these broker- dealers reported having implemented

more than 10 measures. Even when firms reported implementing the same
measures, the scope of their efforts differed. For example, officials at one
firm explained that its transaction monitoring system, although still in the
process of being implemented, was specifically designed for anti- money
laundering

purposes and focused on the overall financial activities of its customers,
including deposits, wire transfers, and transactions involving cash
equivalents. This firm?s system will eventually use customer profiling
techniques to identify unusual spikes in account activity and will have the
ability to make links among related customers to identify any suspicious
patterns of activity that may involve money laundering. In contrast,

officials at another firm that reported having a transaction monitoring
system told us that that their system involved the manual review of
transactions identified by a reporting system designed to identify fraud to
determine if the transactions might also involve money laundering.
Similarly, some firms described having ongoing training programs
specifically tailored to money laundering issues, including guidance on how
to identify suspicious activities. A few firms addressed money laundering
issues only as part of the orientation training provided to new employees.

Industry officials noted that, in general, a firm?s vulnerability to money
laundering will vary, depending upon such factors as its type of business
activities, customer base, and company size. They suggested that this 38 The
sampling error for this estimate is +18 percentage points.

39 The sampling error for this estimate is +18 percentage points.

variance in vulnerability among firms may account for some of the observed
differences in the extent and scope of voluntary anti- money laundering
measures implemented by broker- dealers and mutual fund groups. Our survey
results also disclosed that a relatively small number of brokerdealers

and direct- marketed mutual fund groups filed SARs during calendar year
2000, although they were not legally required to do so. Specifically, 12 of
152 broker- dealer respondents and 6 of 65 mutual fund group respondents
indicated that they had filed SARs. 40 Almost all were larger firms. Most
indicated that they had submitted 25 or fewer SARs during 2000, but 1
reported submitting over 200 reports during the year. 41 An industry
association official noted that, rather than filing SARs, some firms
informally refer suspicious activities that may involve money laundering
informally to appropriate regulatory or law enforcement authorities.
Industry officials explained that firms have generally chosen to adopt

voluntary anti- money laundering measures to protect themselves from
becoming unwitting participants in money laundering activities. The firms
hope that implementing such measures will also help to reduce the likelihood
of prosecution or civil enforcement actions for violations of money
laundering laws and mitigate sanctions in the event that a violation does
occur. Industry trade associations encourage voluntary efforts, noting that
firms are less likely to be subject to a regulatory penalty (or may have a
penalty reduced) if a violation occurs when an effective compliance program
is in place. Firms also believe that being associated with criminal elements
or activities such as money laundering can threaten their reputation and
have a tremendous impact in terms of lost business and costly legal fees.
Lastly, firms note that they are taking voluntary actions in anticipation of
a SAR rule for broker- dealers. 40 Because the number of respondents
indicating that they had filed SARs was so low and a meaningful estimate of
the number of firms these respondents might represent in the entire industry
could not be developed, we cite only the actual number of responses. 41
Survey responses on SAR filings were corroborated to the extent possible
with available

information from FinCEN.

Extent to Which Introducing Although a relatively small portion of
introducing brokers reported having

Brokers? Transactions Were implemented voluntary anti- money laundering
measures, many other

Covered by Anti- Money introducing brokers reported relying on their
clearing brokers to conduct Laundering Activities Is anti- money laundering
activities on their behalf. According to our survey,

more than half of the introducing brokers indicated that they had not
Unclear

undertaken such efforts, relying instead on their clearing brokers (fig. 7).
Almost another third reported that they had no voluntary measures of their
own and did not rely on their clearing brokers to undertake such measures
for them. Figure 7: Extent to Which Introducing Brokers Conducted or Relied
on Their

Clearing Brokers to Conduct Voluntary Anti- Money Laundering Activities
Neither implemented voluntary measures nor relied on clearing brokers
Implemented voluntary measures and relied on clearing brokers

Implemented voluntary measures and did not rely on clearing brokers

4% 10%

31% 55% No voluntary measures but relied on

clearing brokers Note 1: A few introducing brokers did not indicate whether
they relied on their clearing brokers to conduct voluntary anti- money
laundering measures and are not included in this figure. Note 2: Estimates
for introducing brokers that had no voluntary measures but relied on
clearing brokers and for those that neither implemented voluntary measures
nor relied on clearing brokers have sampling errors of +11 and +10
percentage points, respectively. Source: Analysis of responses to GAO
survey.

We found that the allocation of anti- money laundering responsibilities
between introducing and clearing brokers was not always clear. Of the many
introducing brokers that reported relying on clearing brokers to conduct
anti- money laundering activities, most did not know exactly what types of
anti- money laundering activities the clearing brokers performed. Several
introducing brokers indicated that they thought their clearing

brokers monitored customer accounts to identify suspicious activities that
could involve money laundering and would report such activities to them. Few
of the introducing brokers indicated that they received regular transaction
reports from their clearing brokers for anti- money laundering purposes.

In addition, many of the clearing brokers responding to our survey reported
that they either did not engage in voluntary anti- money laundering
activities or performed them only for their own firms? transactions, not for
those of introducing brokers. As a result, some introducing brokers may have
been mistaken in assuming that their clearing brokers performed antimoney
laundering activities on their behalf. We were not able to determine whether
any of the introducing brokers in our survey population used the clearing
brokers that reported performing anti- money laundering activities. 42 Six
of the 29 clearing broker respondents that provided clearing services for
other broker- dealers reported that they did not engage in any

type of voluntary anti- money laundering measures. 43 While the remaining 23
clearing broker respondents reported having voluntary anti- money laundering
measures for their own trades, only about half of these firms indicated they
applied the same measures to their introducing brokers? transactions. Only a
few of the clearing brokers reported that they provided other broker-
dealers with transaction exception reports for antimoney

laundering purposes. SEC officials explained that existing NYSE and NASD
rules, which require introducing and clearing brokers to clearly delineate
their respective responsibilities in a written agreement, will require them
to include any expanded anti- money laundering responsibilities that will
result from the issuance of a securities SAR rule in such agreements.

42 Our sample of broker- dealers was randomly selected, and we did not link
introducing brokers to their respective clearing brokers. 43 Because the
number of respondents indicating that they provided clearing services for
other broker- dealers was so low, only the actual number of responses is
cited here.

Large Firms Were More Although most broker- dealers and direct- marketed
mutual fund groups Actively Engaged in have yet to implement voluntary anti-
money laundering measures, larger Voluntary Anti- Money firms reported
having done so to a greater degree than had medium- sized Laundering Efforts
or small firms. Larger firns also reported having implemented anti- money
laundering programs that included a broader range of measures. Specifically,
from the results of our survey, we estimated that 66 percent of

the 111 large broker- dealers had implemented measures that go beyond those
required by applicable BSA regulations compared with 14 percent of the 1,738
small firms (table 2). An estimated 77 percent of the large directmarketed
mutual fund groups had implemented measures beyond those required, compared
with 38 percent of the other mutual fund groups. Appendix VI provides
information on the types of voluntary anti- money laundering measures
implemented by broker- dealers and mutual fund groups, by size.

Table 2: Extent of Voluntary Anti- Money Laundering Measures Implemented by
Broker- Dealers and Direct- Marketed Mutual Fund Groups Firms with voluntary
anti- money

laundering measures Survey population for Type and size of

which our estimates Estimated

firms are made Estimated number percentage

Broker- dealers: Large 111 73 66 Medium 1,166 202 17 Small 1, 738 238 14

Total 3,015 513 17

Direct- marketed mutual fund groups: Large 15 11 77 Medium/ Small 295 114 38

Total 310 125 40

Note: Estimates for large broker- dealers, medium- sized broker- dealers,
medium- sized and small direct- marketed mutual fund groups, and total
direct- marketed mutual fund groups have sampling errors of +10, +10, +12,
and +11 percentage points, respectively. Source: Analysis of responses to
GAO survey. The largest firms have also been the most active in implementing
antimoney

laundering measures. For example, 18 firms in our broker- dealer

population had assets exceeding $10 billion; together, these firms held
about 80 percent of the industry?s total assets as of year- end 1999. We
received responses from the nine firms we surveyed in this population.

According to their responses, eight of these firms had implemented voluntary
anti- money laundering measures, with each reporting to have nine or more
measures in place. SEC officials told us that having such

measures in place at firms like these was particularly important because
money launderers would likely attempt to blend their activities with those
of the vast numbers of customers and transactions handled by large
brokerdealers.

However, SEC officials as well as industry officials representing some of
the major broker- dealers and mutual fund groups acknowledged that no firms
in the industry, including small and medium- sized firms, are immune to
money laundering schemes. They suggested that small and mediumsized firms
also need to protect themselves from being inadvertently drawn into charges
of assisting with money laundering. But the officials stressed that these
firms should be allowed to develop anti- money laundering programs that are
commensurate with their size, available resources, and- most importantly-
any identified risks of vulnerability to money laundering. For example, some
small firms with an established and limited client base may know their
customers well enough to be able to monitor their business transactions with
little need for expensive tracking systems or formal training programs.

Certain Bank- Affiliated All 25 respondents to our survey of securities
subsidiaries of bank holding Respondents Also Reported

companies, 44 along with an additional 14 firms identified as securities
subsidiaries of depository institutions during our other industry surveys,
45 Implementing Measures to reported having implemented anti- money
laundering efforts to comply with Identify and Report the SAR rules to which
they were subject. For example, at least 85 percent Suspicious Activities of
these bank- affiliated respondents reported having written procedures for
identifying and reporting suspicious activities, a formal training 44 Our
survey sample for firms subject to the banking SAR requirements was randomly
selected from a Federal Reserve list of 53 securities subsidiaries of bank
holding companies, formerly referred to as section 20 subsidiaries. 45 In
administering our survey to the overall population of broker- dealers and
directmarketed

mutual fund groups, we asked firms if they were affiliated with depository
institutions and subject to the banking SAR requirements. An additional 12
broker- dealers and 2 mutual fund groups indicated that they were subject to
the banking SAR requirements.

program, and internal audit reviews to ensure compliance with anti- money
laundering policies and procedures. Most of these firms had also hired
compliance staff with knowledge of and expertise in money laundering. In
addition, 12 of 25 respondents that were securities subsidiaries of bank
holding companies and 3 of 14 respondents that were subsidiaries of
depository institutions reported having filed SARs during 2000.

Most Foreign U. S. and foreign officials from law enforcement and financial
regulatory

Countries Have AntiMoney agencies have been working together within various
international forums to develop anti- money laundering standards. These
standards call for

Laundering participating countries to require their financial institutions,
including Rules for Securities

securities firms, to take steps to prevent money laundering. Among other
Firms, but the

things, the recommended standards call for firms to identify their
customers, report suspicious activities, and implement anti- money
Effectiveness of These laundering programs. Many foreign countries reported
having issued most Rules Is Unclear

or all of the recommended requirements for their financial institutions,
including their securities industry, whereas efforts in the United States
are still under way. However, assessing the effectiveness of the measures
other

countries have taken is difficult because many requirements have only
recently been issued. In addition, most countries have also yet to report
many cases involving financial institutions, including securities firms.
International Forums Have

Money laundering issues are the focus of several internationally active
Developed Anti- Money

forums, including FATF, which is the largest and the most influential
Laundering Standards

intergovernmental body seeking to combat money laundering. Established in
1989, FATF has 31 members, including the United States. 46 Its activities
include monitoring members? progress in implementing anti- money laundering
measures, identifying current trends and techniques in money laundering, and
promoting the adoption of the organization?s standards. Many of these
activities are conducted during plenary meetings attended by

delegations from each member country. Smaller international groups that
address money laundering issues are also able to attend FATF plenary 46 The
members of FATF are Australia, Austria, Belgium, Canada, Denmark, Finland,
France, Germany, Greece, Hong Kong, Iceland, Ireland, Italy, Japan,
Luxembourg, the Netherlands, New Zealand, Norway, Portugal, Singapore,
Spain, Sweden, Switzerland, Turkey, the United Kingdom, and the United
States. Argentina, Brazil, and Mexico became members on June 21,

2000. Two regional organizations, the European Commission and the Gulf
Cooperation Council, are also members.

meetings. These groups are often regional, like the Caribbean Financial
Action Task Force (CFATF), which includes 25 countries from the Caribbean,
Central America, and South America. 47 Other regional forums include the
Asia Pacific Group on Money Laundering and the Financial Action Task Force
on Money Laundering in South America. Some international bodies have
recommended countermeasures against money laundering to their members. These
recommendations cover criminal justice and enforcement systems, financial
systems, and mechanisms for international cooperation. Some recommendations
apply

specifically to financial institutions, including securities firms (table
3).

Table 3: Examples of International Anti- Money Laundering Recommendations
for Financial Institutions Area Specific recommendations

Customer -- Avoid anonymous accounts. identification and

-- Record customers? identities. recordkeeping

-- Obtain proof of incorporation. -- Ensure that individuals acting on
behalf of others are authorized to do so.

-- Keep records on customer transactions. Suspicious -- Pay special
attention to unusually large transactions that have transactions no apparent
economic purpose.

-- Examine the background and purpose of such transactions. -- Establish
findings in writing. -- Report suspicions of transactions involving funds
stemming from possible criminal activities to competent authorities.

Anti- money -- Develop internal policies, procedures, and controls.

laundering programs -- Designate compliance officers at management level. --
Develop adequate screening procedures to ensure high standards when hiring
employees.

-- Develop an ongoing employee training program. -- Use an audit function to
test the system.

High- risk transactions -- Give special attention to transactions with
persons, companies, and financial institutions from countries without
adequate antimoney laundering requirements. Source: The Forty
Recommendations of the Financial Action Task Force, FATF, June 28, 1998.

47 Additional information about CFATF and its member countries is presented
in appendix VII.

Many Countries Reported Many of the countries participating in international
forums reported being Complying With FATF

in compliance with the FATF recommendations relating to their financial
Recommendations for institutions, including the securities industry. For
example, 24 of the 26 Financial Institutions FATF member countries that
participated in a recent self- assessment reported having in place most of
the key FATF recommendations that apply to stockbrokers. 48 These included
three FATF recommendations suggesting that stockbrokers record customers?
identity, pay attention to unusually

large transactions that have no apparent economic purpose, and report
suspicious activities to authorities. A fourth recommendation suggested that
guidelines be issued to assist stockbrokers in detecting suspicious

activities. Canada, one of the two member countries that had not implemented
the specific recommendation that stockbrokers be required to report
suspicious activities to competent authorities at the time of the self-
assessment, has since published suspicious activity reporting regulations
that cover the securities industry and are expected to come into force in
November 2001. In a recent report on the anti- money laundering

systems of its members, 49 FATF observed that countries such as Canada and
the United States, which have federal systems of government and a division
of responsibilities for financial institutions sectors, generally take
longer to implement controls for institutions regulated at the state or
provincial level. CFATF officials also observed that 8 of the 11 CFATF
members with organized securities exchanges had enacted legislation or
adopted regulations requiring their securities firms to report suspicious

transactions. The United States has applied some of the FATF recommendations
to its securities industry. For example, U. S. requirements for currency
reporting and funds transfers that apply to the securities industry already
comply with international recommendations. According to U. S. officials,
many of the existing customer identification requirements for broker-
dealers in the

48 Member countries report on their efforts to comply with the FATF
recommendations through annual self- assessment surveys. These surveys
collect, among other things, compliance information that applies to nonbank
financial institutions, including brokerdealers.

In some cases, the reporting country provides aggregated information for its
nonbank financial institutions and does not provide separate information for
its brokerdealers. FATF?s two regional organization members and three newest
country members did not participate in the 1998- 99 self- assessment survey
referred to above. To the extent possible, the number of countries reporting
to be in compliance with the noted

recommendations was updated on the basis of FATF?s annual report for 2000-
01. 49 Review of FATF Anti- Money Laundering Systems and Mutual Evaluation
Procedures 1992- 99, FATF XII Plenary, Feb. 16, 2001.

United States also are consistent with FATF recommendations. However, the
United States has not issued requirements on suspicious activity reporting
and related anti- money laundering programs for the securities industry but,
as previously discussed, is in the process of developing a SAR rule.

The Effectiveness of Determining how well international anti- money
laundering standards have

Implementing Anti- Money been implemented around the world is difficult
because of the limited Laundering Standards in amount of information
available. Some countries have only recently issued Many Countries Is
Unclear

anti- money laundering requirements for their financial institutions,
including securities firms, and have had little time to fully implement and
enforce them. In addition, FATF reports that limited law enforcement tools
and resources in some countries may hinder the effective implementation and
enforcement of anti- money laundering requirements.

Most FATF countries have only a few years of statistics on suspicious
activity reporting by banks, and few countries have data on suspicious
activity reporting by other financial institutions. Only six countries
provided information to FATF on SARs filed by their securities firms, and
all six countries showed limited activity in the area. Specifically,
securities firms filed a relatively small portion of the total SARs filed in
these

countries- from nearly 0 percent to just over 4 percent (table 4).

Table 4: SARs Filed by Securities Firms in FATF Countries SARs filed by

Percentage of total Country Total SARs filed securities firms SARs

Belgium 8, 030 335 4. 17 Finland 271 10 3. 69 Netherlands 3, 995 1 0. 03
Norway 788 2 0. 25 Switzerland 160 1 0. 63 United Kingdom 14,500 81 0. 56
Note: All data are for 1999, except for the Netherlands, which reported 1998
data. Source: Review of FATF Anti- Money Laundering Systems and Mutual
Evaluation Procedures 1992- 99, FATF XII Plenary, Feb. 16, 2001. In some
countries, suspicious activity reporting requirements for financial
institutions are relatively new, and it may be too early to judge the

effectiveness of implementing these measures. As previously noted, 8 of 11
CFATF members with organized securities exchanges had implemented
legislation or regulations requiring firms to report suspicious activities,
but 7 did not enact these laws until 1998 or later. Similarly, FATF?s three
newest members issued their anti- money laundering laws covering suspicious
activity reporting requirements in 1997, 1998, and 2000.

Some countries may not have the necessary enforcement tools and resources to
implement anti- money laundering measures properly. FATF reported that while
some member countries have sanctions in place for firms that fail to report
suspicious activities indicative of money laundering, other countries do
not. In the United Kingdom, for example, we

were told that officers of firms that do not report suspicious activities
can be sentenced to up to 15 years in jail. In general, however, FATF
reports that few members have applied such sanctions. In some member
countries where the regulatory framework and mechanisms for monitoring
suspicious activities are in place, the resources fall short of what is
needed to make full use of these systems. FATF identified limited staff
resources as a particular problem that has resulted in a backlog of SARs
that have not been investigated. However, these countries are planning to
allocate more resources to the units responsible for collecting, analyzing,
and

disseminating suspicious transaction information. Most countries had not
reported many money laundering cases involving nonbank financial
institutions, and data on securities- specific cases are generally not
available. Overall, other countries reported having much lower rates of
enforcement activity related to money laundering than the United States.
FATF reported that law enforcement statistics showed marked differences in
the anti- money laundering activities of its member countries and in some
cases indicated that members had undertaken few

prosecutions or confiscations of funds. Law enforcement statistics for CFATF
members also showed limited activity in the area, including few money
laundering prosecutions and convictions. In contrast, the United States has
reported relatively large numbers of prosecutions, convictions,
confiscations, and seizure rates involving money laundering. During 1999,
for example, the United States had 996 money laundering convictions, the
highest number reported by any of the FATF member countries. Conclusions The
extent to which money laundering is occurring in the securities industry is
not known, although law enforcement officials believe that various
characteristics of the industry may make it a target like other

financial industries. An assessment of the industry?s vulnerability must
also consider the extent to which the industry is covered by anti- money
laundering regulatory requirements and the actions broker- dealers and
mutual fund firms themselves have taken to prevent their use by money
launderers. Although firms in the securities industry are subject to
criminal prosecution for facilitating money laundering and must comply with
certain BSA reporting and recordkeeping requirements, all brokerdealer

and mutual fund firms are not yet required to report suspicious activities
that could be evidence of potential money laundering. As a result, the
extent to which firms in the industry have taken steps to detect and prevent
money laundering also varied. We found that many of the larger firms, which
hold the majority of accounts and assets in the industry, had

implemented voluntary anti- money laundering measures, but most of the small
and medium- sized firms that represent the majority of broker- dealer and
mutual fund firms in the industry had not. Although efforts by regulators to
develop a SAR rule applicable to the securities industry are under way, they
are not yet complete. As a result, regulators, brokerdealers, and mutual
fund firms have more to do to further reduce the securities industry?s
overall vulnerability to money laundering.

Agency Comments and We received written comments on a draft of this report
from Treasury?s

Our Evaluation FinCEN and SEC. FinCEN, whose written comments appear in
appendix

VIII, generally agreed with the draft report. FinCEN noted that the report
provides information that will be useful in identifying and evaluating the
operational effects of any future anti- money laundering regulatory
requirements pertaining to the securities industry. This includes FinCEN?s
current efforts to promulgate a draft rule that would require registered
broker- dealers to establish programs to identify and report suspicious
activities. FinCEN also provided technical comments, which we incorporated
in this report as appropriate. SEC, whose written comments appear in
appendix IX, similarly agreed with the observations contained in the draft
report and noted that the draft provided a helpful overview of issues facing
the securities industry, securities regulators, and law enforcement agencies
as they continue their

efforts to block money laundering. In its view, SEC said that our draft
report identified two insights that would be particularly helpful to the
government?s continued fight against money laundering. First, because

more than 90 percent of broker- dealer and mutual fund firms reported never
accepting cash, SEC noted that placement of physical currency into the
financial system is not a significant risk for the securities industry.

Secondly, SEC?s letter highlighted that our survey results indicated that
the firms responsible for most of the U. S. securities industry?s accounts,
transactions, and assets have implemented a broad range of voluntary
antimoney

laundering measures. We agree that the larger firms were more likely to
report having implemented a variety of anti- money laundering measures. We
note, however, that we did not attempt to verify the information provided by
firms responding to our survey. In addition, the effectiveness of firms?
anti- money laundering programs also depends on such factors as the extent
of management support and the level of supervision over employees and
customer activity. In its letter, SEC also noted that the implementation of
an effective SAR requirement for brokerdealers-

one focused on layering and integration- should help all regulators and law
enforcement officials address money laundering. SEC also provided technical
comments, which we incorporated in this report as appropriate.

Justice provided us with informal comments in which it generally concurred
with the substance of the draft report and offered a few additional
observations. Justice noted, for example, that most of its enforcement
efforts have focused on the large broker- dealers, leaving a significant
segment of the securities industry unaddressed. It also emphasized that the
opportunities for laundering illegal proceeds through on- line brokerage
accounts require further scrutiny.

As agreed with your office, unless you publicly release its contents
earlier, we plan no further distribution of this report until 14 days from
its issuance date. At that time, we will send copies of this report to
interested congressional committees and members. We will also send copies to
the Secretary of the Treasury, the U. S. Attorney General, and the Chairman
of SEC. Copies will also be made available to others upon request.

Key contributors to this report are listed in appendix X. If you have any
questions, please call me at (202) 512- 5431 or Cody Goebel, Assistant
Director, at (202) 512- 7329.

Sincerely yours, Davi M. D?Agostino Director, Financial Markets

and Community Investment

Appendi Appendi xes x I

Scope and Methodology Determining Potential To develop information on the
potential for money laundering in the U. S. for Money Laundering

securities industry, we obtained the views of securities industry
representatives and regulatory officials as well as the perspectives of and
the Extent to several law enforcement agencies. At the Department of the
Treasury, we

Which Existing spoke with officials from the Financial Crimes Enforcement
Network

Regulations and (FinCEN), U. S. Customs Service, Internal Revenue Service,
U. S. Secret Service, Office of Foreign Assets Control, and Office of
Enforcement. At Oversight Apply to the

the Department of Justice, we spoke with officials from the Drug Securities
Industry

Enforcement Administration, Federal Bureau of Investigation, and Executive
Office for U. S. Attorneys. We reviewed relevant reports, including the
National Money Laundering Strategy for 2000 issued by

Treasury and the U. S. Attorney General, International Narcotics Control
Strategy Report issued by the U. S. Department of State, and Report on Money
Laundering by the International Organization of Securities Commissions. We
also conducted an independent legal search of cases involving money
laundering through the securities industry and reviewed indictments, news
articles, and other supporting documentation (provided

primarily by the Internal Revenue Service and the Executive Office for U. S.
Attorneys) to identify relevant cases.

To describe the anti- money laundering legal framework applicable to the U.
S. securities industry and related regulatory oversight, we interviewed
officials at the Securities and Exchange Commission (SEC), New York Stock
Exchange (NYSE), National Association of Securities Dealers (NASD), Federal
Reserve Board, Office of the Comptroller of the Currency, and Office of
Thrift Supervision. We also reviewed U. S. anti- money

laundering laws, rules, and regulations; accompanying congressional records;
SEC and self- regulatory organization (SRO) examination procedures covering
compliance with Bank Secrecy Act (BSA) requirements and related anti- money
laundering guidance; semiannual reports to Treasury summarizing SEC and SRO
examination findings pertaining to BSA, SEC correspondence on anti- money
laundering issues, and other relevant documentation.

Determining the Extent To determine the nature of the anti- money laundering
efforts of brokerdealers

to Which BrokerDealers and mutual funds, we interviewed industry officials
at their

respective companies and held roundtable discussions with panels of and
Mutual industry officials representing some of the nation?s major broker-
dealer and

Funds Have mutual fund firms. We also spoke with representatives of industry
trade

Implemented AntiMoney associations, such as the Securities Industry
Association and Investment

Company Institute, and reviewed available reports and other documents
Laundering covering money laundering issues relative to the securities
industry. Activities To determine the extent to which firms were undertaking
anti- money laundering activities, we also surveyed representative
probability samples of broker- dealers and mutual funds. For our survey of
broker- dealers, our

target population was all broker- dealers conducting a public business,
including firms that carry customer accounts, clear trades, or serve as
introducing brokers. These firms were selected because their activities

may expose them to potential money laundering, unlike brokers who do not
conduct transactions for customers. For our survey of mutual fund firms, our
target population was direct- marketed, no- load mutual fund families that
sell shares directly to investors and would have some antimoney laundering
responsibilities because of their direct contact with customers. The
majority of other mutual funds are sold by other financial institutions,
such as broker- dealers, banks, and insurance companies, and

these entities would have the contact with customers potentially seeking to
launder money. Our representative probability samples included three
groupings: (1) broker- dealers, (2) securities subsidiaries of bank holding
companies and foreign banking organizations, and (3) mutual funds. For each
grouping, we used survey data to estimate what types of monetary instruments
are

accepted and what anti- money laundering activities are conducted, including
voluntary measures such as implementing written anti- money laundering
procedures to identify noncash suspicious activities, establishing related
internal controls, providing personnel training, and filing suspicious
activity reports (SAR). Appendix II is an example of one

of our survey instruments. Sample Design Our three statistically valid
random samples were drawn so that each

sampled firm had a known, nonzero probability of being included in our
survey. In the broker- dealer and mutual fund surveys, the samples were
allocated across several categories, or strata, defined by the size of the

firm, so that proportionally more of the sample was allocated to the strata
with larger firms. This makes our estimates of anti- money laundering
activity, which tends to vary by size of firm, more precise. To produce the
estimates from this survey, answers from each responding firm were weighted
in the analysis to account for the different probabilities of selection by
stratum and to make our results representative of all the members of the
population, including those that were not selected or did

not respond to the survey. For our survey of broker- dealers, our target
population was all brokerdealers conducting a public business, including
firms that carry customer accounts, clear trades, or serve as introducing
brokers. Using these

specifications, we requested year- end 1999 financial and operational
reports filed with SEC by 5,460 firms. From this list, we eliminated 1,626
NASD- member firms not conducting a public business and carrying or clearing
trades, such as those that act as floor brokers on the various exchanges or
that sell mutual funds, direct participation plans, or units of

mutual funds, but that nevertheless file broker- dealer reports with SEC. We
also removed the 53 section 20 subsidiary firms identifiable in the dataset
at that time, resulting in a population of 3,781 broker- dealers for
sampling purposes. Table 5 provides additional information on the selected
characteristics of this broker- dealer population.

Table 5: Selected Characteristics of the Broker- Dealer Population Selected
characteristics Number of broker- dealers Total assets:

$10 billion and over 18 $230 million and under $10 billion 148 $1 million
and under $230 million 1, 472 Under $1 million 2, 143 Average total assets:
$395 million

Type of fi rm:

Introducing brokers 3, 147 Clearing brokers 634

Designated examining authority:

NASD 3,538 NYSE 231 Chicago Board Options Exchange 6 Midwest Securities
Exchange 6 Source: GAO analysis of year- end 1999 financial and operational
reports filed with SEC.

From these 3,781 firms, we drew a random probability sample of 231 broker-
dealers. We distributed that sample over three size strata defined by total
assets of the firms. For our survey of mutual funds, our target population
was direct- marketed

funds whose shares are sold directly to retail or institutional customers.
We developed a list of 363 of these direct- marketed mutual fund groups from
lists of no- load mutual fund families (those fund complexes most likely to
distribute shares of their funds themselves) from publications widely
available at the time of our survey. 1 We drew a random sample of 92 fund
families across two strata defined by the year- end 1998 asset size of
firms.

1 Loads are sales charges paid by purchasers of mutual fund shares used to
compensate the financial institution sales personnel for marketing those
funds. No- load funds do not charge such fees because they market their
funds themselves.

Some broker- dealers and mutual fund groups have been subject to additional
money laundering regulation because of their affiliation with banks or other
depository institutions- specifically, as subsidiaries of depository
institutions or of their holding companies. As a result, we attempted to
remove this group from our overall survey population of broker- dealers and
administered a separate survey for such bank- affiliated brokers. However,
we were unable to develop a survey population that included all securities
subsidiaries of depository institutions or of their

holding companies because comprehensive data on the extent and the
identities of all such subsidiaries were not available. However, the Federal
Reserve maintained data on the securities subsidiaries of the bank holding
companies and foreign banking organizations that it oversees. 2 These bank-
affiliated broker- dealers were subject to banking SAR requirements. 3 As of
December 31, 1999, the Federal Reserve oversaw 53 of these firms,

and we randomly selected 37 of them for our survey. Administration of the

We contacted all sampled firms by telephone to determine their eligibility
Surveys for the survey and to determine who in each firm should receive the
questionnaire. We sent questionnaires primarily by fax to firms beginning

in December 2000. We made telephone follow- up contacts to some of the firms
that did not respond within several weeks, to encourage them to return a
completed questionnaire or to answer our questions by telephone. We stopped
collecting completed questionnaires in April 2001. We used

several variants of the questionnaires tailored to each industry and to
whether the firm was subject to the banking SAR requirements. Although we
conducted follow- up work with some of the respondents to clarify their
responses and obtain additional information, we did not systematically
verify the accuracy of survey responses or the extent to which firms were
adhering to reported policies and procedures. 2 At the time of our survey, a
list of securities subsidiaries of bank holding companies compiled by the
Federal Reserve was the only readily available listing of bank- affiliated
broker- dealers. Information on the securities subsidiaries of national
banks and federal thrifts was not available, but efforts have since been
made to compile such information. See

Money Laundering: Oversight of Suspicious Activity Reporting of Bank-
Affiliated BrokerDealers Ceased (GAO- 01- 474, Mar. 22, 2001). 3 These
securities subsidiaries had previously been referred to as section 20
subsidiaries, but

the passage of the Gramm- Leach- Bliley Act of 1999 repealed sections 20 and
32 of the GlassSteagall Act that had applied to the operations of these
securities subsidiaries.

Disposition of Samples We received 164 usable broker- dealer responses, 67
mutual fund responses, and 25 responses from securities subsidiaries of bank
holding companies. After adjusting for those sampled firms that were
discovered to be

ineligible for our survey because they were no longer independent entities
in their respective industries, the number of usable responses resulted in
final response rates of 87 percent, 83 percent, and 69 percent, respectively
(tables 6 to 8). Because not all respondents provided an answer to each
question that they were eligible to answer, the item response rate varies
and is generally lower than the unit response rate for each industry.

Table 6: Disposition of Broker- Dealer Sample Disposition Nonresponse
Original population

Sample All other

Usable Response

Stratum, by total assets size size Ineligible Refusal nonresponses response
rate

Large: $230 million or more 166 81 19 4 2 56 90%

Medium: 1 million up to $230 million 1, 472 75 11 4 4 56 88

Small: Up to $1 million 2, 143 75 13 7 3 52 84

Total 3, 781 231 43 15 9 164 87% Table 7: Disposition of Mutual Fund Sample

Disposition Nonresponse Original population

Sample All other

Usable Response

Stratum, by total assets size size Ineligible Refusal nonresponses response
rate

Large: Over $10 billion 17 17 0 1 1 15 88%

Other (medium and small): $10 billion and under 346 75 11 6 6 52 81

Total 363 92 11 7 7 67 83%

Table 8: Disposition of Sample of Securities Subsidiaries of Bank Holding
Companies

Disposition Nonresponse Original All other population Sample

nonresponses Usable Response

size size Ineligible Refusal response rate

53 37 1 0 11 25 69%

During the course of administering the surveys of broker- dealers and mutual
fund groups, we identified 12 broker- dealers and 2 mutual fund groups that
indicated that they were subject to the banking SAR requirements. Responses
of these 14 firms were analyzed in conjunction with responses of the
securities subsidiaries of institutions overseen by the Federal Reserve.

Survey Error and Data Point estimates from sample surveys are subject to a
number of sources of Quality

error, which can be grouped into the following categories: sampling error,
coverage error, nonresponse error, measurement error, and processing error.
We took a number of steps to limit these errors. Sampling error exists
because our random sample is only one of a large number of samples that we
might have drawn. Since each sample could have produced a different
estimate, we express the precision of our particular sample's results as a
95- percent confidence interval. This is the interval (e. g., ï¿½7 percentage
points on either side of the percentage estimate) that would contain the
actual population value for 95 percent of the samples we could have drawn.
As a result, we are 95- percent confident

that each of the confidence intervals cited in this report will include the
true values in the study population.

Surveys may also be subject to coverage error, which occurs when the
sampling frame does not fully represent the target population of interest.
We used the most up- to- date lists that were available to us, and we
attempted to remove firms that were no longer in the industry of interest.
For the mutual fund survey, our results are representative only of those
mutual fund groups that are direct marketed and that offer predominantly no-
load funds, which we believe is closest to the target population of mutual
funds that are self- distributing. Also, we discovered a small number

of firms in our broker- dealer sample that was affiliated with depository
institutions and subject to banking SAR requirements. These firms would have
been excluded from our overall broker- dealer sample frame had we known this
before conducting our survey; their responses were analyzed with those from
our sample frame for bank- affiliated securities subsidiaries, which
represented broker- dealers subject to banking SAR

requirements. Measurement errors are defined as differences between the
reported and true values. Such errors can arise from the way that questions
are worded, differences in how questions are interpreted by respondents,
deficiencies in the sources of information available to respondents, or
intentional misreporting by respondents. To minimize such errors, we asked
subject matter experts to review our questionnaires before the survey, and

pretested the questionnaires by telephone with respondents at several firms
of various sizes and levels of anti- money laundering activity. Nonresponse
error arises when surveys are unsuccessful in obtaining any information from
eligible sample elements or fail to get valid answers to individual
questions on returned questionnaires. To the extent that those not providing
information would have provided significantly different information from
those that did respond, bias from nonresponse can also

result. Because the seriousness of this type of error is often proportional
to the level of missing data, response rates are commonly used as indirect
measures of nonresponse error and bias. We took steps to maximize

response rates, such as sending multiple faxes of the questionnaires and
making several telephone follow- ups to convert nonrespondents.

Finally, surveys may be subject to processing error in data entry,
processing, and analysis. We verified the accuracy of a small sample of
keypunched records by comparing them with their corresponding
questionnaires, and we corrected any errors found. Less than 1 percent of
the data items we checked had random keypunch errors that would not have
been corrected during data processing. Analysis programs were also
independently verified.

We conducted follow- up work with many of the respondent firms to obtain
additional information on or clarification of their survey responses. We
also worked with FinCEN to corroborate survey responses on the extent that
securities firms have filed SARs using procedures that attempted to maintain
the confidentiality of the identities of our survey respondents.

International AntiMoney To obtain information on international efforts aimed
at addressing money

Laundering laundering in the securities industry, we interviewed members of
the U. S. delegation to the Financial Activities Task Force (FATF),
officials of the

Efforts Caribbean Financial Activities Task Force (CFATF), and
representatives of

the U. S. Department of State. We also spoke with foreign officials
representing the financial supervising authorities, law enforcement or
financial intelligence units, prosecuting offices, and securities industries
in Barbados, Germany, Trinidad and Tobago, and the United Kingdom. In
addition, we interviewed knowledgeable representatives at the U. S.

embassies located in these jurisdictions. We reviewed FATF and CFATF annual
reports; summaries of mutual evaluations, self- assessments, and the results
of plenary meetings; documents provided by countries we visited on their
anti- money laundering oversight and law enforcement efforts; and relevant
reports issued by various international working groups and committees.
Lastly, we researched the Web sites of selected foreign financial regulators
and reviewed available documentation on their antimoney laundering
regulations, policies, and industry guidelines. Information on foreign anti-
money laundering laws or regulations is based on interviews and secondary
sources and does not reflect our independent legal analysis.

We conducted our work between May 2000 and May 2001 in accordance with
generally accepted government auditing standards.

Example of a Data Collection Instrument

Appendi x II

Used to Survey the Securities Industry    
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