EU 5th Anti-Money Laundering Directive Program Notes

“How Not to Go to Jail” Program By Experts Gregor Kleinknecht and Petra Warrington

The Hemicycle of the European Parliament in Strasbourg during a plenary session in 2014. Wikimedia Commons.The Hemicycle of the European Parliament in Strasbourg during a plenary session in 2014.

UK solicitor Gregor Kleinknecht and Senior Associate Petra Warrington from Hunters Solicitors in London presented an introduction to the new European Union 5th Anti-Money Laundering Directive in an online program for the American Bar Association on March 14, 2019. The program was entitled AML for the Art Trade: How Not to Go to Jail under the 5th EU Anti-Money Laundering Directive, and was hosted by the Art and Cultural Heritage Law group of the American Bar Association’s International Law section. Birgit Kurtz, Co-Chair of the Art & Cultural Heritage Law Committee and Director of Commercial and Criminal Litigation at Gibbons P.C. in New York, moderated the discussion.

The presenters, all experts in the field, had good basic information for art dealers and their advisers on the anti-money laundering regulations. However, since the directive has not yet been implemented by the EU Member States, and each State will do so independently, there could be significant changes to the rules for the trade. While the base level of required due diligence and reporting is set by this EU Directive, real uncertainty remains about what types of objects could fall into more burdensome reporting requirements or more stringent due diligence rules.

The ABA presentation gave listeners not only a taste of the increasingly restrictive demands of EU regulation, but also pointed out how, despite this being the fifth iteration of the EU directive, there is much that is still unclear in how it will be administered and how the art trade can maintain compliance. This gap in information continues to cause anxiety, as dealers, galleries, and auction houses await clarification on what the law requires them to do with respect to collecting and documenting information.

Whether or not a business works directly in the European market; the EU system will be a key element in the global art trade. EU and UK policies are also likely to have an impact on the development of U.S. domestic policy, especially on proposed anti-money laundering legislation that has been heavily promoted by groups such as the Antiquities Coalition and by businesses providing anti-money laundering services over the last year.

If U.S. anti-money laundering legislation eventually passes (legislation has been introduced but not passed in recent Congressional sessions), the obvious practical difficulties and uncertainties faced by small art and antique businesses in the EU under the 5th Directive will likely be multiplied.

The program began with a general explanation. According to panelist Gregor Kleinknecht, the push for tighter regulation on the art trade resulted in part from the Panama Papers scandal (when the International Consortium of Investigative Journalists (ICIJ) made 11.5 million secret documents publicly available, disclosing how offshore corporations were being used for illegal purposes, including fraud and tax evasion).

The increasing value of artworks and [Ed. what many believe are unsubstantiated] fears regarding terrorist financing through art dealing encouraged EU member states to undertake more stringent regulatory processes.

Kleinknecht explained that the EU issues regulations, which are legally binding and have a direct effect on member states’ laws, differ from directives, which set specific goals, but require states to implement them through their own national laws.

[Ed. Since the directive has not yet been implemented by the various EU member countries, there will be differences in its precise rules and application. Therefore, for example, the criteria for reporting could be based on only specific sales of €10,000 or more, or any dealer who sells anything over €10,000 could be made subject to the due diligence and reporting requirement. Another criteria among those in the directive could become the defining element triggering even more information collecting and reporting.]

The 5th  EU Anti-money Laundering Directive entered into force on July 9th, 2018. EU member states are required to transpose the provisions of the directive into their own national laws by January 20, 2020. Thus, there may be some differences between the laws of different member states; they will not be  completely harmonized.

The 5th Directive added art dealers, auctions houses and other entities transacting in art to the list of regulated industries. [Ed. The 5th Directive also added virtual currency platforms, ‘electronic wallet’ providers, and tax-related services industries.]

Kleinknecht described anti-money laundering as falling into two categories. “Outside the regulated sector,” the 5th directive deals with stopping money laundering that directly legitimizes the proceeds of crime.

Requirements for art dealers are “inside the regulated sector.” The rules primarily have to do with collecting, documenting, and reporting information about transactions and customers. Art dealers will now have to perform due diligence for all transactions of €10,000 or more. If there is a series of linked transactions, such as multiple purchases totaling €10,000, these must be aggrandized and treated as over the threshold. The 5th Directive documentation requirements apply even to transactions in freeports.

“Enhanced due diligence” is required for transactions that have to do with certain kinds of goods, which relate to “cultural artefacts and other items of archaeological, historical, cultural, and religious importance.”

Under previous directives, only cash transactions over €10,000 had to be documented, so some businesses simply did not accept cash. Now all will be covered. Under the 5th Directive, the verification and documentation requirements will be for all transactions of that amount and above, regardless of how payment is made.

The information that must be collected from clients as part of a “customer verification” process includes verifying the client’s identity. The dealer will also be expected to obtain information on the reasons for the intended transactions. The dealer, gallery, or auction house and their staff must also be trained how to detect irregularities in the client’s answers or instructions.

[Ed. The 5th Directive indicates that identity should be electronically verifiable – but it is not clear what this would entail. The “enhanced due diligence” requirements will include identifying the source of funds for the transaction and source of wealth of the customer and checking against beneficial owner (individuals who own or control a company) information that is expected to be accessible for 25% or more beneficial owners of corporations.]

Even if there is no Brexit deal, UK art dealers will need to be in compliance with the EU 5th Directive – and it will be required in any case to deal with EU clients and transactions.

US dealers are also advised to find out what the requirements will be and how the subtle differences will be applied in different countries. They will also need to learn how to operate in respect to the 5th Directive for EU Customs for reporting purposes.

The directive will affect sellers whether they are galleries, auction, and art fairs, as well as buyers at any of these venues. Kleinknecht  acknowledged that having to check customer ID and perform other due diligence measures will be a shock to the system for art dealers accustomed to operating in a traditionally less regulated industry [and it seems likely that the shock to the client will be even greater]. If there are intermediaries who are involved in a transaction, there remain questions about how much documentation each person in a chain will need to provide.

When a corporate entity is a buyer, then there are also questions about how one determines who the beneficial owners of a corporate entity are.

There are also questions about how and where the data for customers is collected and stored, since this is personal information that has privacy concerns for the customer. Collecting information from clients will need to be done in compliance with data privacy rules for the EU and UK under the General Data Protection Regulation (GDPR).

Kleinknecht noted that lawyers can help clients with training and with developing anti-money laundering procedures. He said that he expected that art dealer organizations might step in to assist dealers with compliance, or organize compliance services on a group basis. He noted that the British Art Market Federation has established guidelines for its members. [Ed. See the December 2015 BAMF guidelines.] Kleinknecht also referred dealers and advisers to the Basel Art Trade Anti-Money Laundering Principles published in 2018.

Next, panelist Petra Warrington discussed the Responsible Art Market (RAM) initiative and the guidelines set up by RAM, which are available online. RAM standards also recognize that compliance standards need to be feasible for smaller as opposed to larger art operations.

The RAM guidelines stress a risk-basis approach in which certain types of materials require more documentation. [Ed. Virtually anything to do with antiquities or ethnological goods from non-European countries fall automatically into the high-rsik categories under RAM and other compliance recommendations.]

Warrington noted that even dealers working with lower-value goods need to be prepared to deal with the anti-money laundering directives, because if an unexpectedly larger transaction pushes the dealer over the value limit, then new requirements must be followed.

She noted that RAM provides checklists and best practices for assessing risks. [Ed. See the RAM Due Diligence Toolkit – Explanatory Notes.]

Service industries that perform due diligence are already advertising services [Ed. and also pushing for passage of similar legislation in the US]. However, art dealers need to be aware that simply hiring a professional service does not release them from liability for performance of the dealers’ legal obligations under the directive.

Moderator Birgit Kurtz asked about the impact on smaller art dealers and whether the new rules will be a barrier to entry to the art market.  The panelists acknowledged that the burden of compliance is disproportionately larger for smaller galleries. Kleinknecht suggested that some information could be collected through a service like a PayPal or credit card provider. Another possible solution for smaller dealers is to work collectively through a trade organization that would provide the service to many members and could contract for a group rate for compliance services.

During the question period, the panelists were asked whether the EU regulators had ever actually analyzed the effect the law would have on small businesses, noting that the regulations were so burdensome that they would likely force many small art businesses to close. Kleinknecht said that he was not sure that there was any analysis.

Kleinknecht also said that with respect to the additional requirements imposed on antiquities trade, when you are dealing with antiquities, you automatically have to consider whether there is terrorist financing.

Another questioner asked, if you sell any one item for over €10,000 in value, do you fall into the category of high value dealers and must you apply the regulations and reporting requirements to all of your sales, even if they are for less? The answer was no, but if a client has multiple transactions adding up to €10,000, then these will have to be reported.

The panelists were also asked, how do you ascertain the source of your client’s income? The panelists agreed that this was puzzling, but it seemed you would ask the question and see if you got a satisfactory answer. Gregor Kleinknecht said that lawyers were required to find out the source of their clients funds, and this was deemed normal. Petra Warrington noted that in an art fair, a dealer is not going to have time to check a client’s bona fides.

The moderator stated that if every art seller is asking for this information, then buyers will become accustomed to providing the information.

An article by Gregor Kleinknecht on the 5th EU Anti-Money Laundering Directive will appear in the next Newsletter of the Art and Cultural Heritage Law Section of the American Bar Association. Watch for it!

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