Money and Matters: A lawyer's guide to navigating Tranche 2 Part 3 - LCA submission

In our last article we looked at the global landscape of AML and why it's coming to Australia. In this article we take a look at the Law Council of Australia (LCA) submission on the proposed AML legislation and offer alternative perspectives based on global precedence.

Part 3: Law Council of Australia (LCA) submission and other perspectives

In this article, we take a look at the Law Council of Australia’s submission to the Attorney General's call for feedback.

Globally, philosophical debates continue on whether AML rules infringe on attorney-client privilege. Despite this, the reality is that regulations are expanding into the legal industry across the world. 

Here we take the stance that rather than resist this tide, Australian firms can take proactive steps to implement compliance procedures that aim to both fulfil legal duties and protect client confidences, as other countries do in order to protect reputations and avoid fines.

The LCA submission highlights are taken from an article by Herbert Smith Freehills while the responses have been sourced from our experience with law clients globally and a webinar recently held with Herbert Smith Freehills’ Partner, Alice Mohan. Alice is a leader in Australian financial services regulation. She guides clients in navigating regulatory obligations and specialises in anti-money laundering, financial crime and licensing. Alice has a rich background both locally and internationally handling licensing, prudential matters, virtual asset services, anti-money laundering controls, and regulatory obligations.

Note that this article does not constitute legal advice, it is merely conveying opinions and observations from local and global perspectives.

The LCA submission

1. [The expansion of the the AML/CTF Act to the law sector] is inherently in conflict with a client’s right to legal professional privilege because:
   1. privilege belongs to the client and ‘a legal practitioner cannot reasonably be asked to make determinations as to whether client legal privilege will or will not apply to communications for the purposes of making a report … to do so exposes that legal practitioner to disciplinary proceedings should they ultimately make the wrong judgement call’;
   2. ‘The AML/CTF regime cannot adapt to the complexity of privilege in practice’ – section 242 of the AML/CTF Act ‘is not expressed in terms of being an exception from reporting obligations. … even if section 242 was clearly expressed as an exception to reporting obligations, the operative sections of the AML/CTF Act which includes identification verification, ongoing customer due diligence and reporting suspicious matters, act to diminish the unique relationship that exists between a lawyer and client; and
   3. section 41 of the AML/CTF Act, which sets out the reporting obligations of reporting entities in circumstances where a suspicious matter arises, is ‘cast too wide and the standard for a ‘reasonable suspicion’ is too low’, such that the obligation to report ‘is invoked the moment a person inquires or requests a service from a reporting entity’.
2. It does not account for the ‘fluidity to relationships in legal practice that do not exist within the financial sector which makes application of the AML/CTF Act difficult. If a client is not able to rely on the security of client legal privilege from the very outset of their relationship with their solicitor or barrister, it risks diminishing the effective and proper administration of justice resulting in significant flow on of costs to law enforcement, the legal system, government and the community’.
3. Legislation in Canada was recently characterised, by its Supreme Court, as inapplicable to the legal profession insofar as it related to, among other things, a lawyer’s duty of commitment to the client’s cause because the scheme taken as a whole limits the liberty of lawyers in a manner that is not in accordance with the principle of fundamental justice relating to the lawyer’s duty of committed representation; and
4. places a significant burden on legal practices in respect of contingent ‘significant civil penalties if they fail to make reports under the scheme, but also significant professional discipline if they make the wrong decision’;
5. may overlap with lawyer’s existing obligations to the extent that there already exists (through professional conduct rules) a requirement for lawyers to only act on a client’s lawful and proper instructions, and only providing lawful advice and without furthering unlawful purposes;
6. places a significant burden on legal practices in respect of establishment and maintenance costs, citing the costs analysis to estimate establishment costs across DNFBPs conducted by Deloitte in 2016 commissioned by the Ministry of Justice in New Zealand.

Counter arguments to Legal Professional Privilege (LPP)

While the LCA arguments are valid, it’s important to note that almost every jurisdiction in the world has managed to find a balance between upholding LPP and executing AML legislation. Additionally, hundreds of thousands of legal practitioners have also found a balance and a way through without affecting LPP.

The LCA submission highlighted the Canadian Supreme Court opinion but they also omitted many others. The House of Lords noted that when they implemented their AML legislation, there was no interference with the principle of professional legal privilege. “It is in no way an assault or attack on that fundamental principle of English law.”

While the UK’s legal sector affinity group (LSAG) provided advice acknowledging that the interplay of LPP and its AML regulations can be complex. That said, they also noted that “just because there may be marginal or fringe cases that are difficult, this doesn’t mean that the two are opposed.” Instead they provided a decisioning template that allows a lawyer to think through and evidence the:

• Terms of engagement
• The scope and any variations to the retainer
• Knowledge or suspicion relating to money laundering
• Whether LPP applies, and on what basis it might apply
• Reason why the lawyer believes a disclosure obligation may have arisen under the AML legislation.

Additionally, as Alice noted, “In most jurisdictions that have implemented AML, the suspicious matter reporting obligation won't just be applied as a blanket rule. It is nuanced and allows for regard to be had to LPP. “

Adding to this, it’s important to remember “[In Australian law] LPP already does not apply, where communications in connection with the facilitation of a fraud or crime. So that's one thing to keep in mind; currently LPP is not a blanket protection for all communications.” 

She goes on, “Some jurisdictions have expressly provided that privileged information does not need to be reported. But if LPP does apply, there will be a number of jurisdictions that don't require that suspicious matter reports be made in any event. Given a number of submissions have been made on this point I'm sure that the [legislative] drafters will pay regard to balancing that policy aspect of collecting data that can assist to fight the crimes that this legislation is intended to, while also ensuring appropriate access to justice and legal services for those that are seeking it.”

Looking over the ditch to New Zealand, the Law Society advises that in essence, the AML/CFT Act protects legally privileged information from disclosure requirements, while non-privileged confidential information must be disclosed, reflecting the fundamental importance of legal professional privilege in the legislation. As Alice noted earlier, it’s a nuanced legislation.

Counter arguments to the perceived burden of compliance.

Not all services.

In addition to the counter arguments from governments and legal sector advisories regarding LPP, we’ve seen in almost every other country that only certain activities or services are covered by the AML acts. The types of activities that are likely to trigger compliance with the AML regime in Australia could include acting as the formation agent of a structure, being a nominee, Director, trustee, managing client funds, even providing a Registered Office and also transactional work like conveyancing and advice on transactions.

On the flip side certain legal services may be excluded and based on international precedence, litigation or employment law is excluded because it doesn't necessarily carry money laundering risk. 

More of what you do anyway.

As Alice noted, there are pragmatic ways of implementing a compliance approach that leverages compliance frameworks that lawyers already have, and the relationships that they already have to understand who their customer is, and why they're obtaining services. The opportunity is to expand on these instead of thinking about AML as a whole new process.

Additionally, the government would likely take this opportunity to better align existing reporting obligations solicitors already have (such as the $10,000 cash transaction report under the FCRA), and set it under the AML Act. It wouldn’t be double the burden but rather a clarification and alignment. 

Not everyone needs to be verified.

Going back to your firm’s unique risk appetite and using your firm’s risk assessment criteria you’ll be able to decide how much or how little due diligence to conduct. For example you’ll treat a low risk client with a low risk transaction (e.g. a long time client buying a home) very differently to a new client, based in a high risk country conducting a high value transaction.

Assuming Tranche 2 follows the same rules as Tranche 1, you would only need to identify and verify beneficial owner/s who have 25% controlling interest or, if no one meets that criteria, then a senior manager who has main control over the organisation. You're not going to have to collect and verify 15 shareholders for every one of your clients. 

Support from others.

In almost every other jurisdiction, when AML legislation has been enacted, the local equivalent of the Law Council has provided significant support via advisory materials, example templates and education. The LCA is likely to follow suit and support Australian law firms in this transition.

Benefits of going last.

Australia is in a privileged position where we can learn from others. Speak to your counterparts in other countries, read the advice and guidance from other law councils, speak to software providers to understand what technology can and cannot do to make it easier.

It’s ethically right.

Finally in counter argument to the LCA submission it's important to view this within a broader context. Yes, the legislation does bring with it a financial burden, but complying with AML/CTF rules also contributes to:

• the long term viability of the firm through reputational, financial and legal protection
• bolstered trust and confidence among clients, investors, and stakeholders
• enhancement to the integrity and reputation of the legal profession as a whole
  improvement of Australia’s reputation on the global stage
• reduction of criminal and terrorist activity

A recent research paper from the law department at Victoria University in New Zealand found that the cost of AML legislation costs Tranche 2 entities ~$80-$110 million a year. This is in contrast to the ~$170 million per year of illegal drugs and fraud crime that is disrupted through the legislation. As the author noted, “For small businesses the benefit may not be viewed in the same manner as they may not personally feel any benefits. Balancing costs against benefits is difficult because many benefits from an effective AML/CFT regime are unquantifiable. These include NZ’s international reputation and having a safe economy.”

How to develop a sound AML programme.

Assuming this legislation is passed, and Australia lawyers must act as most other law professionals do around the globe, how are you best to do it? In practice, a well-developed AML programme echoes and strengthens existing oversight and governance practices.

As Alice explains, “You should have real comfort that just because you're under the same legislation at a bank or a casino it does not mean that your compliance framework has to look the same as those.

The risk-based approach is all about designing a compliance framework that's responsive to the risks in your business, having regard to the services that you provide, the customers that you engage with, how you provide your services, and also the jurisdictions that you deal with. So yes, banks and lawyers will all need to do customer due diligence, but what the compliance framework looks like for a bank versus a law practice will be a very different proposition.”

Based on law firm compliance programmes across the globe they typically include:

• Clear policies, controls and procedures: With clear policies and procedures in place, lawyers have guidance on the appropriate actions to take when a potential conflict arises regarding their AML/CTF obligations and legal privilege. This includes a defined process for safely escalating concerns internally (or externally) when needed.
• A risk-based approach: Taking a risk-based approach allows law firms to focus resources more effectively by directing attention to areas (clients, services or transactions) that present higher risks.
• Clear audit trails of decisions made: Given the focus on a risk-based approach, supervisory focus in the UK and New Zealand has been primarily on whether the appropriate process and consideration was followed (that is, active engagement with the question) than the final result of choosing to work with (or not work with) a client. As long as decisions were documented, and sound enough reasoning shown, firms were not punished.
• Continual education and training: Continuous education on evolving laws, regulations and money laundering methods allows lawyers to make better informed and accurate decisions that do not jeopardise client-attorney privilege but meet AML obligations.
• Amending client onboarding practices: As part of client onboarding, explaining that certain checks will need to be conducted will and can become part of a firm’s processes – this may require amendments to one’s letter of engagement.
• Utilising technology where appropriate: Use technology to guide, monitor, process, flag and report in order to meet AML obligations while minimising burden, mitigating risk and reducing reliance on subjective judgments.
• Engage specialists where needed: The application of legal professional privilege is often complex and fact sensitive. If you are in any doubt as to whether legal professional privilege applies in the context of the case in which you act, you should seek independent legal advice as part of your decision-making process.

Conclusion

By integrating these strategies, law firms can navigate the complexities of complying with AML/CTF regulations while preserving the essential confidentiality between lawyers and clients, managing costs, and ensuring adherence to ethical and legal obligations.

The Law Council of Australia's submission and insights from global law compliance officers shed light on the challenges posed by expanding AML/CTF regulations to the legal sector. While this expansion raises valid concerns, it's crucial to recognise the broader importance of compliance. 

Balancing AML obligations and attorney-client privilege is achievable and is being done by law professionals overseas. By employing strategies such as taking a risk-based approach, clear policies, ongoing education, technology use, and specialist advice, law firms will be able to protect attorney-client privilege while combating financial crimes.

In part 4 of this series, we look at how to set up an AML compliance programme.