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Beneficial Ownership Federal Legislation Update

Article Date: Thursday, November 04, 2010

Written By: Haley Haynes & Cheri Myers

Concern over money laundering and a desire by law enforcement to be able to get easier access to the “true owners” of businesses entities is driving legislation that would require Secretaries of State (or the equivalent officer in each state) to collect unprecedented amounts of information regarding these entities throughout their existence. This article is designed to inform and update business lawyers on this federal legislation, because many of the provisions of the proposed legislation, if enacted, will impact advice given to clients and affect the attorney-client relationship due to the disclosures required in various proposals.

Background
The Financial Action Task Force of Money Laundering (FATF), the main international anti-money laundering agency, has criticized the United States for its failure to comply with FATF standards for beneficial corporate ownership information collection. Following the FATF criticism, the Government Accounting Office (GAO) investigated and found that most states, including North Carolina, failed to request “beneficial ownership” information at the time of creation or afterward. The GAO further reported that the absence of this ownership information impeded law enforcement investigations of suspect corporations.  

As a result of these reports, Sen. Levin (D-MI) introduced the Incorporation Transparency and Law Enforcement Assistance Act in 2007. S. 2956 never got out of committee, but it is still instructive to read the conclusions from which this legislation springs. Reprinted below is “Section 2. Findings” of S. 2956:

Congress finds the following:

(1) Nearly 2,000,000 corporations and limited liability companies are being formed under the laws of the States each year.

(2) Very few States obtain meaningful information about the beneficial owners of the corporations and limited liability companies formed under their laws.

(3) A person forming a corporation or limited liability company within the United States typically provides less information to the State of incorporation than is needed to obtain a bank account or driver’s license and typically does not name a single beneficial owner.

(4) Criminals have exploited the weaknesses in State formation procedures to conceal their identities when forming corporations or limited liability companies in the United States, and have
then used the newly created entities to commit crimes affecting interstate and international commerce such as terrorism, drug trafficking, money laundering, tax evasion, securities fraud, financial fraud, and acts of foreign corruption.

(5) Law enforcement efforts to investigate corporations and limited liability companies suspected of committing crimes have been impeded by the lack of available beneficial ownership information, as documented in reports and testimony by officials from the Department of Justice, the Department of Homeland Security, the Financial Crimes Enforcement Network of the Department of the Treasury, the Internal Revenue Service, and the Government Accountability Office, and others.

(6) In July 2006, a leading international anti-money laundering organization, the Financial Action Task Force on Money Laundering (in this section referred to as the `FATF’), of which the United States is a member, issued a report that criticizes the United States for failing to comply with a FATF standard on the need to collect beneficial ownership information and urged the United States to correct this deficiency by July 2008.

(7) In response to the FATF report, the United States has repeatedly urged the States to strengthen their incorporation practices by obtaining beneficial ownership information for the corporations and limited liability companies formed under the laws of such States.

(8) Many States have established automated procedures that allow a person to form a new corporation or limited liability company within the State within 24 hours of filing an online
application, without any prior review of the application by a State official. In exchange for a substantial fee, two States will form a corporation within one hour of a request.

(9) Dozens of Internet websites highlight the anonymity of beneficial owners allowed under the incorporation practices of some States, point to those practices as a reason to incorporate in those States, and list those States together with offshore jurisdictions as preferred locations for the formation of new corporations, essentially providing an open invitation to criminals and other wrongdoers to form entities within the United States.

(10) In contrast to practices in the United States, all countries in the European Union are required to identify the beneficial owners of the corporations they form.

(11) To reduce the vulnerability of the United States to wrongdoing by United States corporations and limited liability companies with unknown owners, to protect interstate and international
commerce from criminals misusing United States corporations and limited liability companies, to strengthen law enforcement investigations of suspect corporations and limited liability companies, to set minimum standards for and level the playing field among State incorporation practices, and to bring the United States into compliance with its international anti-money laundering obligations, Federal legislation is needed to require the States to obtain beneficial ownership information for
the corporations and limited liability companies formed under the laws of such States.

In March of 2009, Sen. Levin reintroduced that Act as S. 569. The National Association of the Secretaries of State (NASS) and a number of other prominent organizations are on record in opposition to S 569, including: the Uniform Law Commissioners (ULC), the American Bar Association (ABA), the National Conference of State Legislatures (NCSL), and the International Association of Commercial Administrators (IACA). A coalition of these groups has worked for a number of years to craft a solution to do the following:

1. Avoid the federalization of the company formation process, which has always been a state function. Federal legislation will bring federal rulemaking and regulatory authority into an area that has traditionally been the jurisdiction of states;

2.    Create a way for company ownership data to be held by private individuals designated by the entities, rather than the Secretary of State or other state agency;

3.    Require that law enforcement agencies use subpoenas to inspect the ownership records rather than mandating that the Secretaries of State or state governments secure and provide them;

4.    Avoid an immense, unfunded mandate requiring states to fund the hardware, software and staffing to collect, update, preserve and make accessible such data. There would also be a substantial cost for public education efforts regarding the complete change to filing requirements;

5. Prevent the office of the Secretary of State from becoming a law enforcement agency if compelled to regularly cross-check the entity ownership data against the Office of Foreign Asset Control’s Specially Designated Nationals (SDN) List and report any suspicious matches. States are concerned that if required to collect and maintain beneficial ownership information, they will ultimately be required to verify the information and cross-check it all with the SDN List. This issue is especially important because while verification and cross-checking are not required in S.569, Senators Levin and Grassley, as cosponsors, have said that states should verify the ownership information and run the information against the SDN List.

S. 569 was referred to the Homeland Security and Governmental Affairs Committee (HSGAC). Secretary of State Elaine Marshall testified before this committee on June 18, 2009; you may read her full testimony at the following link: http://www.nass.org/?option=com_content&task=view&id=165&Itemid=45&fontstyle=f-larger . Some of the troubling issues raised are:  the impenetrable definition of “beneficial owner”; the size and number of entities covered; privacy concerns over collection and maintenance of the beneficial ownership information; funding for implementation; and law enforcement access to the information. On Aug. 10, 2010, a companion House bill, H 6098, was introduced by Rep. Carolyn Maloney (D-NY). As of the date of this writing, markups scheduled for S 569 bill have been postponed.

A complete history of this issue, including text of all pending and past legislation as well as suggested alternatives from the Uniform Law Commissioners, may be found at the following link: http://www.nass.org/index.php?option=com_content&view=article&id=113&Itemid=401. The N.C. Secretary of State’s Office is actively monitoring the progression of these proposals. We will keep you updated through the Business Law Section Council about further developments.                    
Haynes is Deputy Secretary of State and Myers is the Director of the Corporations Division in the office the North Carolina Secretary of State.

Views and opinions expressed in articles published herein are the authors' only and are not to be attributed to this newsletter, the section, or the NCBA unless expressly stated. Authors are responsible for the accuracy of all citations and quotations.