On July 27, 2020, the US Senate Permanent Subcommittee on Investigations released a report entitled The Art Industry and US Policies that Undermine Sanctions. This report was the result of a two-year investigation into the art industry and how billions of dollars, much of it of unknown origins was used to purchase fine art. The Senate investigation learned how several ultra-high net worth individuals blacklisted by the Office of Foreign Assets Control (OFAC) were still able to purchase multi-million dollar works of art from sellers based in the United States in contravention of US law.
On October 30, 2020, OFAC issued an advisory cautioning art dealer, auction houses, and private collectors about sanctions risks related to the purchase and sale of fine art.
On November 6, 2020, New York’s Attorney General sued Sotheby’s alleging violation of the New York False Claims Act by facilitating the creation and use of false tax exemption certificates which enabled an art collector to misrepresent themselves as dealers and avoid paying millions in sales taxes.
Public disclosures surrounding the recent investigation of the embezzlement of billions of dollars from Malaysian Sovereign Wealth Fund 1MDB revealed that some of the embezzled money was used to acquire a Vincent Van Gogh drawing and two Claude Monet paintings worth $137 million.
On a recent episode of our podcast series, Fraud Eats Strategy, we spoke with Kobre & Kim partner Robin Rathmell on how the fine art world is starting to look like it may become the next anti-money laundering battlefield. Rob represents high-net-worth individuals and institutions in international litigation involving allegations of fraud, money laundering, sanctions violations and other forms of misconduct.
These actions by the U.S. Senate and OFAC have brought significantly increased attention to the secretive world of fine art, coming on the heels of a worldwide effort to create national registries of beneficial owners of legal entities worldwide.
Many high net worth individuals employ complex tax strategies to lawfully preserve their wealth and limit income tax liability. To do this many of them utilize offshore trusts, private investment companies and other legal entities and tax-friendly international jurisdictions. Those same strategies and techniques are utilized by transnational criminals, kleptocrats and narcotics traffickers as highlighted in the Panama Papers, the Paradise Papers and the Russian Laundromat cases. These have led to an international push to create registries of beneficial owners of offshore companies.
High net worth individuals need to take certain proactive steps to avoid being lumped together with Yakuza crime bosses and kleptocrats in the aftermath of the next Panama Papers-type scandal. We live in a time when extreme wealth creates suspicion. The strongest defense for a high net worth individual who is concerned about being grouped with transnational organized crime figures is to take the proactive step of working with their legal counsel and other advisors to undertake “a clean funds analysis”. A clean funds analysis involves examining and compiling key financial documentation and related materials, bank statements, purchase, and sale contracts, corporate agreements and other source documents. The ultimate objective of a clean funds analysis is preparing a narrative that demonstrates the funds or assets held by the high net worth individual are clean and unrelated to any illicit conduct or criminal enterprises. These serve two purposes. The first is to enable high net worth individuals to structure their assets in the way they want. To do so, advisors, financial institutions, lenders and other parties want proof that the funds are clean to meet their compliance and know your customer obligations. Second, in the event any allegations are made against the high net worth individual, having a clean funds analysis is a useful defensive tool allowing the high net worth individual to get out in front of any such allegation.
Presently the United States is a little bit behind the curve when it comes to legislating and enforcing anti-money laundering controls and other obligations for art auctions, auction houses, private collectors, and antiquities dealers beyond simply prohibiting them from transacting with persons or entities on the OFAC SDN list. The UK has been more closely regulating the art market to ensure that its participants are operating with greater transparency. At the beginning of this year, the UK formally implemented the various provisions of the European Fifth Anti-Money Laundering Directive, which was previously developed by the EU in response to terrorist attacks and the 2016 Panama Papers leaks. Those leaks revealed that various bad actors have used alternative financial systems such as the art market to circumvent existing KYC and AML controls in the banking industry. As part of the new legislation in the UK any firms or sole practitioners, who by way of business trading or are intermediary in the sale or purchase of works of art over a threshold of £10,000 are now required to have certain KYC and transparency-related controls in place. That includes undertaking an internal risk assessment, creating an internal AML policy, undertaking initial and ongoing due diligence reviews, maintaining fulsome records of these due diligence materials and designating an officer to make regular reports to the National Crime Agency.
In the UK and across the EU, there is now formal legislation bringing the art world into line with financial services companies when it comes to anti-money laundering. The United States does appear to be taking some steps to implement similar KYC and AML control regulations. Congress is currently considering The Illicit Art and Antiquities Trafficking Prevention Act that would require dealers in art and antiquities to conduct initial and ongoing due diligence reviews of clients, establish internal AML programs, maintain records of any cash purchases and report suspicious activity and transactions exceeding $10,000 to federal regulators. The bill is still being considered by the House Committee on Financial Services where it has been since May 2018.
Until that legislation is enacted, there are no formal requirements on auction houses and art dealers. Although there is no law compelling art dealers and collectors to implement anti-money laundering controls, participating in money laundering transactions or transacting with OFAC-prohibited persons or entities could result in law enforcement agencies to assert they are willfully blind to transactions involving dirty money or criminal conduct.
Commercial entities and private collectors involved in the exchange of fine art and antiquities should self-regulate until the legislation is in place. Conducting a proactive, clean funds analysis and KYC diligence will ensure that they are mitigating the risks of knowingly or unwittingly assisting in financial crime while at the same time demonstrating transparency.
To hear the full Fraud Eats Strategy podcast episode with Robin Rathmell, click here.
Note: The postings on this site are my own and do not necessarily represent FTI Consulting’s positions, strategies or opinions