The latest Financial Action Task Force (FATF) Hong Kong Mutual Evaluation Report, the fifth Hong Kong has undergone, was released on 4 September 2019. As we anticipated in July, Hong Kong was rated “compliant and with a substantial level of effectiveness overall.”
The rating is directly attributed to Hong Kong’s strong legal foundation and effective system for combating money laundering and terrorist financing (ML/TF) and the financial services industry’s good understanding of ML/TF risks and the controls needed to combat these risks. This preparedness was particularly evident in large institutions and those belonging to international groups. Hong Kong was rated “largely compliant” with 25 of the 40 FATF Recommendations, “compliant” with 11, and “partially compliant” with the remaining four.
FATF Technical Rating Scale*
Compliant –There are no shortcomings.
Largely Compliant – There are only minor shortcomings.
Partially Compliant – There are moderate shortcomings.
Non-compliant – There are major shortcomings.
Not applicable – A requirement does not apply, due to the structural, legal or institutional features of a country.
FATF Effectiveness Rating Scale*
High level of effectiveness – The Immediate Outcome is achieved to a very large extent. Minor improvements needed.
Substantial level of effectiveness – The Immediate Outcome is achieved to a large extent. Moderate improvements needed.
Moderate level of effectiveness – The Immediate Outcome is achieved to some extent. Major improvements needed.
Low level of effectiveness – The Immediate Outcome is not achieved or achieved to a negligible extent. Fundamental improvements needed.
*Rating scales are based on the methodology originally updated in 2013.
FATF determined that Hong Kong has a good understanding of potential ML threats based on its open financial market as proven by the industry’s understanding of ML typologies that are relevant to the market. Furthermore, Hong Kong is especially strong in understanding risks related to fraud and deception, which can be attributed to its Manager in Charge regime as well as other regulations introduced over the past several years. This includes strengthening legislation and preventive measures around transparency of legal persons; introducing a cross-border declaration system; instituting preventive measures for designated non-financial businesses and professions (DNFBPs); and enhancing the legal regime for TF, including TF-targeted financial sanctions.
On the Technical Rating scale, Hong Kong is largely compliant thanks to the legal framework previously mentioned, particularly in the areas of law enforcement and confiscation as well as preventive measures for FIs and international co-operations. The increased supervision by local regulators over financial institutions also has contributed to the technical compliance rating.
Contributing to the effectiveness compliance rating are Hong Kong’s strong capabilities in the identification of risks, use of financial intelligence, international co-operation, and confiscation. Furthermore, Hong Kong is considered very strong in its ability to investigate potential financial crime cases and is considered very adept at protecting non-profit organizations (NPOs) from TF abuse.
Areas for Improvement
FATF did point out some areas for moderate improvement that Hong Kong needs to focus on, including foreign drugs trafficking, tax crimes and corruption. This is made more evident by the fact that less than 30% of the 1,600 annual average of ML investigations are related to areas other than fraud. Although the preventive measures and supervision are strong in certain areas, that is not always the case with the transparency of legal arrangements, politically exposed persons, and supervision of DNFBPs. There is also a significant need to regulate dealers in precious metals and stones (DPMS) and standalone financial leasing companies that are not regulated for ML/FT preventive measures.
The following areas of concern are considered priorities by FATF and need to be addressed:
- There should be increased prosecution of foreign non-fraud ML such as drugs, tax crimes and corruption;
- Local DNFBP supervisors should strengthen their understanding of ML/TF risks;
- Additional measures should be taken to ensure that beneficial ownership information in relation to legal arrangements created through non-professional firms (i.e., a trust) is more readily available and is accurate;
- The level of anti-money laundering and counter-terrorist financing requirements for the DPMS sector having regard to ML/TF risks should be increased; and
- The ML/TF understanding and governance by local financial institutions should be enhanced.
Although the current rating is an improvement from the last evaluation, Hong Kong regulators and financial institutions should not rest on their laurels. The threats posed by criminal elements are only becoming more sophisticated and harder to identify. Institutions should focus on continued improvement and explore technology such as artificial intelligence.
Protiviti is developing a point-of-view paper on how companies in Hong Kong can improve their money laundering practices. Subscribe to this blog or visit our website to receive updates on this topic, including our upcoming paper.