Brandi B. Reynolds, CAMS-Audit
A quick read through recent regulatory enforcement actions against financial institutions will show that the attention being paid to higher-risk customer types – and the accompanying Enhanced Due Diligence (EDD) – remains intense. Examiners perceive the identification and management of higher-risk customer types to be a foundational topic – that is, if problems lurk in this area, there are likely larger problems throughout the BSA/AML program. This adds risk when financial institutions begin offering banking services to industries such as the cannabis industry. However, the need for cannabis banking is growing rapidly as more states legalize cannabis in some form.
This leaves financial institutions with competing priorities. On the one hand is the priority of meeting the banking needs of the community and enjoying the fee income that comes with it. On the other hand, is the priority of avoiding regulatory scrutiny. With the right risk management program, financial institutions can manage both priorities.
From a money laundering and terrorist financing perspective, what is the biggest risk that BSA Officers are managing? It’s likely the risk that the cash passing through the business is really mixed with illicit cash from other activities, be it from organized crime, less sophisticated drug activities, or any other form of illegal activity. Breaking this risk down further, one could identify the following BSA/AML functions as being key:
- Knowing your customer: Who are the real beneficial owners of the cannabis company? This is particularly difficult with cannabis companies because the layers of ownership are frequently complex, and the waters are muddied by operating agreements that obscure who really owns the cannabis license and who is benefiting from the cannabis company.
- Monitoring and EDD: Monitoring goes beyond following the money to having a thorough understanding of how much cash that cannabis company should be generating to begin with. Yes, your monitoring and EDD analysts have to become cannabis experts. Software used by the cannabis industry referred to as “seed-to-sale” software generates tracking information and logs, and this data should be requested by the financial institution to help the BSA/AML staff understand the origins, and reasonableness, of the cash deposits. Then a daily monitoring and reconciling process needs to be followed by the BSA/AML Department’s cannabis experts.
Deep Dive into Enhanced Due Diligence
The best analogy to use to describe EDD on a cannabis dispensary is to consider the early days of performing EDD on gas stations. Remember counting the number of pumps and taking into consideration how many hours per day the gas station is open, and whether it’s at a busy intersection or on a quiet country road. The basic principal is the same. If the cannabis company is a grower, are they growing indoors? Outdoors out in the open? Outdoors in a greenhouse? It makes a difference. If the cannabis company is a dispensary, what forms of cannabis are they selling? Flower? Edibles? Vape? To understand the nuances of growing and selling cannabis, the BSA/AML Department’s cannabis experts can take classes at the local college or pursue any number of certificate programs offered by established vendors in the industry. Then develop a written Cannabis EDD Program that has all the traditional EDD elements but incorporates the nuances of cannabis. Be ready to evidence the expertise the EDD analysts have. The gaps that traditional EDD suffers from will likely present themselves in the Cannabis EDD Program, so address those gaps before they even occur – namely incomplete or incorrect data, incomplete or weak analysis of the factual EDD data points, conclusions that aren’t supported by the analysis, and a lack of supporting documents.
There will be no retreat in the growth of the cannabis industry. The industry demand, combined with economic pressures on financial institutions, might entice more financial institutions into banking the high-risk cannabis industry. The term “high-risk” should lead BSA/AML Officers straight to the EDD Program. A well-designed Cannabis EDD Program will help manage the risk of banking the cannabis industry and give the institution an opportunity to showcase the expertise of the EDD analysts. This should help keep the exam findings at bay.
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