Worldwide, the life insurance industry generates a massive flow of funds—some of it might not be as clean as we would like to think. Thankfully, the vast majority of our clients are serious and law abiding citizens whose sole intention is to provide financial peace of mind and protection for themselves and their dependents. Their objective is usually to enter into a somewhat long-term relationship with an insurer and not to commit a crime or to launder the proceeds of their criminal activities, nor to cheat the taxman.
The vulnerability of the life insurance industry to money laundering is not regarded to be as high as for other sectors of the financial industry, according to a 2004 report by the International Association of Insurance Supervisors.
Nevertheless, life insurers are potentially prone to abuse by criminals including money launderers and terrorist financiers, as they promote highly flexible investment—type products offering potential clients the opportunity to dispose of large volumes of money with relative ease and to recover their money whenever they want, even if that means taking a relatively small loss.
But is the risk a real one? In reality do life assurance products provide an attractive medium for money launderers, terrorist financiers and corrupt politicians? What has been the experience so far?
Which life insurance products (and product features/options) might be (ab)used?
Life assurance products can be classified into different AML and FT risk categories depending on their own individual features which either reduce their attractiveness (e.g., no cash surrender value, to a money launderer/ terrorist financier) or increase their attractiveness (e.g., which offer payment of cash surrender value and the opportunity to nominate beneficiaries from DAY 1 of the policy).
It is the latter type of policy which may pose potential areas of concern to insurers and, hence, which should attract higher levels of scrutiny (enhanced CDD).
As one can safely envisage life assurance policies which only offer protection (i.e., proceeds are only payable on death, disability or serious illness) do not offer any real benefits to a money launderer or a terrorist financier and consequently have a very low money laundering risk.
The following are examples of investment type life assurance products and features which could be of interest to money launderers/terrorist financiers. It is here that insurers must be especially vigilant and devote sufficient resources to train staff and intermediaries to recognize such 'potentially' suspicious transactions including sufficient IT capabilities to isolate such cases.
- Purchase of (investment type) Single Premium Policies (which enables criminals to 'get rid' of substantial amounts of money in one go) — Highest potential money laundering risk.
- Annuity Policies: Money launderer starts receiving a legitimate looking income after paying premium(s) by using criminally derived funds.
- Purchase of High Regular Premium Savings policies (or a series of small regular premiums to avoid attracting attention).
- Refund of Premiums during the cooling off period or deliberate overpaying of premiums. It is important that insurers reimburse clients by paying direct into their bank account.
- Money launderer surrenders policy and regains possession of his money although at a loss—surrender penalty.
- Also possible to gradually surrender part of a policy to gradually dispose of investment in order not to attract attention.
- The money launderer ends up with a check from an insurer which can be used again to buy further investments (layering/integration). No one will question the source of funds in the next money laundering stage since at that stage the client will be paying with a check from an insurer.
This facility allows clients to pay a small initial premium (in order not to attract attention) and then make further payments Top-Ups (which could be relatively large or a series of small Top-Ups). Here the money launderer or their accomplice will hope that the insurer will not repeat CDD measures (including establishing source of funds) at time of the top-up.
Client purchases single premium policy and then taking out a policy loan. Policy loan amount is a percentage of the surrender value. Client may not repay the loan. Any outstanding loans are deducted from any future claim (e.g., death, maturity).
Transferring ownership/designating beneficiary:
A person assisting the criminal or the money launderer will purchase a policy in his own name but later transfer ownership or nominate or change the beneficiary to a (seemingly) unconnected third party (e.g., the criminal who had originally generated the criminal money) soon after the policy was issued. The insurer needs to carry out CDD on the new beneficiary or policy owner.
Using Single Premium policies as collateral for bank loans:
In the layering stage a money launderer may purchase a policy via an intermediary check/direct debit and use the policy to secure a bank loan. The money launderer then surrenders the policy to repay loan soon after.
Secondary life market:
Clients in financial difficulties/ill health sell their policies to third parties instead of surrendering in exchange for a higher value than the surrender value. Insurers will only get to know when asked to forward payment to a previously unknown third party (the new policy owner). Insurer must identify the new owner.
Is the number of submitted insurance-related STRs an acceptable one?
According to the FATF Typologies Report 2004–2005 there seems to be a low percentage of insurance related STRs as a percentage of total STRs received by the FIU. Insurers should look at their own markets and compare the percentage of total insurance-related STRs and their own submitted STRs.
STRs Submitted by Insurers—1999 to 2003
|Percent of total insurance-related STRs||Number of jurisdictions|
The above reinforces the suspicion that the number of actual money laundering cases related to life assurance is low when compared to the actual size of the life insurance market and the number of STRs submitted from other financial sectors.
Life insurers are potentially prone to abuse by criminals including money launderers and terrorist financiers, as they promote highly flexible investment
But why is the number of STRs relatively low? Is it because insurers are failing to identify suspicious transactions?
I think that primarily life assurance products do not render themselves as a prime choice of money launderers/terrorist financiers. Money launderers can find easier, quicker and cheaper ways to launder their money. More so for terrorist financiers where terrorist attacks can be potentially funded from petty crimes since they do not cost a lot as we have seen from the London bombing and other terrorist attacks.
However, I believe that more importantly it is the nature of the insurance business that keeps these gentlemen away.
It must be appreciated that insurance is a risk transfer mechanism, and that as a natural consequence insurers need to analyze each risk they are taking on whether such risk assessment is done via appropriate IT systems or by trained underwriters.
Underwriters carry out (risk-based) risk assessments (e.g., financial underwriting) on applicants. Some applicants require only minimal (simplified) assessment while others require enhanced assessment (e.g., in cases of high premiums, high-risk clients/countries, by obtaining additional information from the client or intermediary).
Even at claims stage, claim assessors are trained to look out for potential insurance fraud risk factors which are very similar to potential money laundering risk factors.
Financial Underwriting=Anti-Money Laundering Measures?
Perhaps one of the reasons why the introduction of anti-money laundering legislation and the consequent obligation to implement relative internal procedures and controls did not really cause as many challenges as perhaps other financial institutions experienced is that insurers already had risk assessment procedures indirectly incorporating features very similar to anti-money laundering precautions.
One level of life insurance risk assessment is financial underwriting which has the following objectives.
- To prevent insurance fraud (e.g., disappearance, murder (rare), suicide, fraudulent disability claims).
- To ensure that the right type of policy (matching the client's needs and circumstances) has been sold.
- To avoid unnecessary policy lapses by ensuring that client can afford to pay their current and future premiums. This is done by analysing the client's known financial commitments, source of income/wealth, total premiums being paid, where possible the expected average income normally associated with the client's occupation/business — indirectly establishing source of wealth for AML/FT.
- To protect insurers from 'undesirable' or dubious characters — moral hazard.
Typical financial underwriting information obtained for each client:
- Identification: all clients (including beneficiaries, new policy owners) are identified (full personal details, certified copy of national identity card or passport) — we want to know with whom we are dealing.
- Occupation/business details: required for standard (occupational risks) underwriting requirements but also helps to analyze financial strength of client, clarify source of income/funds/wealth, current and future transaction reasonableness test, ability to pay future premiums, etc.).
- Establishing valid reason for policy/transaction for example bank collateral, long term-savings and that this is reasonable in relation to the proposer's known circumstances and needs (including financial).
- Confirmation of source of funds/wealth established with each application, top-up (client and intermediary should both confirm source).
- Country risk: nationality, country of birth/residence/work.
This information is required to identify high risk underwriting/insurance fraud jurisdictions e.g., with high political instability, high crime rate, countries noted for lack of adequate medical services, ease with which death certificates can be purchased i.e., fake death claims, war, corruption, drug producing nations, terrorist prone areas etc.).
As can be seen certain characteristics of countries considered as high-risk for underwriting/insurance fraud purposes are similar to those of countries which may pose a high money laundering or terrorist funding risk.
- Past transactions (insurance history) examined with each application, top-up. Thus abnormal behavior identified (e.g., numerous small policies taken out in a short period of time, frequent surrenders, cancellations, excessive premiums etc.). Such abnormal behavior patterns are also indicators of potential suspicious money laundering transactions.
- Business monitoring to identify changes in purchasing patterns, abnormal client/intermediary behavior and to monitor quality and persistency of business.
Thus, it can be seen that certain aspects of financial underwriting/prevention of insurance fraud fit in perfectly with AML/FT measures since high-risk (ML & FT) situations have similar characteristics of high-risk or abnormal (financial underwriting) cases such as:
- Un-reasonableness of transactions
- Excessive payments, number of transactions
- Abnormal client/intermediary behavior
- High-risk clients/jurisdictions
So basically we like to poke our nose into other people's personal affairs and this might scare away potential criminals as they have a natural allergy to someone who meddles in their affairs. Too many questions asked for the liking of a money launderer? Probably.
Additional Low Risk Factors—Distribution Channels
Insurance business is mainly an intermediary driven industry where intermediaries are in direct contact with the client (insurers do not actually usually get to meet the client) and have always carried out their own type of KYC measures which are basically required so that they know the client and give the best insurance advice to their clients.
From an AML/FT point of view intermediaries are an insurer's first line of defense as they are better placed to establish a realistic client profile
From an AML/FT point of view intermediaries are an insurer's first line of defense as they are better placed to establish a realistic client profile and to notice changes in client's behavior/economic profile since they actually get to meet the client (and possibly also meet his family or business associates) conduct visits to his home/office and stay in touch in order to hopefully sell more business, as the client's circumstances and hence requirements change.
However, we are only as strong as our weakest link. This is the reason why it is important that insurers provide the necessary training and guidance to intermediaries even though intermediaries are equally responsible to comply with AML/FT legislation.
Moreover, although it will obviously change from one market to another most of single premium type business (product with highest money laundering risk) is usually sold by banks—thus further reducing potential risk, because:
- Premium is paid direct from bank account e.g., compared to cash payments.
- KYC/Source of funds/wealth established by bank (client will have existing personal/business bank account, credit card, bank loan, business overdraft, other investments).
- (Reputable) banks are committed to dedicate sufficient resources to ensure adequate AML/FT measures and full compliance.
Conclusion—The Challenges Ahead
At these times of financial crisis there might be some increased pressure on compliance officers/MLRO to relax (AML/FT) requirements in order to retain existing business, to secure new business and to protect shareholder value.
It might prove difficult to resist such demands form our Lords and Masters, who at the end of the day pay our salaries; however, one must have the courage to stand up and be counted because giving in to unreasonable demands might develop into a real threat to the organization bringing with it potential legal, reputational and operational risks.
And we all know on whose door our Lords and Masters will come knocking if your organization is caught up in a money laundering investigation or are subject to criticism from the regulator!
Forced cost cutting in the AML/FT and compliance areas (e.g., training) might also prove to be a threat.
Getting the Regulator on Board—Taking a Risk-Based Approach vs. Actual Money Laundering Cases
Due to its nature, the risk of money laundering in the (life) insurance industry is different than in other industries and so the level and type of AML and FT measures in the insurance industry should be based on the level and type of the perceived money laundering and funding of terrorism risks related to (life) insurance transactions.
Therefore, it is vital that the level of an insurer's AML and FT measures to be expected by regulators should ideally be reflected somewhere in the relevant legislation (or in any IAIS guidelines) and should take into consideration (i) a realistic analysis of the appropriateness (and hence probability) of life insurance products for money laundering/funding of terrorism purposes and (ii) the actual number of real life cases of money laundering and terrorist funding, which involved an insurer, reinsurer or insurance intermediary.
EU 4th Prevention of Money Laundering and Funding of Terrorism Directive?
FATF is currently reviewing the 40 + 9 Recommendations, and, therefore, we shall await with interest (and perhaps justified trepidation) the outcome of this review and in particular how national laws/EU directives will be affected.
I wonder what real effect on the fight against money laundering and funding of terrorism the current AML/FT legislation such as the EU 3rd Directive actually had. Any thoughts?