It can be hard for regulatory agencies to admit when they’ve made a mistake. But that’s exactly what FinCEN did last week when it announced that certain loan renewals and modifications would not trigger its beneficial ownership due diligence rule (the "Rule"), reversing its earlier guidance on the subject. FinCEN’s change of heart is welcome relief for the industry, which decried FinCEN’s earlier position as failing to meaningfully advance any law enforcement goals while imposing unnecessarily costly new requirements to conduct due diligence in connection with already established loans with known business customers.
The Rule requires financial institutions to take various steps to verify the identity of beneficial owners of corporations, LLCs, and other legal entity customers who open a “new account” (such as a loan, deposit account, line of credit, etc.). In particular, the Rule requires financial institutions to "look through" certain types of entities and gather information about the individuals that own and/or control them. The overall purpose of the Rule is to improve financial transparency and prevent criminals and terrorists from hiding behind the opaque curtain of corporate ownership to disguise their illegal activities. And since bankers are already accustomed to Know-Your-Customer obligations, much of what was contained in the Rule wasn’t all that controversial (aside from adding yet another layer of compliance and cost).
Where FinCEN found itself at odds with the industry, though, was when it issued a set of FAQs interpreting the Rule stating that a “new account” is considered to be opened “each time a loan is renewed.” This unduly broad language put every kind of loan renewal, modification, and amendment (including those involving known, established customers) on the same footing as completely new loans with unknown borrowers. For instance, even the simplest loan extension would have require a bank to conduct due diligence to confirm that a company or other entity still wasn’t affiliated with terrorists, even if the bank had a longstanding relationship with that particular borrower and its owners. Cue the bankers wielding torches and pitchforks arguing this interpretation simply was not practical.
Shortly after FinCEN's FAQs were published (and the industry outcry), FinCEN hit the pause button on imposing these requirements on loan renewals and modifications, so that it could further study the issue and gather more industry feedback. After some initial deliberation, FinCEN extended its temporary relief a second time, before finally issuing an administrative ruling on September 7, 2018, granting more permanent relief.
Under FinCEN’s latest ruling, financial institutions are relieved from the Rule’s requirement to identify and verify beneficial ownership information as a result of “loan renewals, modifications, and extensions (e.g., setting a later payoff date) that do not require underwriting review and approval” and “commercial line of credit or credit card account renewals, modifications, or extensions (e.g., setting a later payoff date) that do not require underwriting review and approval.”
Of course, this does not apply to the initial opening of any of these types of accounts, which remain subject to the Rule and standard AML responsibilities. Also, these changes obviously do not provide complete relief from the Rule for every loan renewal or modification. For instance, extensions of the payoff date should not trigger the Rule’s due diligence obligations. However, more comprehensive loan modifications that require new underwriting (presumably those where loan amounts are increased, borrowers are substituted, etc.) apparently will require the lender to undertake beneficial ownership due diligence, presumably since these changes bear greater similarity to opening a new account and pose a greater risk of abuse by criminal elements.
Overall, the recent FinCEN ruling is a breath of fresh air for an industry already under heavy regulation. Lenders can rest easy knowing that, at least for now, the Rule will not apply to the standard loan renewals, modifications, and extensions discussed above. FinCEN's willingness to entertain comments from the industry provides just one example of how the regulators and the industry can work together to reach practical and commonsense rules.
 For purposes of this post, we will focus on loan renewals and modifications, but note that FinCEN's reversal also applies to certain certificate of deposit rollovers, line of credit or credit card account renewals, modifications, or extensions, and safe deposit box rental renewals.