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Thoughts around banking risk in the precious metals space as it relates to the request received by FTB

It is exciting to know that an answer exists for one of the biggest questions in the precious-metals world today, and that is “when is it my turn to get a discontinuance letter from my bank”. As recently as January of this year, I assisted a well-established pawnbroker in Los Angeles on her quest to find a bank after she got her letter from Wells Fargo. She had gotten the same letter from Bank of America two years prior.

Two weeks, and twenty-six (26) banks later, she was able to find one that would bank her (for now). That being a Home Street branch several miles away from her store. Her family owned and operated store has been established since 1955 and is one of the most well-known shops in the Los Angeles area.

Upon finding that there was a bank willing to take pawnbrokers as clients, I instructed a client of mine with 4 stores in the Riverside and Orange County areas to give Home Street a try. Two days after the first store was approved, he walked into a different branch (closer geographically to him) and they turned him down. So, in his case, it is not a bank issue, it is a branch issue. It also tells me that my first client in Los Angeles, needs to keep looking for a back-up before she gets the dreaded letter from Home Street which is all but guaranteed.

When the country is not in lockdown due to a virus, I regularly speak at and attend conferences that focus on the pawn industry. I hear the same concerns all year long, and get the same questions from business owners when they get document requests from their banks. We have regions of the country that seem more prone to discontinuance (regardless of the bank) and we see banks that are doing their EDD right now when it comes to AML compliance. Bank of America in particular has been sending out an unusually high number of AML document requests to pawnbrokers over the last 2 quarters.

An additional concern of mine is that the BB&T merger with Sun Trust has gone through forming Truist Bank. BB&T was one of the best options for pawnbrokers on the East Coast as they would perform the extra Due Diligence required for Cash Intensive businesses. I had some fairly regular interactions especially with branches in Florida. Sun Trust on the other hand has issued press releases about not being friendly to pawnshops in particular. So now that BB&T has merged with Sun Trust, what is to come of the hundreds of banking relationships that at one time were safe for pawnbrokers? What is to come of those who may have credit lines that may be termed out leaving the business in a very tight spot?

Unfortunately, the banks have been horrible communicators to their customers the last several years. I have yet to hear of a pawnbroker that was given a reason why the bank closed their account. Branch Managers, who use to have a great amount of persuasion generations ago, now have much less to say and even less influence in these matters. They almost as a rule blame the head office or the compliance committee for the decision. Ironically, the discontinuance letters all start with some worthless statement about how much the bank has appreciated doing business with the particular customer. This is akin to getting a break-up note at recess when we were kids. No explanation, just pack your bags and get out. You have 21 days to find a new account.

We know of course that the OCC is on record on more than one occasion of pushing back against the wholesale discontinuance of an entire industry. Thomas J Curry on March 17, 2014 when speaking before the ACAMS folks said “No matter what type of business you are dealing with, you have to exercise some sound judgment, conduct your due diligence, and evaluate customers individually. Even in areas that traditionally have been viewed as inherently risky, you should be able to appropriately manage the risk. This is basic risk management, and that’s a business that the institutions we at the OCC supervise excel at. You shouldn’t feel that you can’t bank a customer just because they fall into a category that on its face appears to carry an elevated level of risk. Higher-risk categories of customers call for stronger risk management and controls, not a strategy of total avoidance. Obviously, if the risk posed by a business or an individual is too great to be managed successfully, then you have to turn that customer away. But you should only make those decisions after appropriate due diligence.” (Emphasis mine)

A few months later, on October 23, 2014, FATF states clearly, “De-risking should never be an excuse for a bank to avoid implementing a risk-based approach, in line with FATF standards. The FATF Recommendations only require financial institutions to terminate customer relationships, on a case-by-case basis, where the money laundering and terrorist financing risks cannot be mitigated. This is fully inline with AML/CFT objectives. What is not in line with the FATF standards is the wholesale cutting lose of entire classes of customer, without taking into account, seriously and comprehensively, their level of risk or risk mitigation measures for individual customers within a particular sector.” (Emphasis mine)

Clearly the issue is still ongoing because on July 22, 2019 a joint statement was issued from the Board of Governor’s of the Federal Reserve System, FDIC, FinCEN, NCUA, and the OCC. The statement was put forth to emphasize the risk-focused approach to examinations of banks BSA/AML compliance programs. They go on to say that their statement “aligns with the federal banking agencies long-standing practices for risk-focused safety and soundness examinations.” In part, the statement reads, “Banks that operate in compliance with applicable law, properly manage customer relationships and effectively mitigate risks by implementing controls commensurate with those risks are neither prohibited nor discouraged from providing bank services. As the federal banking agencies have previously stated, banks are encouraged to manage customer relationships and mitigate risks based on customer relationships rather than declining to provide banking services to entire categories of customers.” (Emphasis mine)

So it is clear that those in the position to regulate banks are telling banks NOT to discharge entire industries. Rather they are to mitigate the risks that may or may not be inherent in those industries. They are NOT to just tell folks over the phone when asked, “I’m sorry but we don’t give accounts to pawnbrokers.” In fact, Comptroller Curry advocated that it was the banks responsibility to actually engage that customer through a more robust system of checks and balances until it was clear that the bank could not mitigate the risks of the relationship and at that point, the customer would be set free.

What is missing in all of these statements from the banking regulators and FinCEN is any form of enforcement. It seems as though while the banks are being told (quite clearly) to not engage in the wholesale elimination of industry specific banking relationships, they are doing so with no consequences. Nowhere is this more prevalent than in Los Angeles, CA as I write this document.

What can be done? In my mind we need to engage the pawn industry head on. They need to know that there is at least one banking option for them if they would like to enter into a dialogue. This dialogue needs to clearly and unambiguously spell out WHY exactly pawnshops are viewed as high risk. They need to understand that there are real, and perceived, reasons for their plight. They also need to know what needs to be done to counter these hurdles to the best of their abilities. They need to be aware of the behaviors that will eliminate them from any further banking relationships, and the activities that they need to steer clear of in order to maintain their banking relationship. They need to know that it is no longer 1980. They will be required to provide regular documentation to the bank. They need to know that the impression by the bank that the business is not engaging will put them at risk of losing the one banking option they have. Help the pawn community know that they MUST put forth effort and this effort will be ongoing. They need to know that the time and energy required from some customers will be more than for others, based on the individual risk they represent to the bank. Those who choose to engage in MSB activities will have a great many more hurdles to overcome than those who do not. Those who have higher volumes of activity and do higher dollar loans on average will come under more scrutiny than those who do not. Those who engage in a higher percentage of coin/bullion transactions as a part of their businesses will have to answer more questions and provide more frequent reports to the bank, etc…

From my experience across the country, with literally hundreds of pawnbrokers, they are more than willing to meet the requirements of the bank. They just need to know what those are. It is impossible to play by an invisible set of rules, and therefore we need to bring the playbook to them so they can have every opportunity to play by those rules.

Pawnbrokers are very heavily regulated in one sense. Meaning, there are lots and lots of rules. The problem is that enforcement is sporadic and limited at best. In the state of California, for example, the legislature writes the rules. Local law enforcement is the one to mete out citations. Without exception, local law enforcement looks at pawn shops as a solution to their problem of reacquainting stolen items with property crime victims. In a large number of jurisdictions, the only time a police officer enters a pawnshop is to confiscate an item that has been reported stolen. Ergo, the police officer becomes conditioned to believe that everything in the shop is stolen, but it just hasn’t been reported yet. This is clearly not true. In fact, the average rate of police confiscation across the country is .05%. This means that of all items reported to the police as a requirement by the police, only .05% are actually reported stolen and therefore subject to confiscation. 1 out of 2,000 transactions. Yet, we have this misconception about pawnbrokers that continues. Even though the data is there to prove otherwise, the public and those in legislation believe that pawnbrokers are all fencing operations.

FinCEN lists all enforcement actions taken since 1999 on their website. When filtered for precious metals dealers, there is only 1 case that is noted, and that in 2015. I know of no other pawnshop or group of pawnshops that have been successfully litigated against under BSA regulations. When one filters out all other entities but depository institutions, 41 are named. There are 10,000 pawnshops in the country at any given time. Only one caught the attention of FinCEN. Yet, the depository institutions who have been cited 41 more times by FinCEN are the ones telling the pawnbrokers they can’t have accounts since they are such a high risk. I am quite certain that the depository institutions cannot articulate why this is so. The fact that pawnbrokers use cash and deal in precious metals is all it takes to get them on a list with parking garages and liquor stores.

So what do I look for and what do I think banks should be watching?

  • Does the customer have an AML program in place
    • If yes
      • Is the material in the AML program current and does it accurately reflect the business as a whole
      • Are staff trained with the guidelines noted in the program and do those guidelines match industry standards and BSA regulations
        • Initial training is done of all appropriate staff within 30 days of hire (industry standard since BSA says as soon as possible after hire)
        • Refresher training is performed annually and is current
        • Documentation for training is complete and representative of what was covered, who attended, and who provided the training
      • Does the business entity endorse the AML program and the Compliance Officer?
        • If yes, is this memorialized in the corporate minutes?
      • Is the Compliance Officer designated by name within the AML program
      • Is the AML program complete and does it deal with all BSA/AML requirements?
      • Is recordkeeping complete and accurate?
      • Is the AML program ‘risk-based’ as required?
      • Is the risk assessment current? To what date?
      • Does the risk assessment match any external audit reports?
      • Does the Compliance Officer seem to know their way around the AML program?
      • How many years of experience does the Compliance Officer have and are they certified CBAP or CAMS
  • Is the business in a HIFCA or HIDTA designated area and does that matter?
  • What is the population base served by this business?
  • What is the makeup of the actual customer base?
    • Are they mostly local?
    • What is the percentage of transient folks that use the services?
    • What is their geographic range of customers?
      • Ex. Is there a casino nearby that draws people from further away than if you have only a 5 mile radius because you are rural?
    • How much exposure does the business have to foreign nationals? (San Ysidro vs Redding)
    • Individuals only or do they deal with businesses too (this would be a first but deals with the beneficial ownership piece)
  • What is the average transactions amount?
  • What is the makeup of their transactions? (loans versus buys)
  • What is the default ratio of their loans?
  • What is the actual police confiscation rate?
  • How long has the store been in business?
  • What is their customer turnover rate (if that is easily determined. Some software can and others can’t provide this information)
  • What are the cash handling procedures like?
  • What is overall security assessment of the business?
  • How much cash does the store keep on hand?
  • How much cash on hand insurance do they have?
  • Are records retained as required?
    • Securely?
    • Easily produced?
  • Are they familiar with SDN lookups?
    • What is the current procedure for new customers and OFAC?
    • What is the procedure for known customers and OFAC?
    • What is the frequency of potential matches?
      • What name match % do they use? (85% is industry standard)
    • What is procedure if they get a potential match notification
    • How is all of this documented or proven
  • What is the frequency of retail sales in excess of $10,000 annually to a single customer?
  • What is the frequency of Loan redemptions in excess of $10,000 to a single customer
    • At one time?
    • Over a 365-day rolling period if related transactions?
  • What is the policy with regards to large transactions? Is there any cutoff for the amount of cash and what would be the procedures in that instance?
  • How many 8300 forms in the average year?
  • How many SAR’s in the average year? (Strictly voluntary for precious metals)
  • How do they track high dollar transactions for SAR pattern tracking if at all?
    • Manually?
    • Software reporting?
    • Thresholds in place?

There is more that could be put in place, but that is based on the banks requirements. I find that historically, the average pawnshop encounters high dollar transactions very rarely and so they stand out. They rarely if ever file SAR forms, and may file 2 or 3 8300 forms a year. The average pawn amount is $175 across the country, so we are talking about small amounts. In the south, that number is under $100 because of the high interest rates charged.

Pawnbrokers are small money lenders. They are only licensed to do collateralized loans and are by definition non-recourse lenders. The vast majority of their business is small loans to un-banked or under-banked individuals who live paycheck to paycheck. This number is 20% or more of the US population. They tend to see their customers regularly and get to know them very well. It is easy therefore to identify when stories do not line up and EDD needs to kick in. It is not uncommon for customers to multi-generational. In my store for example I had four generations all loaning with me. It is all they knew, and this is common.

Pawnbrokers by and large represent a very small risk to any bank, and I believe we could mitigate that easily by the use of Google form type documents where the information is presented to the pawnbroker for their completion. Follow-up meetings can be had as required based on the risk matrix put in place by the bank.

I look forward to further conversations and hope that this information has been helpful in some way.

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