Private Equity Firms In Terrorism Battle

Private equity firms have been warned that they probably are regulated by the 2001 federal law designed to trace the flow of funds and prevent money laundering by terrorist groups. The alert by PricewaterhouseCoopers says that the USA Patriot Act likely impacts the way the firms raise and invest money. “Private equity firms generally fall within the Patriot Act’s broad definition of financial institutions,'” according to the accounting firm’s Issues Update publication. “As a result, they are likely to be subject to mandatory know your investor’ and know your customer’ rules presently imposed on banks.” Application of those rules would require LBO sponsors to know exactly who is placing money with them and to vet the people running, owning, and holding board seats at the companies in which they invest. “Aside from the technical requirements of the Patriot Act, no private equity fund can afford the reputational and legal risks of associating with any fund investor or investment target engaged – either directly or indirectly – in terrorism, money laundering, or other opaque or illegal activities,” Issues Update said. “Common sense dictates that private equity firms get ahead of the curve and adopt appropriate know your investor’ procedures.'” At minimum, the Patriot Act requires financial institutions to adopt necessary internal policies, procedures, and controls; name a designated compliance officer; create an employee training program; and establish independent audits to test whether the program is working. On the fundraising side, the Update stated, private equity firms must investigate and determine the source of all money raised by their funds, the occupation and corporate affiliations of investors, and all lending relationships of each investor. The inquiries would be conducted “with an eye toward rejecting those who deal with financial institutions linked to terrorist organizations.” On the outgo side, the Update said, “we expect that private equity firms will be subject to know your customer’ rules when they invest in target companies.” “These rules would require a firm to make inquiries into the nature of a company and its officers, directors, and shareholders. Private equity firms will have to satisfy know your customer’ requirements before they can expect to obtain financing, since banks – already subject to such rules – will require that their private equity borrowers conduct the same kind of customer due diligence banks do in order to satisfy their own obligations.” The Update noted that Fannie Mae requires borrowers to certify that none of the principals in an investment is associated with terrorist groups listed by the government. Regulations implementing the Patriot Act are scheduled to be issued later this year.