The real estate industry is exposed to corruption, money laundering, and sanction risk. These are key international risk areas for any global business, particularly those investing or operating in high-risk jurisdictions. In addition to meaningful enforcement concerns, the potential reputational harm that accompanies these risks should not be underestimated.
It is imperative that real estate owners, developers, and investors take sufficient actions to assess these risks prior to investing, to implement corresponding controls to mitigate the risk, and to monitor the investment’s activity on a regular basis.
While large real estate companies have formed the Legal and Compliance Initiative Real Estate Group in order to set responsibilities and standards to detect suspicious transactions, many other organizations remain vulnerable to money laundering. Further, the construction and property development industries tend to be corruption-prone.
Regulators that enforce anti-bribery, sanctions, penalties, and anti-money laundering laws will review a company’s compliance program, such as self-reporting, cooperation, and other corrective measures.
Asset owners, developers, and investors typically are not located in the same geographical location as the asset and thus rely on local third-party property managers or local joint venture partners. Third parties may be required to interact with government officials for a variety of reasons, including negotiating contracts, obtaining construction and development permits or environmental approvals, overseeing inspections, and meeting the requirements for daily operation.
Nearly all corruption cases brought by the United States Department of Justice (“DOJ”) and the U.S. Securities and Exchange Commission (“SEC”) involve third party behavior.
The Financial Crimes Enforcement Network (“FinCEN”), which is a bureau of the United States Department of the Treasury, announced the renewal of its Geographical Targeting Orders (“GTOs”) that requires U.S. title insurance companies to identify the ultimate beneficial owners of limited liability companies (“LLCs”), partnerships, and other legal entities in all-cash real estate purchases.
If a property manager, asset manager, environmental consultant, or any other third party pays or has the intention to pay for a bribe, a real estate owner, developer, or investor could be exposed to liability pursuant to global anti-corruption laws.
Over the recent years, U.S. authorities have investigated real estate investors and their employees for allegedly making payments to government officials in order to construct and sell properties as well as the use of third parties to bribe, launder money or evade economic sanctions.
The reality of holding an asset tainted by corruption extends much further than legal liabilities. The financial and reputational damage from investigations, assets that cannot be sold, and the mere appearance of impropriety can destroy investment value.
Moreover, actors, including sanctioned individuals and entities, normally attempt to launder ill-gotten gains, including the profits of corrupt activity, through disguised property investments. Sometimes it is easy to cover up the final beneficiaries and owners of a particular asset through intermediate entities. This exposes real estate investors to the risk of unintentionally facilitating illegal money laundering.
FinCEN cites an increased assessment of money laundering through U.S. real estate purchases as one of the drivers of its regulations. Thus, the bureau has increased due diligence requirements.
Real estate organizations are held responsible for due diligence and assessment of the risk of whether a commercial real estate transaction may be part of a money laundering scheme of terrorist financing.
In addition, organizations must pay attention to the economic sanctions programs, including those administered by the U.S. Office of Foreign Assets Control (“OFAC”), which is a financial intelligence and enforcement agency of the U.S. Treasury Department. Regulators are focused on ensuring that sanctioned individuals and entities do not evade those sanctions through use of third-party asset holding companies.
Even though the real estate industry has an increasingly high-risk of compliance threats, parts of the industry still consider compliance as a subordinate topic.
Despite the fact that there is no legal obligation to conduct purchaser due diligence, the duty to ensure the legitimacy of funds in a transaction is not eliminated. Actually brokers, escrow agents, and other real estate professionals are encouraged to voluntarily report suspicious real estate transactions.
A background check can provide a near-comprehensive view of who the real estate entity is, where it has been, and whether it is worthy of the high level of trust involved in the business. A background check may detect corruption, money laundering, or sanctions.
An effective and robust compliance program may detect and prevent a high-risk transaction, or at a minimum avoid liability from a dishonest third party.
A real estate business must have compliance programs, internal controls, background screening, and due diligence processes to follow laws and regulations and to protect their clients’ best interests.
Real estate organizations with robust compliance controls and monitoring, can effectively manage risks, and inspire confidence and trust from their clients.