Regulatory Compliance and Money Laundering: 3 Laws That Strengthen Sri Lanka

Updated On : May 2020

The increasing focus on governance and regulation has made compliance an important factor. The failure to maintain compliance poses more than just financial risk which involves financial penalties or a possible increase in charges, but it also poses a serious business risk damaging the bank's reputation. It is crucial to be able to manage global compliance issues, risks and opportunities and have firm control.

In Sri Lanka, the introduction of Basel III and International Financial Reporting Standard 9 (IFRS 9) regulations have helped the banking sector to bring in huge changes in the way business is done. The capital requirements have become stronger and are pushing non-banking financial institutions (NBFIs) to consolidate, with a range of new rules collated for the country's emerging fintech industry. These new rules comprising of frameworks and procedures leaves lenders in a stronger position going ahead, in their capacity to meet and deal with new shocks, and in their capability to grow business and build functionality across the country.

International Financial Reporting Standards (IFRS) is the international accounting framework which is used to appropriately organise and report financial data. IFRS 9 or its Sri Lankan equivalent of SLFRS 9 needed banks to change their provisioning models from incurred credit loss accountancy method to the expected credit loss method, which is a more advanced approach that requires financial institutions to identify current business drivers and design the impact of possible future scenarios on their company. Banks and Non Banking Financial Institutions are required to analyse the credit losses which are expected, for the following 12 months and for the entire life cycle of all their non performing or performing assets.

In the global financial crisis of 2007-08, the International Accounting Standard 39 were deemed inadequate in preventing recession. The earlier regulations had a system of fair value which led to delays in recognizing financial losses. The old system was about traditional, retrospective accountancy where the results of past actions were evaluated while the new system looks ahead and prioritises real-time assessments and the estimation of future risks. For IFRS 9, with processing getting heavily loaded, automation needs to come to replace the manual systems.

The old system placed assets under four major categories, which got reduced to two under IFRS 9; assets measured at amortised cost and those at fair value. The new rules also measure banks' equity investments at fair value – which was earlier not required. Overall, IFRS 9 requirements call for an increase in loan loss provisions.

Sri Lanka is fighting money laundering as a member of several regional and international bodies and as a result has passed various legislations to conform with the global requirements and standards. With the new regulations, Sri Lanka's financial institutions will become more secure and will be in a better position to take advantage of the latest technology.

Anti-money laundering policies include all the regulations and laws that require financial institutions to proactively screen their clients to prevent money laundering and corruption. The Sri Lankan Parliament has passed three acts to fight money laundering:

Prevention of Money Laundering Act No. 5 of 2006

• This Act was passed to ban money laundering in Sri Lanka and to offer the necessary measures to combat and prevent money laundering.
• The Act defines money laundering as "engaging directly or indirectly, in any transaction in relation to any property which is derived or realized directly or indirectly, from any unlawful activity or from the proceeds of any unlawful activity."
• The Act criminalizes "receiving, possessing, concealing disposing of, bringing into Sri Lanka, transferring out of Sri Lanka, or investing in Sri Lanka, any property which is derived or realized, directly or indirectly, from any unlawful activity or from the proceeds of any unlawful activity."

The Financial Transaction Reporting Act No. 6 of 2006

• This Act established the Financial Intelligence Unit (FIU), an independent institution within the Central Bank of Sri Lanka to act as the National Agency to collect information relating to suspicious financial transactions. This facilitates the prevention, detection, investigation and prosecution of the offence of money laundering.
• Through guidelines issued by the FIU, all financial institutions are required to maintain records of transactions and of correspondence relating to transactions for a period of six years from the date of transaction.
• Financial institutions are required to report any transaction exceeding Sri Lankan Rupees 1,000,000 to the FIU.

The Convention on the Suppression of Terrorist Financing Act, No. 25 of 2005 (CSTFA)

• This Act gives effect to the convention on the suppression of terrorists funding, and provides for matters connected therewith or incidental thereto

Crucial factors for Sri Lanka to stop money laundering

• With anti-money laundering regulations in the US and Europe being extremely stringent, criminals seek to move their money laundering activity to countries with laxed regulations. This adds pressure on financial institutions, regional financial investigation units and associated stakeholders to tighten their anti-money laundering (AML) practices.
• Sri Lanka is one of the blacklisted countries at risk of money laundering, on the European Commission's list.
• Even though Sri Lanka is not a major regional financial hub currently, with the upcoming Port City and the Government's initiative, it is vulnerable to money laundering and financing terrorism.
• The Financial Action Task Force (FATF) added Sri Lanka to its Public Statement entitled "Improving Global AML/CFT Compliance: On-going process," also known as the "grey list."
• Sri Lanka needs to immediately looks at addressing several vulnerabilities identified as key gaps, for immediate compliance - enhancing mutual legal assistance, issuing customer due diligence rules for designated non-financial businesses and persons, and improving risk-based supervision.