Corporate due diligence and beneficial owners - what the EU did next

A recent decision by the ECJ arguably contradicts two decades' worth of anti-money laundering initiatives. Where does this leave investors and the teams conducting due diligence on their behalf? Emily Kupers, a forensics and business intelligence consultant at Gateley Omega, discusses what lies ahead.

Since its inception, the beneficial owner register requirement of the EU's Money Laundering Directive has divided opinion. For the people and entities whose data was now accessible to the public, it represented intrusion at the click of a button and with little cost or reason.

However, for those countering money laundering and terrorist financing, it proved invaluable in navigating the complex relationships of multi-jurisdictional businesses and understanding who really pulls the strings.

The risk and compliance community was, therefore, justifiably surprised when the European Court of Justice (ECJ) recently declared invalid the provisions ensuring public access to beneficial ownership of legal entities, which it labelled "a serious interference with the fundamental rights to respect for private life, and to the protection of personal data." Given the increasing scrutiny of regulatory compliance in the UK, for many investors this announcement could not have come at a worse time.

Taking the Fifth

The UK's due diligence requirements are transposed from the EU's fourth and fifth Money Laundering Directives (4MLD and 5MLD), which were adopted in 2017 and 2020 respectively. Obliged entities must conduct, and provide evidence of, appropriate levels of due diligence at various stages of the client relationship, but particularly when onboarding.

Under 4MLD, the mandatory creation of a national registry of beneficial owner information would facilitate due diligence. 5MLD made it available to the public.

Not everyone appreciated the additional resource, time and money required to meet these obligations.

There were also numerous instances of objections levelled against the national registers by beneficial owners, who resented the public's heightened level of insight into their affairs. These often manifested as requests for exemption.

In Luxembourg, for example, individuals and entities made a total of 2,049 exemption requests following the launch of the Luxembourg Business Register in 2019. By February 2022, only 40 per cent of these had been accepted.

One such failed request has since triggered the ECJ's investigation into, and decision on, access to beneficial owner registers.

According to a statement released by the ECJ, it questioned whether indiscriminate, open access represented "a disproportionate risk of interference with the fundamental rights of the beneficial owners concerned", and whether the benefits to anti-money laundering initiatives outweighed the potential contradiction of Articles 7 and 8 of its Charter of Fundamental Human Rights. The results came in: the benefits do not outweigh this.

Step forwards or knock backwards?

Following the decision, several member states - including Luxembourg and the Netherlands - have taken their registers offline. This removes a significant weapon in the fight against money laundering, and a key tool for facilitating comprehensive due diligence.

In addition to unravelling complex business structures - such as the offshore accounts exposed by the Panama Papers - beneficial owner registers can unmask fraud, corruption, and conflicts of interest, and help compliance teams identify the associated risks of potential clients. 

For example: the Luxembourg Business Register was a key player in identifying the beneficial owners of a major corporate shareholder in a German real estate company that was accused of selling properties below market value. The shareholder's owners included three relatives, one of whom also happened to own the real estate company to which the under-valued properties were sold.

Transparency groups have also used registers to hold public officials and big business to account. In addition to the revelations of the Panama Papers and the FinCen leaks, registers have helped groups expose corrupt politicians as sole beneficiaries in funds owning shares in national conglomerates.

Such exposés have been recognised by the ECJ, which accepts access to registers must still be available to parties with a legitimate interest. We do not yet know how ‘legitimate interest' will be defined, but the ECJ has mentioned that civil society and the media will both continue to have access. 

Nevertheless, compliance teams should expect delays, and start to plan accordingly. For those relying on beneficial owner registers as a key source of information, now is the time to consider engaging the expertise of professional investigators, who can propose legitimate alternatives.

Paid-for databases, corporate registers, annual filings, media reports, social media accounts and interviews are all useful, but the cost, labour and scrutiny required to analyse these data mean it is highly unlikely that in-house compliance teams will be able to manage without support.

Public access to beneficial ownership databases may be suspended, but due diligence requirements are not. Businesses must therefore develop contingency plans now to meet their obligations, without a key tool in their inventory.

By Emily Kupers, a forensics and business intelligence consultant at Gateley Omega, which provides specialist forensics and business intelligence services for individuals and businesses.