NOVEMBER 20, 2010

http://online.wsj.com/article/SB10001424052748703531504575625060985983720.html

Moves By Largest Lenders Could Strain Relations Between U.S. Government and Other Countries

PALAZZOLO And VICTORIA MCGRANE

Some of the nation's largest banks are exiting or scaling back their dealings with foreign embassies and missions in the U.S. because of the burden of complying with money-laundering regulations.

The moves could strain U.S. foreign relations. The State Department said that about 40 countries have been affected, 16 of which are African nations. The department next week will host a briefing by banking regulators for the heads of embassies and missions affected. A spokesman said the department is fully engaged in the issue, seeking a solution to what it sees as a problem that could have implications for U.S. diplomacy and security.

"It's a commercial decision, but clearly it has ramifications for diplomatic relations," said Mark Toner, acting deputy spokesman for the State Department. "We want these foreign missions to be able to carry out their normal diplomatic functions here in the U.S."

In at least 150 letters sent Sept. 30 addressed to ambassadors, J.P. Morgan Chase & Co. said the bank "has made the decision to close its division that serves diplomatic and foreign government entities." The bank said the decision "does not reflect on your organization" and only affects business accounts, not personal accounts. The bank set a March 31, 2011, deadline for the closure of accounts, according to a copy of the letter.

Embassies are like small businesses for banks. They use services like cash management and payroll management, and take out loans.

Citigroup Inc. is contemplating severing ties with some embassies, while Bank of America Corp. and HSBC Holdings PLC's HSBC Bank USA already have started doing so, according to people familiar with the matter. Bank of America informed the Angolan Embassy in Washington in late October that it would close its accounts, which it did Nov. 9, the State Department said.

Speaking on behalf of all Angolan diplomatic missions, Ambassador Ismael A. Gaspar Martins, head of the Angola mission to the United Nations, said the bank account closures strain its relations with the U.S.

"It creates a situation which we were never expecting, especially because diplomatic missions are supposed to be protected," he said. "Without bank accounts, we find it very difficult to function."

Citigroup said it doesn't comment on its business relationships with specific embassies. HSBC said it conducts some embassy banking but wouldn't comment on future business plans. A Bank of America representative said, "we cannot comment on specific client relationships" but "we are actively committed to providing banking services for diplomatic communities."

Renewed emphasis from lawmakers and regulators to enforce money-laundering regulations has raised costs for banks, which historically enjoyed the prestige of dealing with foreign countries and dignitaries.

"It's not worth it to them," said Edwin M. Truman, a scholar with the Peterson Institute for International Economics who has studied money laundering. "Unless they're in it for the wrong reasons, they don't make a lot of money off these accounts," he said.

Mr. Truman said he is surprised that it has taken banks this long to start pulling out of business with certain countries. He pointed to a 2004 report spearheaded by Sen. Carl Levin (D., Mich.) that disclosed that Riggs National Bank in Washington, which had significant embassy-banking business, had helped former Chilean dictator Augusto Pinochet hide millions of dollars. That incident essentially brought the bank down.

HSBC bought a considerable part of Riggs's embassy business in 2005, and a short time later added Wachovia Corp.'s embassy-banking business. Last month, the Federal Reserve and the Office of the Comptroller of the Currency ordered the British bank to improve its money-laundering compliance at its U.S. banking subsidiary, though embassy banking wasn't mentioned in HSBC's consent order.

Still, "everybody among the large banks took notice" of the consent order, said a person familiar with the matter.

In the wake of the Sept. 11, 2001, terrorist attacks, the U.S. adopted policies to crack down on corrupt regimes and other illicit activity. Since then, pressure has been building on banks from lawmakers and regulators to comply with these rules, though the financial crisis shifted priorities. The enforcement action signals a return of U.S. banking regulators to matters of cross-border banking activities.

Banks have to identify clients, called "know-your-customer" rules, and track the source and purpose of financial transactions. If they can't verify deposits or transactions, banks have to file reports on suspicious activity with the Financial Crimes Enforcement Network.

The 2001 Patriot Act strengthened laws, making it an offense to knowingly accept the proceeds of foreign corruption. The law also requires all U.S. financial-services firms to establish money-laundering programs and to beef up scrutiny of private banking accounts opened for senior foreign political figures, their relatives and close associates.

"If we want to credibly lead efforts to stop illegal money abroad—corrupt proceeds, terrorist financing, drug trafficking and more—we've got to enforce our own high standards here at home," said Sen. Levin in a statement.

Sen. Levin, who is chairman of the U.S. Senate Permanent Subcommittee on Investigations, has been investigating banks' compliance with anticorruption laws for the last decade. In reports and hearings, Sen. Levin has criticized regulators for not doing enough to enforce laws on banks.

Regulators, including the Federal Reserve and the Office of the Comptroller of the Currency, appear to have responded to the pressure from Mr. Levin. His committee's most recent report, from February, found that since 2005 U.S. bank regulators have "strengthened" their oversight of money-laundering compliance at the banks they oversee.

"We haven't discouraged national banks from providing services to embassies," said an OCC spokesman, but the agency is committed to ensuring banks have the proper controls in place.

The report also criticized Bank of America and HSBC for failing to flag accounts with a high risk of money laundering, including those used by an Angolan arms dealer and the Angolan Central Bank.

A Bank of America spokeswoman described the matters investigated by the committee as "historical instances." She said the bank now uses "substantially more rigorous and sophisticated money-laundering detection procedures." HSBC declined to comment.