Financial Services Providers – the Israeli regulatory playground
Israeli Regulation on Financial Services Providers | 2019
- Financial Crimes Compliance
- Regulatory Compliance
- Securities Regulation
- The Financial Services Supervision Law – 2016
Last updated: JULY 2019
Background & History: Israeli Anti Money Laundering Regulation
In the year 2000, Israel had first issued its Anti Money Laundering Law – 2000 (Herein after: "AML law"). This was basically a criminal law setting 10 years imprisonment as a punishment for being involved in Money Laundering activity, and additional 10 years for performing any action (or default) that allows circumvention of the reporting obligations that were set out in the law. According to the AML law, almost all kinds of "Financial services providers" such as Banks, Insurance companies, stock exchange members, Portfolio managers and Investments Advisers etc. were now obligated to nominate a Compliance Officer that will be responsible for performing & delivering all the company's obligations under the AML law, including but not limited to: Identification & verification of all customers, performing documented KYC process and client risk classification, Monitoring client's activity, screening clients & counterparties against applicable black lists, Reporting transactions to IMPA (Israeli Money laundering Prohibition Authority) and more. A Compliance Officer is "A Statutory Position", which means that this position was established & created directly by the law and as a result bears responsibility for the Corporate's compliance with the law.
In Banks, according to BOI requirements the Compliance Officer function is in charge not only for the Financial Crimes Compliance but also for what is referred as "Regulatory Compliance" which basically ensures that the Bank is fully compliant with all other – non AML related – issues that relate to Bank-Customer relations such as fair disclosure, Conduct and handling & reporting of customer complaints.
When it comes to Money Laundering, there had been several legal cases in Israel and around the world, where certain bank clients were criminally accused of money laundering, While their Bankers were accused separately at facilitating reporting circumvention of their clients by not reporting alleged suspicious transactions to the regulator (the check is retroactive). In addition, The AML law had set an administrative mechanism that empowers the regulator to set sever fines on Money services businesses for any breach of the AML reporting requirements.
Although all reporting of client information and transactions is done directly to IMPA by all the Financial Services Providers, the actual enforcement of AML duties is done by several different Regulators, according to the type of financial service provided. This is caused by the unconsolidated Financial Regulatory structure in Israel.
For example, Banks & Credit card companies are regulated by the commissioner of banks in the Bank Of Israel, Insurance companies are regulated by the IMOF (Israeli Minestry of Finance) Portfolio Managers & Stock Exchange Members are AML regulated by the Israeli Securities Authority and Currency Services Providers (See below) are regulated by the registrar in the Ministry of Finance.
The rise and fall of "Currency Services Providers"
The legal definition of a "Currency Services Provider" (CSP) was also first established & created by the same AML law. This fact can give a sense of the risk seen in those currency services providers and their vulnerability to be exploited by their customers for the purpose of money laundering.
The original CSP occupation that the AML law had intended to regulate was the currency conversions & value transfers that are not executed by Banks. This was at the time aimed mostly to the exchange houses/"Casa De Cambio" industry and their type of activity. Over the years, few amendments were made and the CSP definition in the AML law had expanded to include other non-banks non-institutional non- regulated Financial Services Providers. This process had posed challenge to those other financial companies that were now regulated by a specific AML ordinance that was neither created nor designed for their type of financial activity (such as FinTech companies). In order to deal with this situation, a special committee was established in 2014 to examine the situation and had recommended a change in the financial regulatory structure. In 2015 The committee has published its recommendations and in 2016 a new financial legislation was introduced.
The new Financial Services Supervision Law – 2016
Financial Assets Services Providers | Credit Services Provides | Cooperative Banks
The new Financial Services Supervision Law (Regulated Financial Services) – 2016 was finally published by the Israeli Knesset on august 2016 with a promise to create a real regulatory revolution in the Israeli financial services market. The new law sets enhanced regulation that was derived (at drafting) from the Securities Law & the Banking Laws in aspects of investors/customers protection, fair conduct and disclosure, regulatory enforcement, financial stability, control permits etc. on all non-banks financial institutes, including Loan companies that offer plain vanilla credit (which were not regulated prior to the law). Whilst the new law upgrades those financial institutions to offer a wider variety of financial products and to become real alternative to traditional banks – It brings bad news on the regulation side, imposing stricter wider and more diverse regulation in addition to the Anti Money Laundering aspects. The new law also establishes a new appointed pro-active Financial Regulator ("The Commissioner of Regulated financial services") in the ministry of finance to handle the registration and enforcement.
"Currency Services Providers" – The end
The new law dismisses entirely the "Currency Services Provider" definition from the AML law and turns the financial license into either: Financial Assets Services Provider (FASP) or Credit Services Provider (CSP) – where credit aspects & services are involved. In addition, a recent amendment to the law sets grounds for the establishment of limited-scale Cooperative Banks and Credit Unions (that will be regulated by the same new regulator in the Israeli Ministry of finance and NOT by the bank of Israel like the traditional commercial banks). Considering the fact that new Banks had not been established in Israel for over 4 decades, this is also a big milestone for the competition in the financial services sector.
The Financial Services Supervision law (Regulated financial services) – 2016 got into force starting from June 2017, and from that date until May 2018 all formerly-known 'Currency Services Providers' will need to change their regulatory license to either a FASP license (Financial Asset Service Provider) or to a CSP (Credit Services Provider) according to their type of financial activity and meet all the new registration and ongoing requirements including new capital requirements & stakeholder's enhanced due diligence with a new license application. Those who will not apply for the new license will not be allowed to operate financially and will face criminal charges if otherwise. In addition, new regulation for P2P credit platforms & financial clearing companies is also underway and expected to be completed during 2017.
There is no doubt that the recent amendments to the regulation of the Financial Services industry will threaten existing small-players that will find it almost impossible to meet all the new Enhanced Regulatory Standards. However, in a wider perspective these amendments seem to indeed represent a financial revolution that – along with the effect of financial technology – will materially change the face of the financial services industry in Israel in the coming years.
Financial instruments Trading Platforms
Gambling platforms & Binary options are illegal in Israel. However Trading platforms/arenas are permissible, subject to a stricter regulation that had also been evolved recently. The Trading arenas (such as FOREX companies) basically allow their clients to trade a financial asset by selling high-leveraged contracts-of-differences on the underlying asset (such as: foreign currency, stock, Bond, Options or Future contract). Due to the fact that trading is done on the companies platform and the company is also the counter party for most of the clients transactions (client vs. Nostro) an inherent conflict of interests' problem arises.
For this reason and out of protection of investor's considerations, as of 2015 all activity of these Trading platforms is subject to registration and license from the Israeli Securities Authority (ISA). These requirements include capital & insurance requirements, client asset separation, financial conduct duties and off course a specified AML ordinance.
Looking at the fast growing Fintech industry, evolving to undermine and eventually replace the traditional banking system, one of the first things that any Fintech company will need to start from is opening a bank account. It is actually ironic that even the future so called competition cannot operate without the services of an old school Commercial Bank in order to execute its financial operations. Whether it is for the Tax authorities, Money transfer solutions infrastructure usage like SWIFT, MASAV etc., Handling employees paychecks or other supplier payments clearing, Trust accounts establishment for clients deposits, Access to the Stock-exchange or to currency trading rooms for hedging purposes and more, The FIntech company still needs to depend and rely on a regular commercial bank to deliver its operations.
Unfortunately today, banks in Israel and all over the west world are extra cautious and hold a very conservative view when it comes to accounts of CSP/MSB's (Money Services Business). The new Fintech Company will soon discover that opening a bank account for the company is not an easy task. First of all, not all banks will allow the onboarding of such company to begin with and some will delay the process through Compliance and Reputational onboarding committees with constant need for more information & statements. An account opening process can be a long journey that needs to be taken in consideration by any financial company. One of the reasons for that is, as previously mentioned, because the Fintech industry is young and has no special regulatory standing of its own. Instead. it sheds by default under financial regulations that were designed for the casa de cambio industry, which has suffered from bad reputation of assisting their clients to launder money. For this purpose, onboarding and ongoing monitoring committees were established by traditional banks to mitigate the risks that these companies pose to the bank. A CSP/MSB will almost always be classified as a "high risk" client by the bank and an enhanced due diligence process will be conducted to disclose all relevant information about the company and its owners.
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