News & Insights

Following the enactment of the Corporate Transparency Act earlier this year — which, in an effort to combat fraud, requires entities to report beneficial ownership information to the U.S. Department of Treasury’s Financial Crimes Enforcement Network — FinCEN has continued its crackdown on subterfuge and money laundering by filing a notice of proposed rulemaking for residential real estate transactions on Feb. 16.

While its intent is to clamp down on subterfuge and money laundering, this rule broadly affects hundreds of thousands of small businesses on many levels, since it entails increased transaction costs for all parties involved as well as vigilance in monitoring changes to the rule, investing in technology to streamline reporting and collecting the required information.

FinCEN’s proposal targets residential real estate transfers considered to be high-risk for money laundering and attempts to minimize the proposal’s burdens on affected businesses by exempting transfers made to individuals and preventing these businesses from having to create anti-money laundering programs or submitting full suspicious activity reports as required by the Bank Secrecy Act — a law enacted in 1970 that requires financial institutions to assist U.S. government agencies in detecting and preventing money laundering.

This proposal mandates that professionals involved in all-cash real estate closings and settlements — among them attorneys, settlement agents and title and escrow agents — gather and disclose information about individuals behind limited liability companies and trusts to FinCEN.

FinCEN notes that individuals involved in unfinanced residential real estate transactions frequently establish LLCs with nondescript names to anonymize their transactions, and employ shell companies as a means to engage in money laundering.

It is also important to consider that there are hundreds of thousands of businesses affected by this rule that do not engage in the aforementioned activities using LLCs and trusts.

The proposed rule is in the preliminary stages, with FinCEN encouraging the public to submit written comments in response to the proposed rule by April 15. Reporting requirements and the report contents may further evolve in the coming months.

Scope of the Proposed Rule

FinCEN describes the circumstances in which a report would be filed, who would file a report, and what information would need to be provided, including information about the beneficial owners of the legal entities and trusts and when a report about the transaction would be due.

Data from the reports would assist the U.S. Department of the Treasury and its law enforcement and national security partners in addressing vulnerabilities that leave the U.S. residential real estate market exposed to abuse by illicit actors.

The proposed rule is consistent with the Bank Secrecy Act’s long-standing directive to extend anti-money laundering measures to the real estate sector and builds on the success of FinCEN’s real estate geographic targeting order program, which has demonstrated the need for increased transparency and further regulation of this sector nationwide.

The geographic targeting order program has reported that between 2015 and 2020, at least $2.3 billion dollars was laundered through U.S. real estate, according to a report by the Global Financial Integrity think tank.

Fortunately, under the proposed rule, persons involved in real estate closings and settlements would continue to be exempt from the anti-money laundering requirements of the Bank Secrecy Act. However, those individuals will be subject to heightened reporting requirements that did not exist previously.

Types of Residential Real Estate to be Included

The rule will require reporting on various types of residential real property transfers — including transfers of single-family houses, townhouses, condominiums and cooperatives as well as buildings designed for occupancy by one to four families.

There are no price-based thresholds or exemptions and transfers without the exchange of consideration would also be reportable.

Narrow exemptions are available — as of now these include transfers of easements, transfers as a result of death of a property owner, transfers as a result of a divorce or bankruptcy. Additionally, extensions of credit by a financial institution that has an anti-money laundering program and suspicious activity report requirement — secured by the transferred residential real property — are also included.

Real Estate Report Requirements

As proposed, it would contain the following information:

• 1Beneficial ownership for the legal entity or trust receiving the property.
• The information must describe the above entity or trust, its beneficial owners, and any individuals representing it, the real property being transferred, the transferor, any payments made and the reporting person.
• Similar to the Corporate Transparency Act, beneficial owners are individuals that directly or indirectly exercise substantial control over the transferee entity or own or control at least 25% of the transferee entity’s ownership interests.
• Beneficial owners of a transferee trust would be any individual who is a trustee or otherwise has authority to dispose of transferee trust assets; is a beneficiary who is the sole permissible recipient of income and principal from the
  transferee trust, or who has the right to demand a distribution of or to withdraw substantially all the assets of the transferee trust, is a grantor or settlor of a revocable trust or is the beneficial owner of a legal entity or trust that holds one of these positions.
• Information about individuals representing the transferee, the business filing the report, the residential property being sold or transferred, the transferor and the payments made.

The Report Format

FinCEN proposes requiring the aforementioned information to be reported in a real estate report. It is a modified version of a suspicious activity report, which must be completed concurrently with any sale or transfer of residential real property that meets the criteria for a reportable transaction. The modification of which is intended to promote transparency while placing a minimal burden on affected businesses.

The real estate report, while it is a streamlined version of an suspicious activity report, will require the compilation of a substantial amount of information, that over the course of a real estate transaction would be collected, but may not be possessed in its entirety by any one party.

However, FinCEN has noted that the requirements are incremental in nature as parties affected by this rule are familiar with compliance with elements of the regulatory baseline — geographic targeting order, customer due diligence — as well as Corporate Transparency Act reporting requirements and the existing need to file 1099-S forms.

Steps Real Estate Businesses and Professionals and Their Counsel Should Take

As professionals in the real estate industry navigate the finalization and implementation of the real estate report, several considerations and next steps should be at the forefront of their strategic planning.

Firstly, it is crucial for real estate businesses to stay informed about the developments and progress of the proposed rule. Although immediate action may not be required, proactive monitoring will better position businesses for future changes.

Real estate and adjacent professionals should consider the risks if they are designated as the reporting person, since they will be required to certify the information populated on the document.

Inaccuracies will require immediate corrective action and failure to accurately report or correct such inaccuracies could lead to steep fines, although the current proposal does not include a discussion of fines. But if it is modeled off the CTA, inaccuracies and failures to file will result in civil penalties up to $10,000 and criminal penalties of a prison sentence of up to two years.

The proposed rule — which will to some degree minimize anonymity in transactions because of the information described above, i.e., name of beneficial owner, identification number and home addresses, etc. — also comes with risks related to data privacy and security.

While the database will be limited to access by law enforcement personnel there is still the possibility of leaks, potentially exposing sensitive information about investors, buyers and properties. This necessitates a heightened focus on implementing robust data protection measures and cybersecurity protocols.

Think back to the 2023 hack and leak of 237,000 U.S. government employees’ data; and the back-to-back breaches in 2014 and 2015 of the U.S. Office of Personnel Management, which compromised sensitive information belonging to 22 million people. The information released included fingerprints of 5 million of those individuals.

A Need for Vigilance, Compliance and Adaptability

The impending reporting requirements place an additional burden on businesses and their supporting entities.

Real estate and related professionals must carefully monitor the proposed rule and its changes, familiarize themselves with the final rules and adapt to the heightened oversight, which will involve conducting more thorough due diligence, creating and filing additional paperwork, and anticipating longer processes and transactions.

There are regulations governing specific real estate transactions under the Bank Secrecy Act, necessitating the reporting of activities involving illicit actors through the submission of a suspicious activity report or the implementation of anti-money laundering processes.

Some view the requirement to report transactions by entities not managed or subject to these procedures as burdensome. However, proponents argue that it is a necessary measure that should have already been in place for monitoring purposes.

The information contained in the report is not novel since the involved parties already possess this data. The submission serves more as a formal compilation of information already gathered throughout the transaction in the aggregate.

While the rule’s intent is to combat illicit activities, unintended consequences may emerge, potentially deterring some buyers or investors and altering market dynamics. To mitigate these effects, firms must invest in technology solutions to streamline data collection, due diligence, processing and reporting, ensuring compliance while minimizing disruptions.

Noncompliance with the proposed regulations opens businesses to fines, penalties and reputational damage. Therefore, a proactive approach to compliance, including investing in the necessary technological infrastructure and staying updated on regulatory developments, is essential.

The broader context of the U.S. government’s focus on anti-corruption, announced in December 2021, signals a trend toward increased transparency and fraud prevention across various industries.

More recently, in National Small Business United v. Yellen this week, the U.S. District Court for the Northern District of Alabama found the Corporate Transparency Act to be unconstitutional. FinCEN issued a response to the ruling shortly after, acknowledging that it would comply with the court’s order as long as it remains in effect.

Real estate professionals, along with their legal counsel, should anticipate further proposed rules aimed at enhancing transparency and combating fraud in their respective sectors. As regulatory landscapes evolve, staying informed and adaptable will be key to navigating the changing dynamics of the real estate industry.

Phil Jelsma is a partner and chair of the tax practice group at Crosbie Gliner Schiffman Southard & Swanson LLP.