Ten years ago, I wrote an article on how banks could minimize their litigation risks. Unfortunately, many of the same schemes are present today as they were ten years ago, such as check fraud, check kiting, elder abuse, bookkeeper fraud, and construction loan fraud. Today, cybersecurity and other high-tech risks are consuming bankers' attention in order to reduce their operational and reputational risks. While these issues are important, here are a few of the low-tech ways in which banks can minimize their litigation risk.
All banks should have written policies and procedures for every area of the bank. In order to minimize litigation risk, there should be a process to ensure that bank employees are complying with these policies and procedures. Policies and procedures covering the area being litigated will often be requested, and a comparison of the bank's actions to the policies and procedures will often be made as part of the litigation. Being able to show that the bank has adequate policies and procedures and that bank employees complied with them will help to minimize litigation risk.
Bank Secrecy Act/Anti-Money Laundering (BSA/AML) compliance is a major focus of bank examinations today as it has been over the last ten years, and compliance with the Bank Secrecy Act can have the added benefit of minimizing litigation risk. Automated account monitoring systems are discussed extensively by the Federal Financial Institutions Examination Council ("FFIEC") in its BSA/AML Examination Manual. Automated account monitoring systems generate alerts when account transactions exceed certain parameters. These alerts help the bank identify a fraudster's activities and suspicious transactions.
Banks that ensure that their BSA investigators are highly trained to investigate these alerts and identify suspicious activity minimize their litigation risk. These systems alert for a reason, and making sure that alerts are not ignored or misinterpreted can help identify suspicious activity and stop fraudulent activity in its tracks. Money laundering, including Ponzi schemes, can be detected when alerts are properly and timely investigated.
Tellers are the first line of defense for the bank in preventing fraud and in minimizing its litigation risk. While tellers are not the highest paid personnel in the bank, they can often prevent thousands, even millions, of dollars in litigation expenses and/or settlement amounts in the manner in which they cash checks, take deposits, issue cashiers checks, and change addresses on accounts. Here are some examples:
The manner in which a bank opens a new account can stop a fraudster from ever using the bank to perpetrate a fraud by utilizing robust customer due diligence and customer identification procedures required by the Bank Secrecy Act. Here are some examples of how the new accounts department can stop a fraud before it begins:
Adhering to the requirements of the Bank Secrecy Act for opening new accounts or making changes to existing accounts can help prevent bookkeeper fraud, elder abuse, money laundering, and minimize litigation risk. Utilizing postaccount opening or post-account change review procedures can also help catch problems before they begin.
The FFIEC discusses manual account monitoring systems in its BSA/AML Examination Manual to include uncollected funds reports, overdraft reports, large balance reports, check kiting reports, large item reports, and wire transfer reports. These reports are low-tech ways of identifying suspicious activity, including check kites, money laundering, Ponzi schemes or other types of frauds. Accounts that routinely show up on these reports should be investigated to ensure that suspicious activity is not taking place and to help minimize litigation risk.
The regulators have issued recent guidance on concentrations in commercial real estate loans and banks are again making more construction loans. This is an area that can be ripe with fraud. Controls for construction loans should be in place including how construction loans are monitored, how draws are controlled, when inspections are required and by whom they are made, how construction draws can be obtained by the borrower, and what documentation is required prior to advancing construction draws. Having these policies and procedures in place and ensuring loan officers adhere to them will help minimize litigation risk.
While high-tech risks deserve the banks' attention, these are some of the low-tech methods that banks can use to minimize litigation risk.
Catherine Ghiglieri is the former Texas Banking Commissioner and is President of Ghiglieri & Company based in Austin, Texas. She is co-founder of The Bank Directors' College which provides training to bank directors. See www.ghiglieri.com and www.thebankdirectorscollege.com.
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