By Adam Atlas
Attorney at Law
Merchants on Main Street who are applying for merchant accounts do not usually intend to use those accounts to finance terrorism. That said, some merchants are not what they appear to be and are aiming to abuse the banking and payments rails for illegal purposes.
ISOs, processors and acquiring banks are on the front lines of screening new clients to filter out the bad actors. ISOs usually don't stop to think about sanctions screening, so I thought it would be informative to take a look at the framework and rules for sanctions that are a necessary part of day-to-day operations in any payments business.
Sanctions are rules preventing or limiting designated individuals or persons residing in certain countries or having participated in criminal activity from using the U.S. financial system.
The United States has the single largest GDP of any country in the world, which makes it an attractive market for any business. The Fourth and Fifth Amendments to the U.S. Constitution protect the rights of individuals to their property. With a large economy, constitutional protection of private property and rule-of-law, the United States is arguably the best place in the world to conduct business.
Congress decided that it was in the interest of the country for the U.S. financial system to be closed to criminals (for example, drug dealers) and terrorists (for example, Al-Qaeda). Congress went further and also took action against not just criminal and terrorist targets but also political targets, such as regimes in North Korea, Cuba, Venezuela and, more recently, Russia.
Sanctions consist of lists of persons, entities, crypto addresses and foreign jurisdictions that are simply not allowed to be served by U.S. persons.
Sanctions exist to further U.S. foreign policy and national security goals against targeted foreign countries and regimes, terrorists, international narcotics traffickers, those engaged in activities related to the proliferation of weapons of mass destruction, and other threats to the national security, foreign policy or economy of the United States.
Sanctions are a way of acting versus an adversary without going to war. For example, the United States imposed sanctions against six entities associated with equipment found on the Chinese spy balloon that floated over the United States in February 2023 (see https://reut.rs/3EMdYQm).
Decisions related to sanctions are based on the criminal attributes of the target but can also be based on the political posture taken in relation to another country. Some have opined that excessive use of sanctions for political purposes will weaken the dominance of the U.S. dollar as the primary currency for international trade (see https://on.ft.com/3y2I2n8), while others see no significant risk there (see https://bit.ly/41wFU4v).
These divergent opinions have become especially interesting as various countries consider issuing central bank-issued digital currency (CBDC). If China becomes the first country to issue a CBDC that is widely used, and U.S. sanctions restrict a substantial amount of trade, could that open the door for China to supplant U.S. dominance in currency leadership?
On the other hand, does it make sense for any trading business or nation to place its trust in a CBDC that can be controlled by a centralized—and potentially fickle or worse—issuer? These are some of the most interesting macroeconomic and policy issues facing the next generation of policy-makers.
Sanctions are administered and enforced by the Office of Foreign Assets Control (OFAC) of the U.S. Department of the Treasury, https://bit.ly/3kCDVuE. Most sanctions enforcement is mundane and consists of simply verifying potential customers against OFAC lists and denying service or freezing assets of specially designated persons (SNDs) who appear on OFAC lists.
Some sanctions enforcement grabs headlines with seizures of ships, large amounts of funds and arrests, etc. When there is a match against an SDN of an actual or potential merchant, that information must be administered in accordance with the applicable anti-money laundering program of the acquirer in question and may result in the freezing of the account and other consequences.
It's important to maintain confidentiality around the sensitive information collected for OFAC screening to protect well-meaning customers and to ensure the integrity of the acquirer's anti-money laundering (AML) processes.
A payment processing account issued by an acquiring bank or payment facilitator, often synonymous with the term "merchant identification number" or MID, is actually akin to a bank account. It is like a bank account because it accumulates and holds merchant funds that are then settled to the merchant either daily or on some other schedule. As with any financial account in the United States—even a Venmo or Dwolla account—the provider of the account must ensure that the account-holder is not on a sanctions list (an SDN).
To verify whether a person is an SDN, they must be identified, and their identifying information must be compared to the OFAC SDN lists. Where the applicant for a merchant account is a company—which is the case most of the time—owners of 25 percent or more of the applicant company must be vetted against OFAC lists.
Agents, ISOs, acquirers, payment facilitators and others are all in the business of collecting identifying information of merchant account applicants precisely so that they can be vetted against OFAC lists.
Know-your-customer processes are important not simply for sanction screening purposes, but also for making sure that the new MID is controlled by only the rightful owner of the MID. When the representative of a merchant tries, for example, to change the direct deposit account on a MID, having a fix on the identity of the true owner for verification purposes could be helpful.
In essence, everyone doing business in the merchant acquiring value chain must be part of the solution. This sounds a bit like a PSA, but all participants in the payments industry are partners in the fight against financial crime. 
In publishing The Green Sheet, neither the author nor the publisher isengaged in rendering legal, accounting or other professional services. If legal advice or other expert assistance is required, the services of a competent professional should be sought. For further information on this article, please contact Adam Atlas, attorney at law, by email at atlas@adamatlas.com or by phone at 514-842-0886.
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