Cover Payments Overview

Cover Payments The Problem

Recent enforcement actions indicate that regulators are concerned that acceptance of cover payments by U.S. intermediary banks exposes them to increased risk of unknowingly facilitating illicit activities In a cover payment using SWIFT message protocol, intermediary banks do not receive all the information about the customer payment (MT 103) to which the cover payment (MT 202) relates.

Funds Transfers
Typical funds transfer involves Originator, Originator Bank, Intermediary Bank, Beneficiary Bank and Beneficiary Payment orders used to execute funds transfers are carried over systems such as CHIPS or SWIFT SWIFT is a co-operative that supplies secure, standardized messaging for 8,000 institutions
10 million messages per day In 2006, through SWIFT there were 52 million MT103 and 42 million MT202 payment instructions

Cover Payment The Basics

A cover payment involves two distinct messages (MT 103 & MT 202) and two distinct funds transfers
MT 103- Direct payment order to the beneficiarys bank (first funds transfer) to instruct beneficiary bank to pay beneficiary MT 202 Bank- to b - ank payment order to intermediary bank to instruct (cover) that beneficiary bank be paid by originator or intermediary bank (second funds transfer)

Cover Payments The Basics

In a cover payment, the intermediary bank receiving the payment order related to the MT 202 does not receive the payment order related to the MT 103 Only the bank originating the cover payment can monitor and filter both legs of the cover payment (MT 103/MT 202) The Intermediary bank can only monitor and filter the MT 202 In doing so, the intermediary bank(s) cannot distinguish MT 202s which are cover payments from MT 202s used for other bank t bank payments (e.g., - o settlement of FX trades, payment of interest, reimbursements under documentary credits, etc.)

SWIFT Messages
MT 103
Used for customer transfers Can input up to 10,000 characters

MT 202
Used for bank-to-bank transfers Input limited to 2,000 characters

Fields in an MT 103 include: Fields in an MT 202 include: Senders Reference (Field 20) Senders Reference (Field 20)* Value Date, Currency Code & Related Reference (Field 21)* Amount (Field 32)* In a cover payment, the senders reference from field 20 Originator (Field 50)* in the related MT 103 is Originators Bank (Field 52) included here. Originators Banks Correspondent Value Date, Currency Code & (Field 53) Amount (Field 32)* Intermediary Institution (if any) Originators Banks (Field 56) Correspondent (Field 53) Beneficiarys Bank (Field 57) Intermediary Institution (if any) Beneficiary Customer (Field 59)* (Field 56) Details of Bank Charges (Field 71)* Beneficiary Bank (Field 58)* Sender to Receiver Information Sender to Receiver Information (Field 72) (Field 72)
* Indicates a mandatory field.

SWIFT messages
Example of a MT 202 as a cover payment*: Value date of November 17, 2005, Franz Holzapfel GmbH Vienna orders UBS, Zurich to pay 125,000 USD in H.F. Janssens account with ABN AMRO, Amsterdam. UBS sends two SWIFT messages: (i) an MT 103 to ABN AMRO, Amsterdam; and (ii) an MT 202 to its U.S. dollar correspondent, Deutsche Bank, New York which then sends a statement message (e.g., MT 950) to ABN AMRO Amsterdam.

MT103
:20: :20: :32: :32: :50: :50: :52: :52: :53: :53: :57: :57: :59: :59: :71: :71: 494934/DEV 494934/DEV 051117USD125,000.00 051117USD125,000.00 FRANZ HOLZAPFEL GMBH FRANZ HOLZAPFEL GMBH VIENNA VIENNA UBSWCHZH8OA UBSWCHZH8OA DEUTDEUS DEUTDEUS ABNANL2A ABNANL2A 125-00698 H.F. JANSSEN 125-00698 H.F. JANSSEN LEDEBOERSTRAAT 27 LEDEBOERSTRAAT 27 AMSTERDAM AMSTERDAM SHA SHA

MT202
:20: 111658856 :21: 20/494934/DEV :32: 051117USD125,000.00 :53: DEUTDEUS :58: ABNANL2A

Why are Cover Payments Used

The method of using cover payments is fundamental to the effectiveness of the payments system and is embedded within many system Cover payments ensure the following:
Avoid payment delays associated with time zone differences when making payments outside the local currency of the beneficiary Streamline payment details Reduce cost of commercial transactions Manage the deduction process

Cover Payments The Issue

Responsibility for ensuring that the customer payment does not raise money laundering, terrorist financing, OFAC concerns should rest with the bank originating the cover payment U.S. intermediary banks cannot unilaterally eliminate the risks involved in acceptance of cover payments