FINANCIAL SERVICES LAW

MAIN EXAM 2022

19ZAD104261

QUESTION ONE

I.
Money laundering is the process of converting illicit assets into legitimate ones. Money
laundering is the act of taking money received through illicit activity and disguising it as money
obtained lawfully. Under the Proceeds of Crime and Anti-money Laundering Act and
Regulations issued thereunder criminalize the offence of money laundering and incorporate the
due diligence and suspicious activity reporting requirements under the Financial Action Task
Force (FATF) recommendations which reporting institutions must comply with.
There are three elements that must be proven to show that money laundering has taken place.
They include:

The defendant was aware that the funds were obtained through fraud.
One should be conscious that any money they were "laundering" originated from illicit activity
in order to be labeled as such. If, on the other hand, you "laundered" money that you had no
reason to believe came from the commission of a crime, you have not engaged in money
laundering. However, bear in mind that the burden of proof on the prosecution is quite light. Not
that you are aware of how it was obtained illegally, but rather that you were aware of it, is what
they need to show. They have circumstantial evidence to support this.

The defendant must have initiated or completed a financial activity.

A "financial transaction" is defined by law as any payment, transfer, or distribution to, by, or
through a financial business. Examples include buying, giving, transferring, loaning,
withdrawing money, exchanging credit, buying or selling a safe deposit box, and transactions
between accounts. The prosecution must demonstrate that you took part in one of these transfers
at either its inception or its conclusion.

The defendant ‘cleaned’ the illegal money

It must be proven that the defendant did participate in the three phases of money laundering,
which are layering, placement and integration.

II.
Placement
This is whereby illegitimate money is placed into the legal financial systems. After getting hold
of illegally acquired funds through predicate crimes criminals remove it from its source. Moving
the illegitimate cash is primarily meant to ‘wash’ and disguise its true nature as they attempt to
place it into a legitimate financial system.
Examples of techniques used to place money include:
 Blending of funds- This is typically done through cash businesses such as car wash, strip
clubs salons as they have little or no variable cost.
 Offshore accounts- Laundered money is often placed in offshore accounts which easily
hide the real owner’s identity
 Establishment of trusts- The separation of legal and beneficial ownership makes trusts
invaluable for those seeking to distance and disguise their connection with property used
for, or generated by, crime.
 Carrying small sums of cash abroad

With reference to the facts provided, the stage of placement occurred when the accused bank
accounts with Huduma Bank showed huge deposits from foreign jurisdictions without the source
being revealed. “An analysis of the bank statement of Elykia established it had $1,747,105
(Sh199,082,614) from suspicious funds received from foreign jurisdictions

Layering
This is the second stage of money laundering which separates the proceeds of criminal activity
from their origin through many different techniques to layer the funds. Layering usually involves
a complex system of transactions designed to hide the source and ownership of funds.
Layering activities include using ,multiple banks and accounts, having professionals act as
intermediaries and transacting through corporations and trust.
Layering can take place through complex financial transactions such as wire transfers or
purchasing valuable assets such as art or jewellery.These transactions are designed to disguise
the so called paper audit trail and anonymize the criminals’ identities. It is a significantly
intricate element of the money laundering process and its purpose is to create multiple financial
transactions to conceal the illegal funds source and ownership.
With reference to the facts provided, layering occurred when the two traders hurriedly withdrew
in cash and transferred some to their families’ accounts as soon as they received money from the
foreign jurisdictions.

Integration
Here, money is returned to the criminal from what seems to be legitimate sources. The criminal
proceeds are now fully integrated into the financial system and can be used for other purposes.
At this stage the dirty money is absolved into the economy for instance through real estate and it
becomes difficult to trace the money.

With the facts provided, integration occurred through the alleged contract of supplying timber
worth $5 million (Sh569 million) which was sent by Dmitri.
The purchase of a Mercedes Benz and Bentley Bentayaga valued at Sh39.7 million, are
proceeds of crime. POCAMLA defines proceeds of crime as follows:
“proceeds of crime” means any property or economic advantage derived or realized, directly or
indirectly, as a result of or in connection with an offence irrespective of the identity of the
offender and includes, on a proportional basis, property into which any property derived or
realized directly from the offence was later successively converted, transformed or intermingled,
as well as income, capital or other economic gains or benefits derived or realized from such
property from the time the offence was committed”

III.
Section 44 of the Proceeds-of-Crime-and-Anti-Money-Laundering-Act provides for anti-money
laundering obligations of a reporting institution. The obligations of Huduma Bank shall include:
1. To monitor on an ongoing basis all complex, unusual, suspicious, large or such other
transactions as may be specified in the regulations, whether completed or not, and shall
pay attention to all unusual patterns of transactions, and to insignificant but periodic
patterns of transactions which have no apparent economic or lawful purpose as stipulated
in the regulations.
2. Upon suspicion that any of the transactions or activities described in subsection (1) or any
other transaction or activity could constitute or be related to money laundering or to the
proceeds of crime, a reporting institution shall report the suspicious or unusual
transaction or activity to the Centre in the prescribed form immediately and, in any event,
within seven days of the date the transaction or activity that is considered to be suspicious
occurred
3. Notwithstanding subsections (1) and (2), a reporting institution shall report all suspicious
transactions, including attempted transactions to the Centre.
4. A financial institution shall as far as possible examine the background and purpose of the
transactions referred in subsections (1) and (2) and shall set out its findings in writing.
5. A reporting institution shall retain its findings under subsection (4) for at least seven
years from the date of the making thereof, and shall make them available to the Centre,
and to its supervisory body or auditors.
6. Despite the provisions of this section, a reporting institution shall file reports on all cash
transactions equivalent to or exceeding the amount prescribed in the Fourth Schedule,
whether they appear to be suspicious or not.
7. A report under subsections (2) and (3) shall be accompanied by copies of all
documentation directly relevant to the suspicion and the grounds on which it is based.
8. The Centre may, in writing, require the person making the report under subsection (2) or
(3) to provide the Centre with— (a) particulars or further particulars of any matter
concerning the suspicion to which the report relates and the grounds upon which it is
based; and (b) copies of all available documents concerning such particulars or further
particulars
9. When a person receives a request under subsection (8), that person shall furnish the
Centre with the required particulars or further particulars and copies of documents to the
extent that such particulars or documents are available to that person within a reasonable
time, but in any case, not later than thirty days from the date of the receipt of the request:

Provided that the Centre may, upon written application by the person responding to a
request and with the approval of the Director-General, grant the person an extension of
the time within which to respond
QUESTION TWO

Fund managers
Section 2 of the Capital Markets Authority Act 2019 defines fund managers as a manager of a
collective investment scheme, registered venture capital company or an investment adviser who
manages a portfolio of securities in excess of an amount prescribed by the Authority from time to
time.
Some of the functions of a fund manager include:
 Dealing with investors when they want to get into the fund or sell their current shares, as
well as issuing a confirmation of the transaction's specifics. Any funds received must be
paid to the trustees by the fund management within 30 days of receipt.
 Giving holders certificates of entitlement every 30 days that serve as a preliminary
statement of their ownership of the units or shares
 Preparing and distributing to investors financial statements and dividend distributions.
 Periodical evaluations of the investment fund, as well as the determination and
publication of the prices at which investors can purchase or sell units of a unit trust.
 Creation of a careful investment strategy and placement of fund assets
 Fund valuation and transaction prices set in line with the information memorandum
 Daily publication of dealing prices. They should be published at least monthly and at
least three days before the dealing day in cases where the fund doesn't trade every day.
The CMA is a regulating body charged with the prime responsibility of supervising, licensing
and monitoring the activities of market intermediaries, including the stock exchange and the
central depository and settlement system and all the other persons licensed under the Capital
Markets Act. This therefore protects the investor from non-qualified intermediaries.

Part IV of the Capital Markets (Licensing Requirements) (General) Regulations, 2002 provides
for the qualifications one has to meet in order to be granted the license as a fund manager:
 Every fund manager who oversees discretionary funds is required to designate a
custodian for the fund's assets.
 The financial statements of a fund manager must be published in at least two daily
publications with nationwide distribution.
 They must display an auditor's report, an audited balance sheet, a profit and loss
statement, and a list of the company's directors.
 Depending on the amount of funds they are responsible for managing, fund managers
must also carry professional indemnity insurance.
 Shareholder funds totaling Kshs 10 million as well as Kshs 5 million or 8% of liabilities
in liquid capital are required as part of the financial requirements.
  A fund manager should avoid conflicts of interest and act in the interests of the fund and
its investors.
 A valid practicing certificate granted by the Institute of Certified Public Accountants of
Kenya is required for the independent auditor to be appointed (ICPAK).

Credit Rating Agencies

A credit rating agency is an organization that evaluates the relative credit worthiness of issuers of
securities and assigns ratings to such securities.
Some of the functions of a credit rating agency include:
 Collecting information: Valuable information relating to credit quality of an issuer of a
debt security is collected by the Credit Rating Agencies.
 Supply of Information: The information about the credit quality of the issuer is provided
to the public (potential investors).
 Providing basis for measuring risk and return: The information enables investors to
decide whether to invest in the debt security or not.
 Facilitates corporate discipline: Investors prefer appropriate credit rating as good credit
rating enhances corporate image and visibility of the firms.
The CMA is a regulating body charged with the prime responsibility of supervising, licensing
and monitoring the activities of market intermediaries, including the stock exchange and the
central depository and settlement system and all the other persons licensed under the Capital
Markets Act. This therefore protects the investor from non-qualified intermediaries.
Gazette notice number 852 outlines the guidelines on the approval and registration of credit
rating agencies set out by the Capital Markets Authority. The main requirements include:
 Evidence of capacity to perform the role of a rating agency
 Have a background and experience as well as professional expertise to provide the
service of a rating agency
 Demonstrate its independence, objectivity, and demonstrate a proven rating methodology
 Must be a body corporate with a preponderance of an institutional shareholding of repute
and its shareholders, board of directors, management and professional analytical staff
should be persons of impeccable character
 Should partly be owned by an internationally recognized rating agency or have a
contractual arrangement with an internationally recognized rating agency that provides
technical and strategic support drawn from international experience
 The applicant shall have a stable financial base with a minimum paid up capital of Kshs
12 million
Stock broker
Section 2 of the Capital Markets Authority defines a stock broker as a person who carries on the
business of buying or selling of securities as an agent for investors in return for a commission.
Some of the functions of a stock broker include;
 Consultative Services- Stock market brokers are knowledgeable about how the market
operates, how stocks perform, market trends, and other related topics. Additionally, they
have access to the research databases and data bases of the brokerage businesses with
which they are affiliated. As a result, they are able to offer their clients exceptional
investment advice.
 Limited banking services including interest-bearing accounts, electronic deposits, and
withdrawals are permitted for stock market brokers to offer. By paying a little brokerage
fee, the clients can use the stock brokers' banking-related services.
The CMA is a regulating body charged with the prime responsibility of supervising, licensing
and monitoring the activities of market intermediaries, including the stock exchange and the
central depository and settlement system and all the other persons licensed under the Capital
Markets Act. This therefore protects the investor from non-qualified intermediaries.
The requirements to be licensed and to continue as a stock broker as spelt out in Part 3 of the
Capital Markets Licensing Requirements General Regulations 2002-include:

 Certificate of Incorporation and Memorandum and Articles of Association (must be

incorporated as a company)
 A detailed business plan
 Evidence of paid up share capital of a minimum of fifty (50) million shillings
 Lodgment of a security of Kshs 1.5 million or such higher amount with a securities
exchange or a central depository (or such other amount as the Authority may determine,
considering the financial position and settlement record of the applicant) or provide a
guarantee in a form acceptable to the Authority from a bank
 The level of shareholders’ funds shall not be below fifty (50) million at any time during
the license period
 The minimum paid up share capital shall be unimpaired and shall not be advanced to
directors or associates of the stockbroker
 The working capital shall not be below 20% of the prescribed minimum shareholders’
funds
 Unsecured advances, loans and other amounts to directors or associates shall in aggregate
not exceed 10% of prescribed shareholders’ funds at any time
 The ratio of the stockbroker’s bank overdraft to the paid capital shall always not exceed
20%
Stock dealer
A stock dealer is a person who operates as a principal in the business of purchasing, selling,
dealing, trading, underwriting, or retailing securities (i.e., on his own behalf).
The dealers underwrite securities, make markets in securities, and offer investors investment
services. Profiting from the difference between ask and bid prices is one of a dealer's key
objectives. Dealers frequently seek a profit from the spread between the ask and bid prices. They
contribute significantly to the market's increased liquidity.
The CMA is a regulating body charged with the prime responsibility of supervising, licensing
and monitoring the activities of market intermediaries, including the stock exchange and the
central depository and settlement system and all the other persons licensed under the Capital
Markets Act. This therefore protects the investor from non-qualified intermediaries.

The requirements to be licensed and to continue as a stock dealer as spelt out in Part 3 of the
Capital Markets Licensing Requirements General Regulations 2002-include:

 Certificate of Incorporation and Memorandum and Articles of Association (must be

incorporated as a company)
 A detailed business plan
 Un-audited accounts for the period of the account year ending not earlier than six months
prior to the date of application and audited accounts for the preceding two years (where
applicable)
 Lodgment of a security of Kshs 1.5 million with a Securities Exchange or a Central
Depository (or such other amount as the Authority may determine, taking into account
the financial position and settlement record of the applicant) or provide a guarantee in a
form acceptable to the Authority from a bank
 Must be an institution willing to commit funds for investment as principal in securities
dealings
 Paid up share capital of not less than Kshs 20 million
 Set aside investment capital of not less than Kshs 20 million in cash or portfolio of listed
securities (except where a dealer is promoted by a stockbroker through a subsidiary
where the minimum investment capital is Kshs 5 million)
 The working capital shall not be below 20% of the prescribed minimum shareholders’
funds (paid up capital and reserves)
 Dealer’s borrowings, except bank overdrafts, shall be for the purpose of investment in
securities and such borrowings shall not exceed 40% of the shareholders’ funds or market
value of the listed securities whichever is higher
 Unsecured advances, loans and other amounts to directors or associates shall be made
from shareholders’ funds which are in excess of the prescribed minimum provided that
such loans shall not exceed 10% of the shareholders’ funds
 The ratio of the dealer’s bank overdraft to the paid-up capital shall always not exceed
20%.
QUESTION THREE

A.
This scheme is organized as a corporation, a trust, or any other type of legal organization that the
Capital Markets Authority has approved or prescribed. A variety of specialized market
participants, such as Mutual Funds, Unit Trusts, Investment Trusts, and other Specialized
Collective Investment Schemes, are authorized to mobilize savings in financial assets and to
improve access to capital markets for small investors. Investors have a unique opportunity thanks
to collective investment schemes' competent management, economies of scale, portfolio
diversification, and reduced risk.
According to the specific investment goals defined by the plan, the manager invests the money
that has been pooled in a portfolio of securities, such as shares, bonds, or other securities. The
investor is compensated with shares or units that represent his or her proportionate share of the
fund's asset pool. Dividends, interest income, and capital gains are some of the ways the fund
makes money from its investments. The fund manager receives compensation based on the asset
value of the fund in exchange for managing the investment portfolio and overseeing fund
administration.

B.
Some of the benefits of a collective investment scheme include:
 Professional Fund Management
Unit trusts are run by investment managers who have successfully made investment decisions
through a variety of market conditions over a long period of time and therefore have the
expertise to screen for high yielding investment opportunities in the market. They also perform
other support roles like operations, which process day-to-day transactions to ensure efficiency.
 Affordability
Most Collective Commitment Schemes in the market demand an initial investment of between
Kshs 100 and Kshs 10,000, which is significantly cheaper than other investment options. Both
the investor and the fund manager benefit from this because the investor is able to access
investment opportunities that would otherwise be out of reach given the size of their initial
investment, and the fund manager is able to reach a larger customer base and thereby increase
the amount of assets under management.
 Diversification
CIS' are useful because they give investors access to a greater variety of investment assets, even
with small capital, that would otherwise be inaccessible if they invested on their own. This gives
investors the chance to diversify their portfolio. For instance, a shareholder who invests Kshs
2,000.0 in a CIS might have exposure to and ultimately earn returns from the equity and fixed
income markets, both of which occasionally demand large initial investments.
 Security of Funds
The Collective Investment Schemes Act, which controls unit trusts and is strictly regulated by
the Capital Markets Authority, forbids investment managers from accepting particular risks.
Additionally, they have safety nets built in. For example, unit trust funds are required by law to
designate a trustee to oversee all of the assets they possess, ensuring that their investments are
unaffected by the failure of the unit trust business or the asset manager.
 Liquidity
Unit trusts are more liquid than other investment options like shares since it is simple to purchase
and sell units without relying on supply and demand at the time of investment or exit.
Additionally, the industry's transition to digitization and automation has improved liquidity,
allowing investors to withdraw money to their bank accounts in 3 to 5 working days and get
access to it right away via M-pesa.

C.
The various types of investment schemes include:
A Mutual Fund
This is a public or external corporation established only to hold and handle securities or other
financial assets. The business takes money from investors and invests it in securities and other
financial assets. It also hires a professional fund manager to oversee the investment. Investors
receive shares from the corporation that represent their pro rata part of the fund's assets. A
mutual fund may either be open-ended or closed-ended.
An open ended fund is one that is prepared to repurchase its shares from its shareholders at any
time and in any amount. Additionally, open ended funds allow investors to purchase shares in
whatever quantity and at any time they choose. Open-ended funds are prepared to continuously
issue new shares or redeem outstanding shares. As a result, as investors buy or sell shares, the
number of shares in the fund changes.
The price of a share in an open-ended fund is determined by the net asset value per share of the
fund, where net asset value per share refers to the total value of the assets in the fund’s portfolio,
less any fund liabilities, divided by the number of shares outstanding.
A closed fund issues a set number of shares and does not stand ready to buy back its shares from
owners when they choose to sell them. Such funds are registered on a securities market so that
investors can sell shares at any time.

A Unit Trust
Funds from investors are pooled together and utilized in this structure to invest in a portfolio of
securities and other financial assets, with the beneficial interest in the trust's assets being divided
into units. The funds are managed by a qualified manager. The trust deed is the legal instrument
that creates a unit trust. Kenyan unit trusts are open-ended funds, and their administrators are
prepared to continuously issue new units or redeem outstanding units.

Employee Share Ownership Plan (ESOP)

A listed business may establish an employee share ownership plan (ESOP) in accordance with
the CMA CIS Regulations 2001 to allow its employees to own shares of the listed company.
ESOPS are subject to CMA approval and are required to be set up as unit trusts. At least three
trustees are needed for the ESOP Unit Trust (or a corporation that will serve as sole trustee).
Board of Directors and Shareholders Resolution and Approval of Establishment of the ESOP
Unit Trust are Required for the CMA to Approve an ESOP. The ESOP will be governed by
scheme rules that specify employee rights, pricing policies, and unit valuation practices.

Special Interest Collective Investment Scheme

This refers to a CIS set up by a promoter to facilitate investment by a select group of people with
a shared interest in a listed company, which could include, among others, farmers, distributors,
and suppliers. It has a unit trust structure with a minimum of three trustees. Following CMA
approval, this scheme is required to inform the listed business in which it proposes to invest. It
will only buy stock in a listed firm that it has a relationship with. The trustees will generate
comparable units with the same denomination as the listed company and distribute them to
eligible unit holders while holding certificates representing the shares of the listed company in
their names.