The next matter on the agenda is a discussion with Mr. Eugene McErlean, a former internal audit official with Allied Irish Bank. I draw Mr. McErlean's attention to the fact that while members of the committee have absolute privilege, the same privilege does not apply to witnesses appearing before the committee. Members are reminded of the long-standing parliamentary practice that they should not comment on, criticise or make charges against a person outside the Houses or an official by name or in such a way as to make him or her identifiable. I invite Mr. McErlean to make his presentation which will be followed by questions from members. As is the practice of the committee, each member will have ten to 15 minutes to put questions.
Financial Regulation: Discussion with Former Internal Auditor with AIB.
Mr. Eugene McErlean
I thank the Chairman and members of the Joint Committee on Economic Regulatory Affairs for inviting me to address them. The lessons to be learned from my experience with the Financial Regulator could assist the committee in the debate about what needs to be changed in the governance and regulatory systems of Irish banks to ensure the same mistakes are not repeated. The key facts are that the Financial Regulator knew about overcharging in AIB in 2001 and conducted its own investigation in 2002 but failed to act to protect consumers. Furthermore, in 2005 the regulator failed to inform an Oireachtas inquiry about its investigation and gave the false impression that it was unaware of overcharging until 2004. Even as recently as January, the chairman of the Financial Regulator denied that the regulator had a close relationship with the banks and ironically cited the recovery of overcharged fees as evidence of its toughness.
I am a solicitor by profession and joined AIB Group in 1991. I served in a number of roles, including group compliance officer, before being employed as group internal auditor from 1997 to 2002.
I have set out in the attached document the sequence of relevant events over a protracted period of time. The first matter refers to the special issue audit report on fees and charges which was completed in the summer of 2001 and which concluded that there was a major overcharging problem in AIB, with particular reference to management time charges. Members will see from Appendix 1 that the Central Bank was provided with a copy of the report and that AIB had committed to undertake a complete review by branch management to ensure the fees charged were in line with account activity and that refunds would be made, where appropriate.
From my time as a lawyer in the aviation industry, I learned a general rule of thumb that when the same person made several mistakes, there might be a problem with him or her. When several people independently make the same mistake, there is a problem with the system. In this case, there was clear evidence that there was a problem in regard to overcharging customers in the AIB system. Audit's responsibility was not to find every instance of overcharging but to ensure management recognised the systemic problem and took action to correct it. Even though the executive management had committed to carrying out a thorough review of customer accounts, the audit team found that several months after the issuing of the audit report no action had been taken. This was important, not only in the context of the unwarranted delay in making restitution to those who had been overcharged but also because I felt a full management review was necessary to identify the complete extent of the overcharging culture in AIB. As the saying goes in the United States, there is never just one cockroach.
I have included in Appendix 2 an extract from the minute of my meeting in May 2002 which confirms that the Financial Regulator was informed about this failure. This meeting was arranged following a telephone call from the Central Bank to inquire into whether the announcement of my removal as head of group internal audit was connected to the fact that I had had confrontations over audit issues with AIB.
The committee will see that I attended a second meeting in October 2002 about which the Financial Regulator issued a press statement, which is attached at Appendix 3. Contrary to the Financial Regulator's assertion, at no stage in any of my discussions with him did I indicate that I had withdrawn any of the facts that I had brought to his attention. This document appears to confirm that the regulator conducted a vigorous investigation into overcharging and that all of the overcharging issues were addressed fully by him in 2002. In addition, I have received a letter from the regulatory authority confirming that it had carried out such full investigation. If this statement is correct, the authority should be asked why this material information was not disclosed to the Joint Committee on Finance and the Public Service in 2005 and how and why its investigation did not detect that €65 million was liable to be paid as restitution to customers of AIB.
In 2004, following the broadcasting of the overcharging story by RTE, Deloitte & Touche was commissioned to undertake an investigation. In August 2004, it requested that I attend an interview with two of its investigators. The committee may be interested in the full transcript of this interview, which contains a more detailed analysis of all of the issues, together with some relevant observations from Deloitte. However, the Financial Regulator in his final report published in December 2004 did not appear to include any of my evidence from the Deloitte & Touche report, nor did he mention or include any evidence from his own thorough 2002 investigation into overcharging. Unfortunately, the publication of the regulator's report led some press reports to conclude that "there had been a failure in the internal policing mechanisms within AIB to uncover these issues and that as a result AIB was in the process of strengthening its compliance, risk management and internal audit functions."
In 2005, the Joint Committee on Finance and the Public Service conducted hearings into the regulator's report. This committee will see at Appendix 4, an extract from the evidence given by the chief executive of the Financial Regulator. In response to questions concerning the role of internal audit with respect to overcharging, the chief executive appears not to mention the facts that had been brought to the attention of the regulator in 2001 and 2002 by internal audit.
The Joint Committee on Finance and the Public Service's interim report published in June 2005 stated at section 4.12 that the regulator's investigation showed that overcharging occurred from 1996 to 2004, "some personnel were aware of it and that neither the Regulator was informed nor was the matter passed up the line to top management." The impression that the regulator was not informed prior to 2004 about systemic overcharging could only possibly be correct if the information I supplied to the Financial Regulator was withdrawn because it was either untrue or incorrect. The record shows that the regulator was informed about overcharging in 2001, that the regulator accepted this audit report and that it was not withdrawn.
Section 4.30 states:
The Chairman and Members of the Joint Committee wished to know why, as a member of the Board and especially as a member of the Audit Committee, Mr. Gleeson did not become aware of the Faldor case before September 2003 and the foreign exchange overcharging before May 2004. Mr. Gleeson replied that there had been a major upgrading of internal audit in 2002. The Chief Executive had also been putting a great deal of emphasis on improved compliance procedures since his appointment in 2001, but he had to accept that the systems failed.
This committee will see from Appendix 1 that the audit committee was made aware of overcharging problems in AIB before 2004 and that, consequently, the audit committee's lack of awareness about overcharging should not be attributed to a failure in the compliance systems.
I met separately the chairman of the AIB audit committee in 2002 when I expressed my concern about the low level of compliance standards in AIB, including the failure of executive management to initiate the review and repayment programme for customers who had been overcharged. The reference to the upgrading of internal audit in 2002 was not germane to the information requested by the committee, given that overcharging appeared to continue after 2002.
In December 2005, "Prime Time" broadcasted a special investigation into bank overcharging during which the chief executive of the regulator made the comments reported in Appendix 5. He stated:
I think that when you have not got the systems in place, if you have not got the checks in place, there are huge temptations to do things that are inappropriate. It does not make them right and we have to find out who did them and how it occurred. To what extent was it a policy issue and that is always a difficult one to prove, but if these sorts of things occur, they occurred at the time, they occurred because the systems and processes and controls were not in place.
Despite the fact that the evidence of overcharging reported by interviewees on the programme is consistent with the written record of overcharging included in the 2001 audit report, there is no acknowledgement that the regulator had been aware of these practices from 2001. Instead, the failure is attributed to the fact that the systems, controls and processes were not in place. Audit and compliance represented major control processes within AIB that worked with respect to overcharging. However, the regulator failed to apply the appropriate regulatory sanctions, which would have put an end to systemic overcharging.
In Appendix 6, the committee will see AIB's statement that the total combined amount overcharged is €65.8 million, comprising €34.2 million disclosed by the regulator in December 2004 and a further €31.6 million confirmed by AIB in September 2006.
The Financial Regulator's report published in December 2004 failed to tell the whole story about overcharging. The report gave the impression that the regulator had acted in the public interest. It is relevant to consider that if a whistleblower had not exposed the problem in 2004, the overcharging practices may have carried on indefinitely.
The facts of this case are given increased significance by the additional obligations required of the Financial Regulator to monitor and take appropriate action relating to the behaviour of banks following the introduction of the Government's bank guarantee and recapitalisation schemes. In light of the regulator's stated policy of light touch regulation and a principles rather than rules-based approach, the committee might have regard to whether this approach has been effective in the circumstances outlined above. Given the fact that the best predictor of future behaviour is past behaviour, it raises broader issues of the regulator's fitness for purpose in the new environment where the risks to the public are substantially greater than the loss of €65 million due to overcharging. At a minimum, this case raises the question for the committee of who watches the Financial Regulator. I thank the Chairman and committee members for their time.
I welcome Mr. McErlean, who has outlined an interesting and, to say the least, explosive issue. It indicates a cover-up, an Irish Watergate. Given the concepts of equity, fair play and natural justice, I propose that we invite AIB and the Financial Regulator to attend the committee for their side of the story. What Mr. McErlean has outlined is shocking. The committee has known something for some time that, I hope everyone else in society now knows, particularly the Government and both Houses, namely, that the regulator was not fit for purpose. For this reason, the matter in question is under active examination.
I presume that the €34.2 million and €31.6 million amounts, the latter of which was confirmed by AIB in September 2006, have been refunded. Mr. McErlean stated that the problem was systemic. It is important that we know whether customers were made aware of the type of charge being debited from their accounts. Obviously, the regulator was grossly negligent and I will leave it at that for the present.
Mr. Eugene McErlean
As I understand from the reports by AIB, €20 million of the €60 million was not repaid because of the time delay. It was not able to identify to which customers that portion related. Had the action been taken a little earlier, perhaps some of those customers may have been identifiable.
But the customers were aware of the charges.
Mr. Eugene McErlean
As for the Senator's second question, typically yes, the notification would have been made to customers that the bank proposed to debit their accounts with whatever was the charge. The problem was that such charges were fictitious and had been made up.
Very well. Mr. McErlean believed that €20 million of this amount was not refunded.
Mr. Eugene McErlean
No, the bank stated it was unable to identify the customers. This can become a little complicated because quite a range of different types of charges was to be repaid. Of such a range of charges, €20 million was not repaid because the bank could not identify who those customers were.
On 31 July 2008, Mr. McErlean's wife Niamh sent me an e-mail in respect of this matter, which I forwarded to the Chairman and the joint committee. Two points stand out for me from Mr. McErlean's comments. First, I refer to the integrity of his position in that in 2001, as the group's chief auditor, he brought to the attention of his bank that there was a serious issue in respect of overcharging. Second, when that had not been dealt with, he went to the Financial Regulator in May 2002. I understand Mr. McErlean had a further meeting with the regulator in October 2002 about the lack of action regarding this matter. The big picture is that €65 million was overcharged to customer accounts and was not completely repaid until 2006, following further and different audits within the bank. This constitutes a great deal of money that effectively was stolen from people's accounts.
At a time when credibility, transparency and integrity are needed in our banking system, Mr. McErlean epitomises the good banker who cares for his customers. The integrity of his position is clear and I laud him for it. The country needs people like Mr. McErlean, who have stuck it out within the system, stood up for the truth and whose career may have suffered as a result. However, this is a day on which he can vindicate the integrity of his actions. The public will duly acknowledge to him and those like him, of whom there are hundreds or thousands in the banking system, that they are the sort of bankers we need and desire.
Mr. McErlean should provide members with an idea of the different categories of overcharging that he discovered. The key charge made by Mr. McErlean is that notwithstanding the fact that he brought this matter to the attention of people within his bank such as the audit committee and presumably the chief executive of the day, the regulator failed to act and did not discover the full extent of the overcharging and that he was meant to regulate and resolve. Ultimately, is this not the key point Mr. McErlean is making?
Mr. Eugene McErlean
That is absolutely right. The categories of overcharging initially were in respect of management time charging, whereby a target would have been set for a branch manager to make a certain amount of income from that category of charge. Quite often, the manager would struggle to meet that target and consequently would make up activity. For instance, an example that sticks in my mind is one in which a manager charged a customer for playing golf for three hours' management time. While the customer would have seen the charge for three hours of management time, he would not have realised that it was for playing golf with him.
What sort of fees would a customer be charged for such a privilege and pleasure?
Mr. Eugene McErlean
Whatever was the hourly rate, multiplied by three.
Would it amount to hundreds?
Mr. Eugene McErlean
Typically, and this is where it probably was quite insidious, it never was a large amount of money. It was multiplied over a large number of customers and generally, customers who were not really in a position to argue would be selected for this.
Does Mr. McErlean mean people who had overdrafts or who owed debts to the bank?
Mr. Eugene McErlean
Yes, those who owed and who would not argue with the bank.
Basically, it was ripping them off. As Mr. McErlean noted, they were unable to stand up for themselves as they were under a compliment to the bank.
Mr. Eugene McErlean
That is right.
Were they business customers in the main?
Mr. Eugene McErlean
Yes, business customers.
What other types of overcharging did Mr. McErlean identify?
Mr. Eugene McErlean
Initially, that was the principal one. I should note this was a special audit review that was undertaken because examples of overcharging had been appearing anecdotally. Consequently, the audit team decided to perform a complete review across the entire network in 2001, which was a fairly unusual thing to do. Approximately half the audit team in Ireland was involved in this exercise and from my point of view it did an excellent job in quite difficult circumstances. I refer to some of the anecdotal evidence that emerged from that review. For instance, having come under pressure to meet their targets, quite a number of highly honourable and upright bank managers, of whom there are many, recorded for head office purposes that they had applied this charge to their customers. However, they did not actually deduct the money from the customers' accounts because they knew it was incorrect and inappropriate. When I heard that, I knew this was quite a serious systematic problem as opposed to someone simply making a mistake.
Why did the bank not act when Mr. McErlean brought this to its attention? Why did it not agree this was appalling and resolve to deal with it?
Mr. Eugene McErlean
It did and that was its reaction. The head of the bank in Ireland at the time took highly appropriate action. He abolished the discretionary charge immediately and initiated, in consultation, a complete review of all business accounts in Ireland to analyse whether the appropriate charge had been made, which was exactly the right thing to do. A programme of restitution was to have been initiated in the summer of 2001 to enable that to happen.
However, that never happened.
Mr. Eugene McErlean
No. Approximately three months later, the audit team, as is normal, went to review progress regarding this repayment but nothing had happened.
While I do not need to know persons' names, I refer to accountability for refusing to act. Obviously, the chief executive made his decision but clearly his instructions were not carried out.
Mr. Eugene McErlean
Yes, that is right.
Who was accountable for that?
Mr. Eugene McErlean
I had several discussions with the head of the bank in Ireland about this lack of activity.
This seems to be the nub of the issue. Mr. McErlean brought this major issue, involving more than €60 million, to people's attention but nothing happened. While arguably, one can leave it to other people and go through the regulator, the regulator knew and did not act either. That really is the summary of Mr. McErlean's position.
Mr. Eugene McErlean
The regulator knew at that point and had the full report. It would not have known in 2001, as it would have thought, as I did, that the repayment programme was carrying on, which was quite appropriate. However, in May 2002, the chief executive of the regulator called me because he had heard that I had been removed as head of group internal audit and was concerned that this was because of confrontations over audit issues.
Mr. McErlean was made the fall guy and lost his job.
Mr. Eugene McErlean
Effectively, yes.
Effectively, he lost his job for pushing the case of the public and the bank's customers.
Mr. Eugene McErlean
I do not know the exact reason I was removed but there is a coincidence of timing. I met the chief executive of the regulator in May 2002 and informed him about this matter, as well as quite a number of other issues that I must state were of even greater concern than was the overcharging issue. Initially, he appeared very concerned and thought it was a very serious matter, not for me as a person, but that someone carrying out this job would be removed in such circumstances. He thought this was extremely serious, said all the right things and appeared to be ready to take action about it. Thereafter, in October 2002, he invited me to meet him again. However, he only wanted me to state that I had withdrawn all the allegations about overcharging and the other matters. I told him that these were facts and I would not withdraw them.
Was that the chair of the audit committee?
Mr. Eugene McErlean
No, this was the chief executive of the regulator.
Mr. McErlean then went to court to vindicate his entitlement to that minute but lost the case. Is that not correct?
Mr. Eugene McErlean
That is right. I never managed to get the minute of that meeting. However, that is something of an ancillary issue.
Was it the chairman or the chief executive of the Financial Regulator?
Mr. Eugene McErlean
The chief executive.
At both meetings.
Mr. Eugene McErlean
Yes. We may be getting too complicated and into too much detail but I anticipated that the second meeting took place because the first meeting was a cursory run through an outline of the areas. I thought he wanted a detailed account of who said what to who and when. The meeting lasted only five minutes, he did not want to know. I found myself out in the street after five minutes.
Can we inquire where the alleged games of golf took place? Were there favoured courses? Green fee rates are very competitive in Ireland. We should stress that. Where did this occur?
Mr. Eugene McErlean
I am not a golfer, so unfortunately I do not know.
They were pro bono golf courses.
I am grateful to Mr. McErlean for appearing before the committee. We have met before. I was most impressed by the story Mr. McErlean tells us but also by the fact that it is backed up with solid documentary evidence. It is a devastating indictment of what has taken place between the regulator, the Central Bank and the banks over many years. This is the evidence we were seeking, which the banks and the regulator have covered up and refused to give us. Mr. McErlean has produced something very solid; a lethal story about how the banks and the regulator were operating for many years, up to a few weeks ago.
I congratulate Mr. McErlean for appearing before the committee, which is not easy. Can Mr. McErlean tell us more about the two meetings with Mr. O'Reilly, the chief executive of the regulator, in May and October 2002? Were these meetings held at the request of Mr. McErlean?
Mr. Eugene McErlean
No.
They were held at the request of Mr. O'Reilly. When Mr. McErlean spoke to Mr. O'Reilly the first time, was he sympathetic to Mr. McErlean's point of view?
Mr. Eugene McErlean
He seemed extremely concerned and, from the point of view of the Central Bank and regulator, my personal story was not at issue but the fact that a key control linchpin in the regulatory system — the internal audit — had been compromised. That is what he was concerned about.
Did Mr. McErlean confirm that to him?
Mr. Eugene McErlean
Absolutely.
Did Mr. McErlean tell him everything he told us about overcharging? What happened between the first and second meeting so that attitudes changed so much? The second meeting was when he said to Mr. McErlean that Mr. McErlean was withdrawing his allegations.
Mr. Eugene McErlean
Yes.
Why does Mr. McErlean think that happened?
Mr. Eugene McErlean
I have no idea. I was extremely surprised and perhaps I have a naive approach to how regulators operate but it was not how I experienced how a regulator operates. Usually they want to have lots more information and all the detail. That is what I expected to have to provide.
Does Mr. McErlean believe AIB got to the regulator?
Mr. Eugene McErlean
I could only speculate.
It is a very strange U-turn for the regulator to say that he is very interested in what Mr. McErlean had to say the first time because of the regulatory principles that were being offended, and the second time to say that Mr. McErlean was withdrawing the allegations.
Mr. Eugene McErlean
Yes.
Is there not only one explanation that a reasonable man would find?
Mr. Eugene McErlean
There is only one logical explanation; that he wanted to bury it for whatever reason. I can offer my opinion, which has no basis in fact and is purely opinion. AIB had just come through the Rusnak affair and he may have thought this was a straw that would have broken the camel's back and needed to be kept quiet.
After the meeting when Mr. McErlean said he would not withdraw his allegations, from then on the regulator acted in a way that was unhelpful, to say the least, to the allegations Mr. McErlean made.
Mr. Eugene McErlean
I was extremely annoyed with the way the regulator behaved.
Is it fair to say he buried them?
Mr. Eugene McErlean
Absolutely.
Did nothing emerge under questioning about what Mr. McErlean had said?
Mr. Eugene McErlean
I can give a personal opinion. I had done what I could reasonably have done and I tried to forget about it and move on. Two years later it re-emerged when the story about overcharging re-emerged. I was asked by Deloitte & Touche to give evidence to its inquiry. Deloitte & Touche wanted to expand not just into overcharging but into the overall issue of what was happening in AIB. Deloitte & Touche made a number of revealing comments, which can be made available to the committee, about the state of regulation and compliance in AIB. I may be getting into too much detail but I was taken aback when the regulator did not reveal any of the evidence in the Deloitte & Touche material and buried it in his discussions with the finance committee.
By withholding that information he is covering up the true state of affairs as it was then. The explanation for the regulator doing so is very difficult to elicit unless it is that the regulator was too close to the banks and was taking their line. There is no other reasonable explanation for that.
Was Mr. McErlean fired by AIB?
Mr. Eugene McErlean
No.
Mr. McErlean parted company with AIB.
Mr. Eugene McErlean
The board announced five actions in respect of the fallout from the Rusnak affair in the US. The bank said I was due to retire from that position.
What age is Mr. McErlean?
Mr. Eugene McErlean
I am 50 years of age now, so I was in my 40s then.
That is a good age to retire.
Mr. Eugene McErlean
Obviously that was untrue and it was said that AIB intended to recruit internal auditors only from outside the bank. The curious thing is that there is no regulatory requirement or stipulation in any governance document that a bank should recruit its internal auditor from outside. Of course one can do so but there is no requirement to do so. Amidst this regulatory debacle, the bank was choosing to do things it had no need to but was not complying with many things it had to do.
I can see why the bank did not want to have Mr. McErlean around much longer.
When Mr. McErlean spoke to Mr. O'Reilly first and talked about overcharging at the meetings of 2002, did he raise any sensitive issues?
Mr. Eugene McErlean
I did, there were quite a number of them.
Can Mr. McErlean tell us what they were?
Mr. Eugene McErlean
That could take quite a while but I can give one example.
Can Mr. McErlean give us an example of the more sensitive ones? The regulator should be acting if Mr. McErlean spoke to him about anything else.
Mr. Eugene McErlean
What I thought most significant concerned the capital markets division and Goodbody Stockbrokers. This was a long-running saga I was pursuing. This is entirely speculation on my part, but if I was removed this may be the reason I was removed rather than the overcharging issue. Being a wholly-owned subsidiary of AIB, Goodbody Stockbrokers had a problem trading in AIB shares. In order to get around this technical difficulty, Goodbody Stockbrokers made a proposal to the audit committee of AIB to engage with a friendly, arms-length client. As that client would take all of the AIB trades left over at the end of the day, it would appear as a transaction at arm's length. It is not the ideal way to do it but it appeared to be legal and the proposal was approved by the audit committee, which was fine up to a point. However, when the scheme was audited, it turned out to be very far removed from this. What had been presented was the investment arm of the Fürstenberg brewing family, which is probably like Guinness in Ireland. It had an investment adviser which was supposed to be regulated by the Irish Financial Services Regulatory Authority in order that everything would be done properly but that was not the case. Although the investment arm was called Fürstenberg, it looked like it was run by Jerry Guinness from up the road — it had no connection whatsoever with the Fürstenberg brewing family. This was a man of straw who had no worth whatsoever and who probably had very little idea about what was going on. He was linked with a chain of companies in various offshore jurisdictions such as Vanuatu and Nevis, which was blacklisted for money laundering purposes.
The shares were bought by this man of straw who did not exist.
Mr. Eugene McErlean
He does exist.
They were routed through Vanuatu.
Mr. Eugene McErlean
And Nevis.
Where is that? Vanuatu is a tax haven.
Mr. Eugene McErlean
Correct. It is in the Pacific Ocean.
Where is Nevis?
Mr. Eugene McErlean
It is in the Caribbean. The significant point is that at the time the island was blacklisted and one was not allowed to deal with it.
Goodbody was putting its deals through it.
Mr. Eugene McErlean
For a period every share which a member of the public traded in AIB which was transacted by Goodbody was acquired and sold by that company.
Was that legal?
Mr. Eugene McErlean
Absolutely not.
This was brought to the attention of the regulator.
Mr. Eugene McErlean
I should have said that in my view it was not legal. There is a parallel with some of the recent issues in Anglo Irish Bank, whereby the legal opinion was obtained that this was all legal. Goodbody obtained a similar legal opinion that it was legal but I could not see it.
The issue was brought to the attention of the regulator at one of the meetings.
Mr. Eugene McErlean
I met Mr. Patrick Neary.
Was he the regulator then?
Mr. Eugene McErlean
He was the deputy who dealt with the capital markets end of the business.
Was he shocked?
Mr. Eugene McErlean
He seemed very shocked.
How much money was involved?
Mr. Eugene McErlean
A massive amount.
Was it millions or billions of euro?
Mr. Eugene McErlean
It was huge amounts of money. One could consider every share traded.
Is it billions of euro?
Mr. Eugene McErlean
I do not know if the figure went into billions but it certainly went into multi-millions.
The idea was that Goodbody would not, effectively, be doing what it was doing because it was tied with AIB and linking through all the other companies.
Mr. Eugene McErlean
On the face of it, the device was reasonably innocuous as it enabled them to trade in AIB. That was perfectly legitimate as in business terms they needed to do this but what was put in place was extremely far removed from it.
If they were up front about it, why could they not make this clear?
What was the benefit?
Mr. Eugene McErlean
One could speculate but I never got to the bottom of it.
Why would it be done? Why did they not trade directly?
Ostensibly it was to be at arm's length.
Was it balance sheet management or was it to avoid tax and other payments? What was the motive?
Mr. Eugene McErlean
One could speculate as to any number of reasons somebody would use an island such as Nevis to do all these trades.
It was not for the health of the country.
Mr. Eugene McErlean
I would share the view as to why anybody would do this other than if there was something to hide.
What did the regulator say? The regulator knew about this and appeared very shocked.
Mr. Eugene McErlean
Yes.
He was surprised. I am referring to Mr. Neary.
Mr. Eugene McErlean
Initially the issue concerned Mr. Neary.
When Mr. McErlean told Mr. Neary, what did he do about it?
Mr. Eugene McErlean
The net effect was nothing.
Nothing.
Mr. Eugene McErlean
He may have written a few letters.
The net result was that nothing happened that Mr. McErlean knew of.
Mr. Eugene McErlean
I could say what happened.
When did the practice cease?
We will keep to one member and come back to others; otherwise we will be all over the place. I understand the issues are very serious.
I will finish.
I want to give everyone as much time as possible.
If I can get back to the regulator, Mr. McErlean informed the authority and told it that the practice was dreadful. When he went off to do something about it, nothing happened. Did he close down the system or was Mr. McErlean out of the loop at that stage?
Mr. Eugene McErlean
I insisted that it be stopped right away.
Did anybody take any notice?
Mr. Eugene McErlean
It was stopped.
Was anybody hauled over the coals, sacked or disciplined?
Mr. Eugene McErlean
A special audit committee meeting was called to examine the report which was discussed that morning. If the Senator is asking for the net result——
Mr. McErlean does not know.
Mr. Eugene McErlean
I know the net result.
It was zero.
Mr. Eugene McErlean
Yes.
Will Mr. McErlean give us some more information on Nevis, which is news to me? It is an island with illegal operations.
Mr. Eugene McErlean
There are a number of jurisdictions which are blacklisted and with which banks are not allowed to deal.
It is one.
Mr. Eugene McErlean
It was one. I do not know if it is one now.
It was one at the time.
Mr. Eugene McErlean
Yes.
Would it be fair to say AIB was breaking the law or does McErlean know? It has received a legal opinion.
Mr. Eugene McErlean
It was done through a chain of companies, the last of which resided in Nevis.
I am finished.
I wish to continue with the question on Nevis. Who did not allow the banks deal with companies in Nevis?
Mr. Eugene McErlean
I cannot recall the exact authority. All I know is that it was on a blacklist of jurisdictions with which banks were not allowed to deal. The FATF was the organisation in question.
Surely AIB is regulated by the Financial Regulator. Would it have disallowed such action? To say it was done through illegitimate means there must have been a specific body or person with international acceptance and legal authority in Ireland to be able to make that statement.
Mr. Eugene McErlean
The acronym of the organisation is FATF but I am not sure precisely what it stands for. It came from the United States.
What authority does it have in Ireland?
Mr. Eugene McErlean
It is generally accepted that banks do not deal with countries on the black list.
It is not unlawful to do so.
Mr. Eugene McErlean
I do not believe there is a specific law in Ireland prohibiting it. I should say AIB was not dealing directly with a company registered in Nevis. It was done through a chain of companies.
Was there anything to show that the company being dealt with through the chain was doing something unlawful in Irish law?
Mr. Eugene McErlean
There were quite a number of illegalities, the most basic of which concern money laundering and customer requirements in that respect. A proper money laundering investigation should have been conducted which would have identified that the company was registered in Nevis which was on the FATF list and, therefore, should not have been a client, according to Irish law.
Does that have regard to Irish money laundering law?
Mr. Eugene McErlean
Yes.
We are talking solely about AIB shares.
Mr. Eugene McErlean
Yes.
Did Mr. McErlean find that the Nevis company was involved in the dealing?
Mr. Eugene McErlean
The audit team did a sterling job in discovering this.
Did it find anything about the company in Nevis which indicated the practices were unlawful or related to money laundering?
Mr. Eugene McErlean
The problem was that it could not look behind the screen or obtain information. The issue was shrouded in secrecy.
With regard to the Financial Regulator, the banking sector and the difficulties with which we are dealing at present, Mr. McErlean indicated that a number of people at AIB were aware of the overcharging. Do those individuals continue to hold positions in senior management or at board level?
Mr. Eugene McErlean
Some are still with the company and some are not.
Is Mr. McErlean of the view that a cosy relationship existed between the Financial Regulator and the senior management and board members at AIB?
Mr. Eugene McErlean
My belief is probably irrelevant. The facts would tend to indicate that this was the case.
Does Mr. McErlean believe that AIB effectively pulled the wool over the eyes of the Financial Regulator and that the latter did not have adequate staff or resources to adequately examine, investigate and come to a final conclusion in respect of this matter?
Mr. Eugene McErlean
I do not believe it is a question of resources. The reports presented to the Financial Regulator were extremely thorough and factual. I do not believe an excessive amount of resources would have been required to deal with the evidence provided.
Would the Financial Regulator have had discussions with the head of compliance at AIB or with the person at the highest level within that organisation who had responsibility for dealing with the regulator?
Mr. Eugene McErlean
I was that person.
That is fine. Is Mr. McErlean stating that the Financial Regulator did not take action in respect of the matter he raised?
Mr. Eugene McErlean
I do not know.
A proportion of the €65 million related to overcharging on the part of management at bank branches in respect of the time they spent with clients. In addition, some of it related to foreign exchange transactions and to payment protection insurance for premiums and policies in respect of which agreement had not really been reached.
Mr. Eugene McErlean
Yes.
What was the exact amount charged in respect of time spent by branch managers with clients.
Mr. Eugene McErlean
That is a good question. I am of the view that there is a mismatch here. From what I can establish from the information that has been published, the €65 million does not cover the management time charge that was identified by the audit team. I am in a position to say this because I provided a written estimate to the Financial Regulator in 2002. It was actually a guesstimate because I did not know the exact position. However, from the information in my possession, I was of the view that between €50 million and €75 million was liable to be repaid in 2002.
That figure did not include moneys relating to foreign exchange transactions.
Mr. Eugene McErlean
No, nor did it relate to the other insurance-type issues that emerged.
So the amount for foreign exchange transactions was approximately €20 million.
Mr. Eugene McErlean
It is difficult to decipher exactly what——
It is stated in appendix 6 that the amount was €17.8 million. In addition, the amount for payment protection is listed as being €4.6 million. A total figure of €11 million is provided in respect of payment protection insurance, early termination of lease contracts, affinity schemes applied inconsistently, stamp duty on ATM-laser cards collected incorrectly, application of incorrect interest charges and other charging errors. In respect of foreign exchange transactions, miscellaneous overcharges and interest on a foreign exchange deposit with the Central Bank and Financial Services Authority of Ireland, the total is €20.6 million. Are those figures included in the €65 million to which Mr. McErlean refers?
Mr. Eugene McErlean
Yes.
If one subtracts €31 million from €65 million, one is left with €34 million. Did the latter amount relate to the overcharging carried out by branch managers?
Mr. Eugene McErlean
I do not believe so but obviously I do not have access to the exact figures. I am of the opinion that the management time overcharging is additional to the €65 million.
It is additional.
Mr. Eugene McErlean
Yes.
Is Mr. McErlean aware of how the hourly rates for branch managers were calculated?
Mr. Eugene McErlean
I think there was a published figure of what would be the hourly rate. However, I cannot recall what that figure was. It certainly produced a great deal of revenue for AIB on an annual basis. I thought it was a brave decision on the part of the head of the bank at the time to cancel that charge with immediate effect because he was cutting off quite a revenue stream.
If branch managers spend a great deal of time with certain clients because they are problematic — Mr. McErlean indicated that such clients, effectively those with large overdrafts or big loans, were subject to the charge in question — is it not reasonable that a fee should be charged?
Mr. Eugene McErlean
Absolutely, and a proportion of the charges were clearly legitimate. However, quite an amount of those charges were not legitimate. The report is extremely comprehensive and contains all the information relating to this matter. It appears that the difficulties in this regard arose as a result of the targets that were set in respect of discretionary charges. Managers, therefore, faced a problem as to how they might meet such targets when in particular quarters they might not be involved in a large number of the legitimate meetings to which the Deputy refers.
This matter has been examined by the Joint Committee on Finance and the Public Service and was the subject of an investigation on RTE's "Prime Time". I intend no disrespect but is it not the case that Mr. McErlean is a disaffected employee who is continuing to raise an issue that has been dealt with in the past? The information he has brought before the joint committee is already in the public domain. Is it not time to point it out——
So we should just bury the information in order that no one will know about it.
I am not dealing with Senator Ross, I am posing questions to Mr. McErlean. I am asking legitimate questions and fewer interruptions from those on the left would be appropriate and appreciated.
The Deputy should proceed.
I return to my first question regarding the members of senior management and the directors who remain with AIB. I made a valid point with regard to those who remain with AIB and who were previously involved in questionable dealings and the fact that what happened only adds to the seriousness of the situation in respect of how the banks operated vis-à-vis lending during the past couple of years. However, I still believe that we should continue to deal with matters in a reasonable manner. In that context, will Mr. McErlean respond to my assertion that he is a disaffected employee who is stirring up problems for a bank that is currently in a weakened position?
Mr. Eugene McErlean
That is a fair and reasonable question to which I can provide a number of answers. It could be stated that I was removed and, therefore, dragged up some old audit issues in order to sustain my position following the Rusnak affair. However, quite a number of concerns and issues had arisen in the context of pressure being exerted on the audit department. For example, the audit department was demoted in a management restructure just prior to Christmas 2001. I was extremely concerned about that because it broke all sorts of Basle guidelines as to how the audit function should be placed in an organisation. I wrote a memo about it, knowing what the likely reaction would be. It did provoke an extreme reaction. I was so concerned that I obtained legal advice and sent papers to senior counsel because I could see that the writing was on the wall at that point. As that was happening, the Rusnak affair broke in America and it was all hands to the pumps for a couple of months. I was quite shocked at the end of the Rusnak process when it was announced that I was being removed. In that sense, I could probably be characterised as disaffected. However, my disaffection did not come from the fact that I was removed. I was already very concerned before any discussion about my removal had been put forward.
I decided to move on and forget about what had happened. I then became very concerned in 2005 when the function for which I was responsible was blamed for, at best, being asleep at the wheel and not finding all the overcharging. For a regulator, I thought that should not go unanswered.
Deputy Ardagh is quite right. I am motivated by that. I am very concerned about it. However, what happened to me is minor and insignificant. It is simply an example, and not necessarily the biggest example, of how the regulator failed to regulate. That is why many of the issues which currently occupy legislators and the public have come to pass. Whatever the situation is now, it would be much better had the regulator acted as a normal regulator.
This committee could often be described as dull but Mr. McErlean has livened it up with his discussion of south sea islands, fake brewing dynasties and money laundering. I thank him for that.
On a more serious note, he has brought attention to bear on light-touch regulation which failed dramatically. It is clear that AIB and the Financial Regulator come out of this very badly. Do we need external oversight? It seems that the banking fraternity in Ireland is very close knit. The links between the Central Bank and the regulator are far too close. I believe they share the same canteen. It would be of great assistance to bring in people who have no knowledge of the Irish banking system and embed them at the heart of regulation rather than have people who are intimately acquainted with the main figures in the Irish banking sector. I would welcome Mr. McErlean's views on that.
This leads to the question of the Central Bank and the Financial Regulator. The head of the Central Bank has been questioned by the committee. I have learned a little about the two organisations and there are very strong links between them. How do we legislate to change this? Do we separate them completely or bring them back together, joined at the hip. The current arrangement of being joined but not joined is not working. I would welcome Mr. McErlean's views on that.
Mr. McErlean spoke about money being laundered through the Nevis and Vanuatu arrangement. Does he have any thoughts or further information on the source of that money? Those are my three questions. First, do we need external oversight? Second, should we join the Central Bank and the Financial Regulator or cleave them apart completely? Third, has Mr. McErlean any thoughts on the source of the money he mentioned?
Mr. Eugene McErlean
In the current environment, it is self-evident that an external person who has no axe to grind or any particular familiarity with banking in Ireland is required. The downside of the system is that such a person would not know where the skeletons are buried. One also needs someone with intimate knowledge of the players in the market. A combination of the two is needed.
On the second question, one can concentrate on form rather than substance. Form, as to whether they are combined or separate, is irrelevant. The failure was not whether regulation was carried out by the Financial Regulator or by the Central Bank. There was a complete lack of application of the law. It is not that there was not a law. I have listened to the Financial Regulator say he did not have power to impose fines. His office does not need to do that. I have direct experience of this. Because the regulator has the power to license, it has the ultimate power. He does not need to threaten to revoke a licence. He merely needs to hint that he might. Most banks will become compliant if that is done. The regulator must exercise its power in a meaningful way. Extra laws or a huge restructuring of the organisation are not required. One simply needs the right people.
I am concerned by Mr. McErlean's discussion of the demoting of audit within an organisation. In order for an audit to be performed correctly, those in charge of the audit process should be on a par with others in the organisation. Has there been any move since then in that regard?
Mr. Eugene McErlean
That was corrected after the Rusnak affair. A complete restructuring was announced, which totally conformed with requirements. The situation I described only lasted a matter of months.
Can Mr. McErlean comment on the money being laundered through the purchase of AIB shares?
Mr. Eugene McErlean
I could not identify the source of those funds. Very large amounts of money were involved.
Were many individuals involved or was it a small group?
Mr. Eugene McErlean
A very small number of individuals.
Did the buying of the shares involve simple money laundering or was there also share price management? I would like to hear Mr. McErlean's opinion on this.
Mr. McErlean mentioned two concerns which he raised. I get the impression there were others. How many concerns did he have? He said he received a letter from the regulator confirming that a full investigation had been carried out into the matters he raised. Had the regulator investigated all the matters raised or simply the question of overcharging?
Mr. Eugene McErlean
It was all the matters.
How many concerns did Mr. McErlean raise?
Mr. Eugene McErlean
It was seven or eight.
Chairman, I believe we should go through those concerns on another occasion, not today. Mr. McErlean received a letter in May telling him all of those matters had been investigated.
Mr. Eugene McErlean
Yes.
How much time passed between his first meeting in May and receipt of the letter?
Mr. Eugene McErlean
I think it was a few weeks. I would have to check.
It was not six months. Mr. McErlean's grave concerns were fully investigated by the regulator within a few weeks.
Mr. Eugene McErlean
That is not correct. There is some confusion. I informed the regulator about this in May 2002. I received the letter in May 2004 saying the issues had been investigated.
I understand. On reading Mr. McErlean's document I assumed he was referring to only one year. He received the letter two years later.
Mr. Eugene McErlean
Yes.
Can Mr. McErlean name the other issues he raised, without discussing them in detail? There is something seriously wrong here. I get the impression that more than one bank was doing this. If there is a good idea it is usually sold to other companies.
Mr. McErlean said that on both occasions he received a telephone call from the regulator inviting him to a meeting.
Mr. Eugene McErlean
Yes.
When he mentions the regulator to whom does he refer?
Mr. Eugene McErlean
The chief executive.
At the time that was Mr. Liam O'Reilly. He was concerned that Mr. McErlean was dismissed because of the concerns he had raised. According to Mr. McErlean that was portrayed at the time as following on from investigations into the Rusnak affair and that there was a recommendation that he should go. Therefore, this phone call seems strange.
Mr. Eugene McErlean
In answer to that, I tried to access all the information the regulator had through the Data Protection Act and that took several years. I discovered that he received an anonymous letter which said this is what happened; I think that is what prompted his call.
Mr. McErlean met the regulator, raised his concerns and was asked to another meeting some months later. At that meeting Mr. O'Reilly again tried to put words in Mr. McErlean's mouth, suggesting he did not make these recommendations.
Mr. Eugene McErlean
He suggested that I had withdrawn them.
Mr. McErlean believes Mr. O'Reilly's judgment was that we did not need another scandal. Does Mr. McErlean believe that one of his superiors may have advised Mr. O'Reilly to take that view or was it an independent decision?
Mr. Eugene McErlean
It would be entirely reasonable for him to take up these matters with AIB after I raised them and I fully expected him to do so.
He would be allowed to do so.
Mr. Eugene McErlean
Absolutely.
He would have heard the opinion of Mr. McErlean's superiors in AIB before making the judgment that it was better not to investigate.
Mr. Eugene McErlean
Yes. Sorry to cut across but they said there was a full investigation into overcharging and the other matters.
Are there reports on the other matters?
Mr. Eugene McErlean
I was told I cannot access their information from now on.
Has anybody else seen the other reports?
Mr. Eugene McErlean
I do not know.
The reports were not discussed at other committee meetings.
Mr. Eugene McErlean
The point is, having conducted a full investigation they should have made a report to the Oireachtas, even if they found nothing, which is factually impossible. They should have reported that they conducted an investigation in 2002 and did not find any of the €65 million that was overcharged. That is the least they should have done.
The overcharging is only one issue; I think there are bigger issues. Did the offshore dealings of other companies give a false impression to shareholders?
Mr. Eugene McErlean
No. I am a lawyer and everything I have said is factual and can be found in reports. I try to avoid opinion as much as possible. For a period every share purchased by Goodbody Stockbrokers from a client was put in the name of one of the companies that had Nevis as a parent. Every share sold by Goodbody Stockbrokers to a client of AIB came from that company. On the counter-party note one would see the name Charterhouse, which looks like the respectable investment bank in London.
That is a nice name to use.
Mr. Eugene McErlean
Yes, it is.
There is a great deal of information that we will have to return to at another meeting. Can Mr. McErlean list the other concerns he raised?
Mr. Eugene McErlean
Deloitte went into all of this when I was interviewed and a full transcript of that three-hour meeting can be accessed. I mention this because I do not wish to detain the committee.
I would be happy to listen here for three hours but I will check out the transcript. We may need to ask Mr. McErlean to come before the committee again because there are serious issues involved in this. I believe that more than one bank was involved.
How long was this share dealing involving Goodbody Stockbrokers going on?
Mr. Eugene McErlean
This form of share dealing was not going on very long. The proposal was put before the audit committee and I was uneasy about it in its best form. The audit team examined it six to nine months later.
Mr. McErlean is referring to this particular form of share dealing.
This was an astounding abuse of the stock market that draws into question the credibility of the bank. The important point is that it ended but how did it end?
Mr. Eugene McErlean
I had discussions with the head of capital markets and he decided to end it.
How did they trade in AIB shares after that?
Mr. Eugene McErlean
They did not trade for a short amount of time and then got an exemption from the Department.
So millions of shares were bought and sold at that time through Goodbody Stockbrokers, which acts as agent for many companies. Deputy Ardagh raised the key point and I wish to return to the issue of why Mr. McErlean is here. I got en e-mail during July last year which explained that the delay in Mr. McErlean coming before the committee was partially caused by the need for AIB to consent to the use of certain documentation here. The consent of AIB was needed to put this in the public domain and I feel Mr. McErlean's credibility is enhanced by the fact that he followed due process. AIB is aware of what Mr. McErlean has been doing.
Mr. Eugene McErlean
I was subject to a gagging clause, a confidentiality agreement, and I could not breach it. When the Chairman requested me to give evidence to the committee I wrote to AIB seeking permission to set the agreement aside for the purposes of this hearing.
The most important point can be found in the final paragraph of the e-mail I received. As Deputy Ardagh suggested, it is not merely that overcharging took place and has, for the most part, stopped. The key point is that the regulator did not act. Mr. McErlean has used due process and integrity to show what he and AIB did and did not do. The credibility of his point of view is enhanced by his thorough approach. I am aware of the position in which he has been for some months and am astounded, shocked and horrified by the information he has given today. I thank the Chairman for facilitating today's meeting. We have a great deal to think about. If proof were ever needed of the necessity of an Oireachtas committee, it has been provided today. The evidence provided today has been astounding. This matter is incredibly important and must be followed up with the other players as soon as possible. This matter proves that the system works and that issues are raised and investigated. There is an appalling vista but at least we now know what is going on.
Mr. McErlean said that some bank managers did not take part in this but gave the impression that they did. Who were they hiding from? Who did they seek to convince that they were engaging in overcharging?
Mr. Eugene McErlean
The regional managers to whom they would report.
It came from the top down.
Mr. Eugene McErlean
They were set revenue targets.
They were told to meet the targets one way or another.
Mr. McErlean said that even though executive management committed to carrying out a thorough review of customer accounts the audit team found that several months after the issuing of the audit report no action had been taken. No action was taken at the very top.
Mr. Eugene McErlean
Yes.
Mr. McErlean said that Goodbody Stockbrokers ceased trading for a period; what happened to the share price during that spell?
Mr. Eugene McErlean
I do not know. One might speculate that the AIB share price was manipulated. That occurred to me as a possibility so I checked and there is no evidence this occurred. There is no evidence that the share price moved in any direction due to the trading that took place. I was concerned that a scheme such as this is exactly what one would use to manipulate a share price. It seemed we should be a million miles from any such suspicion.
Is it possible to get the Deloitte report? I have not seen it. Is it under wraps?
Mr. Eugene McErlean
I have an extract of part of the Deloitte report that relates to me. I do not have anything else.
Could Mr. McErlean let the Chairman have a copy of that?
Mr. Eugene McErlean
If I am able to provide it, given the restrictions under which I must operate, I will be happy to do so.
Does AIB hold it?
Mr. Eugene McErlean
The regulator has it as well.
If the regulator has it we should have access to it as well because it is within our remit. Perhaps you would be so kind as to find out whether you can release what you have to us. We will pursue the matter of obtaining the full report as well.
We have had a fairly explosive meeting. There is a huge number of issues that need to be dealt with. We have had a number of discussions on this but this is only the beginning. I am aware you had to get clearance but thank you for attending. We must start from here and go through the various processes because these are very serious issues. Our difficulty as we proceed is that dreadful mistakes have been made with regard to regulation and in regard to how regulations were implemented. Whatever we do as a committee, if we are to be in any way relevant, it is important that we ensure that what has been visited not alone upon Ireland but on much of the Anglo-Saxon world as well in relation to regulation can never again be allowed to happen.
It was fraud.
That might not be the correct word to use.
I am probably toning this down quite drastically. What has been visited upon us was a disaster and was allowed to happen. We will pursue the matter. We will seek the report. We would appreciate it if Mr. McErlean could release the extract of the report he has. We certainly will go into this as deeply as possible. We may return to you in the not too distant future.
The joint committee adjourned at 1.55 p.m. until 4 p.m. on Tuesday, 31 March 2009.