MONEY LAUNDERING

Money Laundering – it is the disguising of the existence, nature, source, control, beneficial
ownership, location, and disposition of property derived from criminal activity. It is the process
through which criminals disguise illegal assets as legitimate assets that they have right to possess
and spend.
Assets can be tangible or intangible. The aim of money laundering is to make proceeds of illegal
activities such as drug trafficking appear as legitimate. Money laundering activities are not caught
in the official statistics therefore only estimates from experience, extrapolation and intuition can
be used to estimate the possible value of money laundering business.
Criminals prefers cash transactions to avoid being traced, however they face problems in
disguising larger volumes of money.

The Money Laundering Process

The stages involved in a money Laundering process
 Placement. It is a stage in which the money launderer introduces his illegal money/profits
into the financial system. The placement of laundered money can take various forms
including
 Moving money or carrying money physically out of the country and depositing it in
an offshore banks.
 Structuring of Transaction – in a way that is designed to avoid the regulatory
requirements e.g. depositing funds just below the threshold for reporting of
currency transactions.
Smurfing – is technique in which money launderers breaks up the illicit money into
smaller amounts and deposits into bank accounts or purchases traveler’s cheques
or money orders.
Placement stage is regarded as the critical point of discovering the laundered money. It is
the stage where there is direct link between the profits and the physical evidence of the
crime.

 Layering. It aimed at preventing the possible detection of the laundered money. It involves
the designing of numerous complex pattern of financial transactions to prevent detection
by authorities.
The process takes advantage of the country’s lack of cooperation with foreign
governments, and law enforcement agencies. The process has become easier due to
emergence of alternative remittance methods e.g. mobile transfers and digital currencies.

 Integration. The final stage in the money laundering process whereby money laundering
profits are integrated into the economy as legitimate business.
 The process can be detected if it leaves the paper trail e.g. title deeds, invoices and loan
documents, transaction reports at financial institutions, if there is cooperation among
foreign entities.
Money laundering also aims at converting large stores of currency into other assets. The criminals
also prefers to keep substantial portion of their money liquid reserves such as checks and other
financial instruments. This is because –
- Checks and money orders are bearer instruments; can be deposited without requiring
disclosure of the identity and sources of funds
- They are liquid, can be used immediately when required

Methods of Money Laundering

Anti-Money Laundering Professionals (AML) needs to be updated of the approaches that are used
in money laundering process. These are –

1. Using Front Business to Launder Funds.

This methods involves filtering money through a seemingly legitimate business (front business).
Criminals prefers front business because
- Front business provide them with safe place for organizing and managing criminal
activity, larger numbers of people will not raise suspicion
- Front business provides cover for delivery and transportation related to criminal
activity.
- The expenses of criminal activity can easily be treated as legitimate business
expenses, likewise revenues.
Common methods used to hide assets or launder money through front business are
 Overstating reported revenues and expenses. It involves the process whereby the money
launderer records more revenues than actual amount generated by the business. The
fictitious revenues are mounts injected into the business though illegal activities.

Overstating revenue has disadvantage of increasing tax liability, there overstating the
expenses counteracts the disadvantage of increased tax bill. Business expenses are tax
deductible therefore inflated revenues figures are saved from being taxed.

Overstating expenses are also aimed at siphoning out of business to make payoffs, buy
illegal goods, or invest in other criminal ventures. Among commonly used methods of
overstating expense is padding (buying supplies which are never received). Methods of
inflating expenses include
- Fictitious employees
 - Fictitious fees
- Inflated invoices
Detection of inflated revenue and expenses are more difficult. Use of inside information is
more appropriate and verification of ghost employees.

 Depositing, but not Recording Revenue. The practice involves depositing of cash into
front business’ /company’s bank account as a normal business revenue, but failing to record
the excess amount. The excess amount of cash is treated as a loan advance.

Detection of the practice can easily be done by examining the business’s revenue records,
and verification of assets source documents

Favorite Businesses for laundered money. Money laundering prefers businesses with the
following characteristics
 Revenue – often businesses with revenue bases which are difficult to measure and
with cash transactions e.g. bars, nightclubs and vending machine operations,
restaurants, wholesale distribution businesses and antique businesses.
 Expense – front businesses with variable expenses which are difficult to measure
 History – criminals prefers laundering money through their historical ties e.g.
ethnicity or criminal groups

2. Real Estate Industry.

Real estate industry is attractive for money laundering due different reasons namely
- Real estate business involves different parties e.g. brokers and agents; which can help hide
the identity of the true owner
- Real estate can help generate additional profits
- The procedures in real estate business and linked financial transactions can easily be abused
by criminals to obtain and use the illicit money

Common schemes / methods of Money laundering through real estate business

 Loan-Back-schemes. It is a scheme in which the launderer essentially borrows money
from himself. First, he sets up a lending company in a country with few financial
regulations. Then he fills its coffers with illegal profits, layered through multiple accounts.
When the launderer wants to make a purchase in his home country, he simply "borrows"
the money from the overseas lender. This money, once illegal, now appears to be a
legitimate loan. the purpose of the loan is to make its source more legitimate

 Back-to-Back Loan Schemes. It is a technique in which the money launderer borrows

money from financial institutions using the property obtained from illicit activities as a
collateral. This gives the loan appearance of legitimacy.
  Shell Entities. It occurs when the criminals use shell companies (inactive companies) with
no assets to hide their identities, due to secrecy in establishing the companies. It helps them
to hide the source and destination of funds.

 Appraisal Fraud. The technique involves the appraiser incorrectly values or intentionally
overvalue or undervalue the property (as part of the scheme) to defraud the lender. The
money launderers use the illicit profits to service the legitimate debts. It may also involve
frequent sales of the same property with the purpose of raising the price of the asset.

 Monetary Instruments. It occurs when the money launderers use the illicitly obtained
funds to acquire, build or renovate the properties through cash, telegraphic transfers and
other legitimate financial systems.

 Mortgage Schemes. The scheme occurs when the money launderer uses the illicit funds
to repay the interests on loans and selling the property at handsome profit after repayment
of the loan. In a typical scenario, the criminal undervalues the property, obtains a loan
based on undervaluation, then repay the excess amount using the illicit funds.

 Indirect Investments in the real estate Industry. To conceal the identity of the criminal,
the money launderers invest in real estate in which they have no direct control over the
assets or other investment method.

3. Emerging Payment Methods and Schemes.

Much of the modern payment methods are the outcomes of the technological advances.

 ATMS. The ATMS are less expensive thus allowing the launderers opportunity to inject
illicit funds into the economy. The fraud scheme is perpetrated through the privately owned
ATMs. The machines are filled with illegal funds. Also the machines are nowadays provide
the customers with opportunity to deposit funds without revealing their identities.

 Prepaid Access Items. They are goods and service which are paid in advance. Prepaid
items provide opportunity for customers such generating cash flow before paying for the
goods. Categories of Prepaid Items.

 Open Loop. It means the funds e.g. debit cards can be used at any location that
accepts the brand or for purchasing items anywhere the seller accepts the mode of
payment. The Debit cards are considered open loop as the user can withdraw funds
from any ATM around the globe. Mobile phone payments allowing withdrawal
can be regarded as open loop. Open loop prepaid items do not accept negative
balances.
 Closed loop. They are only accepted by the issuing organizations and their
affiliates. They cannot be redeemed for cash.
  Semi-open loop/semi-open loop. The purchases can be made in any location where
the seller accepts payments, but like closed loops, they aren’t redeemable in cash.

Vulnerabilities of Prepaid Items

 The issuers and users of the prepaid items have fewer regulatory restrictions as
other traditional financial institutions i.e. are less covered by AML regulations.
 The issuers are less required to perform due diligence compared to traditional
financial institutions
 They offer greater opportunity for anonymity than basic debit and credit cards
 They can be transported abroad with ease and used for purchases anywhere around
the world

To avoid the restrictions on limits of amounts that can be loaded on the prepaid items such
as debit cards, they acquire several cards.

 Mobile Payments / mobile banking. Mobile payments involves using of accounts

associated with mobile phones to facilitate transactions. Vulnerability of mobile payments
- Mobile phones aren’t properly regulated because they are still in development
stages.
- many countries lack AML laws covering mobile payments
- mobile payments can be used to transfer moneys anywhere across the globe
- They allow for anonymity of the user of the mobile phone payment users – thus
helping hide the paper or digital trail.

 Digital Currencies. They are currencies which exist and are traded in digital format e.g.
bitcoin. They function as person to person payment systems, and require no financial
institutions in transfer of persons. They are less regulated due to complexity. Many service
providers do not have effective customer identifications or recordkeeping practices.

Digital currencies pose challenges to regulators because they operate online and can be set
easily in countries with lenient financial regulations. They can be difficult to shut down
because they operate in a peer to peer network. They are prime target for money laundering
because
- They allow transactions anywhere across the world – provided internet connection
- Funds are transferred without identifying information
- Transactions are conducted in unlimited volume
- Transactions are conducted anonymously
- Transactions are confirmed within a short period of time.

 Virtual Assets. They are similar to digital currencies, except that they are assets tied to a
particular service or online activity e.g. gambling. They are scarce and can easily be
transferred among parties involved.
  Bulk Cash Smuggling. It is the conveyance of physical cash from one country to another
with lax financial regulations. Criminals use various means such as vehicles, luggage,
express packages, commercial shipments, private aircrafts and private boats.

 Trade Based Money Laundering. It is a method that encompasses international trade to

disguise the transfer of illicit funds. It may involve manipulation of trade documents to
over-or under-pay for imports and exports using criminal proceeds to buy precious items.

4. Banks and Other Depository Financial Institutions.

Significant portion of money laundering proceeds pass through the financial institutions, mainly
as a consequence of collusion between the bank employees or unintentional/ unknowingly – aid
criminals. Despite penalties for violations, the banks can turn blind eyes with the expectation of
higher profits and commissions paid to employees.

Money laundering can occur at individual level when the criminals bribe the bank officials dealing
with sanction screenings to manipulate or circumvent the procedures.

At management levels, the management might implement weak policies it objectively understands
are not sufficient for preventing money laundering activities through the bank. Banks specially
owned by private organizations can operate front organizations.
Some jurisdictions have low capital requirements for establishing a banking institution, thus
providing money launderers with fewer assets to start their banks to assist them in money
laundering

5. Money Services Businesses

Money service businesses are organizations which are regulatory class of non-depository financial
service providers that transmit or convert money. They include currency exchangers (e.g. bureau
de changes), check cashers, issuers, sellers or redeemers of traveler’s checks, money orders, money
transmitters, prepaid access providers.

MSBs provide alternatives to money launderers because they are less regulated compared to banks
and other traditional financial institutions. They do not thoroughly verify the identities of their
customers as banks are required to do.

6. Insurance Companies.
Insurance services are purposely aimed at protection against risk e.g., against assets and health.
Because of the offshoot of new services offered by the insurance companies e.g. investment
opportunities, they have become prime targets for money laundering activities.
The nature of insurance operations through brokers and agents makes it easier for money
launderers to obscure their identities. Methods used in money laundering linked to insurance
companies include
  Redemption Schemes. These are insurance schemes which allow the insured to redeem
their insurance policies prior to events that triggers the insurance policy. Money launderers
can purchase life insurance for themselves and associate which are redeemable, making
insurance payout to look legitimate.

 Prepayment Services. The practice occurs when the some insurance companies allow for
their clients to pay for their policies in advance. This becomes more attractive for the
money launderers. Also some insurance policies are very expensive thus requiring larger
amounts which are making them more attractive for criminals.

 Cancelled Policy Schemes. The policies with cancellation provisions provide opportunity
for temporary storage of the illicit money by criminals. The policies allow for the return of
the unused premiums in case of cancellations.

7. Casinos
The casinos – operate in a high-volume cash intensive industry and provide financial services e.g.
deposits and credit accounts, funds transfers, check cashing and currency exchanges; outside the
traditional financial system. Different uses of casino chips by money launderers include
 Holding the chips for a period of time and later cashing them in for casino check or money
transfer
 Using chips as currency to purchase drugs who then cash them
 Using chips to gamble in hope of generating certified chips.
Growth of internet gaming industry e.g. betting in some countries requires only little amount of
capital which possess the challenge to law enforcement

8. Shell Companies
They are businesses with no physical presence except address and generate no independent
economic value. Shell companies are proper tools for money laundering because they have ability
to hide ownerships and mask financial details with no public disclosure. Lack of transparency
prevents detection of suspicious transactions.

9. Charitable and Nonprofit Organizations.

Their operations depends on gifts and contributions – thus making them good tool for hiding illicit
assets. The organizations are controlled by criminals and their associates and uses the funds outside
the purpose of the charity. The emergence of online donation also have made it easier for criminals
to disguise their identities in donations to corrupt organizations.

10. Calling in Specialist

The money launderers can use the help of others to disguise their identities in transferring and
conversion of funds. E.g. the use of couriers, with no connection to money launderers helps the
criminals to retain their identity from being known to authorities.
They may also employ gatekeepers e.g. lawyers, accountants, realtors, insurance brokers, stock
bankers and bankers to assist them in laundering money. The gatekeepers play the role of
disguising the identity of the criminals in transfer of funds and commercial transactions, layering
of criminal property and disguising the ownership of the property.

11. Alternative Remittance Systems (Parallel Banking Systems)

These are methods of transferring funds (domestically or international) from one party to another
without using formal financial institutions. They are characterized by lack of direct physical or
digital transfer of money from one sender to receiver. The payer transfers funds to another person
e.g. broker – with connection to location of the criminal.

These systems are basically legal and are used in transfer of funds across the hostile territory and
overcoming difficulty of transferring large volume of cash. However, they become more attractive
to money laundering due to lack of paper trails –usually informal ledgers are maintained by parties
of the transaction. Examples of alternative remittance systems are – Hawala in east, North Africa
and horn of Africa)

Why criminals prefer alternative payment systems.

- No need for formal identification
- Takes shorter period to complete the transactions
- It is cheaper than bank fees
- Doesn’t require currency conversion
- Lacks a coherent paper trail.

Red flags of money laundering through alternative remittance systems

 Use of cash payment which is handled by another forms of payment
 Lump sum payments made in foreign currency
 Reluctance to provide normal information when setting up a policy or account
 Establish large investment policy which is cancelled after short period and money paid to
a third party.
 Suspicious transactions involving particular ethnic groups
 Services provide internationally but provided locally

International Anti-money Laundering Efforts

Initially, anti-money laundering efforts were directed at illicit funds from narcotics (drugs). After
the 11.9.2001, the focus has widen to funds not only from drugs but those aimed at financing
terrorism activities.

The United Nations

The UN plays roles in international AML by
 providing informational sources such as
- Statistical studies
- Expert advice to policymakers
- Red flags and risk factors of money laundering
  It sets policies for its members to adopt e.g. requirements to criminalize money laundering

The UN plays important role in anti-money laundering efforts through:

 1988 Vienna Convention against Illicit Traffic in Narcotic Drugs and Psychotropic
Substances,
 Global Program against Money Laundering (GPML) established in 1997, providing
international community with tools and information for fighting AML.
 Convention Against Transnational organized crime (2000) – it required member states to
- Criminalize participation in organized criminal group, laundering proceeds of a
crime, corruption, and corruption involving public officials
- Regulate and supervise financial institutions and other industries vulnerable to
money laundering
- Take measures to confiscate the proceeds of crime
- Process request of other members to enforce penalties for criminal offences etc.
subject to approval
- Provide assistance to member countries with law enforcement and investigations
- Train law enforcement personnel, detect and control money laundering and
organized crimes

Financial Action Task Force on Money Laundering (FATF) -1989

The Financial Action Task Force on Money Laundering (FATF) was established during the 1989
G7 Summit in Paris to combat the growing problem of money laundering, currently has 36
members. There are Forty Recommendations and Special Recommendations on Terrorism
financing (40+9 recommendations) – International Standards on Combating Money Laundering
and the Financing of Terrorism and Proliferations – the FATF Recommendations.

The purpose of the FATF was to develop and promote standards and policies to combat money
laundering and terrorist financing at both national and international levels in cooperation with other
bodies i.e. World Bank and IMF.

The FATF Recommendations (revised 2012)

They serve as basic framework for laws that its members should have. Key measures in the
recommendations are
- Use risk based approach when setting AML – policy
- Create policies that increase cooperation with other countries
- Criminalize money laundering and terrorism financing
- Enable authorities to trace, seize and confiscate proceeds of money laundering
- Require financial institutions to establish and enforce anti money laundering programs
- Apply due diligence and record keeping requirements to designated nonfinancial
businesses e.g. casinos, jewelry and precious metals, real estate agents.
- Register money transmitters
- Create financial intelligence units (FIUs) and require financial institutions and other risk
based industries to report suspicious activity to them
 - Ensure competence of the law enforcement personnel
- Have detection methods for cash smugglers
- Develop proportionate penalties for violations by individuals and entities
- Cooperate to the fullest extent reasonably possible through legislative, judicial, and law
enforcement efforts.
Key FATF recommendations
 Legal systems – countries should establish legislations which effectively criminalize
money laundering
 Financial institutions – financial institutions should establish AML programs, perform
customer due diligence, deter money laundering and terrorism financing, reporting of
suspicious transactions, regulation and supervision of financial institutions
 Large Cash Transactions – countries should implement reporting requirements for
financial institutions and designated non-financial businesses and professionals that engage
in transactions that are above the country threshold.
 Cross-border transfer of currency – countries should ensure disclosure of the individuals
engaged in transfer of money and bearer money instruments which are above the country’s
threshold across their borders
 International Cooperation. The countries are to forge cooperation in terms of legal
assistance etc.

The International Monetary Fund / World Bank

The IMF and the World Bank participate in AML efforts through assessment of financial sector,
technical assistance in the financial sector and policy development

Egmont Group. It is an international network of FIUs with national centers which collect
information on suspicious activities. Its aim is to increase sharing of information.

European Union. It is responsible for enforcing AML in the European Union. Measures enforced
by the EU Commission are
 Requires measures to guard against corruption involving PEPs and simplified customer
procedures
 Requires information on the payer to accompany transfer of funds for purpose of
preventing, investigating and detecting money laundering
 Persons entering or leaving the EU with currency of Euros 10,000 or more to declare
 It lays arrangements for cooperation among member states’ FIUs

AML Enforcement and Prevention Strategies

These measures should be undertaken by financial and nonfinancial institutions.

 AML Programs. Financial institutions are required to have AML Compliance programs.
The program should help establish – internal policies, procedures and controls to ensure
compliance, provide testing of compliance by internal auditors and / or outside examiners,
 designate a compliance officer (s) to ensure day to day compliance with AML, provide
training on an ongoing basis for all personnel.
 Compliance officer. A business should select a person responsible for dialing
monitoring of compliance with AML, with authority to perform audits to ensure
that the program is well functioning.
 Policy statement. All entities dealing with significant cash amounts should have a
written policy against handling of proceeds of illicit activities. Employees should
operate with highest moral and ethical principles.
 Know your Customer (KYC) Programs. Financial institutions should perform
background checks on all customers and; should monitor existing customer
activities to identify possible suspicious activity. – verification should be based on
reliable and independent data sources

 New Deposit Accounts. Minimum standards should be established for opening of new
deposit accounts – name, address, date of birth, government – issued identification number,
current employer, business and residence contacts, taxpayer identification number and
description of the business– to identify the true owners of the accounts.

 New Loan Accounts. Financial institutions must perform due diligence before opening
new loan accounts for their customers or risk losing pledged collateral due to money
laundering i.e. seizure of illicit proceeds by the government. In addition to this, the fincnail
institution may be liable for fines and penalties.

The financial institutions should verify the purpose of the loan, legitimate and reliable
sources of repayments, verify consistency of the loan purpose.

 Services for Non-Account Holders. Financial institutions should establish strict

identification and record keeping requirements when transacting with customers not
holding accounts e.g. in currency exchanging, telegraphic transfers. Information such
address, name and photo IDs of persons should be maintained

 Monitoring Accounts. In addition to establishing the identifications and record keeping

of the transactions, financial institutions should monitor the accounts to identify any
suspicious transactions, or if the accounts are consistent with the normal business of the
customer. The institution will need to protect itself by discussing with customers reasons
for changes or otherwise if unsatisfactory explanation is given, it should report to the
relevant authority for further actions.
Special Problems for Insurance Companies
Due to services that are offered by insurance companies, they have become the targets for money
laundering activities. Products which involve substantial premium amounts or single premiums or
to –up policies e.g. life insurance are prone to money laundering.

Red flags of Money Laundering in insurance activities

 Purchase of lump sum contracts, while the customer usually engage in small contracts
 Use of third party checks to purchase or make investment
 Early cancellation of the contract
 Lump sum payments made in foreign currency.
 Reluctance to provide sufficient information when opening new accounts
 Use of wire transfers to move funds from tax havens
 Establishing of large investment policy then request cancellation within a short period

Detection
Like traditional financial institutions, insurance companies must establish and implement AML
programs such account monitoring, such as policy cancellation reports –including the surrender
values of insurance policies.