Money laundering - Dirty money

As the authorities hunt for Saddam's millions, Hitesh Patel looks at how money is laundered and how accountants should stop it.

To take the glamorous, 'airport-thriller' view of money laundering, it is something that only happens in the sun-kissed climes of Caribbean off-shore tax havens. Swarthy, moustachioed men with Columbian accents turn up at dubious banking establishments, place briefcases full of cash on the counter and, a few international money transfers later, walk out knowing their money has been fully 'cleaned'.

As with all fiction, this view only tells some of the story.

Money laundering is, today, a truly global problem, affecting banks and other financial institutions in every country, with the western banking system particularly targeted by criminal or terrorist gangs. The local branch of your building society can be just as much at risk of targeting by money launderers as the offshore institutions.

That's not to say there aren't some strong elements of reality in this fictional picture. Given that every dollar on earth has moved through the hands of the drug cartels at least once, the Columbian accents are a regular feature.

In the system

And the first stage of money laundering - placement, in which 'dirty money' is first entered into 'the system' - is statistically more likely to happen in emerging markets or in other regimes where the banking regulations are not so tight or are being developed.

But the next two stages - layering and integration - are as likely to take place in London as they are in Bogota or Grand Cayman.

Layering is the process of moving money around to confuse the trail behind its origins. Launderers will often transfer money between banks, between fictitious entities or between jurisdictions regarded as secrecy havens; will purchase financial products or policies and then cash them in almost immediately; deposit bearer securities, third party cheques or purport to undertake international trade using unorthodox foreign exchange settlement schemes; or generate that 'clean' money which they are seeking.

Integration is the final step, in which that clean money is generated.

The criminal has, say, bought a yacht during this layering stage; integration is achieved when he sells the yacht through nominees or front companies and can bank a large cheque for 'clean' money, backed up with a receipt for a 'legitimate' sale of the boat.

While it is easier (usually) to spot placement of dirty money, these next two stages can be a lot harder to uncover. In mature banking systems, such as the UK, it can be almost impossible without the right specialist skills.

Yet recent legislation, particularly in the wake of 9/11 and the stepping-up of the war on terrorism, has placed a far greater onus on banks, certain business sectors and professional advisers like accountants and solicitors, to identify and report suspicious financial activities of their clients.

It is one part of a trend in which business has become exposed to far greater responsibilities for policing the activities of its staff, its customers and its business partners - and can face significant penalties for failing to do so effectively. The Patriot Act and new Securities and Exchange Commission regulations in the US, and the UK's Proceeds of Crime Act, Anti-Terrorism and Security Act, and the newly formed Asset Recovery Agency all have impact on business and individuals in Britain (see Accountancy, April, p46).

And given the failures of some of these pieces of legislation to really impact on terrorist financing (Al Qaeda funds, for example, pass largely through the Hawala banking system, which leaves no transaction trail through normal banking systems and therefore bypasses very effectively the Patriot Act), we can expect even more focus on the commercial sector's role in the battle against crime and terrorism.

Ignorance is no excuse and, importantly, there has been a major swing in the burden of responsibility. Whereas firms or individuals used to be prosecuted for being aware of problems and doing nothing, now they can be penalised for simple negligence (poor monitoring procedures) as well as failures to train staff appropriately.

So how do you protect against money launderers targeting your business?

What should accountants look out for in particular?

There are some warning signs. Techniques used by money launderers are, to the experienced eye, often easily visible.

Raising eyebrows

'Smurfing', for example, in which a bank sees large numbers of accounts being opened or placement of lots of small cash deposits on a regular basis (under levels which would not arouse suspicion). Or funds movements without obvious commercial bases, shell companies and unnecessarily complex commercial structures, use of professional client accounts or nominee bank accounts … all of these provide strong hints there may be some element of laundering going on.

Accountants should be diligent in tracking and understanding the basis of transactions passing through their companies or their clients' companies.

Look out for inexplicable cashflows, trading patterns that are inconsistent with normal seasonal, geographical or sectoral business benchmarks, concomitant large deposits and withdrawals, unusual debt right-offs, income or payment to unconnected third parties, and transactions outside the normal range of services, size or pattern.

When 'red flags' appear, be ready to investigate and also report. Forensic accounting skills may be necessary to untangle the money trails - but that time and resource can be a small investment compared to the financial and legal penalties that businesses face under these new regulations, not withstanding the reputational damage.

Don't be fooled into thinking of money laundering only as an outside-in problem, in which criminals or terrorists target the organisation only from the outside. Lucy Edwards and her partner-in-crime Peter Berlin laundered more than $7bn (4.4bn) through the Bank of New York over a period of 42 months - having secured jobs within the bank that allowed them to do so.

Inside job

In fact, this is probably the main weak point of a great many institutions.

Companies will often have very effective money-laundering detection and prevention systems in place - but put those systems in the hands of 'unscreened' employees who can easily bypass them if they are working for criminal gangs.

At The Risk Advisory Group, we screen thousands of candidates for jobs at banks and financial institutions every year - and as well as uncovering the more 'standard' CV exaggerations or 'white lies', we also uncover candidates with criminal or terrorist connections. The implication is clear: the more sophisticated gangs know that if they can get people on the inside, their chances of successful laundering are much higher.

The steps for companies are, therefore, relatively simple: screen employees in sensitive positions; show diligence in watching for the 'red flag' warning signs; be ready to investigate any suspicious transactions and more critically ensure suspicious transactions are reported.

For governments, the tasks need to be a bit more onerous. Law enforcement agencies should be resourced with the specialist accounting skills, tools and techniques to uncover money laundering - and, critically, in enough numbers to allow investigations to take place in a timely and effective manner.

As importantly, as this is a global problem, governments must work together, to ensure their legislation meshes together effectively, and their law enforcement agencies share information to target the launderers.

With terrorist and criminal gangs running their financial arms along the lines of large multinational corporations, it is no surprise that money laundering is, and will continue to be, a serious problem for the banking and financial systems in the UK.

But firms can take action - and diligence by professions such as accountants is often one of the more effective steps in doing so.

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