Inside Money Laundering - Anti Money Laundering

The last several weeks have seen a number of noteworthy arrests for money laundering. A fugitive American, who pled guilty to money laundering charges eight years ago but disappeared while out on bail, was finally returned to the U.S. after being apprehended in Mexico last year. And a Jamaican national was sentenced to 30 years in prison in the U.S. for money laundering, and ordered to pay $55 million in restitution to his victims – after he finishes out his 6 ½ year term for a prior conviction in Jamaica.

Meanwhile, the Danquah Institute, a liberal think tank based in Ghana issued a report concluding that many of the country's shops act as fronts for counterfeiting money, and urged the Ghanian Central Bank to take immediate measures to counter the trend. In an article on the study published on Danquah Institute's website, they noted the total laundered amount is estimated anywhere from 1 to 2 billon dollars, which includes remittances from other countries as well as proceeds from crime.

In sum, these recent events show just how much of a pervasive and dangerous threat is presented by money laundering operations. It has been linked to organized crime, drug smuggling, and terrorism, yet surprisingly many financial institution executives understand it only in broad outlines. Of course we all know that money laundering is a way to pass illegally-obtained counterfeit money through the financial system to make them appear as legitimate income. But how does that work exactly? That is what we will spend the rest of this post exploring.

The aforementioned Danquah Institute illustrates the problem of money laundering with a hypothetical about a builder and a drug lord. The drug lord is looking to launder a large sum of cash he received from a recent sale; the builder is an honest man, hired to build a house for the drug lord. If the drug lord pays for the building in cash, the money is then deposited by the builder in his bank, and then lent out to another borrower, who spends it with other stores, and so on. With the money already many steps away from its original dirty source, it will likely never be traced back to the drug lord. On the other hand, if the builder insists on a bank check or transfer, there is a good chance the money will be traced when the drug lord attempts to deposit the large sum, triggering an alert and likely denying the drug lord an opportunity to profit from his gains.

The “wash cycle” in general is usually divided into three overlapping stages: placement, layering and integration. In the placement stage, the dirty money – usually cash – is converted in form. Businesses that deal heavily in cash, such as restaurants, parking garages, liquor and convenience stores are the easiest institutions to launder through – even when engaged in completely legitimate business. Due to the frequency of cash transactions, many of these businesses have difficulty separating out the legal transactions from the laundering ones.

In the second, layering stage, money is transferred through various dummy corporations at home and abroad, to distance them from the illicit origin. The drug lord in the previous scenario could very well control who the bank lends his funds to – and in some variation of a “loan-back” scheme it could be back to himself. These shell businesses can be particularly hard to penetrate if they are based abroad in places with strong financial privacy laws – think Switzerland, or the Caymans.

In the integration stage, all the laundered funds converted into clean ones through the stages above are used for profit in obtaining a valuable product or service. This is the profit-taking stage, when the criminal collects his clean money and circulates it into the broader economy as 'clean' income.

The fight against money laundering and counterfeit currency has been waged mostly through progressively more stringent laws and regulations, founded mainly on and around the well-known Bank Secrecy Act of 1970. Four decades of additions and reformations of the law have expanded the application of the law far beyond just banks, and added harsh penalties for both individuals caught engaging in money laundering (up to 20 years imprisonment and fines of $500,000 or twice the value of the sum being laundered), and for banks taking in laundered funds (revocation of the bank's charter or insurance). Since the year 2000, all property that can be proven as tied to laundered funds can also be seized by the government.

If your business involves heavy cash transactions, or if you are worried about money laundering through your organization, there are several recommended steps to take to minimize your risk, which we will go over in our next blog post. These include getting to know your customer: their business profile, their financial habits and routines and their risk – understand fully what line of work they are engaged in, and you can understand their vulnerabilities and the types of transactions unusual to them. Knowing your customer also means verifying their identity, to ensure the accounts are not being controlled by a third party. While the means of identity verification vary from place to place, the most reliable methods always involve identity document authentication.

We will go into more detail on the BSA, FINRA (Financial Industry Regulatory Authority), KYC (Know Your Customer) and their related regulations in our next post. There will be a wealth of valuable information and some easy practical tips for anyone looking into protecting themselves from money laundering and practical tips on how to detect counterfeit money.