Money laundering is the process used by criminals to disguise funds that are generated from, or used to finance, illicit activities.
It's a serious problem in the UK, and estimates from the UK's National Crime Agency show that it costs the country more than £100 billion every year.
Financial crime is incredibly harmful to the UK economy, and businesses are required to follow legal processes that seek to stop money laundering in its tracks. The provisions can be found in the Proceeds of Crime Act 2002 (POCA), and the Terrorism Act 2006 (TA 2006) among other pieces of legislation - and require firms to take steps to identify the source of client funds. This means conducting sufficient checks to spot cases where suspicious activity suggests that funds may have been obtained from illegal activity.
Before UK businesses can start to watch out for money laundering and terrorist financing issues, they need to understand the topic more clearly. In this article, we explain how criminals handle dirty cash and outline the typical money laundering process.
In simple terms, money laundering is a form of financial crime that enables criminals to disguise the source of their money. The result is that 'dirty' money appears 'clean' - an outcome that can frustrate the efforts of law enforcement agencies to bring criminals to justice.
As we'll go onto explain, money laundering entails accumulating money from criminal activity, mixing it in with funds that were earned legitimately, and then filtering it back to its original source. This means that criminals can effectively 'cash out' laundered money without risking getting caught.
In many cases, laundered money is also used to finance the continued operation of criminal organisations. The practice is linked to a whole host of illegal activities, including:
For criminals, masking the source of ill-gotten gains is important since the alternative is to keep large amounts of cash. Money laundering also makes it far more difficult for the authorities to successfully prosecute criminals and seize back dirty money under the Proceeds of Crime Act.
Money laundering schemes are complex and often have a cross-border element. In truth, all businesses are at risk of financial crimes since criminals are often inventive and are constantly finding new ways to dodge the provisions of money laundering legislation.
When it comes to money laundering, some of the most at-risk organisations include major financial institutions, casinos, firms involved in the financial services industry, and any company dealing with sizeable cash transactions.
Criminal organisations go to great lengths to disguise both the source and destination of criminally derived funds. As a result, the ways in which they launder money are constantly changing and it can be difficult for countries and businesses to keep up with the relevant legislation as it tries to keep pace with existing and emerging financial crimes.
Despite this, money laundering stages is generally thought to be carried out over three key phases: placement, layering, and integration. All typically involve suspicious activities - but that doesn't mean they're easy to spot.
The placement money laundering stage involves placing 'dirty' money into existing financial systems. Criminal money is moved away from the illegal activities from which it was sourced, making it appear as if it came from a legitimate source.
This might involve placing the funds in an offshore bank account, and is also known as 'washing' illegally acquired money.
The layering money laundering stage entails muddling laundered money through a legitimate financial system. Criminals enter into a complicated web of financial transactions to further complicate the trail that leads back to their illicit activity.
By layering money through numerous transactions and bank accounts, criminals can obscure the source of their funds and may even resort to fraudulent accounting practices to do so. Criminal proceeds may be staked at a casino or via another form of gambling, before being used to purchase securities and other assets, and then going on to be used to purchase financial products. In some cases, criminal gangs may even shuffle money through various different currencies - moving large sums of cash on an international level.
In the third stage of integration money laundering, criminals integrate their funds into the economy. This involves extracting the money from the complex transactions of the layering stage, and using it to make large-scale investments.
Since by now the funds appear to come from legitimate sources, it becomes possible for criminals to spend their money without raising the alarm about suspected money laundering. Often, laundered money is used to purchase property, shares, and luxury assets that make criminal money seem even more legitimate.
With a better understanding of how money laundering works in theory, firms can start to look out for signs of suspicious activity. There are a number of well-known money laundering schemes out there, and while money launderers are always looking for new ways to conduct criminal activities without getting caught, many of the schemes they use have similar features.
There are countless ways for money to enter the financial system, but there are some more common ways in which criminals approach the placement stage of money laundering.
This involves blending criminal finances with the takings of a legitimate business. Money launderers generally use cash-based businesses such as car washes, betting shops, bars, and tanning salons to syphon criminal funds into the market. The term money laundering actually stems from the fact that criminals historically used laundrettes to mask the proceeds of crime.
'Smurfing' is the practice of splitting a large amount of money down into smaller transactions. In doing so, criminals can make their activities seem less suspicious and prevent their transactions from crossing the reporting threshold set by anti-money laundering legislation.
Illegal funds are typically deposited into one or more bank accounts by various people (known as 'smurfs') over an extended period of time. The practice makes it seems as if the money has come from genuine legal activity, and is much harder for banks to spot than huge cash deposits.
Invoice fraud is the practice of using a business to over or under bill for goods or services. On a basic level, it involves over-invoicing or under-invoicing or providing false descriptions of goods. Phantom shipping is another well-known form of invoice fraud that involves creating documents for orders that are never actually shipped. This practice allows for criminal gangs to transfer money gained from illegal activities to foreign countries.
Criminals frequently use offshore accounts to avoid the gaze of international law enforcement agencies and the financial action task force. It can be very hard for official bodies to identify the true beneficial owners of offshore and overseas bank accounts, making it very difficult to track money laundering.
Another means of laundering dirty money is to carry it overseas and to pay it into a foreign bank account. To do this, money launderers typically carry small sums over international borders in order to avoid having to make a customs declaration.
To move money into a legitimate financial system, some criminal organisations transfer money to a lawyer, an accountant, or a financial institution. The funds are paid into a client account in expectation of a major transaction, which is subsequently cancelled. Criminals can then request the repayment of their money, making the funds seem as if they came from a legitimate source.
Layering is arguably the most complex stage of the money laundering process, as criminals attempt to create a confusing web of transactions and transfers. This might involve converting money into other forms of international currency, investing in shell companies that appear legitimate, putting money into real estate projects, or purchasing stocks and other assets.
It's much harder to trace the origins of money when it's moved across international borders. Firms should generally be on the lookout for money that has moved through multiple jurisdictions before being spent in the United Kingdom. The involvement of currency exchanges and international banks can further complicate anti-money laundering processes, and so businesses need to carefully scrutinise any payments that have a cross-border element.
By investing in stocks and other securities, it's possible for criminals to effectively disguise the source of their illegal funds. While many financial institutions and banks that provide investment services are on the lookout for any criminal activity, it's much harder to trace money back to its source once it has been invested in the markets.
Shell companies and even functional businesses can be used to disguise the real origins of laundered cash. These are often small enterprises that frequently take cash payments, and so it becomes very difficult to sort illicit capital from physical money that has been earned by offering a legitimate product or service.
Once so-called 'dirty' money has been cleaned, it can be integrated into existing financial structures. In many cases, criminals use laundered money to invest in luxury products such as cars, jewellery, and artwork. They also make investments in the property market, and may even go as far as to create further fake invoices to overstate the value of the goods they import or export.
Once a criminal has disguised the origins of cash generated from fraudulent and illegal activities, they often start to invest in order to create legitimate streams of income. It's worth noting that the money generated from these investments is sometimes used to finance future criminal endeavours, and so the cycle may very well continue.
By over-estimating the value of goods imported or exported from a country, criminals can further obscure the source of laundered money. They might purchase new assets with 'clean' money before using them to integrate and layer further illegal gains throughout the market.
As shown by the above explanation, money laundering is an extremely complex form of financial crime that can make it very difficult to prosecute criminals or to reclaim their illegally sourced assets. To protect the economy, consumers, and individual firms, authorities in the UK and EU require businesses to take various steps to identify and report money laundering activities.
Put together, the measures prescribed by the relevant legislation create a body of anti-money laundering requirements that certain businesses must follow. Although the exact compliance requirements imposed on businesses vary based on sector and a number of other factors, firms generally need to:
Failure to comply with these rules so could lead to a significant fine or even a prison sentence, and so there's really no room for manoeuver when it comes to anti-money laundering laws.
UK businesses and financial institutions are bound by law to conduct due diligence checks on certain customers, and to report their findings to regulators. The scope of the various anti-money laundering rules is broad, and so complying with the law is no mean feat.
Although the rules may be somewhat restrictive, the dangers of money laundering should not be understated. In your business was used as part of a money-laundering scheme, you could suffer untold reputational damage on top of substantial fines and trading penalties. In the most severe cases, the directors and employees of businesses who fail to take the necessary actions to prevent financial crime may face criminal prosecution and even incarceration.
To avoid these very serious consequences, businesses must develop policies for know your customer (KYC) checks, and may also need to engage in transaction monitoring and enhanced identify verification processes.
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