What is Money Laundering?

28 mins read
What is Money Laundering

Plentiful money is laundered each day worldwide. However, the most prominent money laundering situation known in history is the Wachovia bank case, as $380 billion was laundered from one of the largest banks in the US before Wells Fargo purchased it in 2008 during the financial crisis.

What is Money Laundering?

Before you started reading this guide, did you have the question in mind: What is Money Laundering, and why is it illegal? You will get all the information regarding money laundering that you need to know.

Money laundering is the process followed by criminals in an attempt to hide the illegal source of income earned by illegitimate business means. Any criminal involved in money laundering is converting their illegally earned money into ‘clean’ or ‘legal’ money that can be entered into government records and used anywhere.

Criminals from all over the world are laundering trillions of dollars every year and exerting a gloomy impact on the young generation and the country’s economy.

You might be glad to know, but some banks are complicit in the cover-up and aiding money laundering operations.

The prevention of money laundering has become a major concern for many countries in the world and now also includes terrorist funding among its targets.

Why is Money Laundering illegal?

We see many different money laundering cases in federal court that involve some type of underlying financial crime, including a drug crime, cybercrime, fraud, embezzlement crime, or a RICO/racketeering Act-type of crime.

Money laundering is entirely illegal as it is a severe financial crime employed by street-side and white-collar criminals. However, Anti-Money Laundering (AML) is a set of policies and regulations to watch and prevent this activity from happening.

All the money earned through money laundering is completely illegal as it is the process of making ‘dirty’ and ‘unhealthy’ money that promotes poverty and corruption.

The worst part about the laundering process is that criminals make the laundered money appear legitimate instead of ill-gotten.

Furthermore, the massive increase in cryptocurrency investors and online banking transactions has paved the way for criminals to quickly obtain the hard-earned cash of innocent people.

Also Read: How to Mine Cryptocurrency? 

Why People Launder Money?

Large cash-based businesses have a massive problem of hiding their money from the government. The recipients of such huge income people in business want to make their income appear to be acquired from a transparent source so that they need not incur massive income tax liabilities. Besides business people, numerous criminals primarily involved in immoral or fraudulent activities help these businessmen launder money and do not let legal authorities investigate the matter.

Why People Launder Money?

These criminals or fraudsters also launder money for themselves, such as they may get involved in drug smuggling, women trafficking, commodity/ mortgage/ financial institution/ bank/ embezzlement fraud in the urge to earn ample money in a short time.

Once they succeed in practicing the unethical business ideas and obtain a considerable amount of cash, they need to deal with the problem of having millions of rupees and create ways of ‘laundering’ the money to obscure the illegal nature of how it is obtained initially.

Money Laundering Variants

Criminals who launder money usually break up large chunks of money into smaller sums and spread them over multiple bank accounts of different persons to avoid detection. This process is called smurfing, also known as structuring.

However, the laundered money can also be achieved through the use of wire transfers, currency exchanges, and cash smugglers (Mules). The primary purpose of mules is to sneak large amounts of cash across borders and deposit that cash into foreign accounts to make the risk minimal. But how? The mules use people’s bank accounts in a country where money-launder enforcement is not highly offensive.

The other variant of money laundering includes investing the illegally earned money into different commodities such as gold and other gems that can be easily moved from places, cities, states, or countries.

Criminals can also launder money by selling valuable assets such as real estate, gambling, and using shell companies (companies that exist on papers only and have no physical entity).

How Do You Launder Money?

Money laundering is alluring for people belonging to a criminal organization and for the ones having a criminal mindset. The laundered money is used for whatever purposes the criminals may have in mind.

There are several ways to launder money; however, the most common technique is to use a legal cash-based business owned by criminals to convert illegal earnings into ‘clean’ money. For instance, a criminal may open a restaurant just to hide their illegal revenue source, use the restaurant bank account to manifest the funds, and withdraw later as needed. These types of businesses opened by criminals are also known as ‘Fronts.’

Moreover, online banking has put a new spine in the old crime. The increasing peer-to-peer transfers and anonymous online payments with mobile phones have made it pretty easy for cybercriminals to transfer public funds into their bank account by performing some immoral action. Detecting the illegal transfer of money has become challenging with the rising use of proxy servers and anonymizing software- money transferred and withdrawn is very difficult to detect as it leaves no trace of an IP address.

In addition, ample money is laundered on virtual gaming websites, gambling websites, online auctions & sales, and cryptocurrency platforms. The newest frontier of money laundering includes Bitcoin laundering, as they are excessively used for the drug trade, blackmail schemes, and other criminal activities due to their relative anonymity compared to conventional money.

Also Read: How to Make Money with Bitcoin

What are the 3 steps in money laundering?

Cash dealings in large sums of money are risky, dangerous, and inefficient. Yet, criminals need a way to deposit the huge chunks into bank accounts and make it appears as the money has come from a legitimate source.

There are 3 types of money laundering stages including:

1) Placement or Initial Entry

It is the first stage in which a particular amount of money is earned through illegal means or any criminal activity into some legitimate financial network or institution. These illegal means of acquiring funds could include bribery, theft, smuggling, and corruption.

You can break up the amount of cash into smaller sums or purchase monetary instruments such as money orders, drafts, cheques, etc., and then deposit the money directly into the offshore accounts.

It is the first step where the criminal money is ‘washed’ and disguised in a legitimate financial system.

2) Layering

Once the funds have entered the bank accounts, the second stage occurs, which is called layering. This step includes transferring the money through different investments, transactions, forms, or enterprises that help to restrict tracing the money back to its original origin. Primarily, the second stage includes obscuring the audit trail through the strategic layering of financial transactions and bookkeeping tricks.

3) Integration Stage

The dirty money is absorbed into the national economy as the funds are integrated back into the legal, financial system. It is a very crucial step and has to be performed cautiously to create a tenable explanation for where the money yielded from.

It is challenging to distinguish between legal and illegal money at the Integration stage. The criminal can withdraw and use the money legally without the need to conceal it any further. If there is no documentation to use as evidence from the previous stages, it becomes tough to catch the criminal.

Examples of Money Laundering

The process of money laundering is excessively complex. It becomes challenging for a criminal to enter the dirty money into the financial system or nation’s economy. If they get successful in doing so, they undergo a lot of risks and involve several individuals to make it a perfect organized financial crime.

I) How is the placement Stage Achieved?

All the examples/ways mentioned below will give you a better understanding of the money laundering stages.

Listed below are the most common examples of money laundering first stage, which is the placement stage:

1. Blending Illegal Funds

It is a situation in which a business blends illegal funds with legitimate takings—blending of funds is typically done through cash businesses such as restaurants/hotels, saloons, car wash centers, casinos, strip clubs, bars/clubs, etc. All these businesses have minimal or no variable costs. Therefore launderers prefer these businesses to blend the illegal funds to absorb in our financial system.

2. Smurfing

Smurfs are the individuals evading scrutiny from the central bank authorities by breaking up a massive chunk of money into a smaller proportion below the reporting threshold. The funds acquired illegally are often deposited into multiple individuals’ bank accounts or by a single person for a long duration.

3. Invoice Fraud

It is one of the elementary techniques for criminals who are involved in money laundering. They convert the illegal money and ‘wash’ it using over-invoicing or under-invoicing, phantom shipping (when originally no item is shipped but a fake bill is produced to justify the payment coming from overseas), and falsely described goods/services.

4. Aborted Transactions

The money is transferred to the lawyer for an extended period until a proposed transaction is completed. When required, the transaction is canceled, and funds are repaid to the criminal from an impregnable source.

5. Overseas Accounts

Money laundering is often placed and deposited into offshore accounts (accounts outside the criminal’s native country) as it helps criminals evade paying tax and hides the identity of the actual beneficiary.

6. Carrying Small Sums Across Borders

Under the table and below the custom declaration threshold, the laundered money can be carried from one country to another. The only way to do so is to break the large portion of the amount into a small cash sum. Once the cash reaches overseas, it is deposited into foreign bank accounts.

II) How is the Layering Stage Achieved?

Layering is the most complex stage that can be achieved by adopting the following tactics:

1. Investing money into financial institutions such as the stock market.

2. Converting by investing in shell companies with a functional front or into real estate.

3. Transferring money electronically across borders using loopholes in the legislation. The layering stage is all about converting your ‘washing’ your ‘dirty’ money and convert them into clean funds.

III. How is the Integration Stage Achieved?

The dirty money can be integrated into the national economy through:

1. Bogus invoices with over-valuation of goods exported or imported into a country.

2. Investment into real estate, high-end cars, artwork, and gold, or other high-priced commodities.

Also Read: 32 Examples of Successful Blogs for Your Inspiration

Money Laundering Act

The Prevention of Money-laundering Act was introduced in 2002. The primary purpose of the establishment of this act was to combat channelizing of money into economic crimes and illegal activities. However, the act and the rules came into action in July 2005.

The NDA government enacted the money laundering act for confiscation of property involved in, or derived from, money laundering and obstructing other financial crimes.

Money Laundering Act

Banks Involvement In Money Laundering

As informed above, some financial institutions, including banks, are involved in money laundering. Certain banks were found accused of money laundering. They were proven guilty to support criminals for letting them deposit a massive sum of money without triggering the deposit to any government statutory body.

Recently, HSBC and Danske bank branches were found guilty who failed to report the large deposits of cash to the central bank authorities or government regulatory agencies. In 2012, HSBC was accused of laundering $1 billion. At the same time, Danske bank facilitated the laundering of more than $200 billion in the Russian mob for up to 8 years (2007-2015).

Disguising ‘Dirty’ Money through Investments

Criminals use many schemes for converting illegally acquired cash and absorbing it into the legitimate financial system. One of the most basic and widely used methods is to utilize a foreign investor and get your dirty money converted to clean money.

For instance; A criminal organization needs to launder billions of rupees that they have in cash. In this situation, a foreign investor is contacted to help them conceal the origin of the money. When the money is handed over to the foreign investor, they further invest the illegal money into a legitimate domestic business owned by a criminal organization called a shell company.

(Shell companies are not involved in any business activities related to selling goods or services. Although, they have massive funds, which are instead used to invest in other businesses. These businesses generally include the legitimate businesses owned by other criminal organizations.)

The criminals always avoid the exposure that they have any connection with the foreign investor. Perhaps, the criminals can access the money deposited with the shell company by having those companies invest in other businesses’ criminal organizations and loan the money to the other company.

Further, the shell companies can manifest some losses after passing the cashback to the criminals- such as default on loan. These losses immensely help them to reduce the taxes owed. The loan default situation can also cause the shell company to fold up after declaring them bankrupt.

Now, the shell company is gone, and the criminal can enjoy the money received from the so-called ‘foreign investor,’ which is the clean source. This way, criminals are able to wash out the cash with the help of 2 companies that now do not exist. The tracing of the money back to its source becomes very challenging for the investigation authorities.

Note: By now, you have would have got to know how do you launder money. However, practicing money laundering is very dangerous, and you will get heavily penalized if you are found guilty.

What is Anti-Money Laundering?

Anti-Money laundering is an activity financial institutions perform differently to prevent financial crimes by executing specific laws, regulations, and policies. Primarily, AML prevents criminals from disguising obtaining illegitimately earned funds as legitimate income.

All the companies have to adhere to AML norms and policies. However, ensuring AML compliance can be a complex process for companies. Therefore, companies have an entirely separate department ensuring AML compliance.

The AML initiatives started gaining recognition when a group of countries formed FATF (Financial Action Task Force) in Paris in 1989. The FATF developed anti-money laundering measures and ensured their implementation. It also established international standards for preventing money laundering.

Process of Anti-Money Laundering

All companies are required to follow the rules and regulations to achieve the goal of restricting money laundering. One of the basic procedures for every company is following the ‘KYC’ (Know Your Customer) process. It allows the companies to know the brief information about their customers and help them analyze whether it is a suspicious transaction.

Companies can also apply Customer Due Intelligence procedures to understand more about their customers. This procedure also enables them to identify the customers’ risks and take requisite measures to overcome them. Some customers are included in the high-risk category, such as political-exposed people (PEP).

Besides knowing your customers and gauging their risk, it is equally important to review their transactions. Monitoring them recurrently will help the organizations detect suspicious transactions and create alerts instantly.

Why is Anti-Money Laundering Significant?

It might become challenging for a company to comply with AML regulations. As the regulations keep on changing continuously.

The number of audits and penalties has increased these days tremendously. This has become the sole reason why it has become imperative for everyone to comply with these regulations.

So, it becomes vital for every company to appoint an AML compliance officer to follow compliance processes and other regulations strictly. Another reason to appoint a compliance officer is to restrict financial crimes. However, it cannot be done manually as there are plentiful sanctions and watchlists worldwide. Any company would never want a customer who is specified in these lists. There comes the role of a compliance officer who checks whether the customer is present on these lists.

To simplify the sanction screening services for all compliance officers worldwide, Sanction Scanner is widely used that is best-known for facilitating the customers’ search in these lists.

Also Read: How to Make Money Blogging

AML Compliance Software

With the advancement in technology, the types of criminal activities are evolving and changing. One of the best AML compliance software, such as Sanction Scanner, has simplified complex compliance processes for companies and protected various companies from financial crimes. Undoubtedly, it has its own pros and cons, but it is only the technology that can prevent financial crimes.

AML Compliance

Listed below are the AML solutions if you are using Sanction Scanner to prevent financial crimes:

  • AML Transaction Monitoring Software
  • AML Name Screening Software
  • Adverse Media Screening Software
  • Transaction Screening Software

How much Money is Laundered Every Year?

Money laundering is a phenomenon that is challenging to track. But rough estimates are giving a sense of the scale of the money laundering problem in the whole world.

According to the UNODC (United Nations Office on Drugs and Crime), a study was conducted to determine how much illegal revenue is generated through organized crimes and drug trafficking, and it was investigated that about $2 trillion is laundered on this global crime, amounted to more than 4% of global GDP.

How does Money Laundering Affect Other Businesses?

The integrity and the framework of the financial system of the banks or other financial institutions are often perceived as it is functioning with professional, legal, and ethical standards. However, suppose those highly reputed banks or financial marketplaces are involved in criminal financial activities by supporting the fraudster to steal/launder the public money. In that case, it implies they have also become part of the criminal network itself. Getting any evidence of such kind of connection of financial intermediaries will have a devastating effect on the government regulatory authorities, attitudes of other financial marketplaces, as well as the customers.

With the increasing effect of money laundering, negative macroeconomic consequences will arise, which will influence corruption, crime, and disrupt the integrity of society as a whole. It may also cause inexplicable changes in money demand, increased volatility of international capital flows, prudential risks to bank robustness, high exchange rate due to the overseas asset transfer, and contamination effects on the legal bank transfers.

Does Money Laundering Impact Economic Development?

The routes to obtain laundered funds are evolving. Criminals are always looking for one or the other new way to launder their money. In addition, the economies with growing financial centers are vulnerable as developed economies are best-known for executing comprehensive anti-money laundering regimes.

Most of the criminals involved in money laundering tend to move their network to countries that can be easily be exploited and have feeble security financial systems or ineffective countermeasures. It leads to the damping effect on foreign direct investment when a country’s financial and economic sectors are influenced by organized crime. Hence, creating a healthy market environment is imperative for achieving economic development and sustainable growth.

Who Should I Contact If I Perceive any Money Laundering Case?

FATF is a policy-making body that has no right to investigate any matter related to money laundering. If by any chance, you come across any situation in which you notice any person involved in money laundering, you can immediately contact your local investigation authorities.

Contacting Fraud Barristers

Whether intentionally or unintentionally, you have been embroiled in money laundering practices. The most important thing to consider is to seek practical advice from a  lawyer to avoid any penalties or any kind of charges in the future.

If by any chance you or your acquaintance are indulged in the money laundering process, do not hesitate to get connected with a fraud barrister. It will be only the proficient shady prosecutor who can help you tackle the difficult situation.

Recommended: Top 10 Money Management Tips For Beginners

Now that we have explained extensively what is money laundering! To make the comments section more intriguing, you can also tell us why you wanted to know about money laundering or if you came across any situation where you witnessed the laundered money!

After giving our article an insightful read, you can ask the questions in the drop-down section if you have any.

You can also check our next blog on ‘how to report money laundering if you have come across any!

Sushma Singh

Sushma is a full-time blogger and financial expert. Join Sushma and 10,000 monthly readers here to learn how to save and invest your money wisely.

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