This is the first installment in a 3 part series. It provides a short background on anti-money laundering for the layperson. AML professionals may wish to skip this installment and go directly to the second and third parts. The second installment examines common AML problems faced by financial institutions today. The third installment introduces an approach that carries AML into the future.
Part I: The case for agility
Financial crime, and in particular, money laundering, has gotten its fair share of the news in recent years. In 2015, it was reported that the former Malaysian Prime Minister funneled nearly 700 million dollars from 1MDB into his personal account. In 2016, the Panama Papers revealed how clients of the law firm Mossack Fonseca hid billions of dollars in tax havens. This year, Paul Manafort, a former presidential campaign manager, was found guilty on eight counts of tax and bank fraud, with additional charges of money laundering still pending trial. We also read about Michael Cohen’s alleged hush payments to a porn star, which was picked up by anti-money laundering controls and reported as suspicious to the US Treasury Department. And like background fireworks, the global banks have lit up their share of headlines, posting record fines (exceeding 342 billion dollars between the US and EU since 2009) for misconduct, including violation of anti-money laundering rules.
Money laundering, the practice of turning ill-gotten wealth into clean money, is thought to have emerged during the heyday of the American Gangster era. Al Capone owned a number of laundromats and other cash operated businesses. Those businesses would overstate actual sales, such that cash proceeds from criminal enterprises could be reported as income. They take a hit and pay income tax, but the money is now legal. As common lore would have it, this was the origin of the term money laundering. Dirty money goes in the laundromat, clean money comes out.
Over the years, criminals have developed ever more sophisticated methods for laundering money — employing casinos, real-estate transactions, shell companies, offshore banks, and other techniques — to a staggering effect. The United Nations estimates the amount of illicit money flowing through the global financial network at somewhere between 2 to 5% of the global GDP, which roughly translates to 2 trillion dollars. Of these illicit funds, only an estimated 1% is ever uncovered, frozen, or seized.
The first explicit anti-money laundering (AML) ordinance was the Bank Secrecy Act, or BSA, which came into the books in 1970. Among other things, it required financial institutions to report cash transactions in excess of $10,000. The intent of the law was to create a system of reporting and records keeping, and financial institutions that fail to comply are hit with heavy fines. The Financial Crimes Enforcement Network (FinCEN) was thereby established as the designated administrator of BSA.
At the height of the war on drugs in the 1980s, law enforcement sought additional tools to combat drug trafficking, some of which came in the form of additional AML ordinances. The Money Laundering Control Act of 1986 designated money laundering as a federal crime, and required banks to maintain procedures to ensure and monitor compliance with the BSA. By 1989, in recognition of the increasingly global scope of money laundering, the G7 established the Financial Action Task Force (FATF), an intergovernmental organization tasked with conducting research, issuing recommendations, and establishing standards to combat money laundering across the world.
Following the September 11th attacks in 2001, focus shifted towards fighting terrorism and terrorist funding. The USA PATRIOT Act criminalized the financing of terrorism, provided law enforcement with more tools, and gave more teeth to several provisions in the BSA framework. Among other things, financial institutions are now required to have strong due diligence procedures, particularly when dealing with foreign parties; information sharing was enabled between financial institutions and their peers, as well as the government; and penalties were increased — both for money laundering offenses, and for failure to comply with anti-money laundering rules. In 2018, new regulations have come into effect that push financial institutions to determine the ultimate beneficial owner (UBO) of shell companies as part of their customer due diligence process.
History tells us that the AML landscape is constantly changing. The financial system evolves as new business models emerge and new instruments are introduced into the market. Criminals learn how to evade established methods of surveillance, and develop new ways to game the system while avoiding detection. Regulators introduce new policies in order to catch up with the criminals, and to compel covered institutions to improve their AML programs. In turn, financial institutions scramble to get their AML programs into compliance, and to avoid heavy fines. It is critical, therefore, for regulated institutions to have an AML program in place that can adapt to the changing environment. What we need is a robust technology platform for AML that is agile, capable, and scalable, that can adapt to the changing business and regulatory landscape.
In part II of this series, we look at common AML challenges faced by financial institutions today.