The Financial Crime Basics

What is money laundering? A simple guide

Find out what money laundering is and what its origins are, as well as who the crooks are, why they do it and what the process of this financial crime is.

Money laundering is a financial crime in which the source of illegally acquired money or goods is hidden from law enforcement and financial regulators by generating the appearance of legitimacy for the illicit gains. Money laundering disguises the origins of the money or goods, and can be perpetrated by individuals, tax evaders, criminal organisations, corrupt government officials and even the financiers of terrorism.

History of money laundering

2000 BC and earlier: Historical evidence suggests that Chinese merchants would conceal wealth acquired through trade from rulers and officials whom they feared would confiscate profits.

1920s and ‘30s: The USA’s Prohibition Era sees the development of organised crime gangs - syndicates - in American cities which profited enormously from bootlegging during the 13-year nationwide alcohol ban. Alongside ‘cleaning’ dirty money through gambling, these syndicates hid the source of their wealth from authorities by engaging in legitimate business enterprises. These included laundries, which is most likely how the term ‘money laundering’ came to be.

The 1970s: The USA’s Bank Secrecy Act (BSA) of 1970 obliged vendors to declare cash transactions above a certain amount. This indelibly elevated the targeting of profits from financial crime above the trend of focusing on tax evasion. The act acknowledges, emphasises, and combats money laundering in the drug trade. Reporting on the 1973 Watergate scandal saw the term ‘money laundering’ enter the media lexicon.

The 1980s: In the USA, the Reagan presidency’s War on Drugs emphasised seizing the assets and funds of drug barons.  The 1986 Money Laundering Control Act (MCLA) represented the culmination of laws passed and threw down the gauntlet to drug cartels attempting to legitimise their profits. The relevant agencies in the many countries with strong economic and cultural ties to the USA followed suit. The 1988 Vienna Convention against Illicit Traffic in narcotic drugs and psychotropic substances acknowledged money laundering as an illegal practice in relation to the drug trade. A treaty was drawn up and 171 countries pledged co-operation. At the G-7 summit the following year, the Financial Action Task Force on Money Laundering (FATF) was established to study and analyse this financial crime, and implement measures to prevent or combat it. The organisation is now 39 members strong.

The 1990s: Significantly, Mexico, as both a producer and conduit for drug cartels smuggling illegal narcotics into the USA, criminalised money laundering for serious offenses in 1996.

2000s: 2001’s 9/11 terrorist atrocities influenced the international drive against money laundering due to the role of terrorist financing in the incident. The 2001 USA Patriot Act amplified the fight against terrorism and its financiers, broadening the scope and strengthening the rules of the 1986 MLCA. Inter-agency co-operation was improved, lines of communication between law enforcement and financial institutions were increased, and the latter’s financial reporting requirements for international transactions were expanded.

2010s: While global co-operation on combating money laundering increased, the proliferation of cryptocurrencies and online trading provided more avenues for innovative criminals to commit this financial crime. Legislators worldwide responded by tightening AML laws and placing higher compliance requirements on financial institutions, imposing massive penalties for breaches and failures. The financial sector was inexorably forced into the front line of the war against money laundering.

2018/19: Improved technology, online anonymity and criminal ingenuity saw interactive, multi-player internet games emerging as a mechanism for crooks to launder money.

2020 to current: The ongoing COVID-19 global pandemic has caused lockdowns and other restrictions worldwide. High connectivity, restricted human movement, and huge technological advances in online communications have prompted savvy criminals to innovate new and sophisticated methods of money laundering, often based on cryptocurrency trading. Anti-money laundering (AML) practitioners are heavily engaged in the battle to stay abreast of and overcome this new breed of financial criminal.

Money laundering explained

Criminals partake in money laundering because their criminal activities generate large amounts of illegal funds which cannot be explained or hidden. These illegal funds need to be disguised as being legitimately obtained, so that criminals can access them without detection and reprisal from relevant authorities.

Examples of money laundering

Money laundering can be perpetrated by individuals, groups of individuals, or organisations- legal or not- of any size, anywhere in the world. Some examples of who might commit this financial crime include:

  • Drug traffickers. Because the industry is wholly illegal, multi-national, and cash-intensive, it requires multiple ways of obscuring the source of the funds it generates, so that the kingpins can safely access the proceeds.
  • Arms traffickers. Similar in form to drug trafficking, deals in illegal armaments and ammunition are often international and usually cash intensive in nature. They generate large amounts of revenue which must be re-entered into legitimate economies before being retrieved safely by the criminals.
  • Human traffickers. This illegal global industry is estimated to be worth US$150 billion per year. Its growth has seen front companies, exploitative employment practices, funnel accounts, and alternative payment methods multiply, and the need for these violent, cynical criminals to launder their illicit funds has increased.
  • Terrorism financers. Whether terrorists act for ideological reasons, alone or in groups, domestically or internationally, money is still required to fund violent acts. The funnelling of finances to facilitate acts of terror can be simple or complex. The FBI report into the 9/11 atrocities found that the operation cost Al Qaeda just US$400 thousand, using physical cash smuggling, overseas wire transfers, and debit or credit purchases from foreign banks while in the USA. These incremental money laundering methods went undetected by US and other authorities.
  • White collar criminals. White collar crimes are defined by the FBI as being “characterized by deceit, concealment, or violation of trust and are not dependent on the application or threat of physical force or violence. The motivation behind these crimes is financial—to obtain or avoid losing money, property, or services or to secure a personal or business advantage.” It differs from the other categories in that violence is not necessarily an ever-present threat, and the source of the money is not necessarily illegal, although the fraud, embezzlement, or investment scams it involves might still require money laundering services.

Stages of money laundering

There are numerous and increasing methods of money laundering, but the process always entails three consecutive stages:

  • Placement. The first stage of the money laundering process is where the ill-gotten gains are initially introduced into the legitimate financial system, carved up into portions which do not raise alarms amongst authorities. Some common methods of placement to subvert reporting mechanisms include loan repayment schemes, gambling through casinos or betting agencies, smuggling, currency exchanges, and blending funds.
  • Layering. The second stage of the money laundering process is when successive layers of legitimacy are added to the initially placed funds, until the source of the gains is sufficiently disguised from authorities to be unrecognisable as ever having been illegal. Some common methods of this stage include, but are not limited to, electronic transfers between countries, using shell companies, and moving funds between multiple banks or between multiple accounts within an institution.
  • Integration. The third and final stage of the money laundering process, this is when the criminal retrieves their illicit funds, which by now are so shrouded in layers of legitimacy that the source is all but untraceable. Some common methods of the integration stage of money laundering include making legitimate investments in legal financial streams, and the sale or purchase of high-value items.

Money laundering and AML compliance

We have seen above how money laundering originated and evolved, who the crooks are that commit this financial crime and why, and what the stages of this illegal process are. Additionally, we saw the role played by financial institutions in combating the terrorism financiers, white collar criminals and traffickers of narcotics, arms, and fellow human beings.

Globally, regulators are increasing and strengthening the reporting requirements expected of financial institutions, and fines issued to those who do not measure up saw the global total of AML breach penalties reach almost $9 billion (£6.5 billion) in 2020. It has never been more important for businesses in the sector to assess, improve, and constantly update their AML infrastructure.

Napier and the solution to AML compliance

Napier represents the next generation in AML compliance services for the financial sector. Our innovative Intelligent Compliance System is shaking up the AML environment, and is trusted by leading financial institutions globally.

Our solution focuses on easing the jobs of compliance analysts, offering a user-friendly interface for our clients, and future-proofing our service with the ongoing application of technology, automation, and artificial intelligence (AI). Our transaction monitoring and screening technology integrates rules-based approaches with machine learning to reduce false positives and focus on genuinely suspicious behaviours. Our Client Activity Review and risk-based scorecard integrate KYC and transaction monitoring to provide a holistic view of each customer and their risk level.

We believe using technology is the future of solving financial crime. Our big data architecture can be scaled to any size of organisation, from start-ups to global institutions. Meanwhile, AI and machine learning enable the automation of monitoring and screening, freeing AML teams to focus on investigating only truly suspicious activities. Additionally, we work with cyber security industry leaders, so clients can rest assured that their data is safe. Find out more about Napier’s Client Screening here.


Introducing Napier

If you would like a demonstration of how Napier can guide your company on its AML compliance journey, you can contact us here.

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