MONEY LAUNDERING

Prepared By:
Ahsaan Nadeem
CMS No. 24698

Submitted To:
Abdul Kareem Rana

Contents
1 Definition ............................................................................................................................................. 2
2 Different ways of money laundering ................................................................................................. 2
3 Risks of Money Laundering ............................................................................................................... 3
3.1 Risks to Privatization Efforts ..................................................................................................... 3
3.2 Reputation Risk ........................................................................................................................... 3
3.3 Risks to Banks ............................................................................................................................. 3
4 Effects of Money Laundering on Different Sectors of Economy .................................................... 4
4.1 Financial Sector ........................................................................................................................... 4
4.2 Small Businesses .......................................................................................................................... 5
4.3 Prime Industries .......................................................................................................................... 5
4.4 Economy....................................................................................................................................... 6
4.5 Economic Instability ................................................................................................................... 7
4.6 Loss of Revenue ........................................................................................................................... 7
4.7 Social Costs .................................................................................................................................. 7
4.8 Compromised Economy and Private Sector ............................................................................. 8
4.9 Real Estate Sector ....................................................................................................................... 8
5 Identification and Prevention of Money Laundering ...................................................................... 9
1 Definition

'Money Laundering' is the process by which illegal funds and assets are converted into legitimate

funds and assets. Money laundering as per section 3 of the Prevention Money Laundering Act:

“Whosoever directly or indirectly attempts to indulge or knowingly assists or knowingly is a party

or is actually involved in any process or activity connected with the proceeds of crime and

projecting it as untainted property shall be guilty of offence of money laundering.”

2 Different ways of money laundering

Money can be laundered through Stock Markets, Agricultural Products, Property Market, Creating

Bogus Companies, Showing Loans False Export Import Invoices, Deposit structuring or surfing,

Connected Accounts, Loan back arrangements, Forex Money Changers, Credit/ Debit cards,

Investment Banking and the Securities Sector, Insurance and Personal Investment Products,

Companies Trading and Business Activity, Correspondent Banking, Lawyers, Accountants, &

other Intermediaries Misuse of Non-Profit Organizations etc. Money to fund terrorist activities

moves through the global financial system via wire transfers and in and out of personal and

business accounts. It can sit in the accounts of illegitimate charities and be laundered through

buying and selling securities and other commodities, or purchasing and cashing out insurance

policies. Although terrorist financing is a form of money laundering, it doesn’t work the way

conventional money laundering works.

3 Risks of Money Laundering

3.1 Risks to Privatization Efforts

Money laundering threatens the efforts of many states to introduce reforms into their economies

through privatization. Criminal organizations have the financial wherewithal to outbid legitimate

purchasers for formerly state-owned enterprises. Furthermore, while privatization initiatives are

often economically beneficial, they can also serve as a vehicle to launder funds. In the past,

criminals have been able to purchase marinas, resorts, casinos, and banks to hide their illicit

proceeds and further their criminal activities.

3.2 Reputation Risk

Nations cannot afford to have their reputations and financial institutions tarnished by an

association with money laundering, especially in today's global economy. Confidence in markets

and in the signalling role of profits is eroded by money laundering and financial crimes such as

the laundering of criminal proceeds, widespread financial fraud, insider trading of securities, and

embezzlement. The negative reputation that results from these activities diminishes legitimate

global opportunities and sustainable growth while attracting international criminal organizations

with undesirable reputations and short-term goals. This can result in diminished development and

economic growth. Furthermore, once a country's financial reputation is damaged, reviving it is

very difficult and requires significant government resources to rectify a problem that could be

prevented with proper anti-money-laundering controls.

3.3 Risks to Banks

What are the risks to banks? Reputational risk, Legal risk, Operational risk (failed internal

processes, people and systems & technology), Concentration risk (either side of balance sheet).

All risks are inter-related and together have the potential of causing serious threat to the survival
of the bank. The potential that adverse publicity regarding a bank’s business practices, whether

accurate or not, will cause a loss of confidence in the integrity of the institution.

A major threat to banks as confidence of depositors, creditors and general market place to be

maintained. Banks vulnerable to Reputational Risk as they can easily become a vehicle for or a

victim of customers’ illegal activities. The risk of direct or indirect loss resulting from inadequate

or failed internal processes, people and systems or from external events. Weaknesses in

implementation of banks, programs, ineffective control procedures and failure to practice due

diligence. The possibility that lawsuits, adverse judgments or contracts that turn out to be

unenforceable can disrupt or adversely affect the operations or condition of a bank. Banks may

become subject to lawsuits resulting, from the failure to observe mandatory KYC standards or

from the failure to practice due diligence. Banks can suffer fines, criminal liabilities and special

penalties imposed by supervisors. Mostly applies on the assets side of the balance sheet,

Information systems to identify credit concentrations; setting prudential limits to restrict banks

exposures to single borrowers or groups of related borrowers. On liabilities side, Risk of early and

sudden withdrawal of funds by large depositors- damages to liquidity. Imprisonment up to seven

years. The same is 10 years in case of Narcotics and Drugs, and Fine up to Rs 5 lasting addition,

the tainted property is also confiscated by the Central Government.

4 Effects of Money Laundering on Different Sectors of Economy

4.1 Financial Sector

The economic effects on financial sectors are on a broader scale. Developing countries often bear

the brunt of modern money laundering because the governments are still in the process of

establishing regulations for their newly privatized financial sectors. This makes them a prime

target. In the 1990s, numerous banks in the developing Baltic States ended up with huge, widely
rumored deposits of dirty money. Bank patrons proceeded to withdraw their own clean money for

fear of losing it if the banks came under investigation and lost their insurance. The banks collapsed

as a result. Other major issues facing the world's economies include errors in economic policy

resulting from artificially inflated financial sectors. Massive influxes of dirty cash into particular

areas of the economy that are desirable to money launderers create false demand, and officials act

on this new demand by adjusting economic policy. When the laundering process reaches a certain

point or if law-enforcement officials start to show interest, all of that money that will suddenly

disappears without any predictable economic cause and that financial sector falls apart.

4.2 Small Businesses

Some problems on a more local scale relate to taxation and small-business competition. Laundered

money is usually untaxed, meaning the rest of us ultimately have to make up the loss in tax revenue.

Also, legitimate small businesses can't compete with money-laundering front businesses that can

afford to sell a product for cheaper because their primary purpose is to clean money, not turn a

profit. They have so much cash coming in that they might even sell a product or service below

cost.

4.3 Prime Industries

The majority of global investigations focus on two prime money-laundering industries: Drug

trafficking and terrorist organizations. The effect of successfully cleaning drug money is clear:

More drugs, more crime, and more violence. The connection between money laundering and

terrorism may be a bit more complex, but it plays a crucial role in the sustainability of terrorist

organizations. Most people who financially support terrorist organizations do not simply write a

personal check and hand it over to a member of the terrorist group. They send the money in

roundabout ways that allow them to fund terrorism while maintaining anonymity. And on the other
end, terrorists do not use credit cards and checks to purchase the weapons, plane tickets and civilian

assistance they need to carry out a plot. They launder the money so authorities can't trace it back

to them and foil their planned attack. Interrupting the laundering process can cut off funding and

resources to terrorist groups.

4.4 Economy

The negative effects of money laundering on economy are hard to put into numbers. However, it

is clear that such activities damage not only the financial institutions directly, but also country’s

productivity in its various economic sectors, such as real sector, international trade sector and

capital flows, among others; indirectly. Many of the existing formal economic analyses of money

laundering have sought to quantify the extent of money laundering, rather than qualify its effects

on individual economies or groups of economies. The negative economic effects of money

laundering on economic development can be qualified in terms of three sectors of the economy:

financial, real and external. Money laundering damages the financial-sector institutions that are

critical to economic growth (internal corruption & reputational damage); reduces productivity in

the economy's real sector by diverting resources and encouraging crime and corruption, which

slow economic growth; distorts the economy's external sector international trade and capital flows

(reputational damage & market distortion) to the detriment of long-term economic development.

Developing countries' strategies to establish offshore financial centers (OFCs) as vehicles for

economic development are also impaired by significant money laundering activity through OFC

channels. Effective anti-money-laundering policies reinforce a variety of other good governance

policies that help sustain economic development, particularly through the strengthening of the

financial sector.
4.5 Economic Instability

Money launderers are not interested in profit generation from their investments but rather in

protecting their proceeds. Thus they "invest" their funds in activities that are not necessarily

economically beneficial to the country where the funds are located. Furthermore, to the extent that

money laundering and financial crime redirect funds from sound investments to low quality

investments that hide their proceeds, economic growth can suffer. In some countries, for example,

entire industries, such as construction and hotels, have been financed not because of actual

demand, but because of the short-term interests of money launderers. When these industries no

longer suit the money launderers, they abandon them, causing a collapse of these sectors and

immense damage to economies that could ill afford these losses.

4.6 Loss of Revenue

Money laundering diminishes government tax revenue and therefore indirectly harms honest

taxpayers. It also makes government tax collection more difficult. This loss of revenue generally

means higher tax rates than would normally be the case if the untaxed proceeds of crime were

legitimate.

4.7 Social Costs

There are significant social costs and risks associated with money laundering. Money laundering

is a process vital to making crime worthwhile. It allows drug traffickers, smugglers, and other

criminals to expand their operations. This drives up the cost of government due to the need for

increased law enforcement and health care expenditures for example, for treatment of drug addicts

to combat the serious consequences that result. Among its other negative socioeconomic effects,

money laundering transfers economic power from the market, government, and citizens to

criminals. In short, it turns the old adage that crime doesn't pay on its head.
4.8 Compromised Economy and Private Sector

Money launderers are known to use “front companies,” i.e., business enter- prises that appear

legitimate and engage in legitimate business but are, in fact, controlled by criminals. These front

companies co-mingle the illicit funds with legitimate funds in order to hide the ill-gotten proceeds.

Front companies’ access to illicit funds, allows them to subsidize the front company’s products

and services, even at below-market prices. As a consequence, legitimate enterprises find it difficult

to compete with such front companies, the sole purpose of which is to pre- serve and protect the

illicit funds, not to produce a profit. By using front companies and other investments in legitimate

company’s money laundering proceeds can be utilized to control whole industries or sectors of the

economy of certain countries. This increases the potential for monetary and economic instability

due to the misallocation of resources from artificial distortions in asset and commodity prices19.

It also provides a vehicle for evading taxation, thus depriving the country of revenue.

4.9 Real Estate Sector

Aside from its negative effect on economic growth through its erosion of developing countries'

financial sectors, money laundering also has a more direct negative effect on economic growth in

the real sector by diverting resources to less-productive activity, and by facilitating domestic

corruption and crime, which, in turn, depress economic growth. Money laundering distorts

investment and depresses productivity the flow of laundered illicit funds follows a path through

the economy that is different than such funds would take if they were not being laundered. As can

be seen from the various money-laundering mechanism typologies reports, money laundered

through channels other than financial institutions is often placed in what are known as "sterile"

investments, or investments that do not generate additional productivity for the broader economy.

Real estate is the foremost example of such sterile investments; others include art, antiques,
jewelry, and high-value consumption assets such as luxury automobiles. Criminal organizations

can transform productive enterprises into sterile investments by operating them for the purposes

of laundering illicit proceeds rather than as profit-maximizing enterprises responsive to consumer

demand and worthy of legitimate investment capital. Commitment of the economy's resources to

sterile, as opposed to productive, investments (or to normal consumption expenditures that drive

productive investments through higher demand) ultimately reduces the productivity of the overall

economy. Finally, funds that are being laundered through the purchase of certain targeted assets—

real estate is often favored—will drive the prices of such assets up, causing overpayment for them

throughout the economy, thus "crowding-out" productive investment to less-productive uses.

5 Identification and Prevention of Money Laundering

Money laundering can be prevented by making reasonable efforts to determine the true identity

and beneficial ownership of accounts, Sources of funds. Nature of customers’ business. What

constitutes reasonable account activity? Board and management oversight of anti-money

laundering risks. Appointment a senior executive as principal officer with adequate authority and

resources at his command. Systems and controls to identify assess & manage the money laundering

risks. Make a report to the Board on the operation and effectiveness of systems and control.

Appropriate documentation of risk management policies, their application and risk profiles.

Appropriate measures to ensure that money laundering risks are taken into account in daily

operations, development of new financial products, establishing new business relationships and

changes in the customer profile. Screening of employees before hiring and of those who have

access to sensitive information. Appropriate quality training to staff. Quick and timely reporting

of suspicious transactions. Suspicious transaction means a transaction whether or not made in cash

which, to a person acting in good faith. Gives rise to a reasonable ground of suspicion that it may
involve the proceeds of crime. Appears to be made in circumstances of unusual or unjustified

complexity. Appsears to have no economic rationale or bonafide purpose. Providing misleading

information / information not easily verifiable while opening an Account. Large cash withdrawals

from: a dormant or inactive account or account with unexpected large credit from abroad. Sudden

increase in cash deposits of an individual with no justification. Employees leading lavish lifestyles

that do not match their known income sources. Large cash deposits into same account. Substantial

increase in turnover in a dormant account. Receipt or payment of large cash sums with no obvious

purpose or relationship to Account holder / his business. Reluctance to provide normal information

when opening an Account or providing minimal or fictitious information. Disguise the audit trail.

Provide anonymity. Concealing true ownership and origin of money. Control over money.

Changing the form of money. All cash transactions of the value of more than rupees ten lakhs or

its equivalent in foreign currency. All series of cash transactions integrally connected to each other

which have been valued below rupees ten lakhs or its equivalent in foreign currency where such

series of transactions have taken place within a month. Photographs not obtained. Proper

introductions not obtained. Signatures not taken in the presence of bank official. Failure to

independently verify the identity and address of all joint account holders. Director’s identity/

address not verified.