Money laundering – a threat to the growing economy

Money Laundering – a term so popular in the discussions of illegal activities –  means cleaning the dirty money and introducing it into the economy. The textbook definition details the process as disguising the illegal sources of money to use the funds (money) for legal or illegal activities.

Gains of criminal activities are aimed to be utilised without drawing attention to the persons involved in the activity. This can be achieved by disguising the source / activity of funds, changing the form of the currency, or moving the money to a place where it is less likely to attract attention. Some activities identified include investing in real estate properties, undertaking cash transactions, depositing cash under the threshold for review or moving money electronically through trusts.

Criminal activities that lead to money laundering include illegal arms sales, narcotics trafficking, contraband smuggling, and other activities related to organised crime, embezzlement, insider trading, bribery, and computer fraud schemes.

Money laundering can be better understood as occurring in 3 stages –

1. Placement – The physical disposal of cash or other assets derived from criminal activity
2. Layering – The separation of illicit proceeds from their source by layers of financial transactions intended to conceal the origin of the proceeds
3. Integration – Illicit wealth re-introduced into the economy legitimately in what appears to be regular business or personal transactions

Financial Action Task Force (FATF) – the global money laundering and terrorist financing watchdog – has its recommendations recognised as the global anti-money laundering and counterterrorist financing standard. India being a part of FATF since 2010, has enacted different laws and regulations to prevent money laundering and to maintain integrity & governance standards.

The Prevention of Money Laundering Act, 2002 (“PMLA”) and the Prevention of Money Laundering (Maintenance of Records) Rules, 2005 (“Rules”) are primary regulations in India to support the FATF initiative. RBI, SEBI and IRDA also prescribe guidelines based on PMLA and the Rules for their respective industries. The KYC directive issued by RBI has been effective, supporting the due diligence required to prevent money laundering activities.

PMLA and Rules primarily include the banking industry, financial institutions, financial service providers, gaming businesses and casinos.

While the sector regulators introduce guidelines and monitor the activities, The Financial Intelligence Unit – India (“FIU-IND”) under the Department of Revenue, MoF, is the central agency responsible for receiving, processing, analysing, and disseminating information relating to suspected financial transactions to enforcement agencies and foreign FIUs.

OBLIGATIONS UNDER PMLA

Every Reporting Entity – banking company, financial institution, intermediary or a person carrying on a designated business or profession – is required to verify the identity of their clients and beneficial owners, maintain records of all transactions and furnish information concerning certain transactions as outlined in PMLA.

The information relating to the transaction must be maintained for five years from the transaction date between a client and the Reporting Entity.

The records relating to the client’s identity and beneficial owners, as well as account files and business correspondence, must be maintained for five years from the end of the business relationship between a client and the Reporting Entity or the account has been closed, whichever is later.

PENALTIES UNDER PMLA

PMLA prescribes rigorous imprisonment for a term between 3-7 years and also a fine. The rigorous imprisonment may extend up to 10 years if the money laundering offence concerns the Narcotic Drugs and Psychotropic Substances Act, 1985.

The Director of FIU-IND may, on failure to comply with the diligence, maintenance or reporting obligations by the Reporting Entities: 

1. issue a warning in writing; or
2. direct such Reporting Entity or its Designated Director on the board or any of its employees to comply with specific instructions; or
3. direct such Reporting Entity or its Designated Director on the board or any of its employees to send reports at such intervals as may be prescribed on the measures it is taking; or
4. impose a penalty of INR 10,000 extending to INR 1,00,000 on such Reporting Entity or its Designated Director on the board or any of its employees for each failure.

Corporate vehicles facilitating illicit finance stand out among popular methods used to launder money. Various forms of corporate vehicles, as listed below, are misused forstand money laundering, bribery and corruption activities, sheltering assets, and tax evasion:

1. Public and Private Limited Companies, including LLPs
2. Shell and Shelf Companies
3. Trusts

The following money laundering techniques have been identified to be used in conjunction with criminally controlled companies –

1. Using nominees as owners or directors
2. Layering
3. Loans
4. Fictitious business expenses/false invoicing
5. Sale of the business
6. Purchasing a company already owned by the criminal
7. Paying out fictitious salaries

FATF recommends countries follow a risk-based approach to allocate their limited resources to help prevent and improve their efficiency in fighting money laundering activities. The following customer types and activities pose a higher risk:

1. Politically-Exposed Persons (PEP)
2. Cross-border correspondent banking
3. Money or value transfer services (MVTS)
4. New products, delivery mechanisms, and technologies
5. Wire transfers
6. Suspicious activity reporting

The first step in managing money laundering is identifying and analysing the risks, leading to designing and implementing adequate controls.

The analysis should include appropriate inherent and residual risks at the country, sector, bank, and business relationship levels, among others.

Adani group has gained some attention via recent news reports, allegedly for using shell companies or companies with beneficial ownership concealed via nominee directors or with little to no diversification, holding portfolios almost exclusively consisting of shares in Adani listed companies. Read more on this issue in our following article.

This is only for informational purposes. Nothing contained herein is, purports to be, or is intended as legal advice and you should seek legal advice before you act on any information or view expressed herein. Endeavoured to accurately reflect the subject matter of this alert, without any representation or warranty, express or implied, in any manner whatsoever in connection with the contents of this. This isn’t an attempt to solicit business in any manner.

Sources:

1. https://dor.gov.in/preventionofmoneylaundering/overview
2. https://www.mondaq.com/india/money-laundering/1279796/anti-money-laundering-compliance-checklist-for-indian-companies
3. https://www.lexology.com/library/detail.aspx?g=802277f4-aae7-414b-afa7-6d4c58491664
4. https://indiaforensic.com/certifications/methods-of-money-laundering/