What is money laundering, what can financial institutions do to stop it, and what technology tools can help? This comprehensive guide will cover what you need to know about anti-money laundering (AML) essentials. We’ll look at:
To lay a foundation for discussing these topics, let’s begin by understanding what money laundering is and how it works, starting with an example.
To illustrate what we mean by money laundering, let’s take the example of an organized crime group concealing money from narcotics trafficking. Writing a check or using a credit card to buy illegal drugs would leave a paper trail, so most transactions are handled in cash. This way, banks, financial providers, and law enforcement agencies can’t easily track who bought the drugs or who sold them.
However, keeping millions of dollars in cash would be inconvenient and make it difficult to spend on the types of expensive items wealthy criminals like to buy, such as luxury cars and homes. To be valid, the cash needs to be deposited in a bank somehow without attracting the attention of regulatory authorities.
To solve this problem, the organized crime group could buy a casino and place secret associates of the group on the casino’s board of directors. Drug dealers who have accepted cash payments use the cash to buy poker chips and to tip card dealers. The drug dealer wins a percentage back, receiving the funds in checks drawn from bank accounts with already been laundered funds. Meanwhile, the unlaundered money goes to the casino for laundering.
The casino deposits the money into an offshore bank where it has an account. Some of the money is paid out to the bank’s board of directors as their compensation. Each member of the board of directors donates a percentage of their compensation to a charity owned by the head of the organized crime group. Other funds are invested in real estate investments, with payments going to organized crime group members. The money that initially came from the illegal narcotics transactions has now been transferred to legitimate bank accounts and shuffled through legitimate businesses and charities. It has been laundered.
Money laundering is the process of taking money from illegal or “dirty” sources and making it look like it has come from legitimate or “clean” sources. This is designed to make it harder for law enforcement agencies to trace funds from unlawful activities and harder for courts to prove that money came from illegal activities.
Money laundering involves:
Money laundering is done by placing illegal funds into legitimate financial institutions and then transferring the money to other places and spending it on legitimate expenses. More sophisticated money-laundering schemes may use a series of intermediary organizations to move money around, such as multiple banks, shell corporations secretly owned by other companies, and legitimate businesses used to transfer money to other businesses.
Money laundering is commonly used by many different types of parties engaged in illegal activity. These include:
Money laundering funds may ultimately be spent on either legitimate or illegitimate purchases. For example, the money may be used to purchase legal luxury items, as with a drug dealer who buys an expensive house, or it may be used to fund more illegal activity, as with narcotics money used to fund terrorism.
Money laundering is illegal because it supports illegal activities and makes it harder for authorities to prosecute crimes. Laundering of funds may be used to conceal funds from the trafficking of narcotics and other illegal substances, illegal weapons smuggling, espionage, terrorism, embezzlement, fraud, and other crimes.
In 1713, Swiss authorities prohibited bankers from disclosing information about foreign clients. This established the practice of using foreign banks to conceal transactions, which became a key money-laundering method.
During the nineteenth century, corporations developed techniques for concealing ownership by creating interlocking shell companies, a tactic used to establish monopolistic trusts and squelch competition. This became another key money-laundering tactic. It triggered pioneering antitrust laws such as the Sherman Antitrust Act of 1890, anticipating today’s AML legislation.
During Prohibition, bootleggers such as Chicago Mafia boss Al Capone avoided keeping written records that could incriminate them. But the Treasury Department realized that Capone’s illegal earnings were subject to tax laws. Capone was convicted of tax evasion, and the Treasury unit which investigated him became today’s Internal Revenue Service (IRS).
Following Capone’s 1932 conviction, American Mafia leadership passed to Genovese family head Charles “Lucky” Luciano, whose associate Meyer Lansky pioneered the money laundering techniques used by criminal groups today. Lansky combined mastery of the casino business with the exploitation of Swiss banking laws to set up an international network of casinos, offshore bank accounts, and shell companies to conceal profits from heroin trafficking.
By 1968, Lansky’s network had become a target of the House Committee on Banking and Currency (today called the Committee on Financial Services). Congress passed the 1970 Currency and Foreign Transactions Reporting Act, also known as the Bank Secrecy Act (BSA). The BSA required banks and financial institutions to report suspicious activity suggestive of money laundering or tax evasion, laying a foundation for today’s AML legislation.
As heroin trafficking gave way to cocaine cartels, the BSA was strengthened by the Money Laundering Control Act (MLCA) of 1986, making money laundering a federal crime. It authorized fines and imprisonment for transacting or laundering criminal funds.
Following the World Trade Center attack on Sept. 11, 2001, stopping funding for terrorists became a priority. Congress crafted the USA PATRIOT Act, which amended the BSA. Under the act, financial institutions must follow customer identification program (CIP) procedures to verify customer identity. They also must use customer due diligence (CDD) guidelines to assess the risk of customer relationships and transactions. Enforcement of this legislation is assigned to the Treasury Department’s Financial Crimes Enforcement Network (FinCEN) bureau. These steps are intended to prevent terrorists and criminals groups from using front companies to conceal fund transfers.
Over the last decade, innovations have created new tools for money laundering and challenges for regulatory authorities. Online banking and gaming have made it easier for criminals to launder money digitally and transfer funds to offshore banks. Technology also has helped disclose the extent of money laundering. For example, in 2016, a digital leak exposed the Panama Papers, a trove of documents detailing financial and legal information from the Panamanian law firm Mossack Fonseca. The documents included details on transactions involving shell corporations used for fraud, tax evasion, and evasion of sanctions against countries such as Russia, Syria, and North Korea.
Today, criminal groups are exploring new ways to launder money using technology such as cryptocurrency and non-fungible tokens (NFTs). Legislators and regulatory authorities continually develop techniques and technology to keep up with money-laundering trends.
Conventional money laundering involves three essential steps:
In recent years, criminals have exploited new techniques and technologies to develop a more sophisticated approach to money laundering using a new money laundering model:
This method of money laundering serves to separate money-laundering activity from the individual or organization responsible for the activity, making it even harder to track and prosecute than conventional money laundering. However, both conventional and newer money laundering methods remain in use, and understanding both models of money laundering helps prevent and investigate money laundering.
To reduce the risk of money laundering and make it easier to track and prosecute offenders, regulators have developed several core best practices enshrined in AML legislation, such as the BSA. Banks, financial institutions, and other institutions can fight money laundering by taking steps such as:
We’ll go in more depth into how to implement these preventive measures in our next chapter.
Anti-money laundering methods are practices designed to counter the money-laundering tactics described in the last chapter. They include tactics designed to flag suspicious transactions, verify customer identity, and assess risk. In this chapter, we’ll define AML and explain how it works. We’ll also clarify the relationship between anti-money laundering and know your customer (KYC) procedures, which are a specific type of AML strategy.
Anti-money laundering is a set of methods designed to counter money-laundering crimes. It includes regulations, policies, and procedures for tasks such as:
In the United States, AML regulations are enacted by the Treasury Department under legislation such as the Bank Secrecy Act, the PATRIOT Act, and the Trading with the Enemy Act. Internationally, countries cooperate on AML through the Financial Action Task Force (FATF), an initiative of the Group of Seven (G7) nations to combat money laundering and terrorist financing.
Recall that money laundering conventionally works through a three-step process:
AML procedures seek to intercept money laundering attempts on each of these fronts. Key procedures include:
Approaches to AML based on the newer model of money laundering in terms of enable/disguise/distance (discussed in the last chapter) may follow strategies that emphasize verifying customer identity and assessing risk. However, the same tactical AML techniques generally apply.
Due to the complexity and technological sophistication of current money-laundering methods, implementing AML today relies heavily on automation. For instance, artificial intelligence can help identify suspicious activity patterns or verify customer identity.
Anti-money laundering needs to be distinguished from a closely related term, know your customer (KYC). While these two terms often are used interchangeably, they have distinct but related meanings. AML is a broad term that includes all practices for countering money laundering, particularly those used to flag suspicious transactions. KYC has a narrower scope, focusing on verifying customer identity and preventing risk.
KYC includes practices such as:
These involve procedures such as:
This highlights some of the critical distinctions between AML and KYC:
KYC can be viewed as a specific component of AML geared toward preventing money laundering during onboarding and other critical checkpoints in the customer lifecycle. AML and KYC work together to counter money laundering.
Anti-money laundering is critical for banks, financial institutions, and other organizations which handle money because it prevents criminal and terrorist activity. AML serves to:
Not least of all, specific industries are required to meet AML regulations. Requirements can be stricter in specific industries such as securities brokering and casino gambling.
Due to their nature, banks and credit unions are at higher risk of money laundering than most industries and have stricter regulatory requirements and penalties for noncompliance. As lenders and credit providers, banks can be misused to fund criminal and terrorist activity and can even be compromised by internal crimes such as embezzlement.
Because of this risk, the Bank Secrecy Act and related regulations require banks to take steps such as:
In addition to these legally prescribed AML regulations, individual banks may follow their internal AML policies and procedures to strengthen protections.
AML also is important in other segments of the financial industry. The rise of eCommerce and emerging technologies such as cryptocurrency have made online lenders vulnerable to cybercrimes. Initiatives such as securities brokerage, wealth management, and fintech face similar challenges.
These industries generally must follow AML procedures similar to banks, including KYC procedures. As in banking, automation places an increasingly important role in implementing AML policies and achieving compliance.
An anti-money laundering compliance checklist helps you meet AML regulatory requirements and adhere to best practices. In this chapter, we’ll provide you with a checklist after covering some basics. First, we’ll look at what compliance is, what regulations govern it, and how your internal AML policy can help you meet and exceed regulatory requirements. Then we’ll review the main factors involved in compliance and what you can do to ensure that you comply. Finally, we’ll provide a checklist you can use to help you stay in compliance with AML regulations.
AML compliance is adherence to regulations that are mandated to prevent money laundering. Under U.S. federal law as laid out in the BSA, AML compliance is mandatory for:
Other AML laws specify additional compliance requirements. In addition to compliance with federal regulations, organizations may have their own internal compliance procedures to comply with other regulatory bodies or industry best practices. Consult your legal professional to verify which regulations apply to your business.
Compliance programs typically consist of several vital components, including:
Specific components may vary by regulatory jurisdiction, industry, company, department, and financial product.
In the U.S., major AML regulations include:
Specific regulations may apply to particular industries or businesses operating in other countries. Your legal professional can advise you on which regulations are mandatory for your business.
AML policy is a company’s internal methodology for complying with anti-money laundering requirements. Certain AML policies are required by regulatory legislation. These include:
Beyond these required policy components, companies may establish their own internal policies to implement best practices. These policies may go beyond what is legally required.
The most important factors in achieving AML compliance include:
Your dedicated compliance officer should be tasked with verifying that all these factors and any others applicable to your specific needs are in place.
The best way to verify that you’re AML compliant is for your chief AML compliance officer to work with your legal team to review that you’ve covered all the items on your compliance checklist. Major items to verify include:
Below is a more detailed checklist you can use.
The right AML technology can make regulatory compliance much easier, and in fact, it can be difficult to achieve compliance without suitable technology solutions. This final chapter will look at what AML solutions are and what they do, why you need one, and how Incode’s Omni platform can help you achieve AML compliance.
AML solutions help you automate compliance with anti-money laundering regulations and adherence to AML best practices. AML tools include features such as:
AML solutions may sync with data from other software such as accounting apps or enterprise resource planning solutions.
AML solutions may assist with various tasks in the AML process, including:
Not all solutions will cover all these bases. For best results, look for a solution that covers everything you need to automate your AML procedures.
Why Do You Need an AML Solution?
If you’re a bank, credit union, financial services provider, or fintech provider, you need an AML solution to:
The last item above should be underscored. As technology advances, staying ahead of the latest money-laundering techniques is becoming impossible to do manually. For effective AML compliance today, the right technology solution is absolutely essential.
If you’re looking for a comprehensive, cutting-edge AML solution, look no further than Incode’s Omni platform. Omni verifies and authenticates identities simply, securely, and instantly by leveraging the latest artificial intelligence technology. Omni includes components to help you comply with AML regulatory requirements in seven major areas:
Incode is used and trusted by major companies worldwide, including Citi, Banaforte, Rappi, Volkswagen, and many others. We provide AML support for multiple industries, including finance, retail, e-commerce, travel, hospitality, and age verification services. Whether your customer needs to open a bank account or book a trip, Incode can help you onboard new customers in a frictionless and secure way. Request a demo today to see how Incode Omni can help you stay in AML compliance.
