KYC and Anti Money Laundering

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					KYC & Anti Money Laundering

       CA. Ramesh Shetty
   Basic Concepts
   How it happens
   Case Studies – Abroad
   International Initiatives
   Indian Scenario
   Know Your Customer
   Case Studies – India
   Role of CA‟s
Sec.3 of PML Act, 2002 defines „money
  laundering‟ as:
“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 the
  offence of money-laundering”
     Concepts of Money laundering
 Is to conceal criminal activity associated with
  it, including crimes it generated such as drug
  trafficking, tax evasion, corruption, extortion,
  circumventing regulations etc
 Process by which criminals attempt to hide
  and disguise the true origin and ownership of
  the proceeds of criminal activities, thereby
  avoiding prosecution, conviction and
  confiscation of criminal funds(IBA definition)
 Process by which dirty money appear clean or
  profits of criminal activities are made to
  appear legitimate.
         Concepts - contd..

 Organized criminal groups use money laundering as
  a means to reinvest money.
 The main objective is to get the illegal funds back
  to the individual or group of individuals who
  generated them.
 Financial intermediaries (banks, financial
  institutions) are used to change money gained from
  illegal businesses into acceptable and transferable
  units, turning illegal gain into legal tender
        Concepts - contd..
ML generally refers to „washing‟ of the
  proceeds or profits generated from:-

   Drug trafficking – South Asian
   People smuggling – African Countries
   Financial frauds -
   Arms, Antique and gold smuggling
   Illegal sale of wild life products and others.
   Prostitution rings
   Corruption
       Concepts - contd..

 ML every year $600 Billion to $2 Trillion.

 Financial powers

 Big time criminals

 Use professionals to create legal structure/
  entities which act as a front
     Money Laundering Process
Money laundering is a diverse and a complicated
process that involves three independent steps
that often occur simultaneously



          Stage 1 - Placement

 Physically disposing of cash derived from
  illegal activity.

 Funds are placed close to the underlying
  activity in the country where the funds

 One way of accomplishing this is by placing
  criminal proceeds into traditional financial
  institutions or non financial institutions
  such as currency exchanges, casinos.

launderer inserts the dirty money into
 a legitimate financial institution.
In the form of cash deposits.
to report high value transactions.
  This is the riskiest stage of the ML process
   because large amounts of cash are pretty
   conspicuous and banks are required
          Stage 2 - Layering
 Separating the proceeds of criminal activity
  from their source through the use of layers
  of financial transactions.

 These layers are designed to hamper the
  audit trail, disguise the origin of funds and
  provide anonymity

 They use shell companies, offshore banks or
  countries with no or less regulation, a large
  business centre.
 involves sending the money through various
  financial transactions to change its form and
  make it difficult to follow.
 Layering may consist of several bank to bank
 wire transfers between different accounts in
  different names in different countries
 making deposit and withdrawals to continually
  vary the amount of money in the accounts
 changing the money‟s currency
 purchasing high value items (boats, houses cars,
  diamonds) to change the form of money-making
  it hard to trace.
         Stage 3 - Integration

 Placing the laundered proceeds back into the
  economy in such a way that they re-enter the
  financial system as apparently legitimate funds.

 The launderer may choose to invest in other

 Eg. False invoices for goods exported, domestic
  loan against a foreign deposit, purchasing property,
 At the integration stage the money re-enters the mainstream
  economy in legitimate looking form it appears as a legal
  transaction. this may involves final bank transfer into an account
  of a local business in which the launderer is investing in exchange
  for a cut in the profits., a sale of a yacht bought during the
  layering stage. at this point the criminal can use the money
  without being caught. It is difficult to catch a launderer during the
  integration stage if there is no documentation during the
  previous stages
 Overseas banks
 Money launderers often send money through various offshore
  accounts in countries that have bank secrecy laws –these
  countries allow anonymous transactions. A complex scheme may
  involve hundreds of bank transfers to and offshore banks
  .According to the international Monetary fund ,”major offshore
  centres iclude Bahamas, Bahrain,Cayman islands, hong kong,
  Antilles, Panama, and Singapore (IMF)
   Debit/Credit Cards
   Deposit structuring (or smurfing)
   Connected accounts – Connected to each other
   Alternative Remittance services –the hawala route
   Loan back arrangements
   Forex money changers
   Investment banking and the securities sectors
   Insurance and personal investment products
   Correspondent banking
   Lawyers, Accountants and other intermediaries
   Mis-use of non-profit organizations
   Use of “Payable through accounts” by international
    Types/Techniques – Contd…

 Use of legal persons
 Corrupt Politicians/Public officials
 Underground banking /alternative banking –
    Countries in asia - well established legal alternative banking
     systems that allow undocumented deposits , withdrawals &
    Are trust based systems and often have ancient roots, leave no
     paper trail and operate outside government control.
    Eg. Hawala system in Pakistan and India and Fie Chen system in
 Shell companies (fake companies) –
    Take in dirty money for payment of supposed goods or services
     but actually provide no goods and services.
    Create the appearance of legitimate transactions through fake
     invoices and balance sheets
        Deposit Structuring/Smurfing
$ 50, 000 Laundered money

Below deposit amts
$   10,000           1
$   10,000               2
$   10,000                   3
$   10,000                       4
$   10,000                           5

Balance = $ 50,000
Money laundering through electronic systems/cross
                border activities

 Computers/Electronic systems can be used as at tool for
  perpetrating illegal or criminal activities .
    Organized criminals can break security in electronic systems
     more easily and more cheaply by forcing employees who have
     legitimate access to the system to furnish them with passwords.
 Easier to corrupt an individual in a country where average
  salary is low.
    Money launderers look for countries where there are highly
     educated well trained banking personnel on a low salary to
     corrupt them.
Legal Sources of terrorist financing:

 Collection of membership dues
 Sale of publications
 Cultural of social events
 Door to door solicitation within community
 Appeal to wealthy members of the
 Donation of a portion of personal savings
         Illegal Sources

 Kidnap and extortion
 Smuggling
 Fraud including credit card fraud
 Misuse of non-profit organisations and
Fraud, thefts and robbery and
 Drug trafficking
Use of shell companies by lawyers

 A prominent attorney
 Ml network 16 FIs-US and abroad offshore locations
 Charged flat fee to money launder funds
 Funds of clients were wire transferred to his
  offshore accounts
 Moved to Carribbean destinations and USA
 Issued credit cards in false names to help
  clients withdraw money through ATMs
      Smaller banks and NBFCs

 Private banking assistance provided by the employees-
  help structure and smurf to recycle funds in the bank
  accounts-typically by making deposits and withdrawing
  heavily from the accounts. A few month before audit
  the activity would stop with a small balance.

 Done to avoid suspicion and disclosure

 Loan back arrangements a technique- the launderer
  usually transfers the illegal proceeds to another
  country- then deposits the proceeds as security or
  g‟tee for a bank loan- then sent back to original
  country –gives the appearance of a genuine loan.
          Payable through accounts
• They are demand deposits accounts maintained at FIs by foreign
  banks. The foreign banks channel all deposits and cheques of its
  customers into one account at a local bank. The foreign
  customers have a signatory authority for the account as sub
  account holders and could conduct normal international banking
  transactions-defeats KYC norms.
     Case Study-Franklin Jurado
 During -1990 Harvad educated economist ran a ML
  network for Columbian drug lord Jose Santa Cruz –
  Londono complex scheme.
 ML of $ 36 Million
 Wiring out from Panam Bank to Merril Lynch and
  other Institutions
 100 bank accounts in 68 countries
 When a Monaco bank collapsed and a subsequent
  audit revealed numerous accounts that traced back
  to Jurado. Also a complaint on his money counting
  machine made all night by his neighbor in
 Found guilty convicted sentenced to prison.
    Drug Money laundering- Franklin Jurado case

                    Drug (dirty) Money

• Placement           Panama Banks

• Layering        100 Bank accounts in Europe

•                  Shell companies in Europe

• Integration        Colombian businesses
           Case Study-Accounting firm
 Two Narcotics traffickers
 Regular deposit of criminal proceeds from drug sales Receipts issued.

 Accounting firm
 Stored in the accountant‟s office. Accountant structured deposits. Opened
  trust/coy accounts/personal accounts

 Wire transfer
 Transferred proceeds overseas. Structured transactions

 Purchase of assets
 Purchase of truck parts, brought back parts into country sold for a profit.
  Also purchased real estate.

 Services provided by many professionals such as accountants, lawyers, real
  estate agents also serve as potential mechanisms to launder money.
    Riggs Bank-Money Laundering Scandals

 Suspicious transactions
 Riggs Bank was fined $25 mn for violation of AML
  under the US Bank Secrecy Act. It pleaded guilty
  and paid $ 16 mn in fines in February 2005
 It also paid $9 mn to Pinochet‟s victims
 Criminal charges against some of the bank‟s
 Bank‟s operations acquired by PNC Bank in May
Riggs Bank-Money Laundering Scandals

Augusto Pinochet- former Dictator of Chile widely
 accused of corruption, illegal arms, sales, etc-Riggs
 invited Pinochet to open an account
US Senate reported that Riggs executives connived
 with Pinochet to disguise millions of dollars that
 had been stolen from Chilean people.
Pinochet arrested in 1998 in Britain- extradited to
Accounts were frozen. But by using shell companies
 and hiding accounts from federal regulations, Riggs
 allowed Pinochet to retain access to his fortune.
      Riggs Bank-Money Laundering Scandals

 A Saudi Omar Al Bayoumi opened a bank account for 9/11
 Two weeks later his wife received monthly payments in
  tens of thousands of dollars from Princess Haifa Bint Faisal
  (the wife of Saudi Ambassador).
 Prince Bandar Bin Sultan (confidante of Bush ) also had an
  account with Riggs bank. Large transactions between him
  and other saudis (no background checks done )
 An FBI investigation carried out Was closed with no action.
Case Study-Insurance policies and real estate

  Two European nationals

  Purchase of Life insurance policies (Total value $ 268,000)

  Payment of premium (Payment made by cheques drawn on
   brokerage firm in a major EU financial market and a notary in
   the country)

  Policies put up as collateral (provided by a leasing company)
  The offenders were brothers who were involved in the illegal
   export/import of classic cars
  Non banking institutions could also become conduits for money
  Reports/Facts on Money Laundering

 Rough estimate - 2 to 5% of GDP (1996) $600 bn
  to $2 trillion every year.
 Principal sources of illegal proceeds-Drug
  trafficking –single largest generator of illegal
 Banking sector- smurfing common
 Shell companies-tool widely used by lawyers and
 Smaller banks and NBFCs used as channels-
  Private banking assistance-Help given in
  restructuring accounts-
                Impact – On Economy
 Unpredictable changes in money demand
 Risks to banking system - Reputational risk, legal risk, operational risk,
  concentration risk.
 Increased volatility of international capital flows
 Increased volatility of exchange rates due to unanticipated cross asset
 Economic and political influence of criminals can change social systems,
  ethical standards
 Crime can infiltrate financial bodies, public officials/ governments
 Macro economic situations
 Money laundering poses a serious threat to the international community
  and financial systems in countries the world over
         FATF (Financial Action Task Force)

 Established by the G-7 Summit that was held in Paris in 1989
 An inter-governmental body / Post 09/11
 Purpose - Development and promotion of policies, both at national
  and international levels,
    to combat money laundering and terrorist financing.
    34 countries, India is being one of the observer status
    Published 40 + 9 recommendations
    Political level commitment to comply with FATF
 FATF focuses on setting standards for AML/TF
 Assessing implementation of the programmes
 Identifying and studying ML and FT methods and trends
          FATF Recommendations -Features
 Legal Systems-money laundering to be treated as a serious
 Measures to be taken by financial institutions
 Undertaking customer due diligence(CDD) and record keeping
 Countries to establish Financial Investigation Unit (FIU) for
  receiving, analysing of info and enforcement of law.
 Reporting systems-CTR and STRs/penalties
 Internal policies for adequate screening procedures for hiring
 Non financial businesses (lawyers, notaries, dealers, trusts
  service providers) required to report suspicious transactions
 Countries should not allow operation of shell companies
 Robust supervision and regulation of financial institutions
 Regulation of casinos.
           Indian Scenario/Initiatives
   Prevention of Money Laundering Act, 2002

 Under the PMLA 2002, rules were framed in 2005 & 2009
 Setting up of the FIU-IND in 2004
 Section 12 of the Act casts certain obligations on banking
  companies/Financial Institutions/Intermediaries in regard
  to reporting of customer account information and
  preservation of records
 Maintenance of record of all cash transactions above Rs 10
 All series of cash transactions of value less than Rs 10 lakhs
  integrally connected if they have taken place within a
  month (aggregate value above Rs 10 lakhs)
 All cash transactions here forged or counterfeit notes have
  been used.
 All suspicious transactions made in cash or otherwise.
FIU-preservation and reporting requirements

Preservation of records for 10 years
Reporting to FIU
Manual reporting of cash transactions
 (CTR) & suspicious transactions (STR)
Consolidated reporting of cash
                      RBI KYC norms

 Appointment of a Principal Officer
 To assess, monitor and control money laundering risks.
 Receive information from branches and analyze information
 The PO will be responsible for timely submission of CTR and
 Utmost confidentiality to be maintained while filing
 Reports for all branches are filed in one mode –manual and
 A summary of cash transaction report for the bank as whole be
  complied by PO of the bank
   Advantages of KYC norms

 Sound KYC procedures have particular relevance to the
   safety and soundness of banks, in that:
- They help to protect banks‟ reputation and the
   integrity of banking systems by reducing the
   likelyhood of banks becoming a vehicle for or victim
   of financial crime and suffering consequential
   reputational damage;
- They provide an essential part of sound risk
   management system (basis for identifying, limiting
   and controlling risk exposures in assets & liabilities)
               KYC - Meaning
- One who maintains an account, establishes business
  relationship, on who‟s behalf account is maintained,
  beneficiary of accounts maintained by intermediaries, and one
  who carries potential risk through one off transaction.

Your? Who should know?
- Branch manager, audit officer, monitoring officials, PO

Know? What you should know?
- True identity and beneficial ownership of the accounts
- Permanent address, registered & administrative address
           KYC - Meaning
 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?
 Who your customer‟s customer are?
         Elements of KYC

Customer Acceptance Policy
Customer Identification Procedure- Customer
Risk classification of accounts- risk based
Risk Management
Ongoing monitoring of account activity
Reporting of cash and suspicious transactions
         High Risk Customers
 Non-bank financial institutions ( money transmitters,
  cheque cashiers, full fledged money changers,
  sellers of stored value cards, security brokers &
  dealers etc. )
 Travel agencies / Property dealers/ builders
 Professional and consulting firms
 Exporters or importers of goods and services
 Cash intensive business e.g. retail stores,
  restaurants, gambling casinos, second hand car
  dealerships etc.
 Off-shore corporations
 Non-profit organizations eg. charities
             High Risk Products
 Wire transfers:
   – Both domestic and cross border wire transfers carry
      potential risk of money laundering
   – Payment gateways facilitate wire transfers for customers of
      banks located anywhere in the world
   – Ascertain whether it is regulated at the place of
   – Insist on complete originator information with wire
   – Make payment to beneficiary through account or DD
   – Keep record of transactions
 Electronic banking services which includes services offered
  through internet, credit cards.
 Private banking relationships
 Correspondent banking relationships
            Measures to deter ML
 Board and management oversight of AML risks
 Appointment a senior executive as principal officer with
  adequate authority and resources at his command
 Systems, controls & Documentation - identify, assess &
  manage the money laundering risks
 Make a report to the Board on the operation and
  effectiveness of systems and control
 Creating customer profiles
 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 transactions - FIU-IND

 A transaction whether or not made in cash to a person
   acting in good faith.
 Gives rise to a reasonable ground of suspicion that it
   may be proceeds of crime
 No economic rationale or bonafide purpose
Identity of client
 False identification of documents
 Identification cannot be verified within a reasonable time
 Accounts opened with names very close to other
   established business entities
Background of client
 Links with known criminals
  Suspicious transactions - FIU-IND
 Multiple accounts
 Unexplained transfer between accounts with no rationale
 Unusual activity compared with past transactions
 Sudden activity in dormant accounts
 Activity inconsistent with what would be expected from
  declared business
 Frequent purchase of drafts with cash
 Categories for financial intermediaries –financial brokers.
  Merchant bankers, portfolio manager
 Large sums being transferred overseas for payment
 Dealings at off market rates.
                 FIU Directions
 Only banks and other financial institutions are obligated to
  report on suspicious transactions regularly to the financial
  intelligence unit set up under the Finance Ministry.

 Such transactions are forwarded by the FIU to enforcement
  agencies for action after scrutiny.

 Financial intermediaries like full-fledged money changer, money
  transfer service providers such as Western Union and
  International Payment gateways, including VISA and MasterCard
  are brought under the amended PMLA.

 India‟s international obligation and empower the enforcement
  directorate to search the premises immediately after the
  offences are committed and police have filed a report
IBA Check list - Caution to be exercised

 Customer regularly depositing or withdrawing large amounts by
  wire transfer to or from or through countries known for
  narcotics or where ML laws are lax.
 Sending or receiving frequent large volumes of wire transfers
  to and from offshore institutions
 Loan proceeds are wired to offshore bank
 Receiving wire transfers and immediately purchasing monetary
  instruments payable to third party.
 Customer pays for a large wire transfer using multiple
  instruments drawn on several financial institutions
               IPO SCAM - INDIA
 Manipulation of primary market by financers and market
  players using fictitious names.
 Sole person authorized to operate all the accounts. The
  person was also director in all the companies
 Current accounts opened in multiple companies on the same
  date at the same bank branch
 Failure to identify the identity and address of all directors of
  the companies
 Identity disguised by using different spellings for the same
  name in different companies.
 Proper introductions nor obtained
 Risk profiling not done
 Objective for opening large number of accounts in the names
  of large number of joint account holders not questioned
 Transfer of huge funds from companies account to individuals
  account which was used to invest in IPO
 Poor monitoring and reporting system
      Operational deficiencies
Factors that facilitated the IPO scam are -
 Proper introductions not obtained
 Photographs not obtained
 Failure to independently verify the identity and
  address of all joint account holders
 Signatures not taken in the presence of bank
 Directors identity/ address not verified
 Customer Due Diligence done by a subsidiary
              SATYAM - Issue
• The Enforcement Directorate has registered a case against
  Satyam Computer and its tainted founder-chairman B
  Ramalinga Raju for alleged money laundering.
• The ED sources alleged that Raju had diverted funds of
  Satyam into purchasing nearly 50 plots in Medchal and
  Qutbullahpur near Hyderabad
• The ED alleged that several hundred crore rupees had been
  diverted from the Satyam Computer accounts and had been
  invested in purchasing land and other infrastructure for
• The Directorate will go through deals of the IT company and
  ascertain their genuineness including payments made to
  acquire companies abroad.
• The ED will also send a team to a few countries to investigate
  and get documents of bank accounts opened in violation of
  Indian laws
       Hasan Ali Khan - Issues
• India's lone banking regulator, Reserve Bank of India,
    recently blocked the application of Swiss bank UBS for a
    banking license in India on the ground that it was involved in
    $8 billion money-laundering racket
•   RBI said it put the UBS application on hold because the bank
    failed to cooperate in a money-laundering case in which
    controversial Bombay-based businessman Hasan Ali Khan was
•   Khan is charged with large-scale breaching of India's currency
•   _ RBI investigators found the link between UBS and Khan, as
    the businessman had deposited $8 billion at a Zurich branch of
•   _ They cited it as direct evidence for blocking the license of
    the bank.
             High risk areas of AML
High risk countries
    Drug producing countries
    Countries with high levels of corruption
    Countries linked to terrorist financing

High risk customers
    Private money transmitters
    Money changers
    Real estate dealers
    Casinos, gambling outfits
    Non profit organizations –charities

High risk services
    Wire transfers
    Private banking
    Correspondent banking
    Electronic banking services-internet, debit/credit cards
                   Risk Factors
    Entities may not be regulated
    Customer anonymity(Secrecy)
    No face to face relationship
    Anonymous funding(Promissory notes)
    Cross border transfers
    access to cash globally through ATMs
Possible risk mitigants
    Verification of customer identity
    Limit funding options
    Limit card value
    Monitor transactions
    Reporting of suspicious activity
    No direct cash via ATM
- Advise to clients

- Audits -
  - Bank‟s - Statutory Audit (LFAR)
  - Concurrent Audit
  - KYC and AML Audits
  - DP Audits as per SEBI guidelines
  - Stock Broker‟s audit as per SEBI
Thank you