Examples of Money Laundering - Case Study Example

Money laundering and abusive tax havens Money laundering is the process of hiding the profits that accrue from illegal or criminal financial activities. (Scott-Jyont, 2002). The process of money laundering involves a three stage process: (a) placement, or getting the illegally accrued money away from its source and into the global financial system (b) layering, or transferring the money through several different countries and different business entities, many of which may be shell companies merely offering a front for the real beneficiaries and (c) integration, or changing the money back into a form where the original embezzeler is able to spend it. (Scott-Jyont, 2002). Examples of money laundering may be seen in the activities of individuals like Sani Abacha and Raul Salinas. Sani Abacha was the late dictator of Nigeria, who was able to divert $1.6 billion of the Nigerian tax payers’ money that was looted from them into large banks in the U.K. and Switzerland, where the large volumes of money that exchange hands almost on a daily basis, make it difficult if not downright impossible, to discover the exact sources of such funds that are placed into the banks by account holders (Scott-Jyont, 2002). Similarly, in the case of Raul Salinas, being the brother of the ex-President of Mexico allowed him the opportunity to loot large amounts of cash, which he then transferred into different countries and banks in order to appropriate the money for himself by obscuring the source, i.e, the Mexican taxpayers’ money. Simser (2006) has carried out a study, the purpose of which was to look into money laundering in general and then specifically examine the issue of money laundering in the context of the Philippines. The author points out that where money laundering is concerned, the Philippines was not formerly a compliant jurisdiction, and initial measures that were taken against money laundering in the Philippines were rejected by the international community. The measures that were finally approved as measures to effectively counter money laundering were (a) setting up a financial intelligence unit (b) strict regulation of financial intermediaries and (c) the provision of criminal and remedial measures, including the use of forfeiture based upon a civil, non conviction mode (Simser, 2006). The author concludes that these provisions have been approved but implementing them is likely to be a challenging prospect in the predominantly corruption ridden atmosphere that characterizes the Philippines. One of the major reasons why individuals or companies seek to hide profits or launder them is to avoid paying taxes on profits. In the first instance, tax becomes payable only when the earning of such profits can be established and it can be shown that an organization has earned these extensive profits. Tax havens are countries that allow corporations to retain their profits without paying taxes on them because such profits may not be revealed at all in the first instance. In developed countries, the general rule is that all transactions that have a financial value of over $10,000 would need to be reported to the authorities (Scott-Jyont, 2002). But in countries where the financial privacy of individuals is protected, such transactions would go unreported, thereby providing the Government with no means to identify whether information on taxes payable on such amounts is being withheld and payment of such taxes is being avoided. For example, several Caribbean and Pacific islands, including Nauru, have such stringent privacy laws that it becomes difficult, even for local authorities, to determine the real beneficiaries of large bank accounts.(Scott-Jyont, 2002). Numbered bank accounts in Switzerland have been a well known tax haven for years, because they allow the true identity of an account holder to be concealed. Hence, it becomes difficult to trace the source of the money in the accounts and to determine whether taxes ought to be paid on such accounts. Gordon(2002) has discussed several ways and means by which insurance Companies make use of tax havens in order to avoid payment of taxes. Deductions against profits are allowed for insurance, but self insurance will not enjoy the same benefits. In order to avoid this and gain the benefits, one of the ploys used by Companies is to form insurance subsidiaries known as “captive insurance” companies, where the parent company assumes the full risk, whereby it can invest the entire premium amounts and realize income from it free of tax. (Gordon, 2002:86). Captive companies offer significant tax advantages, because insurance amounts can be written up in behalf of third parties. In the case of banking companies, tax advantages are gained by carrying on most of the business through offshore financial centres. For example, many U.S. banks operate through subsidiaries in the Bahamas, Caymen islands, Hong Kong, Luxembourg and Singapore, because these subsidiary companies are not subject to payment of U.S. taxes.(Gordon, 2002:90) One example of a tax haven that is still very attractive is Singapore. The OCED (Organization for Economic Cooperation and Development) has been increasingly cracking down on tax havens, especially in Switzerland, so that functioning as bankers for wealthy Americans has become less attractive for Swiss bankers. Singapore became an attractive tax haven in 2005 after the introduction of the European Savings Tax Directive, which began to target many European corporations and their offshore locations (www.shelteroffshore.com). The known tax shelters offered by countries such as Switzerland and Lichtenstein were the first targets of Governments of developed countries that were seeking to close off such offshore tax shelters. Singapore was able to benefit from this, and from the passing of the European Savings Tax Directive, as several corporations began to look for an outlet where they could divert their profits in order to minimize or eliminate their taxes altogether. Factors working in Singapore’s favour were its “superior reputation and respected standing in the field of international business and finance.” (www.shelteroffshore.com). The legal framework in Singapore is such that the privacy of banking and personal finances is protected closely; there are harsh penalties and sentences handed out to anyone who seeks to breach privacy. As a result, many corporations find this an attractive environment where their financial information is protected and safeguarded, thus providing them with a means to conceal their profits in Singapore banking accounts. On the basis of the above, it may thus be noted that money laundering and the use of tax havens largely occurs because of loopholes in the law of different countries. While the payment of taxes on income is strictly enforced in the developed countries, the legal and regulatory framework in developing countries is not so well developed. Since the payment of tax is not strictly enforced in these countries, it allows U.S. and European corporations to set up their subsidiaries there and avoid accounting their income as U.S. income, thereby also avoiding payment of tax. This also allows scope for dictators and those in power in the Governments of these countries to misappropriate public funds for their own selfish ends, since there is no strict system of accountability and responsibility imposed upon Government officials. One of the most important reasons for the prevalence of money laundering and tax shelters however, are the loopholes in legislation. Since captive and subsidiary companies are not subject to payment of U.S. tax for example, this only increases the number of such companies. Furthermore, the legislation in countries such as Singapore and Switzerland zealously protects the privacy of individuals and this allows both individuals and corporations to stash large sums of money in banking accounts without the danger of disclosure of their identity or private details. Yet another way in which companies have been able to engage in money laundering is by setting up companies that are merely a front for monies to be channelled into, to avoid payment of profits. Captive insurance companies are just one example, while in other cases it may involve the setting up of so called companies with mere figureheads as the heads of these companies, while the real profits and income is actually directed to someone else. The need to address money laundering and the use of tax havens has arisen especially in recent times, because the spate of terrorist attacks that have been carried out. These terrorists are able to use such means as money laundering in order to divert large sums of money in order to fund their terrorist activities. Proposed reforms and legislation to tackle money laundering and tax havens: In the United Kingdom, the Anti Money Laundering Regulations of 2003 was passed in order to restrict or curtail money laundering activities. The Act at Part II, section 3 (1) (a), clarifies that every person engaging in business in the United Kingdom, must ensure that they comply with the requirement of regulations on “identification procedures”, “record keeping procedures” and “internal reporting procedures”.(www.opsi.gov.uk). This Act thus seeks to ensure that corporations maintain stringent record keeping systems so that all profits are reported and can be tracked. The Act also requires employees to be given training on how to recognize money laundering activities, how to deal with them and where to report them. It also sets out fines and penalties that are to be levied on individuals who are found to be guilty of contravening the regulations against money laundering. For example, under Part II, section 2, the Act sets out a penalty of “imprisonment for a term not exceeding two years, to a fine or both”, for such individuals. The purpose of the Act is therefore to function as a deterrent for those individuals who seek to engage in money laundering activities by imposing punitive measures that can be levied upon individuals found guilty of such acts. In the United States, the Patriot Act specifically covers money laundering, because it is one of the means used by terrorists to divert funds to themselves in order to fund their terrorist activities. The Patriot Act applies to financial institutions, which are defined under the Act in such a way that they include traditional financial institutions such as banks, insurance companies and securities brokers as well as the non traditional financial institutions like automobile dealers and all those who transmit money, as well as intermediaries like travel agents. (www.anti-moneylaundering.org). The Patriot Act applies to all financial institutions, both traditional and non traditional. All these institutions are required to have customer identification and anti money-laundering programs in place, which making it possible to detect money laundering activities and to prevent them from happening, or in the event they still occur, to be able to recognize them so that the guilty individuals can be prosecuted. The provisions of the Act are specifically targeted at uncovering money laundering transactions that are designed to divert money to terrorists to fund terrorist activities. Senator Carl Levin, Democrat from Michigan, has recently put forward legislation, i.e, the Stop Tax Haven Abuse Act, which seeks to restrict the use of offshore tax havens (Reuters, 2009). This legislation is in line with earlier legislation that was introduced for the same purpose in 2007, but also has some additional aspects that have the objective of furthering restricting the use of tax havens. One of these measures is treating all foreign corporations that are managed and controlled from the United States as domestic corporations for purposes of assessing income tax, even if they are located in another country. Secondly, the legislation also targets those U.S. individuals who may not necessarily own a passive foreign investment corporation (PFIC), but who either hold assets in such an organization, or have sent or received assets from such an organization and thereby indirectly benefitted from such organizations (Reuters, 2009). Most importantly, the legislation also targets a tax dividend loophole that has been existent so far, which allows offshore hedge funds on U.S. stock dividends to be exempt from payment of taxes. This loophole will be closed, so that it no longer provides a tax loophole that individuals or corporations can benefit from. References: Gordon, Richard A, 2002. “Tax havens and their use by United States taxpayers – An Overview”, The Minerva Group, Inc. “IBA anti money-laundering forum: United States of America”, http://www.anti-moneylaundering.org/northamerica/United_States_of_America.aspx; The Money Laundering Regulations of 2003. http://www.opsi.gov.uk/si/si2003/20033075.htm; Reuters, 2009. “New legislation would combat tax haven abuse, increase transparency and accountability”, Reuters, March 2, 2009, http://www.reuters.com/article/pressRelease/idUS235634+02-Mar-2009+PRN20090302; Scott-Joynt, Jeremy, 2002. “An A-Z of money laundering”, http://news.bbc.co.uk/1/hi/business/1871437.stm; “Singapore: an increasingly attractive offshore tax haven”, Shelter Offshore, http://www.shelteroffshore.com/index.php/offshore/more/singapore-attractive-offshore-tax-haven-10237/; Read More