China and Capital Control Evasion; UK and Art Market Risks; US and Serious Organized Crime

March 18, 2021 9 minute read

Chinese innovate financially to beat capital controls; the UK art market struggles with money laundering regulations, and US authorities arrest a major organised crime suspect with political links.

We share our financial crime regulatory highlights from the week of March 15, 2021.

New Ways Emerge to Beat Chinese Capital Controls

US news outlet Bloomberg has this week reported on the growing range of channels being used by Chinese citizens to breach state-imposed controls on foreign exchange and overseas purchases, including new avenues such as cryptocurrency. 

China’s capital controls limit individuals to exchanging Yuan up to the value of $50,000 a year, and largely prohibit them from purchasing offshore assets and securities. If they get caught, the consequences can be severe – depending on the nature and scale of the offense, punishments can range from the removal of foreign exchange rights to imprisonment.  

Nonetheless, despite the dangers that go with breaking the rules, the pressure to transfer funds overseas remains high. Recent anti-monopoly actions against e-commerce giant Alibaba have highlighted the dangers of falling out of political favor, while ‘anti-corruption drives’ continue across China. This means that amongst professional classes seeking to protect their wealth, or corrupt officials or organized criminals laundering the proceeds of crimes, there are ongoing pressures to find creative ways around the controls. 

That these efforts are succeeding is indicated by the ongoing flow of Chinese funds into the property markets of the west coast of the US and Canada, as well as into Southeast Asia, Australia, and Europe, as evidenced by the ongoing Cullen Commission into Money Laundering in British Columbia. Bloomberg notes that older techniques such as bulk cash smuggling, or underground banking networks where individuals ‘sell’ their exchange rights and access to retail accounts, are still used as basic elements in many schemes. However, authorities and Financial Institutions (FIs) are becoming increasingly wise to these methods, and those seeking to get funds out of China – and spend overseas – are becoming more sophisticated. 

Talking to Bloomberg, Peter Cai, a director at the Australian think-tank, the Lowy Institute, commented that “it’s got a lot harder than before, but people are still finding a way.” A growing number of Chinese are therefore setting up overseas bank accounts that can be used – out of sight of the Chinese authorities – for prohibited activities, such as share dealing. Another opportunity being exploited by extremely wealthy individuals and businesses is paying to inflate purchase prices for overseas assets, where purchases are allowed.  Following the transaction, the seller of the asset will return the excess funds (with a small reduction) to the buyer’s offshore account as a ‘consultancy fee.’

The most novel method highlighted, however, is the growing use of cryptocurrencies, a trend that is growing despite the absence of legal cryptocurrency exchanges in China.  Using a Virtual Private Network (VPN), individuals can operate outside the state-controlled internet, and set up a crypto account in another jurisdiction. Using pre-existing offshore accounts, people will use yuan to buy Tether USDT tokens – a stablecoin backed by the US dollar, which can then be used to buy Bitcoin, and then, eventually US dollars.

The growing complexity of schemes to support ‘dark’ money flows out of China can put FIs in other jurisdictions with substantial Chinese exposure in an awkward legal and ethical position. From one perspective, the desire of the Chinese middle-classes to secure their money in a less hostile environment – or even speculate in previously inaccessible markets – might seem understandable for foreign firms who can legally facilitate such activity in their own jurisdictions. 

However,  legal and reputational jeopardy exists even in these circumstances, and there can be no assurance that the transactions might not be part of a more explicitly criminal scheme to launder illicit funds. From the perspective of most jurisdictions’ Anti-Money Laundering and Countering the Financing of Terrorism (AML/CFT) regulations, turning a ‘blind eye’ to such risks would be seen as a potential breach. 

This puts the onus on businesses with potential exposure to funds coming from China – especially those in cryptocurrencies but also other areas of fintech which might yet be exploited – to take note and act accordingly. What this means in practice is a need for strong Customer Due Diligence (CDD) and ‘Know Your Customer’ (KYC) checks, as well as flexible Transaction Monitoring (TM) controls. Although it can be tempting to take a customer’s money on trust, in the end, it does not pay to do so. 

UK Art Market Resisting AML/CFT Regulations

According to a recent report on artnet.com, the art market news platform, UK art businesses are struggling to implement AML/CFT requirements introduced by the UK Money Laundering Regulations (MLR) in January 2020. The report suggests that some UK firms have – wittingly or unwittingly – misconstrued the new requirements, and put themselves in jeopardy of future regulatory censure. 

The revised MLR, following the requirements of the European Union’s (EU) 5th Anti-Money Directive (5AMLD), stipulated that all those involved in an art-related transaction of £8,500 or more (around €10,000 or $11,000) would need to undertake the same levels of CDD, including Identification and Verification (IDV) as those required by obligated entities in the financial sector and beyond. Art businesses were also required to register with the UK’s tax unit, HM Revenue and Customs (HMRC), and file Suspicious Activity Reports (SARs) as necessary. 

According to the artnet.com report, however, some businesses in the sector are seeking to find loopholes in CDD requirements that would permit them to undertake less work. In some circumstances, the regulations do allow for businesses involved in a chain of linked transactions to rely on CDD carried out by others, and some dealers appear to be happy still to take the provenance of funds and the reputation of the parties involved on trust. There continues to be a deeply ingrained attitude within some segments of the UK art market that puts tremendous emphasis on the concept of the ‘gentlemen’s agreement’ and an assumption rather than a demonstration of trust. 

Nonetheless, as the British Art Market Federation (TBAMF) guidelines published in 2020 indicated, wholly trust-based ‘reliance’ on the CDD/KYC activities of other partners in the chain is explicitly not allowed by the revised regulations. UK-based businesses can only rely on the CDD of other UK businesses subject to the same MLR, or EU-based businesses subject to 5AMLD, ruling out the passing responsibility to counterparties in major art markets in North America and Asia-Pacific.  

Even if CDD/KYC checks are being executed by another party in the chain, moreover, all those involved needs to be made aware of the identities of the Ultimate Beneficial Owners (UBOs) in the transaction and the level of CDD conducted. As is also fundamental to AML/CFT, businesses are required to keep appropriate records on clients and transactions and ensure that they are available on request to other participants in the transaction. 

Talking to artnet.com, UK art law consultant and solicitor Tom Christopherson noted that the concept of reliance was potentially difficult to understand, but extremely important to execute effectively in practice. “Reliance, as defined in the regulations, may not always be useful,” he said, which is why the TBAMF guidelines “place considerable emphasis on defining precisely who has to conduct …[CDD]…on whom in an art market chain.”

Although many art dealers continue to see the MLR requirements as onerous, there seems little doubt that they are here to stay, and are part of a wider trend; the EU and the UK are not the only jurisdictions where governments and regulators are looking more intently at the vulnerabilities of the art market. This month in the US, the Financial Crimes Enforcement Network (FinCEN) at the US Treasury, the US’s national Financial Intelligence Unit (FIU), issued a Blue Notice to the art market to remind them of current obligations and further requirements introduced under the US’s recently passed Anti-Money Laundering Act (AMLA).  

In light of the increasing stringency of AML/CFT rules in the art market, the most prudent approach for the sector is unlikely therefore to be to try and game the system. Given the long-term trends, it will make more sense for art businesses to embrace the changes fully – and potentially, get ahead of them – because a strong reputation for compliance is likely to become a benefit, and not a burden.

US Authorities Arrest Alleged Crime Lord

According to a report from the Organized Crime and Corruption Reporting Project (OCCRP), a consortium of investigative journalists, the FBI has recently arrested Mileta Miljanić, a Serbian national, at his New York home. After the arrest, agents searched the flat and found a firearm on Miljanić’s bedside table. 

Miljanić, who has a known criminal history, is alleged by the FBI to be the leader of a transnational Organised Crime Group (OCG) known as ‘Group America’, a Balkans-based network which is believed to be involved in global cocaine trafficking and is said to use extreme violence to intimidate and eliminate its enemies, including elected officials. 

Although not confirmed by the FBI, it appears that the Miljanić arrest is part of an ongoing international operation against Group America. One of Miljanić’s closest associates, Zoran Jakšić, has recently been on trial for drug smuggling in Lima, Peru, and was convicted and imprisoned for 25 years two days after Miljanić’s arrest.

Despite their criminal notoriety, however, Miljanić and Group America are reported to have close connections with elements in Serbian intelligence and members of the country’s political elite. In 2016, Miljanić met Ivica Dačić, the current speaker of the Serbian National Assembly and then Foreign Minister and Deputy Prime Minister, when the latter visited New York. Dačić has denied knowing Miljanić well, saying he was introduced to him as a major donor to the Serbian Orthodox Church.

Miljanić is also alleged to have political links within the US and has featured in reporting around the ongoing case of James Cahill, president of the New York State Building and Construction Trades Council, a labor union, and close friend of New York state governor, Andrew Cuomo. Cahill was arrested in October 2020 on bribery charges, and it has since been alleged that Cahill has had close relationships with a variety of OCGs, including the Italian mafia and Group America.

The Miljanić case again highlights the risks posed by Politically Exposed Persons (PEPs), and wider networks of ‘High Net-Worth Individuals’. Some of these risks are indirect, as a result of senior criminals’ relationships with economic and political leaders who may – or may not – be aware of the criminal’s background or reputation. But the risk can also direct when well-established figures in serious organized crime have become significant in the legitimate world too – Miljanić is, of course, reputed to have been a major charitable giver. Nonetheless, such individuals rarely appear on a PEP or sanctions screening list and are easy to miss. 

There is an increasing need, therefore, for businesses to be well-equipped to identify the kinds of risks that can fall through the gaps not covered by mandatory controls. Although some businesses try to achieve this with ad hoc internet-based searches, these techniques usually produce unsystematic and inadequate results. Businesses instead need to look at dedicated Adverse Media Screening (AMS) solutions that can provide the crucial information that stops a Miljanić from becoming a client or counterparty; as ongoing regulatory statements suggest, ‘not knowing’ is an excuse that will no longer suffice.