Crimes that generate significant financial proceeds, such as theft, extortion, drug trafficking and human trafficking, almost always require a money laundering component so that criminals can avoid detection by authorities and use the illegal money that they make in the legitimate economy.
Given the regulatory scrutiny on money laundering in most jurisdictions, criminals must develop a laundering process that evades anti-money laundering (AML) controls. To this end, criminals incorporate layering into the process to better conceal the illegal source of their funds.
To detect layering, it is important to understand its place in the money laundering process…
What is Layering?
Pre-Layering: The money laundering process begins after criminals acquire illegal funds from criminal activity and seek to introduce them into the legitimate financial system. Accordingly, the first stage of the money laundering process is known as “placement.”
Placement: Criminals may use several methodologies to place illegal money in the legitimate financial system, including:
- Funneling illegal funds through legitimate businesses that deal heavily in cash transactions.
- Breaking down large sums of money into smaller amounts that can be deposited in banks without triggering AML reporting threshold alerts.
- Paying dummy invoices to criminal associates.
- Smuggling illegal funds overseas to jurisdictions with much weaker AML controls.
Placement removes illegal funds from their criminal source, distancing them from perpetrators and making them more liquid so that they can be transferred or transformed into other types of financial assets.
At this stage, illegal funds are still traceable back to their source. The next stage of money laundering, layering, allows criminals to remove that traceability and lend legitimacy to their funds.
The Layering Process
Layering is the process of making the source of illegal money as difficult to detect as possible by progressively adding legitimacy to it.
Like placement, layering further distances criminal proceeds from their source, but it primarily serves to reinforce the appearance of legitimacy by passing money through “layers” of transactions or financial instruments. Each layer represents a degree of legal participation in the financial system that increasingly obscures the illegal origin of the funds.
Layering is often considered the most complex component of the money laundering process because it deliberately incorporates multiple financial instruments and transactions to confuse AML controls. There are numerous approaches to layering available to money launderers. Examples include:
- Transferring funds electronically between countries and into and out of offshore bank accounts.
- Moving funds between multiple banks or financial institutions or between accounts within the same institution.
- Converting cash into financial instruments such as money orders, wire transfers, life insurance, stocks, bonds and letters of credit.
- Reselling high-value goods, such as artwork, or any type of stored-value product, such as jewelry or prepaid cards.
- Investing in real estate.
- Investing in other legitimate business interests.
- Setting up or using shell companies to move illegal funds and obscure ultimate beneficial ownership and assets.
- Using professional intermediaries or associates to handle transactions.
When money launderers need to clean large sums of money, the layering process must become more complex and diverse. Sometimes layering methods will be nested within each other: money will be invested in a business, for example, which will then open multiple bank accounts or begin investing its funds on the stock exchange.
Layering and AML
Detecting layering: Despite the intent to confuse and frustrate AML controls, there are strategies to identify layering activities. AML programs may be set up to monitor for certain tell-tale signs or red flags. Those signs include:
- Frequent transactions which end with exact (zero) amounts.
- Funding speeds: deposits of money into accounts that are then rapidly withdrawn.
- Frequent transfers between accounts within the same institution.
- Frequent use of wire transfers into and out of accounts.
- The destination and source of funds: to or from high-risk countries or accounts.
AML employees may also be able to pick up on contextual information, such as comments customers make about their transactions or information they include on official documents. While screening and monitoring software remains an important AML component, the ability of frontline employees to spot these contextual characteristics is crucial.
Layering AML Example: One common layering strategy will see a customer withdraw multiple small amounts of cash from accounts where illegal funds were deposited during placement. Each cash withdrawal will be in $100 bills and in an amount too small to trigger the reporting threshold.
The cash will then be wire-transferred to an offshore account, consolidated and then used to purchase a high-value item, such as a painting or a yacht.
In this case, in order to identify layering as part of a money laundering process, an AML program might monitor for red flags, like funds deposited and withdrawn rapidly and in exact amounts.
After sufficient time in the layering process, criminals can extract their funds and reintroduce them to the financial system as legitimate money: this stage of the process is known as integration. While layering costs may have decreased the value of the placed funds, during integration, they will likely still be used to make high-value purchases, such as real estate, luxury goods or residential or commercial property.
It is likely that criminals will engage banks and financial institutions at this point, which means AML programs may again be especially effective at spotting laundered money via Know Your Customer (KYC) checks and, where appropriate, enhanced due diligence (EDD). Given the vast amounts of financial data involved in the detection of layering, using an automated AML solution is an opportunity to ease the pressure on AML employees, eliminate errors and add speed and accuracy to the process.