What Is Layering in Money Laundering?
According to the National Crime Agency (NCA), it is a realistic proposition that upwards of £100 billion is laundered through and within UK-registered corporate structures each year; a staggering statistic which puts the level of threat that money laundering creates into perspective. The layering stage of money laundering is perhaps one of the most elusive - where illicit funds are disguised through complex and seemingly legitimate financial transactions.
For legal professionals, the inability to detect or understand layering can result in severe consequences for themselves personally, and their firm, including dismissals, sanctions, and reputational damage, making it so important to understand the landscape thoroughly. This article will address the concept of layering in money laundering, explain why it’s a significant threat, and explore practical measures to detect and combat it.
The Three Stages of Money Laundering
Money laundering - the process of concealing the origins of illegally obtained money to make it appear legitimate - has adopted new ways of obscuring funds in recent times, such as through crypto-assets, but the process still tends to follow the traditional 3 stages that many legal professionals will be familiar with. These stages are:
1. Placement
This initial stage involves the introduction of illicit funds into the financial system, distancing them from their illegal source. This stage is sometimes referred to as “pre-layering”. Common methods for doing so include:
- Depositing multiple small transactions over time, which is known as “Smurfing”.
- Smuggling small amounts of money into offshore bank accounts.
- Converting illicit cash into foreign currencies through exchange services.
- Buying casino chips with illicit funds, betting minimally, and cashing out.
2. Layering
The goal of the layering stage is to obscure the source of funds through complex transactions or other financial activities, making the funds very difficult to trace. Various techniques are used to do this, such as:
- Transferring funds between multiple accounts, across various countries.
- Converting money into different currencies to complicate tracking.
- Purchasing and selling expensive assets, such as real estate or high-end goods.
- Generating fake invoices for non-existent goods to justify fund transfers between shell companies.
3. Integration
The final stage involves reintroducing laundered funds into the legitimate economy, making them appear as lawful earnings. Examples of reintegration include:
- Investing in legitimate businesses to blend illicit funds with legal revenue.
- Buying high-value assets like yachts, which can later be displayed as legitimate wealth.
- Gradually transferring small funds from offshore accounts into local banks.
- Creating fake loan agreements and making repayments with illicit funds.
What Layering Methods Are Commonly Used?
In the layering stage of money laundering, criminals employ various methods to obscure the origins of illicit funds, making detection and tracing by legal professionals more challenging. Common layering techniques include:
- Shell Companies and Trusts: Using businesses that essentially only exist on paper is a common method to hold and move funds, concealing the true ownership and origins of funds.
- Complex Financial Transactions: Launderers engage in complicated transfers, such as moving funds through multiple bank accounts across different countries, to create a convoluted trail.
- Investment in High-Value Assets: Criminals purchase items like real estate, luxury goods, or artwork, which can later be sold to integrate the laundered money back into the economy.
- International Money Transfers: Funds are transferred to accounts in foreign countries, especially those with weak anti-money laundering (AML) regulations, to exploit gaps in regulations.
- Currency Exchanges: Illicit funds are converted into different currencies, including digital currencies - such as cryptocurrency - to further disguise their origin and complicate tracking efforts.
- Transforming Cash into Financial Instruments: Criminals can use financial instruments such as life insurance, stocks, letters of credit, or wire transfers to obscure the source of funds.
How Can Firms Detect Layering?
Solicitors play a crucial role in preventing money laundering activities, particularly during the layering stage. Recognising specific red flags can make the identification of potential financial crime all the more easier - here are some of the things to be particularly wary of:
- Inconsistent Client Information: Discrepancies in client details, such as mismatched names or addresses, which may indicate attempts to conceal true identities.
- Unusual Source of Funds: Large amounts of cash or private funding that are inconsistent with the client's known financial situation.
- Third-Party Funding: Receipt of funds from third parties without a clear, legitimate connection to the client, raising concerns about the true source of the funds.
- Unexplained Wealth: A sudden and unexplained increase in a client's wealth, such as unexpected inheritances or business successes.
- Sudden Changes in Instructions: Unexpected changes in the terms of a transaction, which could be indicative of a sham litigation; where funds are transferred under the guise of legal disputes to mask illicit activities.
- Complex Ultimate Beneficial Ownership: The presence of complex ownership structures or opaque ultimate beneficial ownership (UBO), where true ownership is hidden.
What to Do if You Suspect Layering
In the event that you suspect layering activities, it’s important to act in accordance with the Money Laundering Regulations (MLR) 2017 and your firm’s AML Compliance Program. Solicitors have specific obligations to prevent, detect, and report money laundering activities, especially during the layering phase, before further damage could occur.
1. Conduct Thorough KYC Checks
As part of your Know Your Customer (KYC) obligations, solicitors must carry out comprehensive due diligence on all clients to verify their identity and understand the nature of their personal and business interests. This includes:
- Identifying the ultimate beneficial owners (UBOs)
- Assessing the source of funds or wealth
- Ongoing monitoring of transactions
2. Report Your Suspicions
If you detect signs of layering (or other suspicious activity), you must report it immediately to your Money Laundering Reporting Officer (MLRO). Solicitors are required to submit a Suspicious Activity Report (SAR) to the National Crime Agency if they suspect that money laundering is taking place. Failure to report can result in severe penalties, including criminal prosecution.
- Solicitors must not inform clients or others that a SAR has been filed; this is known as the "tipping off" prohibition and is strictly enforced.
- As much information about the suspected activity should be provided to aid the investigation, such as client names, business addresses, and transaction types.
How Is Technology Assisting Firms to Combat Money Laundering?
Technology plays a pivotal role in improving firms' capabilities to detect and prevent money laundering activities, and this is expected to improve in upcoming times as more businesses adopt aspects such as machine learning and artificial intelligence (AI), which have developed stronger electronic Know Your Customer Checks (eKYC). Machine learning, in particular, has been successfully used by many firms, allowing for quick monitoring and analysis of vast datasets to identify suspicious patterns in client activities.
By analysing the relationships and connections between individuals and businesses, network analytic tools can uncover hidden links or complex structures used in money laundering schemes. This method is particularly useful for detecting layered transactions and the involvement of shell companies, helping legal professionals crack down on even the most obscure of cases.
Support Compliance With Regulations Through Our AML Training
In the fight against financial crime, every member of staff is required to play their part in ensuring compliance with AML obligations. We offer comprehensive AML training tailored to your specific firm’s needs. Please get in touch with us today to arrange a free, no-obligation initial consultation today.
