Money Laundering

Laundering through Financial Institutions

The money is laundered through the Financial Institutions in three stages, which are universally accepted.

1. Placement

Placement of funds into a bank is the initial step in the process where the ill designed schemes are often exposed to legal actions. Placement can take any number of forms. If the money launderer in a suitcase and deposit it in an offshore bank. But the biggest problem here is handling cash and risk of the theft or seizure. To overcome these risks the banking systems are penetrated to get the best deals of swift transfers. The money is broken up into smaller amounts and deposited into bank accounts. But the risk of Banker questioning is always left behind. Here, Hawala can provide an effective means of placement. Suppose an Indian resident paid the premium to the Dubai Hawaldar having the legitimate business of import and export of CD’s. Since he also operates a business and also performs remittance services for others, he will make periodic bank deposits consisting of cash and checks. He will justify these deposits consisting of cash and checks. He will justify these deposits to bank officials as the proceeds of his legitimate business. He may also use some of the cash received to meet business expenses, reducing his need to deposit that cash into his bank account. Purchasing the demand Drafts, traveller’s cheques or Pay-orders are some of the commonly used techniques to place the funds into the banking system.

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Money-mania

A criminal from the neighboring country opened an account in the nationalized bank located in Mumbai. The account was opened with a Passport and a 5 Pounds note. It was classified as a Non-resident External Account. He adopted a simple technique to convert the funds received from their terrorist organization. He procured the demand drafts from Branches of nationalized Banks located in Navsari in Gujarat and placed them for clearing so that bank payments to the parties could be made.

The stamp paper scam perpetrated by Abdul Karin Telgi is the classic example of the placing the funds into financial system. He opened 160 different accounts in the different branches of different banks located at different places. He mandated different persons to operate these accounts. His illegal businesses were carried through the bank accounts. Though he was the ultimate beneficiary of the funds in these accounts, banks never knew that they are the party to India’s biggest financial conspiracy. Telgi simply penetrated the banking system in his favour.

The banker never smells anything fishy when the current deposit account is opened, as the banker does not lose anything. Rather the current accounts are the cheapest source of deposit. Banker is not responsible to his higher authorities unlike the cash credit or term loan. According to the bankers thinking it is the money of depositor, which he uses at his will. The current accounts are never tracked for the sources of funds. They are rarely questioned. This typical mentality of the bankers encourages the people like Telgi to launder. Till the time the depositor doesn’t seek the money from the bank, they are free to deposit any amount from any source into the bank and are free to withdraw it. It is like an open license to them to launder the dirty funds with bank as a medium.

India’s Biggest Money Laundering Scheme

Extent : The fake stamp paper scam was the biggest money laundering scam in the history of the Frauds in India, running into probably Rs. 30,000 crores.

About Telgi : Abdul Karim Ladsahab Telgi is the father of Stamp Paper scam. In his early forties, he kept the police force of at least 19 states on tenterhooks. He is the native of Belgaum district on the border of Maharashtra and Karnataka. He began as a vendor in a small railway station before coming to Mumbai. His meeting with the forger was a turning point in his life. It eventually led him to the stamp and stamp papers business.

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The market : This was the market just waiting to be exploited. The inefficient governments never produced the stamp papers to meet statutory and legal requirements. Also the process of purchasing the stamp papers or getting the papers franked from the traditional government offices involved a long queue and frustrating battles with the employees in the government offices.

Bond Washing : This scenario was encouraging for Mr. Telgi. He decided to capitalize on this by printing duplicates. In the initial years of the business the syndicate led by him in all probabilities used chemically washed stamps. This was possible because there was no system of branding or cancellation of the stamp papers once they are used. This loophole in the system provided the opportunity to Telgi and Company to re-introduce the used stamp papers back into the system simply by washing them in the chemicals to remove original contents.

Laundering (Placement) : This was a great business plan except the legality aspect. His business grew by leaps and bounds when he acquired the machine disposed of by Indian Security Press of Nashik. He started generating crores of Rupees by sale of specially manufactured stamp papers. One cannot handle such a huge amount in cash. He badly needed the banking system in conduit. But unlike the prior mega scams of Harshad Mehta, Ketan Parekh, C. R. Bhansali, the banks are not the ultimate losers rather who has lost the money is a great question. The printer of the fake stamp papers accepted the cheques as against the cash, which is normal mode of payment in the government offices. To realize these cheques he opened approximately 160 Bank accounts. These accounts were not opened in the names of Mr. Telgi himself but were opened in the names of associates. These associates were given the mandates to operate the accounts. The mandated person was changed more than once to ensure security of the funds.

Worth of Assets : Today the worth of assets of Mr. Telgi is approximately Rs. 500 millions but the scam runs into 320 billions.

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2. Layering

Layering is the art of passing the currency from hand to hand unless it finally disappears. If the placement of the initial funds goes undetected, financial transactions can be designed in complex patterns in order to prevent detection. Once the funds have been deposited into financial institution, a launderer can move the funds around by using layers of financial transactions designed to confuse the audit trail. The money can even be transported out of the country through wire transfers. However, the layering transactions done through the traditional banking system leaves behind the Paper trail. If any portion of the laundering network is examined, the related paper trails could lead a prudent investigator directly to the source of the criminal proceeds and unravel the money laundering network. There is no reason, why Hawala transfers could not be ‘layered’ to make chasing of money even more difficult. This could be done by using Hawala brokers in several countries and by distributing the transfers over time. Even when invoice manipulation is used, the mixture of legal goods and illegal money, confusion about ‘valid’ prices and a possibly complex international shipping network create a trail much more complicated than simple wire transfer.

There are various creative schemes designed by the people to layer the funds. In one of the classic cases of the Calcutta based software company his deal of layering was supported with the resolutions passed at the board meetings. The details are given in the table

Date | Details of Resolution |

October 2000 | Company announced the Acquisition of the USA company (US Technologies) |

November 2000 | The Board of Directors of the company approved the Preferential allotment of 1.4 crore shares to certain overseas Corporate bodies. |

December 2000 | The shareholders approval was sought for the Acquisition of the US Technologies. |

January 2001 | Allotment of shares was made to One Trust- 60 lacs shares, Two Corporation 40 lacs shares, Three Investments- 40 lacs shares. |

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When the above details are put forward, the first impression a shareholder will get that the three firms, which were allotted the shares, were the owners of the US Technologies or the second possibility if not owner they could have the pledged shares of US Technologies. But there is a vast difference between the understanding of the investor and the actual situation. The Calcutta based company is believed to have opened about 13 accounts in the overseas branch of the bank. It created fictitious transactions in these accounts. Transfer funds from one account to second and from second to third, when the total horoscope of the transactions was made up, it was concluded that these funds found its way to some trust which was in turn sponsored by the promoter of the same Calcutta based company. But the important point in this case is that the transfers from one account to another are most of the times supported with some intention. Most of the times the bankers in India feel that these are made to increase the load of work on them but in reality they are made to substantiate some facts from which the perpetrators gain heavily.

This scheme is believed to be the tip of the iceberg. Such kinds of schemes are regularly perpetrated in the stock markets.

Here are certain layering operations, which are discussed, in the academic interest.

The Bank Auditors In our country frequently come across certain situations where they stumble upon the layering cases. The funds are moved through various accounts at various times.

(Figure)

The scheme exhibited in the above figure is a very low-tech laundering scheme. The figure above is illustrative of the layering techniques adopted to cheat the banks. One Narcotics dealer required some funds as a working capital for his business. It is noteworthy that these dealers in the narcotics are highly respected in their respective societies. They do the illegal businesses under the veil of the successful and legal businesses. This is a story of a big builder in the City, who used very novel technique to penetrate the banking system. He had main business of Building Construction. He approached the banks for the funding when the banking was getting more competitive and conservative job. RBI declared the Real estate sector as the sensitive sector. For the banks it was the non-priority area for Project Financing. The Banks refused the proposal of the Builder unanimously. But Builder didn’t give up the Battle. He created 23 different entities registered under shop act and having excise and Sales Tax registration. All these 23 entities were doing the trading business of Printing and Manufacturing of the paper and Books. He approached a nationalized bank with a big name. There was no problem for the bankers to finance the trading concerns.

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He got the Bills Discounted Facility approved from the Bank. It is a prudence that Bills Raised on very trusted parties are discounted but this is the not a written rule. Since the builder has a big name in the society the bankers raised no controversial issues. He went to another private sector bank and got the Letter of Credit facility sanctioned from that bank. He got the bills discounting facility sanctioned in all the 13 Trading concerns. The bills that came for discounting were from the remaining 10 parties. Ex, A raised the Bill for Rs. 1000 on B and B got it discounted from the bank for Rs. 900. Unfortunately, these bills were not at all supported by the physical sales transaction. Hence, it was a pure clean finance for entity A. In similar manner C raised the bills on D, E on F, G on H, I on J and so on. But the circular references were strictly avoided. The precaution that was taken in this case was that the party on which bills were drawn never had the banking accounts with the nationalized bank. At the due date the bills used to be honored by discounting the bills under the inland letter of credit facility opened in another bank.

He raised the total working capital required for his Narcotics Business. All these funds were utilized for spoiling the young generation in the country. This scheme run smoothly till the repayments were made in time. But when one of the consignments was seized the loan accounts started running in losses. The bankers telephoned the Parties. But no such entities were existent on those places. Though the banner of the Builder was big he was absconding. Bank was required to write-off the bad loan.

3. Integration

The final stage in the laundering process is the integration of the asset back into the economy in such a way as to make it appear as if it were a legitimate business transaction. At this stage the launderer invests the funds derived through the illegal businesses into some assets or uses the funds to enjoy his ill-gotten gains or to continue to invest in additional illegal activities.

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Surf the Smurfs

He ran a rather sophisticated smurfing operation out of Mumbai involving bank accounts in cities all over the country. He along with his other smurfs would fly to Noida, Bangalore, Nagpur, Ahmedabad, Pune and other cities. When they arrived they would immediately travel to various banks within each city. The scheme would begin with the purchase of Demand Drafts in amounts less than $ 1000 in favour of ABC publishing Inc, USA. This would be repeated several times at different branches of different nationalized banks. The group would then proceed to another city where some more Demand drafts used to be purchased for the amount permissible by the Reserve Bank of India for incurring expenses in foreign currency. These demand drafts used to be in the names of three publishing houses for the purposes of procuring the books on management. A single person in India managed all the three publishing companies. Approximately 129 crore rupees were laundered outside India in this fashion.

A money-laundering scheme cannot be successful until the paper trail is eliminated or made so complex that individual steps cannot be easily traced. The number of steps used depends on how much distance the money launderer wishes to keep between the illegally earned cash and the laundered asset into which it is converted. A greater number of steps increase the complexity of tracing the funds, but it also increases the length of the paper trail and the chance that the transaction will be reported.

The object of laundering is to convert cash into another asset. Financial Institutions routinely issue negotiable instruments such as Demand Drafts and pay orders in exchange for cash. Criminals prefer these negotiable instruments for two reasons. First, Demand Drafts and pay orders are bearer instruments, and the holder can use them or deposit them without having to prove the source of the funds. Second, they are “liquid” assets because the holder can use them immediately.

These schemes are intended to vandalize the laws. It is not enough to design the schemes for disguising the nature of the transactions; it also requires a proper accounting backup. The illegal money poured through the Business channel needs to be justified.

Integrating the Funds into Legal Assets

Efficiency demands legality. Hence, the bank money is preferred over the hard cash. Legal money has got huge potential of expenditure and the investment in the manner it is desired. However, the money obtained through the illegitimate sources has only one use and that is to bury the sum under the soil and unfortunately the money buried under the soil doesn’t generate money plants. The cash intensive businesses provide a great shelter to the launderers. The only significance of the pubs, nightclubs, discotheques and dance bars is that they are the darling dogs of the Money launderers. Such businesses make accurate audits difficult. These businesses charge relatively high prices, and customers vary widely in their purchases. Sales are generally in cash and it is disgracefully difficult to match the cost of providing food, liquor and entertainment with the revenues they produce. Bar girls and the bar singers are paid hefty sums for the dirty and filthy jobs. It is quite likely that because of the lucrative margins the laundered money could go underground through these businesses.

Second such business is the real estate business, where lots of laundered funds are poured. Real Estate Market would be the most suspected black money generating market. It is one of the human dreams to have your own roof. He saves the money and invests into the house property. Having your own house rather than a rented one is a social symbol. Real estate purchases are attractive because at least historically real estate surges in value. It is the most tangible security one can have in his bad days. That is why it is preferred over shares, bonds, deposits and all other forms of investments.

While owing the house has become more affordable for the middle class due to easy loans and changing norms of bank lending, purchasing property has its own unique problems. The exact purchase price is never declared. Builders insist on the part payment by cheques and the rest by cash. This helps them to beat the system and save tax. This is normally the beginning of the laundering cases. For avoiding the taxes the transactions are completed in cash. But cash corrupts and the story ends.

Inter-Company Transaction

Nowhere in the world will the money grow in transit from one pocket to other pocket. But it is the unique feature of the corporate world. Companies are independent entities. It is well said in the real life words “The condition to make profits out of inter-company transactions is that they should have different husbands, no problem if they have same father.” In short the promoter can be the same but the managements should be different. Inter-company transactions are generally used for integrating the illegal money back into the legal channel.

Subterfuge to deceive

It was the group of the companies. There were four main companies in the laundering scheme.

W finance, X steel, Y automobile and Z sons. The Z was holding major portion of the shares in its group companies and inter-company holding was 20% each, X hold 20% in W and Y, Y hold 20% in X and W and so on. The X steels which was the flagship company of the group sold the real estate in the heart of the city at a huge premium. It received certain amount in Cash. The company used a novel scheme to bring these funds to legible channel. X steels sold of the shares hold by it in Y automobile at the market rate. The shares were purchased at par and were sold at Rs. 230 each. The shares were sold to the subsidiary company of W finance. This resulted into the temporary shifting of shareholding from one company to another in the same group of the same promoter. The capital gains were booked. The tax was paid as per the norms. The transfer of shares was supported by book entries but the no funds actually flowed from the finance company to the steel company, instead the cash was paid into the bank account of X steel as consideration of sale of shares.

Laundering and the role of the Bankers

The private bankers are forced to serve the clients because the client is always willing to run to the nationalized bank. That is the reason why they are required to set up the accounts and move money across the world. The co-operative banks are no exception to these kinds of the strategies. Private and the co-operative bank clients are, by definition, wealthy. Many also exert political or economic influence which may make banks anxious to satisfy their requests and reluctant to ask hard questions. If a client is a government official with influence over the banks in country operations, the bank has added reason to commit offence. While private banks routinely claim that their private bankers gain intimate knowledge of their clients, history demonstrate that too often is not true.

Bankers play a vital role in the many of the laundering schemes. They are empowered with the internal transactions in bank. Various reports have shown that the internal fraudsters far greater than the costs of the frauds committed by the internal fraudsters is far greater than the costs of external frauds. As seen in the topic of collusive bribery the frauds committed by the shareholders of the organization are the costliest. The same was observed in the case of the collapse of Bank of Credit and Commerce International. This was referred to as the world’s worst banking scandal. BCCI’s history and criminality are traceable to the personality of its founder; Agha Hasan Abedi. He was related with Habib bank and United bank, which were the two dominating banks of that time in Pakistan. Abedi formed BCCI 1972. Abedi built his organization to provide as little information as possible to his underlings. Officers in one operation knew little about the function of officers in other areas. He bribed and manipulated auditors, dividing his annual audits between Ernst & Whiney and Price Waterhouse, with each firm examining pieces of the business without getting the whole picture.

The BCCI was the umbrella under which one could have found out several layers of entities

* Series of related entities

* Series of holding companies

* Affiliates

* Banks-within bank

* Promoters and other insider dealings

The bank had heavy relations with the CIA and the terrorist organizations. Rather Bank of America and the CIA funded its establishment. CIA operatives used the bank to launder the money from CIA enterprises.

Abedi and his insiders used shell corporations, bank confidentiality and secrecy havens, front men and nominees; back-to-back financial documentation against BCCI controlled entities, kickbacks and bribes, intimidation of witnesses and retention of well-placed insiders to discourage governmental action.

The Sandstorm report forced the shutdown of the bank globally. This report pointed the $ 600 million deposits not recorded in the books. The bank basically relied on the deposits, rather than generating revenues from the assets. It insisted always on the growth of deposits for that matter it also paid the bribes to the Government officials for drug trafficking and laundering of the money.

Money Laundering and Swiss Bank

It has been accused of offering the hiding place for stolen or looted money providing a screen for the stock market manipulations and dubious promoters of the companies. 1993-96 was the period of the IPO bubble in India. Many came and many went away. The account holders are protected from disclosing their assets and the income from tax authorities. Many political leaders are expected to have the Swiss bank account. The ex-prime minister of the neighboring country is alleged to have laundered huge amounts to Swiss bank. It is purely a bad luck. It is quite possible that many of the politicians have huge chunk of funds in the Swiss bank accounts.

Extent : The Pakistani Ex-Prime minister perpetrated the laundering scheme, which runs into $ 11.91 million.

Parties Involved : Bomer Finances Inc. received the kickback of $ 8190085 and Nassam Overseas received the kickback of $ 3807338 from Societe Generale De Serveillance SA (SGS).

Apart from this Maristone Securities Inc. received $ 120000 as commission for allotting the inspection work to Cotecna Inspection SA. The ex-prime minister of Pakistan or her relatives directly or indirectly controlled the three parties, viz. Maristone, Bomer and Nassam.

The Transactions : At the beginning of 1990 during the tenure as a Prime Minister she awarded the contract of Customs surveillance and inspection to Cotecna. As a consideration Cotecna paid 6% of the amount received from Pakistan to the account number 622.902 in Barclays Bank. The account was owned by Maristone. The beneficiary of Maristone was mother of the Pakistani Prime minister. Cotecna was subsequently bought out by SGS. The commission of $ 8190085 was received in the account of Bomer at UBS Geneva. The Prime Minister and her husband in the 50-50 proportions with the rights of disposition of assets lying with the Prime minister owned Bomer.

Swiss Banks : In all of the above transactions the Swiss banks were the parties to the transaction. But apart from this the historical Necklace, which supported the links between Ex-prime Minister and the Bomer, was also seized from the one of the Swiss bank vaults. She purchased this necklace for 117000 pounds. Half the amount being paid in cash and half of it was paid through the bank account of Bomer.

Laundering : Unfair management of Public interests is a crime as per the Swiss laws and does not make any difference whether the crime was committed abroad or in the country. The money laundering from the Criminal activities is a punishable offense and hence, the husband of ex-prime minister was reproached.

If the prime minister of Pakistan had acted fairly it would not be herself but rather the state of Pakistan, which should have benefited. But she performed all the jobs, which she felt correct in her own interest, with or without the support from the public servants.

In reality material flowing to the country should be under strict observation from the Customs authorities. The unauthorized inflow damages the economy (the counterfeit notes), youth (narcotics and drugs) and also promotes smuggling. Outsourcing of the inspection and surveillance services of the imported goods could really be a harmful decision to the economy of the country, since the foreign companies doing such jobs have nothing to do with the social values, they are always interested in money factor involved but the ex-prime minister of Pakistan despite the opposition from the custom services of the country implemented the decision.

At the first site no importer is willing to pay the customs duties. However, some businesses willing to export the consignments suffer due to heavy customs duties on the raw material they intend to import from other countries. Some cancel the export programs, some pay the import duties and some evade it by using many innovative techniques. Some try to bribe and some play accounting gimmicks. International crooks use brilliant techniques to avoid customs duties. Normally, these are given birth by the loopholes in the legal statutes only. These techniques are so unbelievable that one tempts to say that the truth is really stranger than fiction. Such fictions are not a new phenomenon for the Indian Customs department too.

Customs department auction the consignments remaining unclaimed in the custody of the customs authorities for a specific period. Generally, the low quality or the damaged goods, which the importers deny, are auctioned. To take advantage of this provision in the Customs Act, a simple conspiracy was planned. In one of the corporate laundering case the promoter formed two different companies in the names of son and wife. The business of these companies was to trade in the imported shoes. However, the demand for the shoes was not picking up because of the high pricing. The trader was selling them at lowest possible price but was unable to create the market for these imported shoes. He tied up with the party in USA to send the consignments in two parts. In first consignment on left legs were sent and second consignment was for the right legs. The additional costs were borne by him. The first consignment of 1000 shoes was received at Mumbai in the month of January. Since all the shoes were for left leg the trader refused to take the delivery. Customs department decided to auction the shoes. There were very few bidders. The shoes were auctioned at throwaway price. The bid of the Kolkata based sister concern of the shoe trader was accepted. Another shipment for the right leg was received at Kolkata in the month of June and similar auction. The Mumbai firm took the delivery of these shoes. The burden of customs duties worth lacs of rupees was disposed-off by paying few thousand rupees. Customs officials were just fooled!

Role of advanced technology in Money Laundering

In the coming decade the challenge before the regulators is going to be a tough job because of daily upgrading technology. The cutting edge of this crime is paperless money laundering. Transaction cards such as debit, credit and more recently smart cards are used to transfer illicit funds and to disguise the source and origin of these funds. Smart cards can make anonymous card-to-card transfers. Further, the ability to move money across international borders via chips containing value will also create a challenge for law enforcement. Money launderers using electronic cards can cross the Borders of the country with funds, and then transfer the money to other cards.

Secondly, Wire transfers play significant role in the money laundering schemes. Wire transfer systems allow the criminal organization as well as the legitimate business and the individual banking customers to enjoy a swift and nearly risk free medium of moving the funds between the countries. The recent explosion of the Internet is going to add to the woes of the regulators. In India, we have just managed to pass the Act for Money Laundering. As usual the legal provisions will be made applicable to the cyber world without learning the peculiarities of this fascinating digital world.

Many banks in India are moving towards the full computerization. The layering becomes much easier in the banks, which are Internet based and which offer the e-transfers. These e-transfers are designed to secure payments from any personal computer to the other workstation over Internet.

Once the launderer succeeds in opening an account with some of these banks on the basis of passport or the driving license creating the layers of the transactions is an easy job with the help of the Internet banking passwords. Identity theft was big challenge in the non-digitalized world due to inherent lacunae in the system and now the stars and asterisk are going to be the identification marks. Do anything these stars and asterisks do not connect you to the person transacting with it. This is going to make the identification theft more severe crime. Any person with the password is allowed to move out the funds from one account to another and anyone having the PIN and ATM card is permitted to withdraw it at any location in this world from the bank account located in the remote place. No checks, no controls.

Insider Trading – Wire transfers

An Indian citizen, who was an investment banker in a major U.S. financial center, was accused of giving “inside-tips” to various friends and relatives. After some illegal trade took place, the banker resigned and apparently took the flight to his homeland. At the same time, several of his associates also travelled to India as well as several European financial centers. An analysis of seized bank records indicates that money was wired to persons of Indian origin in at least one of these financial centers. It is possible that these wire transfers were the first part of hawala-like transfers of the proceeds from the illicit trades to the investment banker’s home country.

Online – Auction

In the world of the advanced technology, the cases of cyber laundering have been noticed in some parts of the world. Cyber laundering is done in two ways at present. The methodology is simple. The Indian merchant who wants to transfer the funds to say a Dubai merchant will enter into an arrangement for putting some consumable commodity on the auction site. The commodity say for example CD of some old songs can be sold at any price irrespective of its cost as it is considered to be the prestige issue to have some CD’s or the collection of some old songs. This CD is put for an auction. The highest bidder gets the CD. The Indian merchant who wants to send $ 5000 to Dubai will buy this CD for $ 5010. The payment will be made by way of the credit card. The compact disk will be received in India. The payment of the credit card bill is made in cash. The cash generated through the extortion will be swiftly transferred to another country.

International Transactions

If no laws exist corporations can easily be manipulated by shareholders engaged in foreign. Take the simplest case : A person can, in a transaction that qualifies for non-recognition treatment, transfer income-producing assets (such as stock or bonds) to a foreign corporation organized in a zero-tax jurisdiction. The income earned by the foreign corporation is not taxed by the developed country or by the zero-tax jurisdiction. The assets remain under the control of the high-tax nation’s resident, but the income is not taxed until repatriated. The shareholder would be taxed on the sale of the stock but at favourable capital gains rates. There are other international transactions, which can be used as money laundering. In order to curtail so-called abuses, most developed countries have adjusted their systems of taxation and the non-recognition provisions, the simple manipulations described above are not possible under the law. Variations of these techniques, however, do form the basis of tax planning.

Mumbai to Dubai

There were two firms of the same promoter dealing in the diamonds. These two firms were located in Mumbai and Surat. The Mumbai firm sent the diamonds in the raw form to Dubai. The cost of these raw diamonds was 5.1 lakhs. The diamonds were processed in Dubai and were returned to the Surat firm along with the invoice of Rs. 37.7 crores. The Surat firm paid the amount of Rs 37.7 crores. But when the Customs authorities valued the diamonds, it was observed that the value of diamonds was only Rs. 71.4 lakhs. The difference of Rs. 36 crore was the money laundered out of India to Dubai. (Source : ‘Economic Times’ 7th August 2003)

Mauritius Treaty

Mauritius has consistently been the greatest source of FDI into India, with some $ 7.5 billion of investment flowing into India from the island between 1991 and 2003. The United States has been the second largest investor. The reason for the huge investments through Mauritius is the Treaty with Mauritius. According to this treaty dividends and the capital gains are not taxable in the hands of investors. This ultimately reduces the tax burden on the Investor. The Overseas Corporate bodies in Mauritius were the greatest fancies of the stock exchanges in the Stock boom of 1999-2000. One of the strong newspapers has reported this as the reverse hawala as the Indian funds, which were transported outside the country found its way back into the country.

When fence is eating into the grass

The overseas corporate bodies that found direct nexus with Big bull Ketan Parekh in the SEBI investigations were Dossier Stock Inc., Greenfield Investment, AOM Investment, Symphony holdings, Almel investments and Delgrado Ltd. The overseas bodies corporate were operating for Ketan Parekh and were used for cornering and parking the stocks. Of the above six Delgrado Ltd. is the most significant. The beneficiary of this OCB was Mr. Subhash Chandra Goyal who is the Chairman of the India’s very strong media giant ZEE Telefilms Ltd. Delgrado Ltd. was the substantial shareholder of ZEE Multimedia (another company in the group).

While restructuring the operations of ZEE Telefims, which was the listed company, ZEE Multimedia was acquired from its shareholders. As a consideration ZEE Telefilms allotted 2.48 crore shares. In the Bull Run of 1999-2000 this media giant saw a great rise in the prices of the equity shares. The promoter of the company decided to take advantage of the bull phase. Out of these, 2.48 crore shares were allotted to the shareholders of ZEE Multimedia, 1.75 crore shares were allotted to the Delgrado Ltd. as Delgrado Ltd. was the shareholder in ZEE Multimedia. Since Mr. Subhash Chandra who was also the owner of ZEE Telefilms Ltd. and also the beneficiary of Delgrado Ltd. sold these shares at relentlessly ramped up prices. By this method, he was successful in transferring Rs. 450 crores out of the country into Mauritius.

Rising prices of the shares held by the company is like appreciation in the value of house where you stay and which is not built for re-sale. However, encashing the improving prices of residential house is a real art.

Speculation Profits and Money Laundering

Laundering comes into picture when one generates the huge piles of dirty cash. Some people face the problems of generating the enough wealth whereas some people face the problem of managing the wealth. The laundering and hawala were the responses to managing the wealth, without paying much to the Government. One should know the story of Ketan Parekh in order to understand the methods of generating huge piles of cash. Laundering is the next step in the chain of the frauds. Ketan Parekh was a modest Mumbai broker running his father’s brokerage firm who eventually turned fingertips. It was the greed of making a quick buck that brought about the downfall of a man they say had powers wide enough to move the stock markets across the country.

He had the great skills to manage and manipulate the prices at the same time keeping the control over the price fluctuations. He took advantage of low liquidity in stocks. He held major proportions of these shares through the layer of brokerage firms he created. This was a big game of the laundering operations. The three stages are evident from his methodology also. (Refer the diagram below).

The method he used to acquire such huge chunks of shares was to borrow money from banks and corporate whose market prices he rigged. But single person can never move the markets only the strong network led by the person can do so. He lured other brokers and fund managers into buying the stocks where he was active. And what followed was a frenzied buying by hordes of investors who started pumping in money into these momentum stocks.

Brokers and retail were not the only ones who were dazzled by the allure of these stocks. Several mutual funds also started buying these stocks in order to improve the Net Asset Values of their portfolios. His judgment of the timing was perfect. This was the time when the global boom in the technology stocks pushed world markets higher.

However, the great crash in the US technology shares in December 2000 put paid to all his hopes of any revival. Mutual funds again started dumping technology stocks and a few brokers in Mumbai decided to hammer down these stocks, which created payment troubles for KP once again.

However, the huge sum of profits that he had earned in the previous year some Rs. 200-300 bn came to his rescue as he invested some of them as private placement in media companies such as ABCL and a few others. He also floated a VC firm called KVP with friends Vinay Maloo of HFCL and Kerry Packer of Channel Nine. In the meantime, he still continued his earlier game plan of buying stocks at low levels and selling them at higher prices.

At the start of the year 2001, his large empire developed cracks as he became desperate for funds and kept on borrowing from banks like Madhavpura Mercantile Bank and that too without pledging too many securities. He managed the 1.40 bn pay order from this co-operative bank. Prudent bankers issue the bankers cheque when they receive payment for issuing pay order or give it as a loan at least if they have the capacity to honour the obligation. When presented in Bank of India, the funds were deposited in KP accounts but the pay order when sent through clearing produced no results. Madhavpura Bank was not in the position to make any kind of payment. These funds are believed that Ketan Parekh must have used the Hawala route to transfer funds. Ketan was caught on the wrong foots. He never wanted to repeat the mistakes that Harshad Mehta did in the previous bull runs but the hefty gifts, luxurious cars and the relations with promoter companies spoiled the total plan. In addition to that one of his friends were also involved in the laundering of the funds of Underworld don Dawood and one involved in the match fixing scandal could have tempted him to do the laundering scams.

This scam has exposed only tip of the iceberg. The stock market men indulge into such transactions heavily and very frequently. It was ultimately his fate that he was required to step down from the position of the hero of the technology boom. Some of the foreign institutional investors active on the Indian bourses are believed to be investing the same money, which flows, abroad by this route.

In the Bull Run the stockbrokers earn unlimited money. They earn the money from the brokerage, from the price rigging, from arbitrage, from their share dealings and from speculations. The money flowing through these channels is limitless. Ketan Parekh, for instance, developed a network of some 150 brokers who bought shares on his behest. He reimbursed the brokers for any price losses and would also pay the 2.5% weekly interest or to elaborate 120% as interest. Can a common man think of these deals? These funds are transferred to the tax havens like Bahamas, Mauritius and Luxemburg, Switzerland.

The things don’t end up there. The share brokers frequently indulge into selling of the profits and losses. They sell the book entries. It is a normal transaction to buy goods, services or the tangible assets. Profit or loss is the phenomenon, which occurs as a result of the purchasing and the selling operations, profit or the loss is earned and not bought. But the launderers pay to buy the losses and profits. There are certain transactions like speculation profits which are bought from the share brokers for certain amount of the commission.

Introducing the sham money

The company sold off their properties at a huge premium. However, the premium was not received through the white channel. The property was situated in the country other than India. It was not possible to get these funds in cash due to the fear of the robbery and other risks attached to cash. The businessman simply deposited the cash in the nearest bank account in the foreign country. On returning to India, he could have required to answer various authorities such as Income Tax Officers, Chartered Accountants, etc. In order to avoid these questions, he decided to generate the white money source before the year ending. He bought the profits from his stockbroker friend. His broker friend who was sitting on the huge amounts of the speculation profits was looking for reducing his tax burden. Some of the shares, which he had purchased in his own name, were transferred to the businessman’s account by simple book entry.

The money earned through these transactions ultimately fly away from the country by way of Hawala route.

Hawala

The word Hawala comes from the Arabic root, which has basic meanings change and transform. But when it came to Hindi and Urdu, it added another meaning “in trusts”, ”faith”. They are unregulated international financing transactions made through the networks located in 50 countries. The operator of this network is called Thekedar or Hawaladar. It is secret transfer of foreign currency by the thekedar or hawaladar to its counterpart in another country on behalf of his client. Money is lent on the basis of trust and passwords. There is no documentation. Transactions are handled on the Cell phones. Hawala consists of transferring money usually across borders and in order to avoid taxes, to support terrorism, the need to bribe officials, etc. without physical or electronic transfer of funds. Money changers popularly known as Hawaladar receive cash in one country, no questions asked. Correspondent Hawaladars in another country dispense an identical amount of course deducting minimal fees and commissions to a recipient or, less often, to a bank account, E-mail or letter “Hundi” carrying couriers are used to convey the necessary information such as the amount of money, the date it has to be paid on etc. between hawaladars. The sender provides the recipient with code words or code numbers, or the serial numbers of currency notes with a digitally encrypted message, or agreed signals to be used to retrieve the money. Big hawaladars use a chain of middlemen in cities around the globe.

History of Hawala

Hawala precedes ‘traditional’ or ‘western’ banking (the first ‘western bank’ in India was the Bank of Hindustan, established in Calcutta around 1770).

Prior to this, the operations of sarafs and potedars, who were primarily money changers (and essentially the predecessors of the hawaladars) were a fundamental component of the commercial and financial infrastructure.

The Hawala transactions really picked up when the immigration to London started from the south Asian countries like India, Pakistan, Srilanka triggered. Hawala operations grounded from South Asia to the UK, and most particularly from Mirpur district in Pakistan and Jullundur district in India. These two districts are weighed equally important as Dubai in the Hawala chain. Taken together, these two relatively small areas are the original homelands of approximately half of Britain’s current 2 million strong South Asian populations. Emigration from both areas has a long history, stretching back to 1880s when the Mirpurists served as stokers on merchant ships sailing out of Karachi and Mumbai.

Ingredients of Hawala System

Hawala is the transfer of money without actual movement. Hawala does not have offices, does not have the broker with cards and not even the bank accounts. It is the chain of men. Hawala works through connections. These connections allow the establishment of a network for conducting the hawala transactions. But one of the basic ingredients of the Hawala system is Business establishment. The parties involved in the hawala system should have some business to supplement the transactions.

For the business partners, transferring money is not only another business in which they are engaged but a part of their normal business dealings with one another. One very likely business partner scenario is an import/export business. A PIO in Dubai might import CDs and cassettes of Indian and Pakistani music and 22 carat gold jewelery from Indian counterpart, and export telecommunications devices to India. There is nothing wrong in this business but over invoicing plays a crucial role. There are two types of manipulations of the invoices either for overstating the revenues or overstating the expenses. Overstating reported revenues is a simple technique of absorbing money from Hawala Transactions by adding it to the records of a business.

Records off, Money off

The company selling the books allowed discounts to every customer they served. Full amount invoice was issued to every customer. The billing of the bookstores in the year was Rs. 25 lakhs. They had given discount of 25% to every customer. Rs.6.25 lakhs been the excessive revenue reported. The bank accounts should have matched the sales. They added the proceeds of the illegal business received in cash to their bank accounts.

However, there is disadvantage of overstating revenues. The taxes are imposed on the income reported. Therefore, if a company overstates its revenue, it will also have to overstate its expenses to offset its tax liability. Additionally, money can be taken from the business and used for other purposes such as pay-offs, buying illegal goods, or investing in other criminal ventures. Overstating expenses can be accomplished very easily by reporting payments for supplies never received, professional services never rendered, or wages for fictitious employees.

Masquerading the Transaction

There were three companies doing different businesses in the same premises. These all were owned by a same promoter in Pune. The main business of company was to manufacture the springs required for the four-wheeled heavy vehicles. Company X was the flagship company. Company Y and Z were the loss making companies. In order to distort the real picture, flagship company X used to transfer the funds to company Y and Z. The reason for the same was company Y and Z used to provide the marketing set-up to the flagship company. This inflated the expenditure of the company by Rs. 10,00,000 per annum. The funds used to get transferred from company X to Y as marketing fees and from Y to Z as consultancy charges. Company Z was the sole proprietary concern owned by the promoter of the Group. In the context of such a business, invoices can be manipulated to conceal the movement of money.

Settlement of the Inter-Hawala Obligations

The Hawaladar pays the funds on behalf of their clients. This gives rise to the obligations between themselves. There are different methods to settle these inter-hawaladar obligations.

1. Most simple method of settling is directly making the payments into bank accounts of the Creditor Hawaladar. Normally these payments are made under the umbrella of the regular business transactions.

2. The creditor hawaladar flies to the country of origin of the transaction to collect the amounts from the debtor Hawaladar.

3. The creditor hawaladar buy out some property and/or some consumable goods in the country of origin of the transaction. The Debtor Hawaladar makes the payment.

To illustrate the simple example the ex-Prime Minister of Pakistan purchased the disputed necklace for 1,17,000 pounds in London and the payment was made by the Bomer Finance Inc.

Components of the Hawala System

The components of hawala that distinguish it from other remittance systems are trust and the extensive use of connections such as family relationships or regional affiliations. The system is swifter than formal financial transfer systems partly because of the lack of bureaucracy and the simplicity of its operating mechanism : instructions are given to correspondence by phone, facsimile, or e-mail; and a correspondent who has quick access to villages even in remote areas often delivers funds door to door within 24 hours. The minimal documentation and accounting requirements, the simple management, and the lack of bureaucratic procedures help reduce the time needed for transfer operations.

Benefits of the Hawala System

Bank Remittance | Hawala Remittance |

Formal Account | No Account |

Rs. 43.50/USD | Rs. 45/USD |

$25 | 2% of Transaction |

Rs.216412.50 | Rs. 220500 |

The adjacent figure explains the difference between the traditional banking system and the Hawala system of remittance. It is assumed that the person of Indian origin situated at Dubai wants to send USD 5000 to his relative in India. He finds Banker’s terms and conditions not very attractive. He approaches the hawaladar in the town and gets the better deal in terms of the ultimate cash inflow in the rupees. Thanks to the minimal regulatory requirements.

Different Instruments in World

Instrument | Country |

Feii—Ch’’ien | China |

Padala | Philippines |

Hundi | India |

Hui Kuan | Hong-Kong |

The word Hundi is widely accepted in the Laundering world.

Hawala and Dubai

Whenever we speak of Hawala here, it is directly or indirectly connected with Dubai. Why is it so? There are two main reasons for this.

The first is the large population of expatriate workers from India and Pakistan : they use hawala to send money home due to concerns about the stability, to pay for education, medical treatment, for safe investments and many other reasons.

The second is Dubai’s large gold market, which is the source of much of the gold sent (licitly and illicitly) to India and Pakistan. Dubai, unlike many other South Asian nations, allows essentially unregulated financial dealings. Because of this, many South Asian businessmen maintain offices in Dubai and money is often wired there to circumvent regulations elsewhere.

When India and Pakistan were not on the talking terms, Indian and Pakistani Cricket teams fought the cricketing battles in Sharjah.

United Arab Emirates especially Dubai offers a neutral meeting place for Indian and Pakistani businessmen, as tension between these countries makes travel between them difficult it not impossible.

Implications of Hawala

* Because these transactions are not reflected in official statistics, the remittance of funds from one country to another is not recorded as an increase in the recipient country’s foreign assets or in the remitting country’s liabilities, unlike funds transferred through the formal sector. As a consequence, value changes hands, but broad money is unaltered. However, hawala transactions may affect the composition of broad money in a recipient country.

* Further more, Hawala have fiscal implications for both remitting and receiving countries because no direct or indirect tax is paid on hawala transactions. The negative impact on Government revenue applies equally to both legitimate and illegitimate activities that involve the hawala system.

Hawala-hawalaka

A hawala transaction is an illegal transaction, which is carried out by businessmen; people who want to show bogus exports and even importers. Importers indulge in such hawala transactions by sending a part of the money abroad through this route and thus bringing the goods into the country at much lower rates. He was a dealer in the second hand tyre business. The tyres used to be purchased from the dealer of American company, which had very high standards of quality. The used tyres attracted heavy customs duty. No company likes to pay the taxes. They always try to avoid it. In order to avoid the customs, the dealer required reduction in the invoice price. He formed a company in Dubai, but the beneficiary of the same was Indian Tyre dealer. The material flowed from the US dealer to the Dubai Company. Since it was the company of the Indian dealer, the invoice was prepared at the rate of $ 1 per tyre. The actual purchase price was $ 9 per tyre. The payments made on paper were $ 1 per tyre but the dealer in USA was required to be compensated at the rate of agreement, i.e. $ 9 per tyre. The Indian dealer approached his friend who had software subsidiary in USA. The dealer paid him the amount to be paid to the US dealer @ 40 rupees per dollar when the rate of dollar was actually Rs. 44.85 per dollar. The software company counter-part paid the US dealer in dollars. There was no record of the transaction.

Software Hawala

Last few years of the last century were marked by the massive frauds in the stock markets. Technology especially the software shares played a key role in the stock market boom. Many high net worth individuals having surplus black money indulged in these transactions referred to as software hawala by creating the fake profits which were not at all taxable. There was no need to have any voluntary disclosure of Income scheme for converting the black money into white money. The methodology was simple. Software is intangible and there are no standard valuation norms, rather there cannot be any. As the beauty lies in the eyes of the beholder, the value lies in the eyes of the buyer. The utility of the software to the buyer decides the price. Floppies and the CD’s are the containers of this software. Floppy or a CD may contain software costing a few lakh Rupees. Simply by sending a few such floppies or compact discs abroad containing any kind of software, an export of a few crore rupees is booked in the books. In case of software companies, it is even more advantageous as software is a product, which cannot be valued by the relevant customs authorities.

The software companies formed for carrying out the Hawala Transactions do not even have the requisite infrastructure or the requisite personnel required for running Software Company, forget the export orders. The next step is to set up a subsidiary abroad by renting a place or just even employing a person to conduct the operations. Most of the exports are done to duty free ports such as Hong Kong, Singapore or Dubai where the money can be remitted back. After that, the promoters conduct hawala transactions by paying cash to the Hawaladar in India and getting dollars in Hong Kong, Dubai or Singapore through subsidiary. These dollars were transferred from abroad are shown as software exports in the company’s books. In this way the company is able to report decent sales figures in its balance sheet by the way of export income. The black money generated through some other businesses was converted into totally white money without paying a single rupee as a tax.

To substantiate one can quote the example of the 100 million pounds hawala case of the Cybocity PLC. This Company was believed to be doing the Laundering operations under the veil of the software company. Out of the eight people who were arrested, 5 people were Indian and others were of Iranian origin. The method adopted by these people was similar to the one explained above.

Hawala and Indian Politics

The most infamous Hawala case that has led to buoyant discussions in the country is Jain Hawala. The case is all about payment of the money to Indian politicians without any notice. Some of the politicians have publicly accepted that they have received these funds for the elections.

India’s First Exposed Hawala Scandal

Extent : The Jain Hawala scandal is all about the Rs. 65 crore payments made without the documents.

About Jain’s : The Indian Construction Magnate S.K. Jain and his two brothers are at the center of this infamous scandal. Jain and his family company sought connections and favours; when Jain paid off someone, the amount was recorded in one of three spiral notebooks, which became the scandal’s central theme.

Business : The Jains were also in the Hawala business, and one of their clients was a militant group from Kashmir. When the militants got busted in 1991, so did the Jains, which is how the CBI ended up with notebooks detailing payments to 115 notable figures in India’s political and Government scene. This case turned out to be as convoluted as the famous Iran-contra deal during the Regan Presidency. The complication in the Jain Hawala Case was that why did the politicians receive the doubly tainted money if they really received any.

Complications : Many politicians had the direct nexus with India’s number one enemy called Dawwod, but the case ended without any convictions. The reason for this is believed to be one person called Amirbhai, who is in the custody of the CBI.

While the politicians have gone scot-free due to technical flaw in the evidence presented to the court, the Supreme Court judgment has resulted in arming the Central Vigilance Commissioner with sweeping powers to combat corruption in Civil Services.

Reverse Hawala

The eighties and nineties saw Indian money – largely from the parallel economy – move out of the country through the informal Hawala channels. This happened when the exchange rate was artificially pegged and confidence in the domestic currency was low, so money moved out of the country. But for past few years, Indians are witnessing a new phenomenon called as Reverse Hawala on a large scale. Some of the money that went out of the country in the past two decades have found its way back to the country and at the center of this transaction is once again Dubai-which has never bothered about the colour of the money. The politicians and the big businessmen of the country parked billions of rupees in the Swiss accounts. In the wake of the US-led ongoing campaign against terrorism, there is considerable pressure on the international banking organization to disclose the names of the account-holders. Obviously, this may create problems for the secret account-holders at the home front. Hence a flurry of activity, though not so visible, between the two most affected sections of Indians-politicians and businessmen-throughout last year, results in an unusual flow of foreign exchange. As reports have it, while the politicians have preferred the foreign currency gift account channel, the business class has its own convenient routes like the over invoicing and under invoicing practices.

The political leaders create the picture of patriotism while creating the gifts for themselves or for their political parties. Provisions of various legal enactments make the gifts more lucrative. The Foreign Exchange Management Act has exempted the Gifts received from non-citizens of India. It attracts no Income tax. Any gifts received for the political party benefits are also exempted by the FEMA. This makes the gifts from the NRI’s a lucrative battlefield for the laundering. Crores of rupees gifts in commercial quantities have found their way into India. The gifts are then used as business weapons.

Rift in the Gift

In a recent raid in Pune on the money brokerage houses, it was noticed by the Directorate of the Income-tax that the moneylender had given out crore of rupees as a loan on the security of the signed blank post-dated cheques. The money-lender revealed the source of such a big amount to be gifts in kind from the NRI relatives. But the investigation into the status of the NRI, capacity of the NRI answered everything. In veracity the capital base for the money lending business was created out of the sale of the WADA (Typical ancestral property) situated in the heart of the city.

It is the special attachment to the mother country that translates into support in the form of gifts. There are scores of NRI’s who are lending the helping hand to their counterparts, schools, collages, villages, towns, communities, etc. But the road to such charitable intentions is paved with difficulties. It requires FRCA clearance. Hence, Hawala route is always preferred for the Gift purposes too.

Documentation in Hawala

Hawala transactions are not the paperless transactions. The transfer of information regarding the funds often leaves digital trails. Courier boys, gold dealers, commodity merchants, transporters and money lenders can be apprehended and interrogated. Their activity is a sideline or moonlighting operation. Chits are often found in such transactions as a substitute for certain written records. In bigger operations, there are human “memorizers” who serve as arbiters in case of dispute. Written, physical, letters are still the favourite mode of communication among small and medium Hawaladars, who also invariably resort to extremely detailed single entry book-keeping. These books are normally the diaries or small handy notebooks. Date is one of the most important constituent factors in these diaries. Secondly, the name of the Hawala broker on whose behalf the payment is received; or the name of the party to whom the payment is made. It is very common to use partial names such as “Raju” for Rajesh or codes (e.g. ‘LK’).

In addition to this, the amounts involved in the transaction are also noted most of the times. There might be some other noting as per the requirements of the Hawala brokers.

Jain Hawala case was the first Indian Hawala case, which involved Indian politicians. Jains maintained the diaries, which had the partial names and amounts of payments made to the politicians for seeking the favours. The common belief that the Hawala Transaction is paperless is wrong, there are documents but unfortunately these diaries or the documents available with these brokers are not considered as the evidence.

Coding System in Hawala

The method of this old and indestructible system of recycling is as simple as to breathe. The money never leaves the country in which it is. From Delhi a man calls to his contact in Dubai and instructs him to deliver three pigs or need five hens. A pig could be worth ten thousand dollars and one hen could be worth thousand rupees, according to the code. The coding system used in the Hawala transactions is terrific. The coding system was effectively penetrated by the Saudi terrorist-Osama Bin Laden. He is understood to be the father of introducing the Hawala system in the terrorist attack. But as per the media reports, he used to post the messages in the sports chat room or the porno chat rooms. He also sent the decrypted message to hijack the plane having the number Q33NY. This number if converted to the font called windings produces .

Obviously we’re supposed to interpret this as a direct reference to the terrorist attack. It’s all there-the airplane, the twin towers, a skull and crossbones (symbolizing death) and the star (evidently meant to represent anti-Israeli sentiments on the part of the hijackers).

But surprisingly neither of the airliners involved in the attack on the World Trade Center bore the number “Q33NY”. The actual flight numbers were as follows : American Airlines Flight 11 and United Airlines Flight 175. It’s clear, then, that someone carefully fabricated the sequence of numbers and letters in the e-mail to achieve the desired effect.