The spectre of illicit finance continues to loom large

Fintech companies and challenger banks have created and developed disruptive models that make it easier for consumers to save, invest and spend their money, facilitating the purchase of goods and services from online merchants. Similarly, cryptocurrency has captured the public imagination to the point that some people see it as a hobby, if not their sole mode of investing.

One of the key risks that arises from this brave new world is that new business models are exploited by those seeking to launder money or finance terrorism. Money laundering is a national security issue for the UK due to London’s role in the global financial system.

The private sector is alive to money laundering risk and is investing heavily in compliance to address this, driven by regulatory scrutiny of more conventional financial institutions and the large fines that have been imposed for money laundering failings. 

International security

However, there are concerns that the public sector may not be keeping pace in the fight against money laundering, which is akin to an arms race with organised crime groups.

Anti-money-laundering and counter-terrorist-financing policy are set at an international level by the Financial Action Task Force, an intergovernmental body. While FATF’s work affects us all, the closest it has come to general awareness is in the form of James Bond’s great lost love, Vesper Lynd, the femme fatale FATF attaché in Casino Royale.

FATF’s work does contribute to international security – though in a less immediate or glamorous way than the activities of Mr Bond – by making recommendations that are considered to be the internationally endorsed global standards against money laundering and terrorist financing.

FATF’s recommendations are implemented by nations via legislation and set out the essential measures countries should have in place to pursue money laundering and terrorist financing. The FATF recommendations also put the onus on certain types of private sector companies, which act as gate-keepers to the financial system, and have additional obligations from an AML perspective. These financial gate-keepers include financial institutions, auditors and estate agents. Obligations include conducting know-your-customer checks, having in place AML policies and procedures, and reporting suspicions of money laundering to law enforcement.

The regime is intended to require certain private sector companies to make it harder for criminals to access the financial system, to require these companies to report their concerns to law enforcement and to create a framework that provides intelligence on money laundering and terrorist financing to law enforcement.

One of the drivers for investment in compliance by private sector companies is that the financial penalties they can face for deficiencies in AML systems and controls are substantial. In 2021, the first criminal conviction in the UK of a large bank for AML failings saw a fine of £264mn imposed. Ten years ago, the US levied a fine in the billions of dollars on a high street bank.

As a result, the costs regarding AML compliance for financial gate-keepers dwarf law enforcement and intelligence agency budgets. In 2021, a study indicated that AML compliance costs UK financial institutions £28bn a year, with that figure expected to trend upwards. The exact size of the UK budget for economic crime law enforcement is harder to establish.

The combined budget for the National Crime Agency and the Serious Fraud Office is less than £1bn a year. The budget for the three main intelligence agencies in the UK (MI5, MI6 and GCHQ) is about £3bn a year.

While money laundering is clearly a bad thing for the whole of society, the financial gate-keepers are likely to continue to pay more and more.

The UK government has created an additional economic crime levy on financial gate-keepers to fund various government initiatives (on top of their compliance costs) which will raise an additional £100mn a year from firms with already large financial spends on AML matters.

Exploiting loopholes

There are two significant arms races in relation to AML compliance.

The first is between the actual criminals and the gate-keepers to the financial system. Organised crime groups will either seek to exploit loopholes in compliance to launder funds (for example, lax checks on cash deposits or in relation to particular types of transactions) or create loopholes by exploiting or corrupting existing employees.

This risk is magnified for businesses that are growing and/or innovating. If the internal compliance functions of these companies lag behind the growing business too much, loopholes will develop and can be exploited. As a business expands, it is inevitable there will be something of a delay, but the approach to compliance must be carefully managed and appropriately resourced by the board of the financial company.

The second arms race is between law enforcement and criminals. Law enforcement has limited resources. Agencies can educate the private sector and undertake strategic prosecutions to disrupt some threats (for example, human trafficking or underground banking networks) and employ the asset forfeiture powers they have been given. The government can also legislate to provide new powers to law enforcement. But for law enforcement to keep pace, or make use of new powers, it must be adequately funded.

The UK government has sought additional funding from the financial gate-keepers, on top of their very high compliance spend. Given the huge sums being expended by the private sector, a more interesting approach may be to assess the allocation of resources between the public and private sector and see if there is a better way to properly fund law enforcement while requiring UK companies to take appropriate compliance steps, because the spectre of illicit finance continues to loom large.

Jonah Anderson is a Partner at White & Case