Money laundering is a type of investment fraud in which someone makes large amounts of money through criminal activity but makes it appear to come from a legitimate source. The term money laundering comes from the idea that a criminal is making “dirty” money but “launders” it to appear clean.
Earning money through drug trafficking while making it appear to come from a legitimate business is one example of money laundering. For criminal organizations like terrorist groups or the mafia, money laundering is necessary if the criminals want to actually use that money.
In commercial real estate, criminals may obtain money illegally via wire fraud, illegal kickbacks, and ponzi schemes.
Steps of Money Laundering
In the case of large cash transactions or suspicious deposits and withdrawals, banks are required to file a report with the government. For that reason, criminals and criminal organizations have to make their transactions look legitimate. To do so, they follow three steps:
The placement step involves the act of putting illegally acquired, or “dirty,” money into a legitimate institution. For instance, if the criminal organization owns a restaurant, they might inflate daily cash earnings and funnel money into the restaurant’s profits. That restaurant is therefore a “front” for criminal activity.
The next step is to conceal the source of the money through transactional and bookkeeping tricks. So, not only is the cash being funneled in through the restaurant but the income statements and records of sales are being doctored to show cash transactions that didn’t actually occur.
The final step is integration, in which the laundered money is withdrawn from a legitimate account (e.g., the restaurant), to be spent however one wants.
Other Types of Money Laundering
Over time, criminal organizations have become more and more creative with how they launder money, and the advent of new technologies has allowed them to adopt new methods. Some examples include investing in commodities like gems and gold, which can be moved more easily than cash, or investing in real estate, perhaps.
Another method of money laundering involves using shell companies, which are inactive companies that only exist on paper. This saves the trouble of having to have a brick-and-mortar business to launder money through.
Today, electronic money laundering is common, especially with the rise of online banking and cryptocurrencies. Through online banking, people can now send anonymous payments, which has made the transfer of illegal funds much easier. In addition, many illegal organizations now use anonymizing software to remain undetected. Some people also launder money through online auctions and sales or even gaming sites.
Stopping Money Laundering
Governments around the world are actively working on anti-money-laundering laws (AML), but they’ve been unable to keep up with the quick pace of new technologies and methods of money laundering. Today, there are more regulations than ever requiring financial institutions to detect and report anything suspicious.
In 1970, the United States passed the Banking Secrecy Act, which required financial institutions to report suspicious activity to the Department of Treasury. In 1986, money laundering was officially made illegal in the U.S. through the Money Laundering Control Act. A few years later, in 1989, the Group of Seven (G7) created the Financial Action Task Force (FATF) to combat money laundering internationally.