One of the key crimes that has alerted financial institutions and regulators is trade-based money laundering (TBML). The complexity that TBML comprises (its wholly global payment stream and the spectrum of imported or exported goods) indicates the minutiae that has to be investigated through advanced data screening. FATF’s latest report identifies the difficulty that TBML continues to pose more than a decade after the release of its landmark study – one commodity creating challenges is illicit tobacco.
Even beyond the surface-level criminality involved in the trade – counterfeit goods and the involvement of organized crime groups (OCGs) – the effects from the smuggling of illegal tobacco can reach more catastrophic depths. Financial issues can be exacerbated by money laundering activities and tax crimes, but also health problems from the selling of cheaper, poor quality cigarettes, deaths, and other trafficking and forced labor. Worldwide initiatives and public-private partnerships are in place to tackle fraudulent tobacco trade, but are organizations one step ahead of the trading criminals?
What’s the Attraction?
The attraction of illegal tobacco for criminals is largely driven by vast wealth that can be obtained from the practice. Back in 2011, FATF outlined that, when taking into account ground-level smuggling, it is conducted to avoid the excise taxes placed on tobacco shipped to various jurisdictions, or indeed evading all prohibition laws that can be placed on cigarettes and alcohol. By avoiding tax through the smuggling of tobacco, there are worldwide tax deficits; the US loss accounts for up to $6 billion per year, and a further €10 billion annually in the European Union.
There is also the case of various illegitimate forms of tobacco that are available on the market. In the US, this includes those that do not bear any state or local law stamps (“contraband”), those that are legally produced by one jurisdiction, but illegally sold elsewhere (“cheap whites”), and “gray market” tobacco is legally produced but diverted elsewhere in the supply chain. This occurs frequently in Free Trade Zones (FTZs).
Even in the past few years, with the danger of trading via the dark web or in cryptomarkets, illegal tobacco products still appear minimal; a study by the Université de Montréal in 2017 discovered that illicit tobacco products accounted for fewer than 1% of all listings on the 14 cryptomarkets studied, this being due to the fact that the goods are still readily available on the surface web and not relegated to the Internet’s black market.
Organized Crime Networks
FATF also identified that criminals face a low level of risk due to a lack of detection or seizure by authorities, or indeed the fairly limited retribution or penalty handled to illegal trading. Vast networks in the supply chain cover not only the small-time smugglers, but more legitimate persons and companies involved in the trading and storing of tobacco, whether aware or not. Trade ports, authorities, governments and financial institutions face somewhat of a guerrilla war against tobacco smugglers when tracking its trading cross-borders. Bootleggers can avoid detection through the use of carefully modified vehicles and volume of passenger traffic – hiding these counterfeit products, undervaluing the declaration of goods and faking documentation – all inventive ways involved in TBML.
From purchasing low-tax cigarettes or tobacco, or even duty free, which are transported to high-risk jurisdictions through illegal cross points for the distribution of the product by individuals or groups involved in a complex supply chain. Where OCGs are involved, larger distribution points among their familiar worldwide locations are used, and changed frequently to evade intervention from law enforcement. Locations are varied, akin to drug trafficking, including industrial estates, garages, houses and even garages. Tracking these products and the financials need a high level of data on ultimate beneficial owners for shipping and distribution companies. Finding relationships between bootleggers and high-wealth criminal networks can be extremely difficult without advanced AML detection.
FIs and Further Battles
Bringing together various public and private organizations, using AML expertise to best track illegal traders, seems the best way to fight this difficult financial crime. Financial institutions (FIs), in supporting trading financials, are brought into the complex puzzle, but must be aware of defining illicit cigarette and tobacco trading from the perfectly legal.
Ukraine, having been aforementioned as a hotspot for tobacco trafficking, has been proactive in tackling AML by these means using FIs and technology. This report identifies compliance departments from both private and state-owned FIs working together effectively to curb issues around regulations in offshore jurisdictions and identifying shell companies and transfer pricing. It is also noted by experts that Ukraine offers beneficiary information data completely openly to the public – the releasing of UBO registers has certainly been a talking point within AML circles.
Ukraine is not only transparent in access to ownership structures compared to other European countries, but ahead of the technological curve through advanced electronic declarations, effective systems for financial monitoring and the introduction of a transparent tax system by the National Bank’s implementation of new regulations, all to combat AML nationwide.
This is certainly a model to be implemented by FIs – in cooperation with data providers and technological experts – for identifying supply chain alerts and illegal trading, but the fight continues to rage due to FTZs. Research outlines that FIs need to be aware of their exposure to TBML and its affiliated counterfeit consumables being traded in these free zones – around 3,500 in operation worldwide. US regulators enforced action in July 2020 against a company operating in a FTZ in the UAE having exported filters to North Korea, breaching UN and US trade sanctions.
Some case studies instead see FTZs as more a deterrent for trafficking since they exercise higher control than other border crossings. The UK has planned to establish 10 new free ports as part of an ambitious customs trade model as a result of Brexit, showing its popularity. But FIs have been advised to implement FTZ risk into their AML procedures given the threat they pose. The 5th AML Directive, effective in the EU since January 2020 recommended that free port operators be responsible for reporting suspicious activity to financial intelligence units. Clearly a step in the right direction, but with a vast array of organizations at play, all needing to perform their own due diligence, there’s a wide web crafted when trying to identify tobacco trading and other counterfeit goods.
FIs need to be vigilant; public-private partnerships can build on successful ongoing initiatives, and make sure that dirty money passing through trade routes isn’t hidden by a criminal smoke screen.