Cleaning up: Law Firms and the Risk of Money Laundering

Law firms and the risk of money laundering

 

This report brings together and summarises information from other sources, which are referenced throughout the report, and can be used as a starting point when considering the risk of money laundering.

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Executive summary

It is estimated that up to £57 billion is laundered through the UK every year.1 Law firms are one of the key targets for those wishing to launder money.2 If even one percent of this amount were to go through law firms, it would still equate to hundreds of millions of pounds.

We are working with the National Crime Agency (NCA) and the Home Office to ensure robust systems are in place to guard against law firms becoming involved in money laundering.3

This report brings together and summarises information from other sources, which are referenced throughout the report, and can be used as a starting point when considering the risk of money laundering.

We will shortly be publishing the following warning notices on money laundering:

• money laundering and terrorist financing
• money laundering and terrorist financing - suspicious activity reports

Below are some good practices around preventing, detecting and reporting money laundering,4 some of which are legal obligations. This list is non-exhaustive and law firms must consider all the circumstances of a particular transaction.

You should keep up to date with the latest guidance as the papers referred to in this report are sometimes updated as new information is received.

Good practices

• Meeting clients in person to verify identity using original ID where possible
• Taking extra steps to verify identity if you cannot meet the client in person
• Only using the client account to hold client funds for a legal transaction, in accordance with rule 14.5 of the SRA Accounts Rules 2011
• Investigating further when clients want to perform large cash transactions
• Investigating further when the source of client money is not clear or comes from a high-risk jurisdiction
• Taking advice if something does not seem right about a client or transaction
• Submitting Suspicious Activity Reports (SARs) that adhere to the best practice set out by the NCA, ensuring they are not vague or inaccurate
• Ensuring your Money Laundering Reporting Officer (MLRO) has sufficient seniority to encourage reporting of suspicious activity
• Ensuring your MLRO knows the criteria as to when to make a SAR
• Ensuring the MLRO can assess the risk of money laundering posed by the firm's work
• Providing up-to-date training to relevant individuals, as part of the role of the MLRO
• Providing training that covers the legislation but focuses on firm policies, behaviours and procedures
• Making all relevant individuals aware there is a list of countries that are high-risk for money laundering, and where to find it. 5

Introduction

Money laundering is "the process by which criminal proceeds are sanitised to disguise their illicit origins".6

The Financial Action Taskforce (FATF) highlights that criminals may want to use legal professionals precisely because "they need expert advice to devise complicated schemes to launder vast amounts of money".7

This paper looks at the latest developments in money laundering risk and controls, and includes:

• why we see money laundering as a key risk
• how law firms become involved in money laundering
• what we know about money laundering through law firms in the UK
• how to control the risk of money laundering.

Why we see money laundering as a key risk

Inadequate systems and controls relating to the transfer of money are a key risk due to:

• the large sums of money handled confidentially by legal services firms
• the harm that money laundering causes to the public interest
• the potential for damage to public confidence in legal services
• ongoing cases showing serious failings in firms' management of this risk
• the increasing number of reports we are receiving relating to this risk
• growing evidence that firms do not recognise the likelihood of this risk affecting them.

Money laundering and the role of law firms

The role of the law firm (or individual working in that law firm) in money laundering is primarily that of 'professional enabler', rather than direct perpetrator. The law firm provides legitimacy to the funds, rather than obtaining the funds themselves.

When a third party attempts to involve law firms in money laundering, the firm's participation is on a sliding scale between innocent and complicit involvement, as shown in the diagram below.8

The Home Office is in the process of launching a campaign specifically aimed at solicitors and focused on professional enablers, and the National Crime Agency (NCA) is putting together a professional enablers action plan. We are working closely with both agencies.

Innocent involvement There are no warning signs (no red flags)	Unwitting Undertakes basic due diligence, there are some red flags but they are missed	Red flags identified	action	Low level  SAR if required, proceed with caution or refuse to act	High level  Highly suspicious, SAR if required and stop acting
			no action	Wilfully blind  Authorises a specific transaction, no SAR	Corrupted Repeatedly authorising similar transactions, no SAR	Complicit Know the nature of the criminal activity they are involved in

Building up a current picture of money laundering through law firms in England and Wales

How criminals are attempting to launder money through law firms

When many people think of money laundering, they tend to think of large-scale organised crime.

However, the reasons for money laundering, the people involved and the techniques used vary from case to case – there is no single default sign that money laundering is taking place. We have seen attempted money laundering cases ranging from involvement with criminal organisations and deposed regimes, to smaller scale laundering involving local drug dealers.

While the evidence below identifies trends in money laundering, it is important to be aware that new schemes are constantly developing. As authorities become more aware of the latest schemes, criminals develop new approaches to try to evade detection.

Anti-money laundering (AML) training, a well informed MLRO and regular visits to the FATF, NCA, SRA and Law Society websites are all ways to help keep knowledge of current trends in money laundering up to date.

Types of work attractive to money launderers

FATF have identified the main ways that criminals launder money through law firms:9

• misuse of the client account
• property purchases
• creation and management of companies and trusts
• managing client affairs and making introductions
• litigation.

This is useful as a general guide for assessing the risk of specific types of work.

Involvement or exploitation of more than one firm

Large-scale money laundering can involve more than one firm, making it more difficult for regulators and law enforcement agencies to detect. For example, one firm could be making referrals to other firms, which then process the work and inadvertently launder the money. Referrals may help criminals avoid things like identity and background checks, as the referrer firm can claim to have undertaken the checks, even providing evidence such as photocopies of ID.

If a law firm is working as part of a referral network, it is important that due diligence looks at the transaction as a whole, not just the section the firm carries out.

Persuading a law firm to provide a banking facility

This falls under the FATF category of misuse of the client account. Money laundered through law firms does not always involve actual legal transactions, and may instead involve passing the money through the client account to make it look legitimate, when no legal work has been undertaken.

Offering banking facilities through a client account is not permitted under the SRA Accounts Rules.10

We are working on more detailed guidance on improper use of the client account as a banking facility, including case studies, as part of our current focus on money laundering.

Clients may offer law firms financial incentives to use their accounts in this way. Criminals may also encourage or dupe law firms into making the misuse of the client account look as if it is related to legal work through sham matters that are then cancelled.

The weak points criminals are exploiting to launder money through law firms

There is evidence that the legal sector has particular vulnerabilities that criminals seek to exploit in order to launder money.11

Failure to conduct appropriate identity checks

Verifying identity is a money laundering check every firm must undertake, and failing to provide valid ID documents is one of the key money laundering red flags for any law firm.12 When speaking to 100 randomly-selected conveyancing firms in 2012, we found that one in four had experienced attempted money laundering or fraud, the majority of which they identified through attempts to avoid or cheat identity checks.13

Due diligence around identity includes not only validating the identity of an individual, but also checking relevant background issues, including whether the individual could be classed as a politically exposed person requiring enhanced checks.

If a criminal identifies that a firm has lax identity checks or is prepared to forgo identity checks, they may target the firm for money laundering.14

Failure to conduct due diligence on source of funds and beneficial owner

We have seen firms where transactions have taken place involving money connected to organised crime, but the firm has failed to undertake due diligence regarding the true origin of the funds or the true beneficial owner of the transaction.

This often relates to inadequate due diligence around the true source of funds, and in some circumstances whether the individuals or businesses approaching the firm are politically exposed persons (PEPs) or have connections to organised crime. These types of people will often not approach a firm directly, but launder money through an intermediary business or contact. It is therefore important to identify the true beneficiary of the transaction.

Checks to determine source of funds include, but are not limited to, requesting bank statements and undertaking background checks.

Infiltration of law firms

We have seen cases over the last few years where criminals have targeted law firms to launder money by placing someone at the firm. Failing to undertake the appropriate level of vetting relevant to the role, when employing staff, may make a firm more vulnerable to infiltration and exploitation by criminals. Ways that criminals infiltrate firms include:

• identity theft – criminals impersonate a regulated person to obtain a job at a firm
• falsification of credentials – criminals claim to have qualifications or experience for a legal role which are wholly or partly falsified
• targeting solicitors for partnership, merger or acquisition – to allow for the creation of a regulated firm through which to launder money
• short term managers – individuals who take manager positions but only stay for a very short time
• targeting of certain roles – an example could be a criminal contact applying for positions which involve assessing conveyancing case files but do not require admittance.

The scale of money laundering through law firms in England and Wales

It is always going to be difficult to estimate the true scale of money laundering through law firms, as we cannot know how much goes undetected. However, evidence suggests it is a significant risk.

 

 

Recent cases

Recent cases of solicitors convicted of money laundering include:

• a solicitor who was convicted for her role in laundering money from a multi-million pound conveyancing fraud, involving identity theft and forged documents, in which she had knowingly taken part in an attempt to keep her business afloat
• a solicitor who was running a sham marriage immigration fraud, and laundering the proceeds.

Increased money laundering through property transactions

We are aware that the current growth of the UK economy, particularly the current strength of the housing market, may lead to increased use of property transactions to launder the proceeds of crime.

Property transactions are particularly attractive to money launderers as they can legitimise a large amount of money in one go. Money tied up in property can also be a way for people who have had their bank accounts frozen to preserve access to funds.

As conveyancing work grows, there may be pressure to reduce due diligence activities to handle the volume of work they receive.

In order to manage this risk, firms seeing their property work increasing should ensure that they uphold standards of due diligence.

Controlling the risk

Law firm legal requirements

This is not solely a regulatory issue. Regulated law firms are required by law, under the Money Laundering Regulations 2007, the Proceeds of Crime Act 2002 and the Terrorism Act 2000, to:

• have a nominated money laundering reporting officer (MLRO)
• report suspicious activity that they think may indicate money laundering both internally and to the MLRO and externally to the NCA
• have a system clearly setting out the requirements for making a disclosure of suspicious activity under the Proceeds of Crime Act 2002 and the Terrorism Act 2000
• undertake customer due diligence to verify identity of clients, source of funds, beneficial owners and the nature of business transactions
• keep records of customer due diligence undertaken
• ensure staff are properly trained.15

Controls

To help control this risk, there are a number of papers on how to detect and report potential money laundering. These include our forthcoming warning notices, and publications from the Law Society, FATF and NCA.16 A summary of this guidance follows, and for more details consideration should be given to reading the source material.

Identifying the risk

A focus of most anti-money laundering guidance is what are known as 'red flags'; the warning signs that money laundering could be taking place. FATF identified 42 red flags for law firms in its 2013 report Money Laundering and Terrorist Financing Vulnerabilities of Legal Professionals. These red flags focus on due diligence around clients, source of funds, choice of lawyer and the nature of the retainer.17 These are echoed in Law Society guidance in the form of 'know your client' procedures.18

Acting once a risk has been identified

Once a law firm has identified a red flag, they need to decide what further action to take, in line with their legal and regulatory obligations. This includes, but is not limited to:

• requesting additional information from the client or other sources
• cross-checking different types of information
• making a SAR
• refusing to deal with the client.

Making a SAR

A regulated law firm is required to submit a SAR to the NCA if they know or suspect, or have reason to know or suspect, that another person or individual is engaged in money laundering, and the information has come to them in the course of their business.

The NCA specify what a SAR should contain in order for them to make a decision about whether to allow the transaction to proceed. The diagram below is our summary of this information. 19

WHO is involved in the suspicious activity including all relevant details you know about those involved - e.g. full name, address, date of birth, nationality, passport number	WHAT the suspicious activity is and what type of product or service it relates to - e.g. if there are any businesses or trusts involved, or if there is sale or purchase of property involved, provide what details you can	WHY  you believe the activity to be suspicious
WHEN  the suspicious activity will take place or has taken place - a timeline of events may help you present your suspicions clearly	WHERE  the suspicious activity is, including the location of any relevant criminal property - e.g. money in a bank account	HOW  the activity will take place or has taken place.20

The NCA has commented on the poor quality of consent SARs made by the legal sector, and has recently announced that they will be rejecting any consent SARs that do not contain the information they require.

As a result, we will be issuing a warning notice providing guidance and outlining our expectations on the quality of SARs.21

Ultimately, making an accurate SAR should ensure the NCA has the appropriate information required to make a decision about whether you should proceed with the transaction.

Case studies: identifying and reporting the risk of money laundering

The following case studies are based on real events, and show instances where law firms have effectively identified the risk of money laundering and taken appropriate action. Names and some details have been changed to preserve anonymity.

 

Training

Training staff on the regulations and their responsibilities in preventing money laundering and terrorist financing is a key part of the role of MLRO, and is required under regulations 20 and 21 of the Money Laundering Regulations 2007. The Law Society has produced a practice note which includes information to consider when training staff. 22

In summary, anti-money laundering training should include:

• how to recognise and deal with transactions and other activities related to money laundering
• the law relating to money laundering

Regulation 20 sets out the requirement to have policies and procedures in place, prescribes what they must relate to and requires that they are communicated to staff.23

Firms should provide training in a way that is appropriate to the staff member's role. Training on topics such as ID verification and identification of source of funds will only be effective if they cover both the law and the firm's processes.

We have recently changed our approach to continuing competence, deciding to remove the requirement for a certain number of hours of CPD and allowing firms to arrange appropriate training at their own discretion. Anti-money laundering training and the policies that underpin it, remain a legal requirement as noted above, and firms should consider this as part of their continuing competence planning.

Scenario-based training, using stories or case studies such as the ones included in this report, is recommended by the Law Society and can help staff understand the types of decisions or dilemmas they may face.24

Potential future requirements

The proposed Fourth Anti-Money Laundering Directive25 for the European Union describes how law firms are targeted for money laundering due to their handling of high value transactions, and the legitimacy they can bring to criminal enterprise.

In this directive, the EU has proposed tighter anti-money laundering controls. The Fourth Directive is currently making its passage through the European Parliament. Guidance on any major changes that result will be issued once it is adopted.

 

 

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