Lack of Standardisation Biggest Dilemma for Banks in Preventing Trade-Based Money Laundering

The lack of consistent due diligence standards specific to trade financing in the banking sector and across jurisdictions has presented the biggest dilemma to banks in the wake of heightened awareness of trade-based money laundering.

As financial institutions and regulators become increasingly efficient in stamping out basic money laundering, criminals are finding new and sophisticated ways to hide illicit proceeds of crime. With US$22 trillion worth of trades that banks are involved in worldwide in facilitating payments and providing credit, criminals have found money laundering opportunities in trade finance, sources said.

Sanctions, Embargoes and Restrictions

Banks used to focus their checks primarily on their customers and the financing aspects of a trade. Today they are expected to check on other parties connected to a trade, and watch out for shipments of high risk goods, such as those which may be misused for weapons of mass destruction and are banned by the United Nations, said Kwok Wui San, financial services regulations leader at PwC Singapore.

"A lot of focus is placed on sanctions, embargoes and restrictions. When people talk about trade-based money laundering, they are also talking about these. Trade-based money laundering is not like any other forms of money laundering. It is quite a specialised area," he said. 

How Far Should Banks Go

The biggest challenge to banks now is the lack of standardisation in terms of how far they should go in asking customers for information about a trade. Kwok said the cross-border and multi-industry nature of trade finance means that banks are not just dealing with their customers only; there are various components in a trade that need to be considered. 

These components include whether the customer is considered high-risk; the nature of the goods; whether they are they dangerous or banned; who the manufacturer of the goods is; who the recipient is; where the goods will be shipped to; who the shipper is; which port of call and how many ports of call there will be when goods are being delivered. The list is definitely not exhaustive. 

Kwok said banks faced the dilemma of not knowing how deep they should go in asking and checking information about a particular trade, including speculating what is expected of them from regulators. For instance, banks have to make judgments on how best to obtain and check information about ports of call as well as determine what would be considered the reasonable prices for goods being traded.

"There is a lack of consistent due diligence standards specific to trade financing at the moment across banks and jurisdictions. This is much needed [so as] to combat trade-based money laundering risks more effectively," he said.

Conflicts Between Practice and Regulations

Jolyon Ellwood-Russell, trade finance partner at Simmons & Simmons in Hong Kong, said that there is a conflict between practice and regulations as banks and regulators try to grapple with the issues of trade-based money laundering. He said banks face increasing problems as they try to satisfy rules and regulations from multiple regulators, whereas regulators try to balance a difficult task by not preventing banks from doing trade finance through over regulation.

Ellwood-Russell said regulators are trying to ensure that banks are cautious and that they are aware of the risk of trade-based money laundering. Banks, on the other hand, are unclear as to how far they have to check and verify their customers' underlying business, trade or supply chain, he said. 

"It is a bank's normal course of business to facilitate payments using instruments such as letters of credit but in the case of issuing an LC, there is no obligation for banks to look beyond the LC and into the underlying transactions," he said.

Within trade finance, there are principles of autonomy of the credit and strict compliance that protect banks from having to look too deep into an underlying transaction, according to Ellwood-Russell. This, he said, can conflict with heightened attention from the regulators as they expect banks to utilize their access to data and be the front-line in detecting crime given that they could potentially investigate every underlying payment and shipment.

Governments and Regulators Need to Come Together

Kwok said governments and regulators need to come together to set global standards on the information that banks need to ask their customers and what minimum checks they should carry out when they finance trades. 

Such much needed guidance, Kwok said, would serve as a good reference point of the kind of standards expected of banks. He said the Monetary Authority of Singapore has made efforts to enhance standards and consistency in the way financial institutions mitigate trade-based money laundering risks. The MAS issued a guidance on anti-money laundering and countering the financing of terrorism controls in trade finance and correspondence banking in October last year. 

But Ellwood-Russell was doubtful as to whether having a set of standards or tick boxes would necessarily help banks or reduce trade-based money laundering. He suggested a number of measures including educating all stakeholders in trade structures, gaining a better understanding of customers, proper escalation of red flags and good case management when red flags arise. 

Distinguishing Genuine Customers

The concerns about being ensnared in trade-based money laundering have also made it challenging for banks to distinguish bona fide import or export of goods which may be considered high risk, Kwok said. High-end electronic equipment such as precision equipment which can also be used for building weapons of mass destructions or to repress people is one example. Such precision equipment is banned from being exported to countries like North Korea. 

Similarly, banks would not want to be financing "blood diamonds" that support brutal war involving child soldiers, Kwok said. "Today if a bank is asked to finance a diamond trade, they will want the Kimberly certification to show that the diamonds are not linked to unacceptable activities," he said.

Spotting Suspicious Trades Earlier

Ellwood-Russell said banks need to continue to put in place procedures and systems so that they can recognise the different structures criminals might use and be able to spot a suspicious transaction earlier on. 

"Banks are very institutional and thus silos sometimes form. Regulators primarily speak to the compliance team, whereas those within banks' front line responsible for trades are the trade operations team. The two teams and skill sets don’t necessarily cross as well as they could. Banks need to increase the education levels on their compliance teams in trade finance structures and their trade operations teams in compliance," he said. 

Ellwood-Russell said regulators have adopted a set of principles and issued guidelines that cover high risk trades. Even then there is no silver bullet that banks can implement to ensure they are not caught out by crime, he said. 

"Regulators recognize this and so have introduced a set of principles and guidelines that work in combination with existing AML/CFT regulations that banks need to follow to best prevent TBML. Regulators in the financial hubs such as London, Singapore and Hong Kong have been consistent in this approach," he said.


Patricia Lee is a South-East Asia editor at Thomson Reuters Regulatory Intelligence in Singapore. She also has responsibility for covering wider G20 regulatory policy initiatives as they affect Asia.