The Wolfsberg Group, the International Chamber of Commerce and the Bankers Association for Finance and Trade, have come together to look at “financial crime” in the round comprising money laundering, bribery and corruption, terrorist financing, the financing of proliferation of weapons of mass destruction and other related threats to the integrity of the international financial system, and publish the Trade Finance Principles 2019, in their latest report (the Report). 

How financial criminals operate

Financial institutions (FIs) are not always in a position to observe or interpret the signs of illicit financial flows (IFFs) methods. In the majority of the world’s international trade deals, banks are typically only required to look at the documents presented rather than look at the underlying contracts, making detection difficult.

The Report identifies the following main risk areas for FIs in playing an unwitting role in IFFs.

Over/Under Invoicing

By misrepresenting the price of the goods in the invoice and other documentation, the seller/buyer gains excess value as a result of the payment.

Multiple Invoicing

By issuing more than one invoice for the same goods a seller can justify the receipt of multiple payments. 

Short/Over Shipping

The seller ships less than the invoiced quantity/quality of goods thereby misrepresenting the true value of goods in the documents. 

Deliberate Obfuscation of the Type of Goods

Structuring a transaction in a way to avoid alerting any suspicion to FIs or other third parties which become involved, such as deliberately disguising it. 

Phantom Shipping

No goods are shipped and all documentation is completely falsified.

In tackling IFFs, banks should determine their own trade finance compliance requirements using a risk based approach (RBA). The RBA would establish the steps to be taken for individual customers or transactions, based on their analysis of the risks in relation to the parties and relationship involved, the type of transaction, the monetary value of the transaction, country factors and other factors that may either increase or reduce the risk of financial crime. 

The challenges for FIs

The sheer scale of the IFF problem indicates that the solution will require more than just rule making.

Challenges faced by banks include controls on data protection and cross-border information exchange, which restrict the ability of banks from accessing the information required for due diligence on other parties. Differing jurisdictional standards may also impede global standardisation of due diligence requirements. Further, differences in the scope and application of sanctions by various jurisdictions may create disparate or conflicting compliance or legal obligations. 

Banks are also not in a position to make meaningful determinations on price verification and identification of dual use items (items which may have both civil and military applications), due to the lack of relevant business information, and the often complex and technical nature of dual items. 

A bank’s RBA should therefore give guidance and provide regular training to staff involved in relationship management and transactions. This may include how to perform an analysis of pricing for those goods where reliable pricing information can be obtained, how to identify where a unit price would be seen as obviously unusual and how to identify dual use goods in transactions. 

There is of course no level playing field in terms of the global application of compliance rules and the expertise needed to make them work. This is especially true of those located in developing countries, where institutions and their staff may well be at different levels of maturity as far as the identification and application of FCR, customer due diligence and sanctions risks policies and the implementation of appropriate mitigation processes required. A bank’s RBA must take these differences into account when determining the level of risk mitigation and controls that are required to meet their principal regulators’ expectations. Conversely, regulators need to be cognisant of these variations which will affect a bank’s risk mitigation policies and processes to meet the risks in their geographical counterparty profile. 

The way forward

The key to successful combatting of IFFs is better communication and collaboration. Joining up of intelligence and data flows is a sensitive area but global reluctance to take that collaboration to the next level will be exploited by financial criminals.

The Trade Finance Principles 2019 contain detailed appendices which look at the different payment routes described above and seek to provide best practice guidance. The Report which is available on line is a “must read” for trade bank in house counsel risk and compliance teams.