HOW TO DETECT MONEY-LAUNDERING IN REAL ESTATE

Non-financial professionals like lawyers and estate agents need to know the voluntary guidelines to avoid facilitating the activity.

OVERVIEW

moneyThe crime of money laundering continues to be a growing area of concern worldwide. Therefore, law enforcement agencies and the financial sector devote considerable time and resources to combating these illegal financial activities. However, many non-financial businesses and professions are also vulnerable to potential money laundering schemes.

Examples of non-financial professionals exposed to this risk are lawyers, insurance agents and real estate professionals. The purpose of this article and suggested voluntary guidelines is to increase the professionals’ awareness, knowledge, and understanding of the potential money laundering risks surrounding real estate transactions and enable them to identify practical measures to mitigate the risks.

What Is Money Laundering?

Money laundering is the process criminals use to disguise the illegal origin of their funds. Certain criminal activities generate substantial proceeds. Legitimizing, or “laundering” this money through the financial system, is a critical component for criminals to hide their activities and not draw attention to their illegally derived proceeds.

The actual process of money laundering is a three-step process that is initiated by introducing the illegal proceeds into the financial system, e.g., breaking up large amounts into small deposits or by purchasing financial instruments, such as money orders, which is referred to as placement. This is typically followed by distancing the illegal proceeds from the source of the funds through layers of financial transactions, referred to as layering, and finally by returning the illegally derived proceeds to the criminal from what appears to be a legitimate source, known as integration.

A real estate transaction can be used in any one of the three stages of money laundering. For example, if an individual purchases a home and uses illegal funds as part of the down payment, this would be considered integration.

Generally speaking, most money laundering activities are concentrated in the financial sectors. Therefore, banks and other financial institutions are subject to anti-money laundering/ counter-terrorist financing (AML) laws and regulations, and have safeguards in place to help detect and mitigate money laundering activity. But other industries, such as real estate, can also be exposed to questionable business practices and be utilized as a vehicle for money laundering activities.

The Role of Real Estate Related Professional Service Providers

As a general matter, the professional service provider’s AML risk is substantially mitigated by the fact that the great majority of real estate transactions involve regulated entities such as banks and non-bank mortgage companies, which have banking secrecy obligations. However, when a transaction steps outside the norm or in cases where certain risk factors are present, as detailed below, a professional service provider faces an elevated chance of encountering a possible money-laundering scheme and should consider taking measures to address the risk.

Knowledge of how real estate transactions normally progress and the resulting ability to recognize and evaluate whether variances from the norm may signify an enhanced AML risk is an important way the professional service provider can help to mitigate AML risk in real estate transactions. They should be aware of how real estate transactions may be used in illegal financing schemes and what steps should be taken to detect and deter those activities.

Being familiar with the signs of money laundering activity in the real estate market will help one to:

1. Identify potential money laundering activities;

2. Take appropriate steps to mitigate the money laundering risk; and

3. If necessary, alert the proper authorities to help deter and mitigate the use of real estate in money laundering schemes.

GUIDELINES

Law enforcement and financial experts have identified some of the warning signs of money laundering activity in connection with real estate. By familiarizing oneself with these voluntary guidelines, real estate agents can assist and help minimize the risk of real estate becoming a vehicle for money laundering activities.

Know Your Business

Every lawyer or agent should be aware of certain characteristics of a real estate transaction that may be indicative of illegal financing activities. The familiarity with the normal course of business will help them to identify any unusual or suspicious patterns. Law enforcement, regulators and the international community have identified multiple money laundering risk factors. In general, these risk factors (red flags) can be grouped in three categories: Country/geographic, customer, and transaction risk.

Geographic Risk

Geographic risk may arise because the customer and/or the source of the customer’s funds are located in a jurisdiction that has a weak AML regime, supports or funds terrorism, or has a high degree of political corruption. Although there is no definitive list of such jurisdictions, one good source will be the list maintained from time to time by international banks which will be aware of economic and trade sanctions based on OECD countries’ foreign policy and national security goals.

Screen Shot 2015-10-23 at 5.32.09 PMUsually sanctions can be either comprehensive or selective, and generally restrict or prohibit dealings (including business and financial activities) involving countries (or persons) subject to sanctions. Countries subject to comprehensive sanctions at the current time include Iran, Cuba and Syria. The names of individuals, groups and entities may also be listed, e.g. ISIS, Al- Qaeda, JI and the like.

Customer Risk

Location of property in relation to the buyer. Is there a large unexplained geographic distance between the two?

Unusual involvement of third parties.

Titling a residential property in the name of third party; for example, a friend, relative, business associate, or lawyer. Use of legal entities (off-shore corporations, LLCs or partnerships) that obscure the identity of the person who owns or controls them without a legitimate business explanation.

High-ranking foreign political officials or their family members.

Transaction Risk

Under or over-valued properties:

• For example, is the property owner selling the property for significantly less than the purchase price?

• Does the seller seem disinterested in obtaining a better price?

Use of large amounts of cash:

• Buyer brings actual cash to the closing.

• The purchase of a property without a mortgage, where it does not match the characteristics of the buyer.

• While rules and regulations governing the financial sector are designed to detect situations where large amounts of cash are being introduced, lawyers and real estate agents should keep this factor in mind when evaluating whether a transaction seems suspicious.

Property purchases inconsistent with the individual’s occupation or income.

• Is the property being purchased significantly beyond the purchaser’s means?

Immediate resale of the property.

• Especially if the sale entails a significant increase or decrease in the price compared to the prior purchase price, without a reasonable explanation.

Speed of transaction (without reasonable explanation).

Unusual source of funding:

• Example: use of third-party funds to purchase a property where it doesn’t make sense, i.e. third-party is not a parent, sibling, etc., use several different sources of funds without logical explanation, funding coming from a business but property not being held in business’ name, or purchase of property doesn’t match the business’ purpose.

Purchases being made without viewing the property; no interest in the characteristics of the property.

Any other activities which demonstrate suspicious behavior and do not make professional or commercial sense based on the agent’s familiarity with the real estate industry and the normal course of business.

What Professionals Can Do to Mitigate Risk

The presence of a single risk factor, or even multiple factors, does not necessarily mean the purchaser or seller is engaging in money laundering activities. The role of a lawyer or real estate agent is to be familiar with these risk factors, and exercise sound judgment based on their knowledge of the real estate industry, and when a combination of these factors truly raises a red flag, know the proper action to take.

Know Your Client/Customer Due Diligence (CDD)

This is a critical component in helping to identify and combat money laundering. Knowing your true client and understanding their interest and planned use for a property will help one evaluate a situation where one or more red flags are raised.

The process by which the lawyer or agent forms a reasonable belief that he/she knows the true identity of the customer and is then able to assess AML risk, is commonly referred to as know-your-client or customer due diligence (CDD). In cases where red flags are present, one should apply increased levels of CDD, which could include the following:

1. Obtain additional information, a driver’s license, passport or other reliable identification document, to confirm the true identity of the customer.

2. If a legal entity is involved, such as a corporation or LLC, take additional measures to identify who actually controls or owns the entity and take risk based measures to verify the identity of the owner. This is commonly referred to as beneficial ownership information.

3. Obtain other appropriate information based on your experience and knowledge to understand the customer’s circumstances and business.

In addition, depending on the size of the firm, it may be appropriate for the lawyer or agent to notify and discuss with senior management the higher risk customer or a particular situation that raises red flags, and to monitor the relationship if there are a series of transactions with the customer.

Reporting Suspicious Activity

In many jurisdictions, due to the increased terrorist activities and white-collar crime worldwide in a borderless world, there are laws to make it obligatory to report suspicious activities by professional service providers. This is to ensure greater surveillance of AML activities which may have escaped the dragnet of financial institutions.

CONCLUSION

While the illicit finance risk for real estate agents, lawyers and other professional service providers is often mitigated by the involvement of financial institutions already subject to strict AML laws, the use of real estate in money laundering schemes continues to be an area of concern to the government. Adherence to these voluntary guidelines will help to identify potential money laundering risks. These voluntary guidelines will also help these service providers to be effective partners with enforcement agencies in detecting and addressing the use

v1Matthew Yeoh is a partner of Yeoh Mazlina & Partners, a member of ASEAN Legal Alliance, a group of legal firms across ASEAN

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