The taxing business of money laundering: South Africa

Author:Bernd Schlenther
Position:South African Revenue Service (SARS), Pretoria, South Africa

Purpose – The OECD recently identified tax crime as one of the top three sources of money laundering. In the context of increased acknowledgement that tax evasion, capital flight and money laundering are key threats to the economic stability of developing countries, South Africa, like many other countries, has put information-sharing agreements in place to enable better recovery of money hidden in the financial system. There is,... (see full summary)

1 Introduction

The Organisation of Economic Cooperation and Development (OECD) recently identified tax crime as one of the top three sources of dirty money that is hidden in the financial system ( OECD, 2012, p. 74 ). It is also common cause that money laundering, tax evasion and capital flight are primary threats to the economic stability of developing countries. Africa loses billions due to illegal money flows, most recently estimated at R1,088 billion (approximately US$160 billion) per annum ( Beeld, 2011 ). It was recently estimated that the value of illegally acquired money laundered in South Africa may be as high as R80 billion annually ( Van Jaarsveld, 2011, p. 4 ).

Towards the end of 2011, South African media reported that the South African Revenue Service (SARS) commenced with audits and investigations of more than 165 high net-worth individuals. The report stated that the SARS believes the tax gap for the country's 165 richest tycoons alone amounts to R20 billion.

Flowing from the above, the key question posed is whether SARS has the tools at its disposal to identify “stashed away loot” and whether it will be effective in attacking practices designed to hide income and assets. In answering this question, the article explores the differences between money laundering and tax evasion whilst highlighting the linkages to each other. From the research it is evident that the success of these two crimes depends on the ability to “stash away loot” or to hide the financial trail of the income. It is pointed out that though tax evasion and money laundering are operationally quite distinct processes, they share the same sophisticated techniques; they mutually support each other and are often perpetrated through offshore locations ( Spreutels and Grijseels, 2000 ).

The ability of SARS to utilise enforcement and tax mechanisms to address money laundering is assessed against current trends in international cooperation on the basis of international and national regulation, audit interventions, information sharing mechanisms and general tax policy1.

2 Background

South Africa became a member of the Financial Action Task Force (“FATF”) in 2003 and has enacted various pieces of legislation to combat money laundering. These include the Prevention of Organised Crime Act 121 of 1998 (POCA), the Financial Intelligence Centre Act 38 of 2001 (FICA) and Protection of Constitutional Democracy against Terrorist and Related Activities Act 33 of 2004 (POCDATARA). Despite these new laws, there is common agreement that the anti-money laundering regime is not effective – both in legislation as well as in application of law. This ineffectiveness is further evidenced in available statistics and a low prosecution record ( Van Jaarsveld, 2011 ; FATF, 2009 ).

A further predicament encountered is that illegal flows due to money laundering have not been empirically quantified; and reporting on money laundering statistics is haphazard. For instance, in its FIC Annual Report (2009, p. 15) , the South African Financial Intelligence Centre (FIC) identified R66.1 billion in financial transactions suspected to be related to crime, money laundering or terrorism financing during 2009. For the 2010/2011 financial year only R6.7 million was subject to freezing orders to enable the Asset Forfeiture Unit to preserve the funds. For the period 2003-2008, 927 confiscation orders were made (under Chapters 4 and 5 of the Prevention of Organized Crime Act) amounting to R577 million ( FATF, 2009, p. 41 ). The data does not show whether the confiscation was related to money laundering per se and it poses the question as to whether the 927 confiscation orders are representative of all the money laundering in South Africa for that period2.

International cooperation and national strategies to address money laundering are challenged because countries have different legal characterisation of specific acts, such as money laundering, corruption, and tax evasion. For example, considerable variation exists among countries as to which crimes may give rise to proceeds that may be laundered. The concept of corruption is also not uniformly defined and some countries consider very low tax rates as abusive or harmful tax competition or even tax havens, while others do not. In many jurisdictions tax evasion is not a predicate offence ( Boorman and Ingves, 2001 ).

Tax havens exist in an international tax structure that began from a general presumption of residence income taxation – in other words, that the ownership jurisdiction should be the principal site of taxation ( Kurdle and Eden, 2003 ). The growth in tax havens is ascribed to a variety of reasons such as the need for secrecy, their ability to act as “agents provocateurs for the promotion and expansion of boundless financial services”, crime and corruption or as part of a “state strategy” for economic development. On face value, the latter may explain the supply side and the former three, the demand side. Additional factors include the growth of multinational corporate activity (at rates higher than most national economies) and international trade as a whole which generated an increasing demand for lightly taxed profit reallocation. Improvements in transportation, technology and communications have created easy access to diverse services ( Kurdle and Eden, 2003 ). This expansion has placed strain on the financial services sector since money laundering activities can be hidden more easily in the complex international trading environment over a myriad of jurisdictions.

3 Defining money laundering
3. 1 Money laundering

Money laundering refers to any act that obscures the illicit nature or the existence, location or application of proceeds of crime ( De Koker, 2007, p. 4 ). Money laundering legislation typically provides for three substantive offences in respect of money laundering. These are:

  • the concealment of property acquired through criminal activity;
  • arrangements with regard to criminal property; and
  • the acquisition, use and possession of criminal property.
  • Three stages are generally distinguished in the money laundering process, namely placement, layering and integration. During the placement stage money enters the financial system. The aim of the layering process is aimed at separating the illicit proceeds from their criminal source which may entail a complex series of transactions which are solely aimed at blurring the money trail. The last stage involves the integration of all the funds – the original amount minus the costs of the laundering process, is amassed and controlled as apparent legitimate business funds.

    For money laundering schemes to achieve their objective, De Koker (2007, pp. 1-7) identifies the following criteria: they must appear to make commercial sense, be structured in tax efficient way, have the appearance of legitimacy and be transnational in nature. The assistance of professional advisors in law, banking, accounting and finances is part and parcel of sophisticated laundering schemes. The economic and socio-political environment also plays a role in that jurisdictions with high levels of corruption and with a high prevalence of organized crime and drug production or distribution will have a greater incidence of laundering3.

    Under South African law third parties who intentionally involve themselves in money laundering can be prosecuted in terms of common law as accessories after the fact. The money laundering framework adopted by South Africa, however, increases the reach of criminal law relating to money laundering because it criminalizes any act in respect of the proceeds of crime which is likely to have the effect of concealing or disguising the nature, location or movement of the proceeds of crime. It also criminalizes the rendering of assistance to another person to enable him to benefit from crime and criminalizes the acquisition, possession or use of crime of another ( De Koker, 2011, p. 3.01 ).

    The majority of laundering offences can only be committed by third parties who facilitate the laundering of proceeds of another. The main laundering offences can be committed by the person who committed the underlying offence. Every further act undertaken by the person to hide, change or spend the proceeds of the underlying crime constitutes a laundering offence ( De Koker, 2011 ). An underlying crime is any unlawful activity which in turn is defined as any conduct which constitutes a crime or which contravenes any law. There must be a specific link between the unlawful activity and the property, service, benefit or reward received.

    Almost all financial crimes and fraud result directly in benefits accruing to the perpetrator through the financial system. In order to commit a money laundering offence (fraud being a designated category offence), all that is required is for a person to contribute to the process by dealing in some way with another's direct or indirect benefit from crime (Shaik and Others v. S). This is illustrated in the recent case of Sewela v. S where the appellant was involved in a crime syndicate which targeted SARS refunds. The modus operandi involved the identification of a duly registered company which was due to receive a refund whereafter the syndicate registered a fictitious duplicate company at the Companies and Intellectual Property Registration Office. The bank details of a legitimate company were altered to those of the fictitious company; the refunds due by SARS were then fraudulently...

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