The complex techniques some individuals and organizations employ to avoid sanctions regulations issued by the Office of Foreign Assets Control (OFAC) often make headlines. Although criminals intentionally evade sanctions, financial institutions (FIs) may unintentionally facilitate sanctions evasion—resulting in not only financial and reputational risk, but OFAC non-compliance as well. The risks arise when an FI does not understand potential sanctions evasion schemes and how to implement tailored, risk-based sanctions programs to mitigate those risks. Further, OFAC is not the only regulator enforcing its regulations; regulators across the globe have increased sanctions enforcement. FIs would be wise to update their knowledge of their domestic regulatory requirements and other global programs regularly to prevent and detect sanctions evasion techniques.
Below are some common methods used to circumvent OFAC sanctions.
While the use of shell companies to launder money is not a new phenomenon, bad actors are increasingly using shell companies to funnel money to sanctioned entities, to sanctioned jurisdictions and/or for the purchase of sanctioned goods. Shell companies are relatively quick and simple to set up. They allow sanctioned countries and individuals the ability—and a level of anonymity—to conduct business for a brief period, moving money in a short burst of activity that is tougher for FIs to detect. Often a sanctioned country’s state-owned enterprise or sanctioned individuals use networks of shell companies located in bordering countries or countries considered to be tax havens. If FIs do not conduct thorough due diligence and identify the ultimate beneficial owners of shell companies, they may not be aware of the involvement of sanctioned locations, goods, entities or individuals in the transactions.
An FI should monitor its transactions for shell company red flags such as registered addresses; entities located solely in jurisdictions that are tax havens or that border the sanctioned country; entities with limited or no identifying information or online presence; and entities with owners or directors in common across multiple companies.
A common scheme is for sanctions evaders to use a trade finance vehicle. They provide no documentation or conflicting documentation to support the transaction as their main purpose is moving money without detection. Some red flags for trade finance schemes are the inclusion of falsified documents related to shipping routes taken, vessels used and their relevant registrations; price, quality or quantity of goods; and movement of sanctioned products, such as weapons. Sanctions evaders may also alter legitimate trade finance or make numerous amendments to trade finance documents to obfuscate the goods, entities or jurisdictions involved. This scheme is particularly challenging to combat, as faulty paper trails make it tough for FIs to prevent and detect trade finance schemes and monitoring is only as good as the documentation the FI obtains for each transaction.
Other red flags for trade finance schemes can include detailed invoices for underlying goods, shipping instructions involving docking at countries in close proximity to a sanctioned country, or shipments on vessels with flags from countries that are known to reflag vessels.
Another method to avoid sanctions involves attempting to mask transactions through an FI and gain access to the international financial system through correspondent banking.
Schemes in this area typically begin with a sanctioned country’s government/or entity holding accounts with foreign banks in the name of a corporation (e.g., having accounts at foreign FIs) and using the foreign FI’s correspondent account to conduct U.S. dollar activity. The sanctioned country’s/entity’s accounts are a way to decrease the level of scrutiny applied to the activity. Corporate entities typically receive lower risk ratings than foreign FI accounts; therefore, they have less additional due diligence applied. These sanctioned country’s/entity’s corporate entities conduct financial transactions in U.S. dollars through the foreign FI’s correspondent account, thereby gaining access to the international financial system. These corporate entity accounts—or even potential nested correspondent accounts—have a lack of information around the ultimate beneficial owner and the purpose of these transactions is unknown. Due to the lack of information, it can be difficult for U.S. FIs to monitor transactions processed by foreign affiliates—or to identify whether a foreign affiliate’s customer is a sanctioned entity or individual or is domiciled in a sanctioned country. In other words, the risk for U.S. FIs processing transactions for affiliates’ customers with these accounts is higher because the affiliates’ customers do not have a direct relationship with the U.S. FI.
It may be more appropriate for FIs to consider jurisdictions with higher sanctions risk as red flags when it comes to geographic location of a transaction. If a foreign affiliate, correspondent bank or the ultimate customer is located near a sanctioned country’s borders, the risk of sanctions evasion is higher.
AML Techniques to Prevent and Detect Sanctions Evasion
FIs working to prevent and detect sanctions evasion can leverage traditional and technologically advanced anti-money laundering (AML) techniques, which include the following:
Paying Attention to KYC Red Flags
Know your customer (KYC) processes should include a process to ask correspondent customers if their customers clear U.S. dollars for any other FI that does not have an account with the respondent as well as if any customers have any known or suspected links to sanctioned countries. As an additional safeguard, an FI may ask for an independent third party such as an internal audit or a legal representation of the same. Further, FIs should detect potential shell company or nested correspondent red flags when performing their KYC processes.
Use Techniques Inspired by AML Transaction Monitoring to Spot Sanctions Avoidance
FIs can root out illicit shell companies by looking for hallmarks of typical sanctions avoidance schemes like frequent transactions with rounded dollar amounts, as well as entities using registered addresses that involve high value transactions to high-risk countries and regions. FIs can also monitor trade finance transactions to identify typical trade-based money laundering red flags like payments to vendors by third parties, customers conducting business in or transporting items through high-risk countries or significantly amended letters of credit.
When it comes to correspondent banking and nested accounts, traditional AML approaches can also be helpful. FIs may need Bank Identification Codes (BIC) to identify the location of sub-branches for foreign affiliates, correspondent banks and other banks included in transaction details. Moreover, FIs should place the same scrutiny on affiliates as non-affiliates—especially when it comes to correspondent and entity bank accounts—to help reduce sanctions risk, as these types of accounts provide nested accounts to affiliates and have the ability to conceal transactions being sent on behalf of sanctioned entities.
Leverage Cognitive Intelligence
If registered address information, beneficial owners or transaction activity patterns are shared across entities, there is a chance they are shell companies. Cognitive intelligence and entity resolution can help FIs more systematically identify these characteristics of potential shell companies, as well as trade finance red flags such as goods misclassification, over/under invoicing, repeated import/export of the same high-value commodity or unusual shipping routes.
Focus on the Products and Services Used in Schemes
FIs should ask whether the products or services customers use are actually applicable to them. Combined with conducting a sanctions-specific product risk assessment, this can help identify which customers using which products pose the highest risk of sanctions evasion. FIs should also have a clear understanding of the data fields available for each of its products and services and whether these fields should be screened to identify references to sanctioned countries, entities or individuals.
The days when bad actors could rely solely on simple techniques to evade sanctions—such as intentionally deleting information from payments—are nearly gone. However, proactively leveraging leading AML practices—which help to identify potential schemes to evade sanctions—is a viable option for FIs that are seeking to improve their efforts to remain compliant with sanctions regulations and to reduce the risk of unwittingly facilitating transactions designed to evade sanctions.