Written evidence submitted by Laurence Andrew Howland (IEF0005)

 

 

 

1.         I am the Director Risk and Compliance for Buckles Solicitors LLP. Buckles is a UK law firm of approximately 200 people with offices in Peterborough, Nottingham, Stamford, Cambridge and London. The firm provides personal and corporate legal services to clients in the UK and internationally in France, Spain and Italy. I am responsible for the firm’s Anti Money Laundering and Regulatory Compliance.

2.         Prior to joining Buckles, I spent three years as a Senior Financial Investigator with the Solicitors Regulation Authority. Before this, I served for 30 years as a criminal investigator with HM Revenue & Customs (previously HM Customs & Excise), latterly as an accredited financial investigator leading a national project team pursuing suspected criminal assets identified from intelligence based on NCA Suspicious Activity Reports (SARs). I have worked extensively in the national intelligence arena with police and other agency partners through the Regional Organised Crime Unit network.

3.         Between 2010 and 2014 I was the UK’s Fiscal Crime Liaison Officer based at the British Embassy in Beijing, working with Chinese government and law enforcement agencies to develop capacity and cooperation in the international financial crime arena.

4.         In October 2021 I was awarded an MSc in Financial Investigation (with Distinction) from the University of Central Lancashire where I researched Chinese Underground Banking. This included an assessment of the nature and availability of Chinese underground banking through Chinese language social media and targeted interviews with experienced UK law enforcement officers to assess current levels of understanding within key UK agencies. I have been a visiting lecturer at UCLAN on international illicit finance and underground money movement. In 2021 I was presented with the Martin Kenney award for Outstanding Contribution to the Study of Financial Investigation.

5.         I believe that I can provide informed comment on several issues of interest to the Select Committee, in particular:

                The historic relevance of underground banking to modern Chinese finance

                The nature of illicit finance from China and within Chinese communities

                Knowledge gaps within UK government and law enforcement

                The commercial realities of doing business with China

                Weaknesses in the UK’s current regulatory regime

                Action needed to improve risk assessment and regulatory control

 

Background

6.         Modern financial law enforcement and regulatory compliance activity is inevitably targeted on the movement of criminal funds within the formal economy. The development of legislation and regulation over the past 40 years has been focused on establishing a compliance regime aimed at identifying criminal funds moving through regulated entities (overwhelmingly banks) and successive updates to regulations have been designed to bring broader categories of businesses (such as solicitors, accountants, TCSPs and more recently technology such as cryptocurrency platforms) within the scope of the established compliance regime. However, current models typically used to define money laundering and illicit finance increasingly fail to capture the complexities of the real world. For example, the PLACEMENT-LAYERING-INTEGRATION model widely used by law enforcement and regulators to describe money laundering is rooted in past experience of the banking of “street cash” derived from drug sales and ignores the fact that there is often no “placement” stage in modern fiscal fraud such as the fraudulent claiming of bounceback loans (ultimately paid by HMRC from tax funds) or the proceeds of corruption (diverted from a Ministry or national bank). The traditional money laundering model also fails to capture the realities of informal value transfer systems (IVTS) using sophisticated methodologies to “piggy-back” legitimate transactions and avoiding the need to “place” funds in the formal system at any stage. The most effective illicit finance methodologies can therefore circumvent formal banking processes, or wholly disguise criminal funds moving within such processes.

 

Historic Context

7.         Informal Value Transfer Systems are not a new phenomenon. It is widely accepted that mutual arrangements to settle one another’s accounts in remote geographic locations were being used by traders along the Silk Road many centuries ago; there is reference in the Koran to “exchange of debts” between traders. The transfer of money across jurisdictions relies on a number of features: the presence of two or more trusted individuals in different locations who are prepared to settle one another’s accounts; the availability of funds (a “cash pool”) for that purpose; and the ability of a customer to prove their identity and entitlement to the sum of money being transferred. The need for an identifiable uniquely numbered “token” conferring a right to receive money gives rise to the umbrella term “token-based systems”.

8.         Broader international awareness of IVTS and token-based money transfer arose in the aftermath of the 2001 “9/11” attacks on the United States. The use of “hawala” processes to transfer some of the money used to fund 9/11 led to the often unfair identification of hawala with criminality and terrorism; it also led to hawala being adopted as a catch-all term for all forms of IVT and the categorisation of IVT globally as a threat. However, research suggests that IVT systems have developed in many jurisdictions independently as a legitimate solution to readily identifiable security problems, for example in Renaissance Italy to facilitate trade between city states (Cassara, 2015), and in many ways the principles of “token-based money transfer” (trusted guarantors, cash pools and uniquely numbered promissory notes) are readily identifiable with the fundamentals of the familiar Western banking system.

9.         Historically within China, establishments known as “qianzhuangor money shops emerged to broker currency exchange between vassal states and were formalised in the late 16th century during the reign of the Wanli emperor. Through to the 19th century, localised financial services have been provided both within China and to expatriate Chinese communities by “huizhuang or exchange shops. These not only supplied money transfer services but also funded small-scale local lending and even provided letter-writing services to illiterate customers. At a commercial level, 19th century “piaohao” or draft banks were used to facilitate international trade for merchants in Shanxi. Whilst Western banking is now widely accessible across much of China, the country’s fluctuating political fortunes internationally and their large pockets of undeveloped communities have meant that the requirement for alternative systems of money transfer and access to informal financial services has never really disappeared.

 

Modern Illicit Finance

10.     Underground banking has persisted in China for centuries and grown exponentially since the Mao era as China’s economic significance has grown on the world stage. A number of factors have influenced its growth. Firstly, the glacial bureaucracy of Chinese banks and strict exchange controls designed to prevent capital flight create pressures on business which frequently push them into finding alternative methods of transferring money. For example, in industrial cities such as Yiwu with significant import and export trade, the temporary freezing of bank accounts by local police after they have been used to transfer money through unregulated channels is seen as an unavoidable temporary inconvenience of doing business. Secondly, the emerging class of wealthy business owners who accumulate savings are often reluctant to keep that wealth in China and see investment in savings and property in the UK, USA, Australia and other Western economies as preferable in terms of security of ownership, property and inheritance rights. Such customers will also use underground banking as a way of circumventing the controls restricting capital flight. In addition, there remains a huge sub-class of people in rural areas with limited or no access to banking and financial services who continue to rely on huizhuang, on co-operative finance and on informal arrangements to manage money and fund local projects. In areas such as Fujian, lack of opportunity has led to significant numbers of individuals resorting to people smugglers to find opportunities to work in Western countries; Fujianese immigrants are disproportionately represented among illegal immigrants to the UK and USA and Fujianese is increasingly the spoken dialect of recent immigrants to Western Chinese communities. With no valid identity papers and limited language skills, Fujianese immigrants have no option other than to resort to familiar informal and unregulated financial services within their closed community to transfer money back to family in China (Zhao, 2012). The accessibility, familiarity, informality and lack of regulation which makes underground banking processes attractive to a range of essentially legitimate customers is also what makes underground banking services attractive to organised criminals; and the presence of both legitimate and illicit finance within underground banking streams both facilitates the criminal objective of disguising the source of funds and perhaps unfairly taints transactions engaged in by customers who have no easy access to formal banking services for international transfers.

11.     It is also important to note the absence of meaningful regulation of underground money movement in China. The limited academic research which has been conducted indicates that regional police forces, particularly those in areas such as Fujian, Zhejiang, Liaoning and Jiangsu which are most closely associated with underground banking, are ill-equipped to deal with investigations into illicit finance (Li, 2020). Whilst the International Bar Association identifies a “non-exhaustive list” of 35 pieces of legislation published in China between 2004 and 2019 regulating finance and criminalising money laundering and the funding of terrorism, local police tend only to pursue cases which are high-profile or politically charged, and prosecutions tend to be for “crimes of illegal business operations, carrying comparatively low sentences, rather than for money laundering itself. This reflects the dual realities of financial investigation as a tool of political power wielded at the highest levels against those who fall out of favour with the regime, and the more prosaic and familiar reality of local police forces with limited training and resources focusing their efforts on tackling violent crime, drugs, prostitution and car crime which are of greater concern to the local populations.

 

Knowledge Gaps

12.     For a variety of linguistic, cultural and political reasons, Chinese underground banking remains academically an under-researched area and a poorly understood area within Western government and law enforcement. Across law enforcement, there is a focus on underground banking generally as a means of transferring money and little appreciation of the centrality of informal finance within some communities and the range of services which can be accessed through modern qianzhuang and huizhuang. Even as a method of money transfer, official understanding is often one dimensional. Received wisdom conflates the use of unregulated processes to move money with general criminality, despite the fact that underground banking is often the only process available to legitimate personal and smaller commercial customers. There is also an unhelpful image of the “underground bank” as a single process tied to physical institutions, whereas in reality it is a catch-all term for a variety of processes which are not necessarily tied to a bricks-and-mortar premises, including Trade Based Money Laundering (TBML), under and over invoicing, transfer pricing, cash and commodity smuggling, the exploitation of political and commercial connections and the organised exploitation of large numbers of accounts being used to smuggle individually trivial sums below the reportable financial limit.

13.     In 2019, the National Crime Agency produced a report titled “Chinese underground banking and daigou” joining a number of other Western law enforcement agencies in identifying daigou as an emerging vehicle of international criminal finance. Daigou simply means “buy on behalf of” and is the trend of instructing an agent living in or travelling to a foreign country to buy goods on your behalf. The history of daigou is rooted in cross-border shopping, for example by people living near the China-Russia border and has grown exponentially through students living abroad advertising luxury goods through Chinese language social media, in particular WeiXin (WeChat). Significant daigouers have a similar standing with their peers as Western social media “influencers”. In reality, it is unclear whether daigou trade is penetrated by criminal funds any more than other international trade is impacted by TBML; whether daigouers are using underground banking providers to move money; or whether underground banks, widely known for their adaptability and ingenuity, are simply adopting daigou methodologies as a means of moving value cross-border. Within China, the focus on daigou has been on the importance of regulating it as a tax evasion problem, rather than criminalising it as a vehicle of illicit finance.

14.     One would expect Britain’s embassies to be influential in improving official understanding of cultural aspects of illicit finance; in reality however, embassies are overwhelmingly focused on generating business for the UK, often with little understanding of law enforcement issues which are typically given a low priority within the FCDO. This can extend to critical decision makers lacking the basic knowledge of money laundering compliance expected of a high street bank clerk. The Tier 1 investor visa, offering fast-track citizenship in the UK to those prepared to invest millions of pounds in the UK economy, is currently attracting media attention in respect of proposed sanctions on Russian money; but concerns were being raised a decade ago over Chinese investment facilitated by a process wholly focused on generating money for UK Plc with little or no regard to due diligence, source of funds or source of wealth checks; and the sponsorship of Britain’s Embassy is likely to assuage the concerns of British financial institutions who might otherwise ask difficult questions about the derivation of Chinese or Russian money. The disparities in the system suggest that it may ironically be easier for criminals and corrupt officials to move vast sums of illegally acquired wealth unchallenged with the assistance of the UK government than it is for smaller investors to transfer modest sums of money to fund a house purchase.

15.     The imperative of developing trade with China is clear, both as a result of their increasing importance as a major world economy and political power and in terms of the growing pressure on post-Brexit Britain to develop new investment streams with key foreign partners. The challenge for us is to place our businesses in a position where they can enter into commercial relationship with Chinese customers and partners and rely on Chinese funds which are often sent through informal and comparatively obscure processes which in our current regulatory system are almost invariably seen as money laundering red flags.

 

Regulatory Weaknesses

16.     There is currently a poor understanding of Chinese underground banking specifically and IVTS more broadly within UK regulation and law enforcement. The problem is widely exacerbated by a lack of cultural knowledge and language skills. 2016 research by Silverstone and Whittle of the London Metropolitan University revealed that it was only in the preceding three years that London’s specialist Chinatown police unit had recruited a Cantonese speaker. This is despite the fact that Cantonese, historically the dominant language in Chinatown, was rapidly being replaced by other dialects. The research noted that there were concerns that there was no Mandarin speaker on the unit. Ironically, the reality is that the burgeoning Fujianese population are more likely to speak Fujianese as a first language, Mandarin and Fujianese being mutually unintelligible.

 

Weaknesses in Due Diligence Processes

17.     Within the UK’s regulatory population, risk assessment in its current form is a blunt instrument for identifying AML and CFT risk. Detailed specific rules encourage a box-ticking approach; a proposed move towards a broader bespoke approach to risk assessment will only be effective in businesses where there is well-informed knowledge of the risk and the threat. Long lists of red flags tend to group “high-risk” jurisdictions together but the risks associated with money coming from for example Russia, China, Iran and Somalia are significantly different and rooted in vastly different historic and cultural contexts. In respect of China, there is a lack of guidance on the fundamental principles of conducting effective due diligence on individuals and businesses in a culture where names and dates of birth are almost meaningless as identity markers. In a regulatory context where open-source data is being used to conduct basic due diligence, the challenge of reviewing data only accessible to someone with Chinese language skills means that small and medium size businesses are either missing important information or simply avoiding risk by not engaging with potentially significant customers at all.

 

Improving the UK Regulatory Landscape

18.     It is my view that the following issues should be addressed across UK AML regulation and law enforcement and within any redraft of UK legislation and guidance:

18.1.         Clear distinctions must be drawn between the source of wealth and funds and the method of transferring those funds from countries and jurisdictions with excessive currency controls and/or limited access to formal banking processes.

18.2.         We must invest in improving our contextualised understanding of China and the Far East across law enforcement, within regulators and academically. Further work must be done to encourage those with key language skills and cultural understanding of key countries to work within enforcement and regulation or in fields contributing to understanding of regulatory issues. This should involve both recruitment into key agencies and sponsorship of independent academic study and research programmes.

18.3.         In respect of the FCDO, there should be an improved focus on developing appreciation of AML/CFT risk factors across Embassies and a stronger commitment to embedding financial crime objectives into the day-to-day considerations of a wider range of Embassy functions, in particular the diplomatic assistance given to businesses and investors.

18.4.         Businesses should be encouraged through legislation and regulatory guidance to assess risk in the context of the jurisdiction in question and their own business. They should be facilitated by easy access to meaningful information about how to deal appropriately with legitimate customers and partners from potentially high-risk jurisdictions.

18.5.         We should significantly reduce the regulatory burden around the NCA Suspicious Activity Reporting (SAR) system. Both law enforcement and business are overburdened by current AML/CFT and SAR processes and many SARs make very little contribution to the pool of knowledge. One quick and easy improvement would be to apply deminimis levels to the requirement to submit a SAR at all. Removing the requirement to conduct due diligence on transactions below £1,000.00 would remove a disproportionate business focus on comparatively small one-off transactions of negligible intelligence value.

 

 

 

Date:                            24 February 2022

 

Name:                            Laurence Andrew Howland

 

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Index of references:

 

 

Cassara, J.A., 2015. Trade Based Money Laundering: The Next Frontier in International Money Laundering Enforcement. John Wiley & Sons, Proquest Ebook Central

 

Li, K., 2020. Why is the policing weak in China? The mindset of police officers in money laundering cases, Police Practice and Research, 21:6, 624-639, DOI: 10.1080/15614263.2019.1644179

 

NCA, 2019, National Crime Agency – Chinese Underground banking and ‘Daigou’. HMSO.

 

Silverstone, D. & Whittle, J., 2016. “Forget it Jake, it’s Chinatown: The policing of Chinese organised crime in the UK. London Metropolitan University. https://doi.org/10.1177/0032258X16631566

 

Zhao, L.S., 2012. Chinese underground banks and their connections with crime: a review and an appraisal. International Criminal Justice review. DOI: 10.1177/105756771248917

 

 

February 2022