Guide to Prevention of Money Laundering Act | PMLA

Table of Contents

1. Introduction

2. Offence of  Money Laundering

3. Attachment, Adjudication & Confiscation

4. Obligation of Banking Companies, Financial Institutions & Intermediaries

5. Summons, Searches & Seizures

6. Know Your Customer

Introduction: Money created by crimes when converted into white money it is known as money laundering. In other words, Money Laundering refers to converting illegal earned money into legitimate money. The main objectives of the Prevention of Money Laundering Act, 2002 is to prevent money laundering as well as to provide for confiscation of property either derived from or involved in, money-laundering.

1. Introduction

1.1 Money Laundering – Meaning

Money and crime are related to each other. Crimes are done because a lot of money is involved in it. Money created by crimes when converted into white money is known as Money Laundering. In simple words, Money Laundering refers to converting illegally earned money into legitimate money.

Those who commit the underlying criminal activity may attempt to launder the money themselves, but increasingly a new class of criminals provides laundering services to Organized Crime.

Criminals want their illegal funds laundered because they can then move their money through society freely, without fear that the funds will be traced to their criminal deeds. In addition, laundering prevents the funds from being confiscated by the police.

Example: A classic example of money laundering is the case of M/s Chinubhai Patel & Co. Information received by the Directorate of Revenue Intelligence (DRI) indicated that the South Indian Bank Ltd., Nariman Point Branch, Mumbai was involved in a massive money laundering operation.

One of the accounts was in the name of M/s Chinubhai Patel & Co. said to be existing at 27, Vaishali Shopping Center, JVPD, Mumbai – 49, with the South Indian Bank Ltd., Nariman Point Branch, Bombay. Enquiries conducted revealed that the account was opened in February 1994 and the party was introduced by the Bank Manager Mr. Kasturi Rangan.

The Bank Manager did not follow the instructions of the RBI and the account was opened without obtaining the photograph of the account holder. Verification of the address revealed that the firm M/s Chinubhai Patel & Co. did not exist at that address. This account was utilized for remittance of $12 Million to Hong Kong in favour of M/s R. P. Imports & Exports, Hong Kong. The remittances were made on the basis of fraudulent documents.

It was further discovered that four more fictitious accounts were created with the same bank. Through these accounts a total amount of US$ 80 Million, was transferred from India to Hong Kong.

Investigations conducted so far by the Directorate of Revenue Intelligence have revealed that certain persons, including Rajesh Mehta and Prakash, had opened bank accounts solely for the purpose of depositing cash and then transferring the said funds in foreign exchange to countries like Hong Kong, Singapore and Dubai.

1.2 Objectives and Scope of the Money Laundering Act, 2002

The Money Laundering Act, of 2002 seeks to combat money laundering in India. Various
objectives of the Act are as follows:

• • To prevent and control money laundering.
  • To confiscate and seize the property derived from, or involved in, money laundering.
  • To provide punishment for the offence of money laundering.
  • To appoint the Adjudicating Authority and Appellate Tribunal to deal with the matter connected with money laundering.
  • To put obligations on banking companies, financial institutions and intermediaries to maintain records.
  • To deal with any other issue connected with money laundering in India.

Scope: The Money Laundering Act, of 2002 extends to the whole of India.

1.3 Process of Money Laundering

Money laundering is commonly defined as happening in three steps: the first step involves introducing cash into the financial system by some means (placement); the second involves carrying out complex financial transactions to camouflage the illegal source (layering); and the final step entails acquiring wealth generated from the transactions of the illicit funds (integration).

Placement Stage: The placement stage represents the initial entry of the “dirty” cash or proceeds of crime into the financial system. Generally, this stage serves two purposes:

• • It relieves the criminal of holding and guarding large amounts of bulky of cash; and
  • It places the money into the legitimate financial system.

It is during the placement stage that money launderers are the most vulnerable to being caught.

Layering Stage: The Layering stage is the most complex and often entails the international movement of the funds. The primary purpose of this stage is to separate the illicit money from its source. This is done by the sophisticated layering of financial transactions that obscure the audit trail and sever the link with the original crime.

During this stage, for example, the money launderers may begin by moving funds electronically from one country to another, then divide them into investments placed in advanced financial options or overseas markets; constantly moving them to elude detection; each time, exploiting loopholes or discrepancies in legislation and taking advantage of delays in judicial or police co-operation.

Integration Stage: In the final stage, the money is returned to the criminal from what seem to be legitimate sources. Having been placed initially as cash and layered through a number of financial transactions, the criminal proceeds are now fully integrated into the financial system and can be used for any purpose.

There are many different ways in which the laundered money can be integrated back with the criminal; however, the major objective at this stage is to reunite the money in a manner that does not draw attention and appears to result from a legitimate source. For example, the purchases of property, artwork, jewellery, or high-end automobiles are common ways for the launderer to enjoy their illegal profits.

1.4 Impact of money laundering on development

The impact of money laundering on development is given below:

(1) Increased Crime & Corruption: Successful money laundering helps to make criminal activities profitable. If money laundering is prevalent in a country, it generates more crime and corruption. It also enhances the use of bribery.

(2) Damaged reputation and international consequences: A reputation as a money laundering or terrorist financing haven could cause significant adverse consequences for development in a country. Foreign Financial Institutions (FII) may decide to limit their transactions with institutions from money laundering havens. Even legitimate businesses and enterprises from money laundering havens may suffer from reduced access to world markets or access at a higher cost due to extra scrutiny of their ownership, organization and control systems.

(3) Weakened Financial Institutions: Money laundering and terrorist financing can harm the soundness of a country’s financial sector, as well as the stability of individual financial institutions in multiple ways.

(4) Compromised economy and private sector: Money launderers are known to use “front companies” i.e., business enterprises that appear legitimate and engage in legitimate business but are, in fact, controlled by criminals.
These front companies co-mingle the illicit funds with legitimate funds in order to hide the ill-gotten proceeds.

(5) Damaged privatization efforts: Money launderers threaten the efforts of many countries to reform their economies through privatization. These criminal organizations are capable of outbidding legitimate purchasers of former state-owned enterprises. When illicit proceeds are invested in this manner, criminals increase their potential for more criminal activities and corruption, as well as deprive the country of what should be a legitimate, market-based, taxpaying enterprise.

1.5 Initiatives taken at international level to deal with the problem of money laundering

Since money laundering is an international phenomenon, transnational cooperation is of critical importance in the fight against this menace. A number of initiatives have been taken to deal with the problem at the international level which are given below:

• • The UN or the Bank for International Settlements, took some initiatives in 1980s to address the problem of money laundering.
  • With the creation of the Financial Action Task Force (FATF) in 1989, regional groupings, such as the European Union, Council of Europe, and organization of American States also established anti-money laundering standards for their member countries.
  • The major international agreements addressing money laundering include the UN Convention against Illicit Trafficking in Drugs and Psychotropic Substances (the Vienna Convention) and the Council of Europe Convention on Laundering, Search, Seizure and Confiscation of the Proceeds of Crime.
  • The role of financial institutions in preventing and detecting money laundering has also been the subject of pronouncements by the Basle Committee on Banking Regulation Supervisory Practices, the European Union and the International Organization of Securities Commissions.

1.6 UN Global Programme Against Money Laundering

Office of the Drug Control and Crime Prevention implemented this programme against Money Laundering with a view to increasing the effectiveness of international action against money laundering through comprehensive technical cooperation services offered to Governments. The programme encompasses the following three areas of activities, providing various means to states and institutions in their efforts to effectively combat money laundering:

• • Technical co-operation is the main task of the programme. It encompasses activities of creating awareness, institution building and training.
  • The research and analysis aim to offer States Key Information to better understand the phenomenon of money laundering and to enable the international community to devise more efficient and effective countermeasure strategies.
  • The commitment to support the establishment of financial investigation services for raising the overall effectiveness of law enforcement measures.

The implementation of the global programme against money laundering is carried out in the spirit of cooperation with other international, regional and national organizations and institutions.

1.7 Objectives and functions of the Financial Action Task Force (FATF)

The Financial Action Task Force is an intergovernmental organization founded in 1989 on the initiative of the G7 countries to develop policies to combat money laundering.

In 2001 the purpose expanded to act on terrorism financing. It monitors countries’ progress in implementing the FATF Recommendations by ‘peer reviews’ of member countries. The FATF Secretariat is housed at the headquarters of the OECD in Paris.

The main tasks of the FATF are:

• • Monitoring members’ progress in applying measures to counter money laundering.
  • Reviewing money laundering techniques and countermeasures.
  • Promoting the adoption and implementation of appropriate measures by non-member countries.

The FATF’s primary policies issued are the 40 recommendations on money laundering from 1990 and the 9 Special Recommendations on Terrorism Financing.

It also set the international standard for anti-money laundering measures and combating the financing of terrorism and terrorist acts. They set out the principles for action and allow countries a measure of flexibility in implementing these principles according to their particular circumstances and constitutional frameworks. Both sets of FATF Recommendations are intended to be implemented at the national level through legislation and other legally binding measures.

1.8 Prevention of money laundering – Indian initiatives

In view of an urgent need for the enactment of comprehensive legislation for preventing money laundering and connected activities, confiscation of proceeds of crime, setting up of agencies and mechanisms for coordinating measures for combating money laundering etc.

The Prevention of Money Laundering Bill was introduced in Parliament in the year 1998. The Bill was referred to the Standing Committee on Finance, which presented its report in the year 1999 to the Lok Sabha.

After incorporating the recommendations of the Standing Committee, the Government introduced the Prevention of Money Laundering Bill, 1999 in the Parliament. The Bill received the assent of the President and became the Prevention of Money Laundering Act, of 2002. The Act has come into force with effect from July 1, 2005.

1.9 Despite the deleterious impact of money laundering on development, it has, of late, assumed alarming proportions and its growth has been cancerous.

Economies with growing or developing financial centres, but inadequate controls are particularly vulnerable to money laundering, as against the established financial centre countries, which implement comprehensive anti-money laundering regimes. The gaps in a national anti-money laundering system are exploited by launderers, who tend to move their networks to countries and financial systems with weak or ineffective countermeasures. As with the damaged integrity of an individual financial institution, there is a damping effect on foreign direct investment when a country’s commercial and financial sectors are perceived to be subject to the control and influence of organized crime.

In times of decelerating growth, an infusion of hard currency can bolster a country’s foreign reserves; ease the hardship associated with budget-tightening policies and moderate foreign indebtedness. While these are short-term benefits associated with an inflow of criminal money, the long-term effects are mostly negative. One difference between official borrowing and laundered funds is that the former can be controlled by the Government, whereas the funds owned by criminals escape the Government’s ability to control and regulate the economy.

The possible social, economic and political effects of money laundering, if left unchecked or dealt with ineffectively, are serious. Through the process of money laundering, organized crime can infiltrate financial institutions, acquire control of large sectors of the economy through investment, or offer bribes to public officials and indeed Governments. Thus, the economic and political influence of criminal organizations can weaken the social fabric, ethical standards and ultimately the democratic institutions of society.

2. Offence of  Money Laundering

2.1 Offence of money laundering [Section 3]

Whosoever directly or indirectly attempts to indulge or knowingly assists or knowingly is a party or is actually involved in any process or activity connected proceeds of crime including its concealment, possession, acquisition or use and projecting or claiming it as untainted property shall be guilty of offence of money-laundering.

2.2 Punishment for money laundering [Section 4]

Whoever commits the offence of money-laundering shall be punishable with rigorous imprisonment for 3 years which may extend to 7 years and shall also be liable to fine.
However, where the proceeds of crime involved in money laundering relate to any offence specified under the Narcotic Drugs & Psychotropic Substances Act, 1985 the punishment may extend to rigorous imprisonment for 10 years instead of 7 years.

3. Attachment, Adjudication & Confiscation

3.1 Attachment of property involved in money laundering [Section 5]

• • Director, Joint Director or Deputy Director can provisionally attach property up to 180 days if he has reasons to believe that such person is in possession of proceeds of crime, he is charged with that crime and proceeds of money are likely to be concealed or transferred.
  • Such attachment is executed in the manner provided in the Second Schedule of the Income-tax Act, 1961.
  • The reasons to believe should be recorded in writing. The reason should be sent in a sealed cover to the adjudicating authority along with a copy of the attachment order.
  • After attachment, a complaint will be filed with the adjudicating authority within 30 days.

3.2 Adjudicating Authorities [Section 6]

• • The Central Government has the power to appoint an Adjudicating Authority to exercise jurisdiction, powers and authority under the Act.
  • An Adjudicating Authority shall consist of a Chairperson and two other members. Out of the two members, one member shall be a person having experience in the field of law, administration, finance or accountancy.
  • The Adjudicating Authority shall not be bound by the procedure laid down by the Code of Civil Procedure, 1908, but shall be guided by the principles of natural justice.
  • The Adjudicating Authority shall have powers to regulate its own procedure.

3.3 Adjudication [Section 8]

• • On receipt of a complaint under Section 5(5), or applications made under Section 17(4) or Section 18(10), if the Adjudicating Authority has reason to believe that any person has committed an offence of money laundering or is in possession of proceeds of crime, a notice of not less than 30 days will be served calling him to indicate the sources of his income, earning or assets and to show cause why the property should not be confiscated.
  • After hearing the Adjudicating Authority will record its findings on whether all or any of the properties are involved in money laundering or not.
  • Where the Adjudicating Authority decides that any property is involved in money laundering, he shall, by an order in writing, confirm the attachment of the property or if already attached it will continue till the order of the trial court becomes final.
  • If the person is found guilty by the Court, the attached property will vest absolutely with the Central Government.

3.4 Vesting of property in Central Government [Section 9]

Where an order of confiscation has been made in respect of any property, all the rights and title in such property shall vest absolutely in the Central Government free from all encumbrances.

If the Special Court or the Adjudicating Authority finds that any encumbrance on the property or lease-hold interest has been created with a view to defeat the provisions of the Act, it may declare such encumbrances or lease-hold interest to be void. On declaration of void, all property shall vest in the Central Government free from such encumbrances or lease-hold interest.

4. Obligation of Banking Companies, Financial Institutions & Intermediaries

4.1 Reporting entity to maintain records [Section 12]

The bank, financial institutions and intermediary have obligations –

• • To maintain records of all transactions and value as prescribed, whether such transactions comprise a single transaction or a series of transactions internally connected to each other when such series take place within a month.
  • To inform the director within the prescribed time.
  • To verify the identity of its clients in a prescribed manner.
  • To maintain records of documents evidencing the identity of its clients and beneficial owners as well as account files and business correspondence relating to its clients.

Every information maintained, furnished or verified as above shall be kept confidential.
The records mentioned above shall be maintained for 5 years from the date of the transaction.
The Central Government has the power to exempt any reporting entity from the provisions of this section.

4.2 Powers of Director to impose fine [Section 13]

A director can call the records from the bank, financial institutions and intermediary. If the Director finds that the bank, financial institutions and intermediary have not complied with the provisions of Section 12, he can impose a fine of ` 10,000 to ` 1,00,000.

4.3 No civil or criminal proceedings against the reporting entity [Section 14]

If the bank, financial institutions and intermediary supply the information, no civil proceedings can be taken against them for furnishing information to the Authority.

4.4 Procedure and manner of furnishing information by reporting entities [Section 15]

The Central Government in consultation with the RBI may prescribe the procedure and the manner of maintaining and furnishing information by a reporting entity for the purpose of implementing the provisions of the Act.

5. Summons, Searches & Seizures

5.1 Power of survey [Section 16]

An authority has the power to enter any place on having reason to believe that an offence of money laundering has been committed.

Such authority can place marks of identification on the records inspected by him and make or cause to be made extracts or copies, make an inventory of any property checked or verified by him and record the statement of any person present in the place which may be useful for any proceedings under the Act.

5.2 Search & Seizure [Section 17]

Director, Joint Director or Deputy Director may authorize any officer subordinate to them:

(a) To enter and search any building, place, vessel, vehicle or aircraft where he has reason to suspect that such records or proceeds of crime are kept.
(b) To break and open the lock of any door, box, locker, safe, or almirah where the keys are not available.
(c) To seize any record or property found as a result of such search.
(d) To place marks of identification on record or property or make extracts or copies.
(e) To make a note or an inventory of record or property.
(f) To examine on oath any person, who is found to be in possession or control of any record or property, in respect of all matters relevant to investigation.

In case of scheduled offence search shall be conducted only when a report has been forwarded to a Magistrate or a complaint has been filed by a person authorized to investigate scheduled offence before a Magistrate.

Where it is not practicable to seize a record or property, the authorized officer may make an order to freeze such property.

Immediately after search and seizure or upon issuance of a freezing order, the authority shall forward a copy of the reasons so recorded along with the material in his possession to the Adjudicating Authority in a sealed envelope in the prescribed manner.

5.3 Search of persons [Section 18]

Authorized authority may search person and seize record or property which may be useful for or relevant to any proceedings under the Act.

5.4 Power to arrest [Section 19]

The Director, Deputy Director, Assistant Director, or any authorized officer may arrest such person and inform him of the grounds for such arrest.

Immediately after the arrest of a person, information will be provided to the Adjudicating Authority, in a sealed envelope.

Every person arrested shall be taken before the Magistrate within 24 hours.

5.5 Retention of property [Section 20]

• • Where any property has been seized during the search be retained or if frozen, may continue to remain frozen, for a period not exceeding 180 days from the date of seizure or frozen as the case may be.
  • Immediately after passing an order for retention or continuation of freezing of the property, the officer authorized by the Director shall forward a copy of the order along with the material in his possession to the Adjudicating Authority in a sealed envelope in the prescribed manner.
  • On the expiry of a period of 180 days, the property shall be returned to the person from whom such property was seized or whose property was ordered to be frozen.
  • The Adjudicating Authority may retain or allow to continue to freeze property beyond 180 days if he is satisfied that the property is prima facie involved in money laundering.
  • After passing the order of confiscation, the Court or the Adjudicating Authority shall direct the release of all property other than the property involved in money laundering.

5.6 Retention of records [Section 21]

• • Where any records have been seized or frozen, the investigating officer may continue to seize or may allow to remain frozen records for a period of 180 days if he has reason to believe that any of such records are required to be retained for any inquiry under the Act. However, copies of records can be obtained on request.
  • On the expiry of 180 days, the records shall be returned to the person from whom such records were seized or whose records were ordered to be frozen.
  • After passing of an order of confiscation, the Adjudicating Authority shall direct the release of the records to the person from whom such records were seized.
  • Where an order releasing the records has been made, the Director or authorized officer may withhold the release of records for a period of 90 days from the date of order, if he is of the opinion that such record is relevant for making an appeal.

5.7 Offences to be cognizable and non-bailable [Section 45]

• • Every offence is punishable under the Act to be cognizable.
  • A person accused of an offence shall not be released on bail or on bond unless the Public Prosecutor has been given an opportunity to oppose the application for such release.
  • If the Public Prosecutor opposes the application then bail can be granted only when the Court is satisfied that there are reasonable grounds for believing that he is not guilty of an offence and that he is not likely to commit any offence while on bail.
  • A person, who is under the age of 16 years, is a woman or is sick or infirm, or is accused either on his own or along with other co-accused of money laundering a sum of less than ` 1 Crore may be released on bail if the Special Court so directs.
  • The Special Court shall not take cognizance of any offence punishable u/s 4, except upon a complaint in writing made by the Director or any officer of the Central or State Government authorized by a general or special order.
  • No police officer shall investigate an offence under the Act, unless specifically authorized, by the Central Government by a general or special order.

6. Know Your Customer

6.1 Know Your Customer (KYC)

In terms of the guidelines issued by the RBI on 29th November 2004 on Know Your Customer (KYC) Standards/Anti Money Laundering Measures, all banks are required to put in place a comprehensive policy framework covering KYC Standards and AML Measures. RBI introduced KYC guidelines for all banks.

KYC enables banks to know/ understand their customers and their financial dealings to be able to serve them better and manage their risks prudently.

6.2 Objective of KYC Guidelines

The objective of KYC guidelines is to prevent banks from being used, intentionally or unintentionally, by criminal elements for money laundering activities. KYC procedures also enable banks to know/understand their customers and their financial dealings better which in turn helps them manage their risks prudently. Banks should frame their KYC policies incorporating the following four key elements:

• • Customer Acceptance Policy.
  • Customer Identification Procedures.
  • Monitoring of Transactions.
  • Risk management.

6.3 Meaning of Customer

For the purpose of KYC policy, a ‘Customer’ may be defined as:

• • A person or entity that maintains an account with the bank
  • The beneficial owner
  • Beneficiaries of transactions conducted by professional intermediaries, such as Stock Brokers, CA, Solicitors etc. and
  • Any person or entity connected with a financial transaction which can pose significant reputational or other risks to the bank.

6.4 Need for KYC

KYC is done to establish the identity of the client. This means identifying the customer and verifying his/her identity by using reliable, independent source documents, data or information. For individuals, banks are required to obtain identification data to verify the identity of the customer, his address/location and his recent photograph. This is to be done for the joint holders and mandate holders as well.1

For non-individuals, banks need to obtain identification data to:

• • Verify the legal status of the legal person/entity
  • Verify the identity of the authorized signatories and
  • Verify the identity of the Beneficial owners/ controllers of the account

Thus, KYC is done to ensure that sufficient information is obtained on the nature of employment/business that the customer does/expects to undertake and the purpose of opening an account

6.5 When does KYC apply?

KYC is carried out at the following stages:

• • Opening a new account
  • Opening a subsequent account where documents as per current KYC standards have not been submitted while opening the initial account.
  • Opening a Locker Facility where these documents are not available with the bank for availing the Locker facility holders.
  • When the bank feels it necessary to obtain additional information from existing customers based on the conduct of the account.
  • When there are changes to signatories, mandate holders, beneficial owners etc..
    KYC is also carried out with respect to non-account holders approaching the bank for high-value one-off transactions.

6.6 Obligation of banks on KYC policy as per the guideline issued by the RBI

The objective of Know Your Customer (KYC) Norms/Anti-Money Laundering (AML) Measures/Combating of Financing of Terrorism (CFT) guidelines is to prevent banks from being used, intentionally or unintentionally, by criminal elements for money laundering or terrorist financing activities. KYC procedures also enable banks to know/understand their customers and their financial dealings better which in turn helps them manage their risks prudently.

Obligation of Banks:

• • Banks should keep in mind that the information collected from the customer for the purpose of opening of account is to be treated as confidential and details thereof are not to be divulged for cross-selling or any other like purposes. Banks should, therefore, ensure that information sought from the customer is relevant to the perceived risk, is not intrusive, and is in conformity with the guidelines issued in this regard. Any other information from the customer should be sought separately with his/her consent and after opening the account.
  • Banks should ensure that any remittance of funds by way of demand draft, mail/telegraphic transfer or any other mode and issue of traveller’s cheques for a value of ` 50,000 and above is effected by debit to the customer’s account or against cheques and not against cash payment.
  • Banks should ensure that the provisions of the Foreign Contribution (Regulation) Act, 1976, wherever applicable are strictly adhered to.
  • Bank should maintain and preserve records and information

(a) Records relating to the identification of customers and address

(b) Nature of Transaction

(c) Amount of transaction

(d) Date of Transaction

(e) Parties to the transaction

6.7 Certain powers of the Central Government [Section 51A of the Unlawful Activities (Prevention) Act, 1967]

Central Government has issued an Order detailing the procedure for implementation of Section 51A of the Unlawful Activities (Prevention) Act, 1967 relating to the purposes of prevention of, and coping with terrorist activities.

Certain powers of the Central Government [Section 51A of the Unlawful Activities (Prevention) Act, 1967]: For the prevention of, and for coping with terrorist activities, the Central Government shall have power to –

(a) Freeze, seize or attach funds and other financial assets or economic resources held by, on behalf of or at the direction of the individuals or entities listed in the Schedule to the Order, or any other person engaged in or suspected to be engaged in terrorism.
(b) Prohibit any individual or entity from making any funds, financial assets economic resources or related services available for the benefit of the individuals or entities listed in the Schedule to the Order or any other person engaged in or suspected to be engaged in terrorism.
(c) Prevent the entry into or the transit through India of individuals listed in the Schedule to the Order or any other person engaged in or suspected to be engaged in terrorism.

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