Wednesday, September 14, 2011

White Money, Black Money and Dirty Money

The recent debate over Corruption and Money hoarded in secret accounts of Swiss Banks has made it necessary to take a look at different colours of Money.

What is the colour of Money? It may be Greenback as US dollar is called and well known. It may be Redback as an Indian 20 rupee note is. But any Money can be broadly classified into three categories;  White, Black and Dirty.

This classification arises from two important factors - Whether the money is accounted for? And whether the money is obtained by Legal means? Or in other words, whether the Money attracts Civil action or Criminal action by competent authority?

Any money generated by legitimate economic activity or earned by selling goods or services etc. and also properly accounted and reported to the respective authorities is White Money. Or Simply called money, as nobody refers to it as White Money. This is the money that is properly accounted in the books of accounts of the holder and duly declared to the respective authorities like Income Tax in India and Bureau of internal Revenue in France or IRS in USA etc. Similarly, amounts declared to Border Security authorities when carried to another sovereign country or territory. Nothing to hide. Any person or organisation holding such money need not be afraid of either civil action or criminal action from any authority. This is the expectation of any civilised and law abiding society.

Money generated by legitimate economic activity or selling of goods and services etc, but not accounted in the books of accounts of the holder and withheld from reporting to the competent authority like Income tax or IRS is called Black Money. The Mens Rea (Mens Rea in Latin means "Guilty of Mind") here is to withhold payment of prescribed tax to the Government and increase one's income or wealth to that extent. Non-payment of prescribed taxes is an offence under the Tax laws of any country and attracts civil liability in the form of demand made for payment of amount of tax evaded and also an additional amount levied as fine or penalty. However, persistent or repeated violation of declaring the income or wealth properly may also lead to criminal liability as per the laws of respective countries. However, it should be appreciated that such provisions are basically to deter the citizens from concealment of income, but not a revenue raising measure as with levy of regular taxes.

Money generated by illegal activity per se is Dirty Money. Examples of such money can be money generated by Drug peddling, Arms dealing (excluding dealing in arms as per licence obtained from an authority established by law like Fire Arms Control Authority), Bribe Money, funds raised for terrorist activities etc. In creating or dealing with Dirty money, law of the land are violated at every stage and each of such actions at every stage attracts criminal liability and punishable as a criminal offence. Persons or Organisations generating or dealing in such Money have to be in perennial fear of law enforcement authorities. 

Holders of Dirty Money make efforts to convert such money into White money, but it is not a simple issue. Holders of Black Money may declare the quantum of concealed income or wealth well before detection by the competent authority and get away from the sin by paying the prescribed taxes and penalty and breath easy. Not so in the case of Dirty Money. Just as dirty clothes are to be laundered and changed to clean clothes for re-use, Dirty Money requires laundering and hence the term "Money Laundering". Money laundering means disguising illegal sources of money so that it would appear having received from legal sources. By the process of Money Laundering taint attached to such money is sought to be removed so that the money can be utilised like legal money.

Methods used for "Money Laundering" make an interesting study. There are many methods of  Money Laundering but all of them consist of three major steps. The first step is called Structuring or Placement which involves introducing Dirty Money into financial system by some method or combinations of various methods explained below. The second step is to carry out complex financial transactions in order to camouflage the illegal sources. The third step is to retrieve the money and acquire wealth generated from such transactions. The second and third step involves transfer of funds to different accounts in a series of transactions so that tracing of the source becomes almost impossible.

Some of the interesting methods adopted for Money Laundering are as under:


  • Smuggling of bulk amounts in cash to another jurisdiction or country or a country with higher secrecy laws.
  • Purchasing bearer instruments/securities in small amounts and later depositing them elsewhere again in small amounts.
  • Breaking funds into small lots of deposits (below reporting levels) to defeat the provisions of Anti Money Laundering reporting.
  • Transfer of money to shell companies or entities in Tax havens like Mauritius, Bahamas, Cayman islands, Liechtenstein etc.
  • Carrying on cash intensive business and adding illegal money to increase volume.
  • Over invoicing goods or services and meeting the extra charged through illegal money.
  • Converting Dirty money to white money by using Casinos.
It is interesting to note that cash intensive business can be used for generating black money as well as Money Laundering. Under reporting of proceeds received by sale of goods results in unaccounted or Black Money. Over reporting of receipts and adding illegal money to meet the deficit becomes Money Laundering. Similarly, under invoicing and receiving the difference in value overseas or in another territory creates black money whereas over invoicing and meeting the deficit through dirty money results in Money Laundering.
Conversions through Casinos and Real Estate makes interesting study. A person having Dirty Money can go to a Casino and buy chips or gamble using it and then seek refund of the remaining chips or credit. The payment for such amounts can be obtained by means of a cheque and the same can be later deposited in a bank account as genuine winnings from gambling. Purchase of Real Estate with part of illegal money and later realising the amount by sale of Real Estate also provides a source for Money Laundering.

An inter-governmental organisation by name FATF (The Financial Action Task Force) or GAFF (Groupe d'action Financiere - in French) has been set up as early as in 1989 as a part of G-7 countries initiative for the purpose of developing policies to combat Money Laundering and terrorist financing. The FAFT functions from the secretariat of OECD (Organisation for Economic Co-operation and Development) headquarters in Paris, France. One of the directions given by the FAFT to all Commercial Banks is to report any suspicious transaction as well as big transactions beyond a cut-off limit to the designated authority (usually a cell in the Central Bank of the country like RBI in India or FED in USA). Once the transaction is reported, the designated authority takes up the next stages of tracing and monitoring the money. Anti Money Laundering Acts have been enacted by many governments.

Money laundering has come to sharp focus after 9/11 terrorist attacks on World Trade Centre in New York, USA. There is a close connection between Dirty Money and terrorist activities even though Money Laundering has much wider ramifications than terrorism alone. FAFT does not give any estimate of Money Laundering and admits that it is impossible to estimate it. However, IMF estimates it to be 2% to 5% of worldwide global economy, an estimate which could be disputed as definite methodology for estimating the same are not available due to the very nature of the money involved. However, it can be safely assumed that the volumes of Money Laundered is an undisputed threat to World economy.

Another term used in dealing with Money is Hawala. Hawala is an informal value transfer system based on a huge networks of brokers and is over 1000 years old. It is said that the hawala system was used in Middle East and parts of India and China as early as 8th Century AD. Hawala by itself is not illegal unless it is banned by the governmental authorities. It is used many times to defeat the payment of commission to banks. In this system money is paid to a hawala operator in one place and his counterpart pays the equivalent value in another place. There will be a series of such transactions and the two hawala operators settle the difference between the sum of transactions over a period of time in a mutually acceptable manner. This method is attractive due to its simple nature and no paper work involved, especially for small amounts and for illiterate persons due to avoidance of regulations. But growth of a strong formal banking system and regulators insistence for routing all financial transactions through approved banking channels has rendered hawala system now being used mostly for illegal transfer of funds, by defeating provisions of various laws.

In a nutshell the nut is in the shell - if you want peace of mind have only one type of Money. The Money or (White) Money. Earn legally, account properly and pay your due taxes. And be Happy! 

5 comments:

  1. Alas, people think that they are happy with Black money,as it gives them power to rule, to rule anybody by their power of Black money and there is no end to their greediness. They are happy to flaunt their wealth shamelessly,never once thinking or asking their conscience,if they are really happy and if there is any justice to their act. Power is money and money is power. Well, I fervently hope that Dr.Anna Hazare's struggle may throw some light on their mind, however dirty they are and bring down the use of black or dirty money to some extent.Thanks Keshav, for the article which indeed threw some light into my mind and to share my comments.

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  2. Kudos on the new blog ;). Look forward to reading more posts about banking/finance/job related experiences etc.

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  3. INFORMATIVE. Nice to read the blog.

    R Jagannathan
    BMSB.

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  4. very nice article sir
    from Abhay (19th batch sec D, BMSB)

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