CFE Exam Quiz 18

Money laundering is the process through which criminals mask illicit assets as legitimate assets that they have a right to possess and spend. Here, assets refer to that which is physical, intangible, or represented in the form of rights or obligations, such as a pension or trust fund.

The stages of money laundering are: PLACEMENT, where the laundered introduces his illicit money into the financial system; LAYERING, where the launderer moves the illegal money around by using layers of financial transactions aimed at confusing the audit trail; INTEGRATION, here the laundered money is integrated into the economy in such a way that it appears as an asset of a legitimate business.

Overstating revenues occurs when the money launderer records more income on a business’s books than the business actually generates. The fictitious revenue accounts for the illegal funds that are secretly inserted into the company.

Overstating expenses can be accomplished using various methods. Some examples include: Having imaginary employees, Fictitious fees, and Inflated invoices.

There are various methods to launder money in the real estate industry. Some of the common schemes include:
1. Loan-back schemes
2. Mortgage schemes
3. Shell entities
4. Appraisal fraud
5. Monetary instruments

Closed-loop prepaid systems are those where the user may only use the stored value to purchase items from the issuing organization or its affiliates. Also, they may not be redeemed for cash, even at the issuing organization.

The most attractive aspect of prepaid items to money launderers is that issuers of these items and the people who use them are under relatively fewer regulatory restrictions than traditional financial institutions and banking customers. Prepaid items also offer a greater degree of potential anonymity than basic credit or debit cards.

Money services business (MSB) is a term used to define a regulatory class of non-depository financial service providers that transmit or convert money. It generally includes any business that operates in any of the following capacities: Currency exchangers; Check cashers; Money transmitters; Prepaid assess providers etc.

The function of transporting money to a site where it is converted into another form of currency is carried out by couriers.

Alternative remittance systems (also called parallel banking systems) are methods of transferring funds from a party at one location to another party without the use of formal banking institutions. Here, there is lack of direct physical or digital transfer of currency from the sender to the receiver. Instead, the payer transfers funds to a local broker who has a connection to another broker in the region where the payee is located.

Money launderers usually purchase investments in amounts considered beyond the customer’s apparent means.

The UN established the Global Programme a gainst Money Laundering (GPML), which provides member states with assistance to comply with international Anti Money Laundering standards.

The Financial Action Task Force on Money Laundering (FATF) is one of the three leading international organisations fighting against money laundering. The others include: UN and Egmont Group.

There were originally 40 FATF recommendations regarding money laundering. Shortly after the World Trade Center attack in 2001, the FATF mandate was expanded beyond money laundering to support the worldwide effort to combat terrorist financing (CFT). Eight Special Recommendations on Combating Terrorist Financing were initially adopted but later revised in 2004 and expanded to the Nine Special Recommendations.

Within certain limits, countries and institutions are free to determine the extent of measures appropriate to the specific risk of money laundering or terrorist financing they face. However, all countries are required to (1) establish a financial intelligence unit to receive suspicious transaction reports, (2) designate law enforcement agencies for AML/CFT investigations, and (3) involve financial supervisors in AML/CFT initiatives.

The Financial Action Task Force on Money Laundering (FATF) recommendations defined financial institutions to include: Depository and lending institutions (i.e., traditional banks); Money services businesses; Financial guarantors; Securities brokers or traders, including those who trade in exchange, interest rate, and index instruments; Security issuing services; Investment portfolio managers etc.

The FATF recommendations broadened the parties that should file suspicious transaction reports to include designated nonfinancial businesses and professions (DNFBPs) like:
1. Casinos (including Internet- and ship-based casinos)
2. Real estate agents
3. Dealers in precious metals and stones
4. Legal professionals at professional firms (not internal legal professionals)
5. Trust and company service providers

The Egmont Group is an informal international network of financial intelligence units (FIUs) designed to fight money laundering by encouraging global cooperation and mutual exchange of information. It exists to increase the sharing of information and coordination between FIUs, and also, offers training for FIU personnel.

The European Commission enforces several European Union (EU) policies that involve anti-money laundering efforts. The most prevalent is the Third Anti-Money Laundering Directive (Third Directive). This Directive does not only apply to the financial sector. It is also, applicable to lawyers, notaries, accountants, real estate agents, casinos, company service providers, as well as all providers of goods when cash payments are made or received in excess of €15,000 (the Fourth Directive, which has now replaced this directive, lowers this threshold to €10,000).

Generally, there are two components to an effective KYC program. First, a financial institution should identify and conduct background checks on all customers opening an account to prevent the creation of fictitious accounts. Second, financial institutions should monitor existing customers’ activity to recognize when customers might be involved in suspicious activity.

The Office of the Superintendent of Bankruptcy (OSB) is a federal agency that seeks to protect the integrity of Canada’s bankruptcy and insolvency system.

A bankruptcy trustee is a neutral professional assigned to administer an estate in bankruptcy.

Liquidation is one of the common bankruptcy proceedings and involves a process that allows the debtor to get a court or administrative order under which some or all of his debts may be eliminated.

Reorganization bankruptcies seeks to give the debtor some rest from creditors so that it can reorganize its financial affairs and continue as a going concern. This is unlike liquidation which aims at giving the debtor a fresh start.

Some common bankruptcy schemes include: concealed assets; the planed bustout and credit card bustout; multiple filings; forged filings; typing services or petition mills.

A bustout is a planned and fraudulent bankruptcy scheme which usually involves an apparently legitimate business ordering large quantities of goods on credit, and then disposing of those goods through legitimate or illegitimate channels. Since the point of the bustout scheme is to quickly resell the goods for cash, the fraudster is much more likely to purchase more liquid items like inventory. Organised crime is occasionally involved.

A cross-border insolvency is an insolvency in which the insolvent debtor has assets in more than one country or where some of the insolvent debtor’s creditors are from different countries.

The World Bank principles are based on certain propositions which include:
1. Effective systems respond to national needs and problems
2. Transparency, accountability, and predictability are fundamental to sound credit relationships
3. Legal and institutional mechanisms must align incentives and disincentives across a broad spectrum of market-based systems

The World Bank principles mphasize contextual, integrated solutions, and the policy choices involved in developing those solutions.

The ability to own and freely transfer ownership interests in a property is one of the key pillars of a modern credit economy.

Insolvency systems aim at preventing (not promoting) the premature dismemberment of a debtor’s assets by creditors seeking quick judgement.

Most bankruptcy processes, whether through a court or otherwise, involve granting a person or group administrative powers to oversee the processes. The name of this appointee varies among jurisdictions, but often is called the administrator, trustee, receiver, examiner, or supervisor.

The World Bank Principles recommend that the administrator of a bankruptcy process have broad powers, including:
1. Right to cancel fraudulent contracts or transactions entered into by the debtor;
2. Powers to collect, preserve, and dispose of the debtor’s property;
3. Ability to interfere with contracts to meet the objectives of the insolvency process;
4. Powers to examine the debtor, the debtor’s agents, or other people with knowledge of the debtor’s affairs and compel them to provide relevant information.

There are typically three preferred approaches in reorganization proceedings: 1. Exclusive control of the proceeding is entrusted to an independent insolvency representative.
2. Governance responsibilities remain invested in management.
3. Supervision of management is undertaken by an impartial and independent insolvency representative or supervisor.

Under the second and third approaches, complete administration power should be shifted to the insolvency representative if management proves incompetent, negligent, or has engaged in fraud or other misbehavior.

The institutional framework has three main elements:
1. The institutions responsible for insolvency proceedings
2. The operational system through which cases and decisions are processed
3. The requirements needed to preserve the integrity of those institutions.

The main features and principles of a modern reorganisation proceeding includes:
Plan voting and consideration; plan voting and approval; plan implantation and amendment; discharge and binding effects; plan revocation and closure.

Securities fraud refers to deceptive practices in the purchase or sale of securities, and the term covers a broad range of illegal activities.

One of the most elaborate definitions of security is set forth in the two main pieces of federal securities law in the United States: the U.S. Securities Act of 1933 and the U.S. Exchange Act of 1934.

The Certified Fraud Examiner always should consult with legal advisors if legal questions arise during a fraud examination.

The success of an investigation hinges on the fraud examiner following the proper legal procedures, whether dealing with a suspect’s rights, collecting documents, or interviewing witnesses.

Tax avoidance refers to a legal means of lowering one’s tax bill through legitimate deductions, credits, and shelters.

The most important distinction in determining whether an individual or company has committed tax evasion is whether the party acted with criminal intent. Intent is a mental attitude with which an individual acts. To establish criminal liability for tax evasion, most jurisdictions require a willful attempt to evade or defeat taxes in an unlawful manner.

For the purpose of tax law, a good faith or legitimate misunderstanding of the law based on the law’s complexity typically negates willfulness (the voluntary, intentional violation of a known legal duty).

It’s important to keep in mind that the presence of willfulness is important for determining criminal liability for tax fraud, but violations of proper tax procedures can still result in fees and interest penalties. Honest mistakes and misinterpretations of the law will usually not prevent such fines.

Tax shelters are investments that are designed to yield a tax benefit to the investor. Such investments are made to produce tax write-offs, generate deductions, or convert ordinary income into capital gains taxed at a lower rate.

Circumstantial evidence is evidence that tends to prove or disprove facts in issue indirectly, by inference.
Certain circumstances constitute circumstantial evidence of tax fraud, including:
1. Illicit income, which can be proved by showing that the subject’s assets or expenditures for a given period exceed that which can be accounted for from admitted sources of income
2. Income in excess of deposits (e.g., audits of service industry people in Texas led to assessments of several thousand dollars in back taxes and penalties).

Some common types of tax evasion schemes include:
1. Income and wealth tax evasion
2. Falsifying tax deductions
3. Tax credit schemes
4. Consumption tax schemes

Common forms of criminal income and wealth tax evasion include:
1. Failing to submit a report of one’s taxable income, if such a report is required
2. Intentionally misrepresenting one’s income or wealth
3. Pretending to transfer assets to another person or entity to lower tax liability
4. Intentionally failing to withhold the taxable portion of an employee’s income, if so required
5. Failing to report foreign bank accounts or other taxable assets, if required
6. Falsely claiming income was earned in another jurisdiction to lower tax liability

Consumption taxes are those collected from the proceeds of the sale of goods or services.

Tax credits are an amount subtracted from a person’s or entity’s tax liability, but are not necessarily tied to an expense. It’s important to note that some tax credits might result in a tax refund; if the credits are greater than the person’s total tax liability.

Some of the common consumption taxes are: sales tax, VAT, excise tax.

Claim of right doctrine describes a situation where a taxpayer may seek to avoid a tax by claiming that he does not have an unrestricted right to the money at issue (or evade the tax by claiming that his rights are restricted when in fact they are not).

In common law jurisdictions, employees may have a duty to preserve relevant information. A breech of this duty occurs when information that is relevant to anticipated or existing litigation is lost, destroyed, or otherwise made unavailable.

Using the data collected for another purpose violates the principle of finality. This principle states that: The data must be collected for a specific, explicit, and legitimate purpose and not used for any other purpose.

The right to remain silent is centered on the right of those who are suspected of committing a crime to refuse to answer questions by the government when the questioning occurs under the threat of judicially imposed punishment. It is, however, not applicable when someone is being questioned by a private party acting on its own. This right can be exercised at both the investigative and trial stages of a criminal case.

The right to be free from unreasonable searches and seizures only protects individuals from actions by government authorities.

Defamation refers to the unprivileged publication of false statements about a person that causes harm to that person’s reputation.
When the statement is in writing, it is called libel whereas spoken statements are referred to as slander.

To successfully make a case of defamation, the plaintiff must generally prove all of the following elements:
1. The defendant made an untrue statement of fact.
2. The statement was communicated (published) to third parties.
3. The statement was made on an unprivileged occasion.
4. The statement damaged the subject’s reputation.

To establish liability for public disclosure of private facts, the plaintiff must prove all of the following elements:
1. The defendant made public statements about another party’s private life.
2. The statements were not of public concern.
3. The statements would be highly offensive to a reasonable person.

Even if the statement at issue is true, liability can still arise.

To recover for a claim of false imprisonment, the plaintiff generally must prove all of the following elements:
1. The defendant used words or actions intended to restrain the plaintiff.
2. The defendant’s words or actions resulted in the restraint of the plaintiff without the plaintiff’s consent (i.e., against the plaintiff’s will) and without legal justification.
3. The plaintiff was aware that he was being restrained.

An employee is said to be wrongfully discharged when his/her employer terminates the employment for an improper reason (e.g., discrimination) in violation of actual or implied employment contract or company policies.

Criminal law deals with offenses of a public nature, whereas civil law is the body of law that provides remedies for violations of private rights.

A custodial arrest occurs whenever a government officer has a person in custody, meaning an officer has indicated that the person is not free to leave.

The ICCPR recognises the right to fair hearing; presumption of innocence; right to appeal; right to be informed of charges; freedom from improper arrest etc.

A defense is an assertion by a defendant that seeks to explain away guilt (or liability for damages in civil proceedings).

Under FSMA, an investment is a regulated activity that is specified in the classes of activity and categories of investment in Part II of Schedule 2 to the FSMA. Securities, Deposits, Loans on lands, Options, and Futures are some examples.

Securities as outlined by the Securities Services Act excludes (i) money market instruments except for the purposes of Chapter IV; and (ii) any security contemplated in paragraph (a) specified by the registrar by notice in the Gazette.

The types of investments most commonly recognized as securities include: stocks, bonds, and certificates of deposit (CDs).

A Bond is a certificate of debt issued by a government or corporation guaranteeing payment, plus interest, on the original investment by a specified future date.

Derivatives are financial instruments whose value is based on an underlying asset or economic factor. Example, futures and options.

Cash settlement is a method of settling futures contracts by cash rather than by physical delivery.

The primary means of fulfilling one’s obligation under a future’s contract is to enter into an offsetting contract. Through this process, a purchase of futures contracts is liquidated through the sale of an equal number of futures contracts with the same delivery month, thus closing out a position.

An option contract confers a right — not an obligation — to the option buyer to take delivery of the underlying asset and imposes obligations on the option seller. This is the major difference between the options and futures contracts.

A call option is the right, but not the obligation, to purchase the underlying security at the strike (exercise) price by the option’s expiration date.

There are various styles of options. These include: American options, European options, Exotic options, and Plain vanilla options.

The European option may only be exercised on expiration.

To have any intrinsic value, an option must be in the money. Out of the money options have only time value.

A call option is in the money when the price of the underlying security exceeds its strike price.

Many fraudulent schemes involving exotic investments can be argued to constitute the offer or sale of investment contracts. Some of them frequently qualify as investment contracts, example: Ponzi schemes; Illegal pyramid schemes; Prime-bank note schemes; Investment schemes involving precious metals or stones; Viaticals etc.

The leading global definition of an investment contract provides that a contract, transaction, or scheme is an investment contract if all of the following four elements are met:
1. There is an investment of money or other asset.
2. The investment is in a common enterprise.
3. The investment was made with expectations of making a profit.
4. The profits are to come solely from the efforts of people other than the investor.

A Ponzi scheme is generally defined as an illegal business practice in which new investors’ money is used to make payments to earlier investors.

In disproportionate royalties, insiders might be assigned the majority of royalties while investors receive only a small portion.

Self dealing describes the situation where a promoter declares a good well dry so he can enjoy the profits of a productive well later when the investors have given up. On the other hand, dry holes describe a situation where the promoter completes dry holes (wells drilled for oil or gas but without yield) primarily to improve his completion record and collect completion funds from investors.

Invalid lease is a form of misrepresentation in the oil, gas and mineral interests where the promoters frequently do not have a valid mineral rights lease.

A promissory note is a contract in which one party (the maker or issuer) makes an unconditional promise in writing to pay a sum of money to the other party (the payee), under specific terms, at a stated time, or on demand of the payee.

The primary purpose of the securities regulation is to balance the need of businesses to raise capital against the need to protect investors.

Securities exchange (stock exchange) is a market in which stocks, bonds, and other securities are traded.

There are numerous international bodies involved in the regulation or governance of international securities trading. The most important of these are the Basel Committee on Banking Supervision (Basel Committee), the International Organization of Securities Commissions (IOSCO), and the International Accounting Standards Board (IASB).

The Basel Committee on Banking Supervision (not the IOSCO) aims to enhance understanding of key supervisory issues and improve the quality of banking supervision worldwide.

The IOSCO Principles are based on the following three objectives:
1. Investor protection
2. Ensuring fair, efficient, and transparent markets
3. Systemic risk reduction

The IOSCO principles are grouped into nine categories to enable practical implementation. The principles for issuers are:
1. There should be full, timely, and accurate disclosure of financial results and other information that is material to investors’ decisions.
2. Holders of securities in a company should be treated in a fair and equitable manner.
3. Accounting and auditing standards should be of a high and internationally acceptable quality.

The powers of ESMA include:
1. Creating drafts of technical standards that are legally binding on EU members
2. Dispute resolution between national securities authorities
3. Prohibiting financial products that threaten financial stability
4. Supervision of credit rating agencies
5. Carrying out on-site inspections
6. Entering into administrative agreements with supervisory authorities
7. Monitoring systems risk of cross-border financial institutions

Churning is the excessive trading of a customer account to generate commissions while disregarding the customer’s interests.

Selling away is a securities fraud scheme that occurs when an investment professional (e.g., a registered representative, stock broker, or financial advisor) trades, or solicits the trade of, securities not held or offered by the brokerage firm with which he is affiliated.

The following red flags might indicate that an entity is operating a security business without the proper license or registration:
1. Presence of previous criminal records
2. Unexplained gaps in a promoter’s work history
3. Previous complaints from customers
4. A history of regulatory problems
5. Questionable credentials
6. Website lacks background information or contains generic contact information

A block order is an order placed for the sale or purchase of a significant number of securities. Often, a block order occurs when several different accounts are combined on the same order.

Penny stocks are low-priced (usually less than $5), speculative securities that are registered but do not meet the listing requirements of an exchange.

Dual trading is described as a situation whereby order fillers on the exchange floor are allowed to trade for their own account and fill orders for customers.

Inside information is any material, nonpublic information about a security that is not generally available to the public and that could affect the security’s price.

Substantive law defines the type of conduct permissible and the penalties for violation; it is composed of the basic laws of rights and duties.

Constitutional law is the body of law established by a nation’s constitution, and it deals with the fundamental principles by which a government exercises its authority.

The Sixth Amendment affords subjects in a criminal investigation the right to counsel, the right to confront (cross-examine) the witnesses against them, and the right to a speedy trial.

The common law consists of the usages and customs of a society as interpreted by the judiciary; it is often referred to as judge-made law.

International law is enforced primarily through diplomacy and for reasons of courtesy or expediency.

There are two categories of law: substantive and procedural law.

The other major structural system of government, the federal system, features both a government at the center (called the federal government), along with semi-autonomous regional governments (often called states or provinces). Unlike unitary systems, not all governmental powers are held by a central authority.

The European Union is one government body that does not easily fit either a unitary or federal classification. It consists of many countries that are considered autonomous.

Civil law is the body of law that provides remedies for violations of private rights. It is different from criminal law which pertains to crimes against the state.

Judges under common law systems are bound by precedent while judges under civil law systems are bound by the civil code.

Adversarial and inquisitorial judicial processes refer to the approach that courts take to discover evidence in a case.

Adversarial processes are those in which the parties to a proceeding drive the discovery process (the search for evidence). The theory behind this approach is that the competing interests of the parties will serve to expose the relevant facts of the case.

Jurisdiction is the power of a court to hear and decide a given case. It refers to both the subject matter and people over which lawful authority may be exercised by a court.

A criminal action is a complaint brought by the government, acting on behalf of citizens and the interest of the jurisdiction, against a person accused of violating a law.

To successfully bring a civil wrong or delict action, there are generally three requirements:
1. A party must owe a duty to another party.
2. The party that owes the duty breaches that duty.
3. The breach results in losses.

The following are some of the principal categories of fraud: perjury, bribery, illegal gratuity, fraudulent and negligent misrepresentation, conflicts if interest, concealment of material facts etc

Illegal gratuities are items of value given to reward a decision, often after the recipient has made the decision.

Larceny is defined as the wrongful taking of money or property of another with the intent to convert or to deprive the owner of its possession and use.

A breach of contract occurs when one party to a contract fails to perform, or announces that it does not intend to perform, his contractual obligations without just cause.

The Organisation for Economic Co-operation and Development (OECD), formed in 1961, is a forum for governments to cultivate and propagate socioeconomic policies that expand world trade, promote sustainable economic development, and improve living standards.

The duty of care means that people in a fiduciary relationship must act with such care as an ordinarily prudent person would employ in similar positions.