PERTH: 30 May 2013 - The inclusion of Westpac Banking Corporation in headlines about the closure of Liberty Reserve has shown just how little is understood among the general public about anti-money laundering rules — and the burgeoning world of digital currencies. News outlets in Australia reported overnight that Westpac had been "caught up in [the world's] biggest ever money laundering scheme" following the U.S. Department of Justice's crackdown on the virtual currency operated out of Costa Rica. The U.S. Treasury said on Tuesday it had indicted Liberty Reserve and its founders under the USA PATRIOT Act as being "specifically designed and frequently used to facilitate money laundering in cyberspace."

The media reports said that U.S. prosecutors had followed a US$6 billion ($A6.26 billion) money laundering trail, which included US$36.9 million ($A38.48 million) held in three Westpac accounts. The coverage implied that Westpac was implicated in the "biggest international money laundering prosecution in history" as a result of operating these accounts. But industry officials told Compliance Complete it was far too early to pass judgment on the bank's involvement. It is still possible that Westpac has honoured its AML/CTF obligations, complied with AML laws and could have even blown the whistle on any wrongdoing.

The Westpac accounts did not belong to Liberty Reserve itself but to Technocash, a Sydney-based money transfer business. According to the facts in the DoJ's indictment, Westpac was acting as an Australian bank for Technocash Ltd, which facilitated the transfer of funds into and out of virtual currencies such as Bitcoin and Liberty Reserve.

According to its own website, Technocash was established 13 years ago with the goal of offering a payment system for multiple currencies, both real and virtual. One of its specialties is helping to collect payments from entities in Australia and New Zealand and passing them through to virtual currency exchanges such as Mt Gox.

"Technocash offers clients the ability to hold real cash funds in their own account," it states. "A valuable feature is the ability to hold many different currencies in your account at one time." 

A United States Secret Service agent who was involved in the case has alleged that the founder of Liberty Reserve was using Technocash Limited to receive funds from LR "exchangers" around the world. Technocash officially facilitates business-to-business international funds transfers. The DoJ has alleged that Technocash had an account with Swiftexchanger, which was in turn acting on behalf of Liberty Reserve.

"From emails I have reviewed, I know that defendant Azzeddine El Amine is theTechnocash accountholder for Swiftexchanger [an LR exchanger based in Costa Rica]. The emails showed that exchanges wishing to purchase Liberty reserve currency wire funds to Swiftexchanger. When Swiftexchanger receives funds in its Technocash account, an email alert is sent to El Amine, notifying him of the transfer," the agent wrote in the DoJ's indictment.

He alleged that from June 2012 through to May 2013, exchnagers doing business with Liberty Reserve sent a total of US$36.9 million to the three accounts held by Technocash at Westpac Bank in Australia. The funds have since been seized.

Sources close to the investigation in Australia told Thomson Reuters that Technocash had been unwittingly swept up in the investigation and were unaware of the allegations against their client, Swiftexchanger, until their Westpac accounts were frozen. 

Technocash itself is licensed by the Australian Securities and Investments Commission with an Australian Financial Services Licence, as required under the Corporations Act 2001. It is also listed on the official AUSTRAC register of remitters. On its website, Technocash lists its Sydney-based directors as Paul Monsted and Raymond Pakalns and says it has a non-executive director in New Zealand named Pierre Mitchell. None of these individuals has been named in the DoJ indictment, nor has anyone else associated with Technocash.

Technocash said in a statement that it was "appalled that the world's largest e-currency exchange, which conducted legitimate currency transfers for business around the world, has at the same time perpetrated what US prosecutors claim is the biggest international money laundering crime in history."

"Technocash is, and always has, fully complied with Australia's anti money laundering and compliance regimes, including AUSTRAC reporting," it added. "Technocash does not have any anonymous transactions or unverified customers. In accordance with its Australian licence requirements, all Technocash accountholders are verified with multi-step procedures." 

A spokeswoman for Technocash told Thomson Reuters: "There is no basis at this stage to suggest that Technocash has engaged in any wrongdoing in operating accounts for the exchanger entities." She said Technocash was helping the authorities with their investigations and had complied with its obligation to file any suspicious transaction reports with AUSTRAC.

Thomson Reuters understands that Technocash still holds accounts with other financial institutions in Australia that have not been frozen. Over the past two days Technocash has continued to provide services to its customers, despite the Westpac account freeze.

Medium of exchange 

The so-called Liberty Reserve "exchangers" were critical to Liberty Reserve (LR) as they added an additional layer of anonymity to the system. Liberty Reserve barred users from depositing funds directly from a regulated bank into its accounts. This ensured there was no "paper trail" to link the beneficial owners to the funds in their Liberty Reserve accounts. 

Instead, Liberty Reserve required clients to transfer the funds through these exchangers, which acted as an additional firewall to protect the identity of the beneficial owners.

"Liberty Reserve users were required to make any deposits or withdrawals through the use of third-party exchangers, thus enabling Liberty Reserve to avoid collecting any information about its users through banking transactions or other activity that would leave a centralised financial paper trail," the DoJ said.

People then signed up to Liberty Reserve with noms de plume such as "Russian Hacker" or "Hacker Account", according to the indictment.

U.S. authorities have seized the Liberty Reserve internet domain (www.libertyreserve.com) but AML compliance staff can still find the list of official LR exchangers on the Wayback Machine Internet Archive. 

Diligence where diligence is due 

Despite the apparent involvement of the Technocash platform as a conduit for LR's funds, Westpac is far from implicated, at this stage, in any of the alleged money laundering involving Liberty Reserve. It may have acted as a banker for Technocash but that does not mean it failed to comply with all of its obligations under the anti-money laundering laws in the jurisdictions in which it operates — most notably Australia.

Given that Technocash was registered by both AUSTRAC and ASIC as a legitimate money transfer business, it seems unlikely that Westpac would be expected to have formed any suspicions during the onboarding process.

The Australian Transaction Reports and Analysis Centre, the local AML regulator, confirmed it was working with U.S. authorities but declined further comment. "AUSTRAC operates under secrecy provisions that limit what we can say about certain matters, particularly operational matters," a spokeswoman said. "AUSTRAC is unable to provide any further information at this stage as it is a current operational matter." 

Westpac, meanwhile, said in a statement that it had "rigorous processes in place to combat money laundering and has been working closely with regulators and law enforcement agencies".

Industry figures said Westpac's comments left open the possibility it has provided suspicious transaction reports that have helped authorities in their investigations. It is also possible that the authorities ordered Westpac to keep the accounts open to avoid tipping off the entities behind Technocash and Liberty Reserve.

Joy Geary, an Australian AML expert, said there was no basis at this stage to suggest that Westpac had engaged in any wrongdoing in operating accounts for Technocash. It was possible that suspicious transaction reports from reporting entities such as Westpac had contributed to the authorities' case against Liberty Reserve, she said. 

"If Westpac had complied with its obligations under the AML/CTF regime, conducted appropriate due diligence on its client Technocash and reported any suspicions to AUSTRAC then there is every chance that it will come out of the Liberty Reserve saga without any regulatory or reputational damage," she said.

Paddy Oliver, an AML lawyer and managing director of Lexcel Consulting in Melbourne, said it was entirely feasible that Westpac had done its due diligence and filed the appropriate transaction reports with AUSTRAC. He said it would be critical in any regulatory follow-up that Westpac was acting as a banker for Technocash, not Liberty Reserve directly.

Oliver said that at times like these a robust AML/CTF compliance framework was the only real defence for a financial institution such as Westpac.

"They may now face the issue of retrospectively proving that any due diligence was competent. Regulators may want to know whether Westpac had appropriate controls at the time when the accounts were set up," Oliver said.

Hugh McDermott, a barrister and senior lecturer in law enforcement at the Australian Graduate School of Policing and Security, said it was too early to say whether Westpac would be implicated in the alleged AML breaches.

"Westpac has no doubt done its customer due diligence on Technocash, which is its client here in Australia. They've got robust AML procedures in place and teams that are dedicated to AML/CTF compliance. So it remains to be seen whether it has done anything wrong at all," McDermott said.

McDermott said many entities had used Liberty Reserve for legitimate business purposes, attracted in some situations by the fact that all transactions using the virtual currency are irreversible. This sets it apart from other mediums of exchange such as Visa, MasterCard or PayPal, which all have policies in place to allow transactions to be appealed and in some cases reversed. There have been numerous instances where retailers have complained in online forums about being defrauded using this payment reversal mechanism.

Any entities that have been using Liberty Reserve for legitimate purposes now face the unenviable task of appealing to U.S. authorities to have their Liberty Reserve funds released.

Knowing your customer 

The question of whether Westpac conducted appropriate due diligence on Technocash will be an interesting one for regulators to address. On deeper inspection, Technocash itself does have a chequered history in Australia. Bitcoin exchange Mt Gox reported in 2011 that National Australia Bank and Bankwest had closed their accounts with Technocash because of fraud and laundering concerns. Prior to their closure, Australian Bitcoin users had been using the accounts to deposit funds which were then converted into and out of Bitcoins using Mt Gox. 

Mt Gox stated following the account closures in 2011: "The accounts were closed as Technocash was receiving an extremely high number of fraud complaints from Australian customers. It appears that a number of criminal elements were using Technocash as a means of laundering funds obtained through credit card and identity theft through various Bitcoin exchanges and then converting any stolen funds into USD for withdrawal internationally."

All of this information should have been available to Westpac during its due diligence on Technocash. The questions that Westpac will have to answer to local authorities, including AUSTRAC, will be why did it continue to act as a banker for Technocash when other institutions had closed their accounts citing AML/CTF concerns? And are its risk assessments calibrated similarly to its peers, when onboarding customers.

The regulator's perspective 

John Schmidt, chief executive of AUSTRAC, told Compliance Complete during an interview earlier this month that virtual currencies were increasingly appearing on its risk radar. AUSTRAC viewed virtual currencies as a new medium of exchange but one that reflected established trends in AML/CTF surveillance and oversight, he said.

"I worked in tax 20 years ago and the methods that are used really don't change — even though the vehicles that are being used change. Now we have digital currencies on the risk side," Schmidt said.

In the case of virtual currencies though, some AML officials have argued the medium does pose a unique threat. In effect, digital currencies can incorporate all the anonymity of cash with all the convenience and layering potential of electronic funds transfers. This creates a fearsome laundering vehicle that is both anonymous and able to cross borders in fractions of a second.

"Virtual currencies are better than cash because they can be transported electronically. They rely on the issuer as being good for the money — but the issuer would be stupid to run off with the funds given the nature of their clients," Geary said.

Schmidt agreed that this aspect of digital currencies represented a new area of risk for AML regulators worldwide. He said AUSTRAC had been looking at Bitcoin in particular to determine the level of risk that it posed in Australia from an AML/CTF point of view.

"The movement of money overseas is always going to be a challenge. The use of the internet is a challenge. We have been looking at Bitcoin. The volume of dollar values of transactions in Australia involving Bitcoin is minuscule but that's not to say that digital currencies won't take on a life of their own," Schmidt told Thomson Reuters. 

He said at this stage the regulator was focusing on the point at which virtual currencies interface with the traditional financial sector.

"At some point the person has to put in real money — as in a government-backed currency or value — to acquire Bitcoin or go through a clearinghouse of some sort at the other end. At some point they will want to get that value out and use it for whatever purpose," Schmidt said.

Closing the loop

While a "closed loop" economy does exist in virtual currencies such as Bitcoin — i.e., the currency is "mined" into existence by computer users and goods or services can be bought directly in Bitcoins — it is still relatively limited. This means that anyone who is using a virtual currency as a laundering vehicle will inevitably want to exchange their e-money for hard currency or assets at some stage. Even in the case of "closed loop" transactions involving drugs, AUSTRAC has had some success in tracking money flows into and out of digital currencies such as Bitcoin.

Schmidt said that AUSTRAC had supported the police with law enforcement work on drug dealers who use platforms such as Silk Road to trade illicit substances online. He said AUSTRAC's intelligence had been critical.

"There have been prosecutions, most recently in Victoria, with drug purchases using Silk Road which only accepts Bitcoin, as I understand it. We have been able to monitor transactions going into and out of Bitcoin at that interface with the more mainstream financial market," Schmidt said. "It's something we talk about without overseas colleagues, it's something we are looking at and we will continue to monitor."

McDermott, on the other hand, argued that virtual currencies represent a new force in money laundering and there was little doubt following the Liberty Reserve arrests that organised crime groups are deeply involved in using virtual currencies to launder funds. "That's a huge challenge for law enforcement — it's at the forefront of the new ways to launder money. Law enforcement agencies are starting to catch up with it but financial institutions and other reporting entities have to modify their AML/CTF programs to meet this challenge, which is huge," he said. 

He said in the fight against virtual laundering it would ultimately be reporting entities that act as the front line in delivering intelligence to law enforcement agencies via their suspicious transaction reports.  _{"The reality is that law enforcement agencies aren't the ones who are catching these people. It's usually financial institutions that tip them off. So whatever's happened with Liberty Reserve, it's highly likely that transaction reports from financial institutions have actually been instrumental in pulling together the law enforcement case," McDermott said.}

THIS PIECE WAS ORIGINALLLY PUBLISHED BY THOMSON REUTERS ACCELUS COMPLIANCE COMPLETE WWW.COMPLINET.COM ON 30 MAY 2013 AND IS REPOSTED WITH PERMISSION