What’s Wrong with Money Laundering?

Sun, 03 Feb 2013

By Paul Marshall
Quite a lot, actually. This note considers, two recent High Court (QBD) decisions: Shah v HSBC [2012] EWHC 1283 (Supperstone J.) that clarifies the effect of making a ‘consent’ SAR - to the advantage and benefit of banks and solicitors but disadvantage of their customers and clients; and Dare v CPS [2012] EWHC 2074 (Bean J.) that provides an explanation of what it means to ‘facilitate’ a transaction under PoCA s. 328. In addition there is an afterword about the continuing problem of legal privilege that remains a little discussed, but unresolved, problem for solicitors. 
A gap in PoCA filled by an implied term
A central problem facing solicitors and those applying the AML legislative regime under Part 7 of the Proceeds of Crime Act 2002 (PoCA) has its origin in the mists of time and the implementation of the First EU Money Laundering Directive under the Criminal Justice Act 1988 as amended by the CJA 1993. The core problem is that when what is now called a suspicious activity report (or SAR) is made in connection with a transaction or arrangement suspected to fall within s. 328 (i.e. an ‘authorised disclosure’) it becomes illegal to further perform the transaction where it concerns (defined) criminal property. (Technically frustration of the contract by supervening statutory illegality.) The italicised words are key. The transaction will become lawful to perform only after a law enforcement agency (commonly the Serious Organised Crime Agency (SOCA) - until replaced by the National Crime Agency) gives consent to proceed. The structure is commonly referred to as the ‘consent regime’. Though tough and politically attractive, it is doubtful that this was a very good idea. Suspicion is the trigger for a SAR regardless of whether it turns out to be correct. Suspected transactions that are not in reality illegal (i.e. not involving money laundering) are treated as if they were. No other jurisdiction has implemented the EU Directives in a manner similar to the consent regime.
In practice the period before consent is given is quite short and in the overwhelming majority of cases consent is given within a few days. In the meantime if the transaction concerns criminal property the contract is illegal with the consequence that the parties are relieved of performance obligations. There is generally no remedy for non-performance of a contract that has become frustrated by illegality. Scant consideration was given to this ineptly drafted structure when originally introduced in 1993 nor to its implications for bona fide transactions (the Law Commission had no involvement). Remarkably, it attracted little comment, perhaps because the regime from 1993 to 2003 applied, in effect, only to suspected serious indictable offences. For international transactions, life was simplified for banks and those then subject to the 1993 ML Regulations because there was a carve-out (reg. 2(4)) that meant the suspected offence had to be an offence both in English law and under the criminal law of the place where it occurred if this was outside the UK. This represented a significant softening of the potential effects of the consent regime because money laundering is overwhelmingly a transnational phenomenon. The brakes came off with PoCA (which under Part 7 was largely a consolidating statute even though it made money laundering a nominate offence for the first time). Bizarrely under PoCA any offence can be ‘predicate’ for money laundering and conduct that occurred outside the jurisdiction is referable solely to the criminal law of the United Kingdom as to whether it would constitute an offence (so-called ‘single criminality’). This gave rise to the now clichéd, if colourful, prospect of the hapless Spanish Toreador investing his income in the UK property market, where the funds would undoubtedly fall within the definition of ‘criminal property’. But single criminality was in fact the same test as under the CJA 1993 but, because of the carve-out under the 1993 ML Regulations and the laundering offences prior to 2003 only applying to indictable offences, it caused little loss of sleep. After the carve-out was removed from 2003, justifiably, there was loud protest when it was recognised that overseas conduct that would be a technical offence, for example under FSMA 2000 or the Companies Acts, were it to occur here, engaged AML provisions. (An instant and novel extra-territorial criminal jurisdiction for the Companies Court.) Extensive urgent amendments were required, in particular to the reporting obligation under s. 330 so as to render it close to unintelligible save to a determined statutory Alpinist.
A sequence of decisions (notably Squirrell Ltd v Natwest [2005] EWHC 664, Laddie J, and UMBS Online v SOCA [2008] 1 All ER 465, CA) expressed, in more or less measured terms, serious judicial disquiet that reports of suspicion under PoCA gave rise to risk of injustice to those incorrectly suspected of money laundering who suffered harm as a result by their businesses being sterilised pending consent being given. The court observed that Parliament had provided no relief for harm caused to an innocent person subject to a SAR and that the utility of judicial review was limited.
At the heart of the problem is the light trigger for making a SAR, namely ‘suspicion’, and the foreseeable harm that a report may cause to an innocent party (quite apart from the separate issue of an innocent party becoming (often unknowingly) a DPA data subject on the SARs (ELMER) database, only belatedly recognised as an issue in the wake of the ECHR decision in Marper). At one point (after K Ltd v National Westminster Bank [2007] 1 WLR 311 (CA)) it appeared that the mere fact of suspicion provided carte blanche for those making reports, without recourse, even where loss was sustained as a result of suspicion later shown to have been incorrect. 
The conundrum for banks and other makers of SARs (and the customers) is that it not an offence to proceed with a transaction suspected of representing a benefit from criminal conduct when it does not in fact represent such a benefit. It is not the suspicion that taints the property and makes the transaction illegal (and thus frustrates a contract) but, rather, the original actual predicate offence from which the tainted ‘criminal’ property is derived. This legal proposition is a fault line that runs through the present ML arrangements and the rather drastic consequences, for all concerned, of the existence of ‘suspicion’.
Eventually the issue of the availability of damages to an innocent subject of an SAR came to a head in the Court of Appeal’s decision in HSBC v Shah [2010] EWCA Civ 31. Mr Shah claimed damages running to millions against HSBC for allegedly negligently making a SAR which, he said, caused him losses on investments held up (albeit briefly) by the reports and consequential difficulties caused him in South Africa. The bank applied to strike-out Mr Shah’s claim or for reverse summary judgment on the basis that, once suspicion was entertained, that was enough to defeat a claim for damages. The bank, it was contended, was merely doing what the legislation required and if Mr Shah had suffered loss as a consequence that was no responsibility of the bank. In adopting that position the bank understandably relied upon the robust observations of Longmore LJ in K Ltd v Natwest as to the pointlessness of cross examining a person on their suspicion. The Court of Appeal (Longmore LJ again giving the only reasoned judgment) in a decision that seemed to represent a sea change from K Ltd v Natwest (reflecting disquiet in UMBS?) rejected the bank’s application. By a decision that caused widespread concern to banks, the court held that it was a strong thing to shut a person out from a substantial claim at the interlocutory stage and that fairness and justice required that a person who made an SAR should be required to prove the fact of their suspicion at trial (a course that K Ltd v Natwest appeared to discount). So far so liberal - and principled. 
Banks became understandably alarmed at the prospect of, on the one hand being exposed to criminal penalties (a maximum 13 years’ imprisonment on conviction on indictment) for not making an SAR when they ought to have done so, and exposure to claims for damages by aggrieved clients as a consequence of the bank’s suspicion that turned out to be incorrect. The outcome appeared an unappetising calculus of risk of prosecution balanced against a civil claim for damages. 
The problem in Shah
After a bit of further interlocutory skirmishing (including in the Court of Appeal) the trial took place before Supperstone J. who gave judgment in May 2012. The judgment, that came as little surprise, amounts to a vindication of the bank’s original position. The judge accepted the bank’s contention that it was conscientiously seeking to apply the reporting requirements under the PoCA. An interesting feature of the judgment is that the grounds for suspicion were fairly tenuous and what was suspected was quickly established not to be the case. The legal issue that is of interest is the way the judge addressed the conundrum that, however much a transaction is suspected of being tainted, it is not unlawful to proceed with a contract suspected of facilitating the acquisition, retention etc. of criminal property, if the transaction is in fact untainted: R v Geary [2011] 1 Cr App R 8 [2010] EWCA Crim 1925. The point is fundamental and was applied again by the CA in Abida Amir and Urfan Akhtar [2011] EWCA Crim 146. It is a remarkable omission that there is no statutory defence provided under the legislation for a reporter who makes an SAR where a transaction is untainted and accordingly, on the face of it, in breach of contract declines to proceed in the absence of consent (c.f. the position on ‘protected disclosures’ under s. 330). Mr Shah’s case was that since the transaction was not in fact tainted and unlawful (as was soon established) the bank acted unlawfully and in breach of contract in not complying with the mandate. 
In response, the bank contended for the existence of an obvious or necessary contractual term to be implied in the contract of mandate to the effect that the bank was entitled to refuse to execute payment instructions in the absence of appropriate consent from SOCA where it suspected the transaction in question constituted money laundering. Supperstone J conluded: “…I am led to the conclusion that the term for which the Defendant contends is to be implied by reason of the statutory provisions. In my judgment the “precise and workable balance of conflicting interests” in PoCA [………] requires the implication of this term in the contract between a banker and his customer.” It was common ground that there was no precedent for implying a term to this effect. Supperstone J's analysis of the implied term rests upon the supposed balancing of interests that PoCA represents. That is a statement derived from Longmore LJ’s judgment in K Ltd v Natwest when, upon examination of the legislative history, it may not bear the freight that it is required to carry (though an issue well beyond the scope of this note).
The outcome is of comfort to banks and solicitors conscientiously seeking to apply the AML legislation. Until such time as the Court of Appeal considers the issue, it can be said that where a contractual relationship exists, including a solicitor’s retainer, there will be a term implied (as a matter of fact) to the effect that the person making a SAR is relieved of further performance obligations pending consent being given for the transaction to proceed by law enforcement authorities. (The precise scope of the term, however, arguably remains uncertain.)
But the downside for customers and clients is that anyone who suffers loss damage or expense as a result of a SAR having been made that turns out to be incorrect (i.e. the transaction legitimate) is unlikely to have any remedy for suspension of the transaction so long as the reporter can establish that suspicion (however modest) was in fact entertained at the time when the report was made. It is precisely that absence of relief for what may be potentially catastrophic harm that the CA expressed concern about in UMBS Online. It is a little surprising that a term with that effect is to be implied as a matter of fact. 
As to the policy to which PoCA gives effect and the supposed ‘balancing of interests’ that it is said to represent (which is the central element of the learned Judge’s decision on this point), it may be noted that of 247,601 SARs made in 2010-2011 only 13,662 were consent SARs. Interventions as a result of refused consents generated a mere £30.5 million recovered by law enforcement authorities (given consents generated a further £5 million). This is against estimates that organized crime in the UK is worth around £40 billion p.a.. Whether the recovery is worth the disruptive suspensive effect on legitimate, though suspected, transactions, and the costs of operating the system measured against the policy objectives, remains open for debate. The ‘consent regime’ as a whole is arguably only justified to the extent that the interference with contracts (intervention) is successful against stated policy objectives. On the face of it, it is disproportionate, given the costs of implementation.
Facilitating the acquisition, retention or use of criminal property
The judgment of Bean J. in the Administrative Court decision in Dare v CPS (13 July) provides welcome clarification of what was becoming perceived in some circles as a ‘catch all’ provision under PoCA s. 328, the outer boundaries of which were assumed to encompass all manner of conduct. The facts were simple. A received from B, a member of the travelling community in Oxfordshire, C’s car, that had been removed from the roadside, A knowing B not always to have been honest in his dealing with motor vehicles. A received the car having taken the view that he might sell it for around £3,500. B offered to sell it for £800. A took the car for a test drive and asked B if he could have it for a while to see what money he could raise. B agreed. A managed to raise around £500. A’s evidence at trial before the magistrates was that he hoped B would accept a reduced price. No sale took place because the car was recovered by the police who found A’s fingerprints on or in it. A was charged under PoCA s. 328. An offence is committed by a person if he enters into or becomes concerned in an arrangement which he knows or suspects facilitates (by whatever means) the acquisition, retention, use or control of criminal property by or on behalf of another person. 
The findings of the magistrates (case stated) included that A knew or suspected that the vehicle was stolen (as it plainly was at the time) and, further, that:
(a)    After test driving the vehicle A indicated his interest in purchasing it to B, and asked for time to raise the money. Once A had the money he then arranged to meet B for a second time with a view to completing the transaction, albeit for a reduced price. 
(b)    In doing so A ‘entered into an arrangement’ with B within the meaning of PoCA s. 328(1). 
(c)    A’s intention was to sell the vehicle on to another person at a profit. In arranging to purchase the vehicle with that intention, A knew that he was facilitating the acquisition of criminal property by or on behalf of another person.
The findings of fact were not open to challenge but Bean J, rightly it is suggested, was having none of the legal conclusions under (b) and the second sentence under (c) above. The judge reminded himself of the observations of the Court of Appeal in R v Geary (above) that criminal legislation of this kind should be given a natural (i.e. not strained) interpretation. He went on to point out that the arrangement found by the justices was not even a contract of sale, but, rather, an arrangement to meet to negotiate a price. Even had a price been agreed and the car handed over, that would have facilitated, in the future, the acquisition of the car by somebody else. The judge concluded, with refreshing directness: “[10] But the section says that the arrangement must be one which the defendant knows or suspects “facilitates” the acquisition by or on behalf of another person. It does not say “will facilitate”, still less “will probably facilitate” or “may facilitate”. It envisages a snapshot being taken at the moment of the arrangement being concluded so that one can say at that moment that if facilitates (present tense) the acquisition by or on behalf of another person, and therefore that that other person must be identified or at least [be] identifiable.” The conviction was quashed on grounds of error of law. It might be that a good number of consent SARs might not have been made had Bean J’s analysis been understood and borne in mind.
Apart from the useful clarification it gives, Dare is a striking illustration of the way in which AML legislation is frequently inappropriately applied (some might say absurdly) to trivial circumstances, not in contemplation under the EU Directives, as a consequence of the ‘all crimes’ implementation under the law of the UK. By contrast, it has emerged, following the overthrow of President Bakiyev in April 2010, that Kyrgyzstan’s AsiaUniversalBank appears to have been involved in large scale money laundering carried out through corporate entities that included large numbers of companies registered in the UK. One of these was a company whose nominal shareholder was a Russian who died some years before the company was incorporated. Around US$700 million is said to have flowed through the company’s accounts at AUB. It had no discernible business in the UK and failed to file statutory accounts. Reports suggest that five UK registered companies shared nominee directors in the Seychelles and had Russian owners who held their annual meetings in London on the same days at the same location – despite one of them being dead. The problem demonstrates a fundamental point long ago emphasised by the OECD, namely, that most money laundering is carried out through corporate entities where the nominal (legal) and actual (beneficial) interests are divided, often by jurisdiction and typically through secrecy jurisdictions, and disguised. The intractable problem that AUB and its interconnectedness with other financial institutions represents (real money laundering) is but one example of a structural difficulty that is now sought to be addressed by the Financial Action Task Force under recommendations 24 and 25 of the February 2012 Revised International Standards. How precisely these far-reaching recommendations for shareholder and corporate and trust transparency will be implemented under the forthcoming fourth EU ML Directive remains to be seen. 
Catch 22 or the difficulty with legal privilege
The United States Supreme Court has described legal privilege is ‘the oldest of the privileges for confidential information known to the common law’ and Lord Hoffmann described it as ‘a fundamental human right long established in the common law’.
Supperstone J’s judgment in Shah reduces legal risk for solicitors and others in making SARs by implying a term that relieves them of further performance obligations pending consent for the transaction to proceed being given by (commonly) the SOCA whether or not the transaction is tainted by ‘criminal property’. The problem with an untainted, but suspect, transaction not being a ‘prohibted act’ within the meaning of the legislation, and damage foreseeably caused by non-performance, is thus, at least for the time being pending authoritative consideration by the Court of Appeal, neatly side-stepped and resolved. The issue with legal professional privilege, that bears similarity, so far as it arises from absence of statutory protection under PoCA, nevertheless remains unaddressed with consequent legal risk attaching. It is surprising that the point has attracted so little comment, still less protest. (The reason may be that the obligations of confidence under privilege are not well understood by clients.)
Brooke LJ in Bowman v Fels held that PoCA was not intended to abrogate the ordinary rules on litigation privilege. There is nothing in PoCA to suggest that, upon its proper interpretation, it is intended to abrogate the law in respect of legal privilege, more generally, of which litigation privilege is a sub-class, the other limb being legal advice privilege. It is elementary that all communications between a lawyer and their client relating to a transaction in which the lawyer has been instructed for the purpose of obtaining legal advice are covered by legal advice privilege despite the fact that they do not contain advice on matters of law or construction so long as the communications are directly related to the performance by the lawyer of his professional duty as legal adviser of his client (Three Rivers No. 6). It is perhaps not generally well understood that, accordingly, litigation privilege does not apply as between a solicitor and his client, that privilege and confidentiality is always legal advice privilege.
Suspicious activity reporting – the rule for solicitors
It is worth starting with a rule insufficiently recognised: where privilege would ordinarily obtain, whether legal advice privilege or litigation privilege, suspicion that a transaction may involve criminal property ought not to be reported to SOCA by a solicitor unless there is prima facie evidence that the advice or other communication is sought in connection with an unlawful purpose. That threshold is a good deal higher than the mere existence of suspicion. There are a number of difficulties that follow from this.
The rule is the application of a principle that it is a serious matter to displace the protection afforded by lawyer/client confidence under the common law that is fundamental to all developed legal systems. The long-established common law rule that it is necessary that there be prima facie evidence of wrongdoing or unlawful intention before privilege can be displaced is to be found restated, for example, in O'Rourke v Darbishire [1920] AC 581. Further, privilege will protect advice given to a client on avoiding committing a crime, Bullivant v Attorney-General of Victoria [1901] AC 196, or warning a client that proposed actions could give rise to risk of prosecution, Butler v Board of Trade [1971] Ch 680. 
The Law Society Guidance (October 2011) includes the following statement: “We believe you should not make a disclosure unless you know of prima facie evidence that you are being used in the furtherance of a crime.” That is to say, facts that in the absence of an answer or explanation would disclose the offence. Inevitably what constitutes prima facie evidence will be highly fact specific and may entail a difficult judgment. 
The Law Society guidance is in accordance with O’Rourke and, it is suggested, is correct. Thus for solicitors the test for reporting is therefore ordinarily higher than bare suspicion. 
But privilege will not exist at all in relation to communications or documents with a lawyer that themselves form part of a criminal or fraudulent act, or communications for the purpose of obtaining advice with the intention of carrying out an offence. This is sometimes erroneously described as the ‘crime/fraud exception’ as explained in R v Cox and Railton (1884) 14 QBD 153. It is not in truth an exception to privilege, it simply does not arise, there being ‘no privilege in iniquity’.
Of particular importance in the context of money laundering is that it is irrelevant whether or not a person knows that the communication, believed to be privileged, is being used for a criminal purpose: Banque Keyser Ullman v Skandia [1986] 1 Lloyds Rep 336. Thus there will be no privilege where such a purpose exists, whether or not the legal adviser is aware it. Furthermore, it is not only the immediate client’s intention that is relevant for the purpose of ascertaining whether information was communicated for the furtherance of a criminal purpose. It is sufficient that a third party intends the lawyer-client communication to be made with that purpose: R v Central Criminal Court ex p Francis and Francis [1989] 1 AC 346.
Suspicion may or may not be correct (it may be justified whether or not correct). If suspicion is correct (i.e. the suspicion that the relevant act constitutes money laundering) there can be no privilege. If the suspicion is incorrect and the information is communicated in circumstances that ordinarily would give rise to legal professional privilege, the circumstances will remain privileged until that privilege is displaced by prima facie evidence. (If necessary directions from the court may be sought: Finers v Miro [1991] 1 W.L.R. 35.) The point is that mere suspicion, in otherwise privileged circumstances, of itself, does not displace privilege. 
So what is a lawyer to do if suspicion is held but there is insufficient evidence to constitute a prima facie case? If the suspicion is correct and a transaction is carried out that involves criminal property as this is defined under s. 340 a criminal offence will be committed by the solicitor (under s. 328) even though he may genuinely and perfectly properly have believed that there existed insufficient evidence to constitute prima facie evidence to displace the privilege believed (incorrectly) to exist. This is another example of the serious problems created by suspicion being the touchstone for criminal liability with insufficient consideration given to the wider effect of such novel law-making. 
It is thought that, perhaps understandably, the ‘prima facie’ evidence test is frequently not applied. But privilege will be infringed, in breach of contract and confidence, where a report is made and the suspected transaction turns out not to have concerned criminal property and prima facie evidence did not exist.
It is likely that most would say that in balancing risk, a claim by a client for breach of confidence under legal privilege for a report of suspicion that turns out to be incorrect, is a rather less likely and certainly less risky course than not making a report of suspicion if the grounds turn out to be well-founded. It is, however, extraordinary that such an informal and unremarked inroad into legal privilege, and the confidentiality that a client is contractually and as a matter of common law entitled to expect to protect his communications with his legal advisers, should have been made, almost unnoticed.
The Crown Prosecution Service guidance for prosecutors indicates that if a solicitor forms a genuine, but mistaken, belief that “privileged circumstances” apply (e.g. those specified under s. 330 and 342 – not to be confused with legal advice privilege) the solicitor will be able to rely on the reasonable excuse defence under PoCA. It is considered likely that a similar approach would be taken with respect to a genuine, but mistaken, belief that legal professional privilege continued to apply despite suspicion existing. (But no doubt the CPS would be concerned to verify the genuineness of the belief.)
The balancing of the risk of prosecution against the duty to maintain client privilege (and risks of infringement) and the assessment of whether prima facie evidence of money laundering exists so as to displace privilege, is, to say the least, invidious. That conscientious and honest conduct may nonetheless be criminal, subject to a ‘reasonable excuse’ defence and the exercise of a prosecutorial discretion, is most unsatisfactory. 

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