Introducing the Enablers: A Global Mechanism for Hiding Hot Cash
The first thing to understand about how private actors use the mechanisms of global finance to extract and hide the proceeds of grand corruption is that this is not an exceptional use of these systems. Rather, it is the rule for a secretive sector that has devastating effects on state institutions and their capacity to deliver services.
“Illicit financial flows” (IFFs) are broadly defined as “a range of strategies or methods of moving financial capital out of a country in a way that is against domestic or international law” 1. If you explore what enables illicit financial flows, and who profits from them, you will find a global financial system where corruption by public actors and criminal networks is aided by the private sector. Making use of both legal and illegal means, IFFs entrench poverty and inequality by diverting billions in tax money from social spending and depriving countries of domestic investment and fairer wages2. Banks, law firms and accounting firms have been crucial enabling partners in any state-capture network. They allow state actors, criminal and/or terrorist organisations, and large multinational corporations to maintain and exploit a system based on secrecy and the easy flow of money. It is important to understand how this system works. If we do not, we will not be able to dismantle it.
Front companies (also known as letterbox or shell companies) have no active business operations or staff, and effectively only exist on paper. Their only physical presence may be a mailing address and their directors are merely placeholders to obscure the real owners who benefit from the company.3 Shell companies are often created to avoid monitoring and regulation systems, and particularly to minimise taxes for companies in the countries where they operate and from where they draw profit.4
ront companies are allowed to thrive in so-called “tax havens” (also known as “secrecy jurisdictions”) that offer financial secrecy and immunity from local laws, rules and taxes.5 These secrecy jurisdictions are controlled predominantly by the most powerful countries in the global North. Almost half of all international bank assets are held in tax havens concentrated in the City of London, British Crown dependencies and countries with historical links to the UK, such as Hong Kong and Dubai. Other important secrecy jurisdictions are found in European countries like Switzerland, Monaco and Luxembourg, as well as United States-controlled territories such as the Virgin Islands and several US states.6 Closer to home, Mauritius is an increasingly important provider of secrecy to companies operating in India and several African countries, including South Africa.7
Front companies need bank accounts to move money around. Those seeking to hide the origin and movement of funds use illegal techniques such as “layering” (moving assets through multiple accounts to make them untraceable) and “smurfing” (breaking up large amounts into much smaller transactions).8 The front company becomes the conduit for the illicit funds to be “washed” through the legitimate banking system. The banks are legally required to institute anti-money-laundering systems, but evidence shows that many have poor or insufficient checks in place to track illicit transactions, while others are open to profiting from them.
The situation is far from improving: 2018 proved to be a prolific year for money-laundering scandals involving big banks such as Goldman Sachs (US), Union Bank of Switzerland), Rabobank (Netherlands) and US Bancorp, which all faced litigation and fines for failing to report suspicious transactions.9 For the first time, the non-profit Organised Crime and Corruption Reporting Project (OCCRP) named a bank instead of a politician as “the most corrupt actor” in 2018. After considering nominations from around the world, the panel selected Danske Bank for having laundered €230 billion through its Estonian branch between 2007 and 2015.10 Much of the money had dubious or corrupt origins in Russia and elsewhere in Eastern Europe. Other banks and financial-sector firms, such as Swedbank and Ernst & Young (EY), have been implicated since the Danske Bank scandal broke.11
Legal and accounting professionals fulfil an essential role in supporting the financial architecture described above. With banks, accounting firms often act as “formation agents” who can “quickly create, maintain, and dissolve offshore companies as needed”12. The use of deliberately neutral language like “tax efficiency” masks their efforts to help companies use secrecy jurisdictions to avoid paying taxes. In 2014, a whistle-blower from PricewaterhouseCoopers (PwC) revealed that, through the use of shell companies and creative loan agreements, PwC secured around 548 secret deals in Luxembourg. These deals ensured that over 300 multinational clients could reduce their effective tax bill below 1 percent.13 As auditors, accounting firms are expected to check financial records and report irregularities. If they are also playing the role of tax consultants, this can present a conflict of interest – a risk that is increased when accounting firms make eight times more from consulting fees than they do from auditing.14
In the Danske Bank money-laundering scandal, Ernst and Young is under investigation in Denmark because, despite having “audited” the bank in 2014, it failed to flag grossly irregular activities.15 Thus, as in the banking sector, it is often the biggest professional firms (PwC, EY, KPMG and Deloitte) that help to weave the web of global financial-sector misconduct. This web maintains itself because senior executives of accounting firms help to write financial-sector laws for national governments, regulatory boards and bodies such as the OECD.16
South Africa: A Laboratory for State Capture
State capture is not a new phenomenon in South Africa. Corporations and individuals have a history of profiting from colonialism and apartheid. Since the 1970s, a secretive financial network of shell companies and private banks was essential to the maintenance of the apartheid regime by facilitating the violation of UN embargoes.17 Along with the commercial banks that bankrolled the apartheid state, those who helped establish this secretive network profited from a crime against humanity.
The modus operandi of apartheid’s spies and middlemen is echoed in contemporary scandals. The “GuptaLeaks”, a trove of emails between participants in the state-capture network, has revealed similar patterns of a state captured by private interests. The Gupta network sought to profit by corrupting large-scale procurement at state-owned enterprises, but the bribes, kickbacks and other profits rarely stayed in South Africa. Shell companies and bank accounts were used to siphon off the money while auditors looked the other way or helped legitimise illicit transactions.
The Gupta network appears to have registered multiple shell companies in secrecy jurisdictions like Dubai and Hong Kong. According to the Financial Secrecy Index, Dubai “stands out above many other jurisdictions in terms of its lack of interest in transparency, and the laxity with which its offshore sector is supervised and regulated”.18 Unsurprisingly, many of the registered offices of these companies were often vacant and had no active business, appearing to exist only on paper.19
Various banks and auditing firms played roles in this financial network. The Indian state-owned Bank of Baroda, which had a Johannesburg branch until 2018, was involved in clearing multiple suspicious transactions, even some that the bank’s own employees had flagged.20 Between 2007 and 2017, according to the OCCRP, about R4.5 billion (over USD 300 million) moved between more than 20 Gupta-linked front companies that held accounts at Baroda.21 A technique known as “round-tripping” – “moving money through a series of transactions, usually between related entities often with the same ownership, to boost revenue (or create the appearance of revenue) without any genuine commercial activity by that entity”22 – was used to obscure the original source of income, and to make money flows from corrupt activities harder to track.
Perspectives is a publication series of the Africa offices of the Heinrich Böll Stiftung. The series provides a platform for experts from Africa to express their views about issues pertinent to the democratic and sustainable development agenda in the region. The latest edition of Perspectives tackles questions of state capture, and how the concept can contribute to understanding and strengthening democracies across Africa. Our contributors also open the possibilities that emerge when “state capture” is released from particular institutional settings and national boundaries.
Perspectives is a publication series of the Africa offices of the Heinrich Böll Stiftung. The series provides a platform for experts from Africa to express their views about issues pertinent to the democratic and sustainable development agenda in the region.
The latest edition of Perspectives tackles questions of state capture, and how the concept can contribute to understanding and strengthening democracies across Africa. Our contributors also open the possibilities that emerge when “state capture” is released from particular institutional settings and national boundaries.
As a foreign bank, the Bank of Baroda needed a South African banking sponsor to provide the architecture for its operations. The evidence suggests that South African giant Nedbank played this role. This relationship conveniently allowed both banks to avoid responsibility for identifying and reporting suspicious transactions as each claimed to not have enough access to information to perform the required checks.23 As indicated above, billions of rands were moved between and through accounts at the Bank of Baroda, but Nedbank chose to retain Baroda as a client long after it should have been aware of suspicious transactions. Moreover, having closed its own Gupta-linked accounts in 2016, ostensibly because of the risk that they were being used for illicit activity, Nedbank waited another two years before cutting ties with Baroda.24
With banks looking the other way, the final checkpoint should have been the audit firms that had a first-hand look at the financial records of Gupta-linked firms. However, the same culprits that have facilitated tax-avoidance and money-laundering internationally appear again in South Africa. KPMG, in particular, is said to have “audited” multiple Gupta-linked companies and failed to identify any illicit activity. This included the firm Linkway Trading Pty Ltd, a company alleged to have been used to divert millions in public funds from the Free State province. For example, funds earmarked for rural development were used to pay for an extravagant wedding at Sun City, a luxury South African resort.25 Several KPMG managers of Gupta accounts were found to have failed to disclose their conflicts of interest and identify “the substance of significant unusual transactions”.26 One of the KPMG auditors on the Linkway Trading account has now been struck from the register by the Independent Regulatory Board for Auditors for what they describe as “egregious dishonesty” when reporting on Linkway’s finances.27
All Aboard! The Enablers Who Helped Derail Transnet
Transnet, one of South Africa’s largest state-owned enterprises, is responsible for the country’s extensive rail infrastructure. As a prized jewel for the state-capture network and an important target for Gupta-linked companies, Transnet provides an informative case study of how the Gupta networks relied extensively on secretive shell companies and multiple bank accounts across the world to pull off their heist.
Transnet’s 2014 contract with China South Rail (CSR) for the purchase of 359 locomotives was worth USD1.5 billion, and a staggering 21 percent of that was set aside for advisory fees to be paid to Salim Essa, a known Gupta associate, purportedly acting as CSR’s “black economic empowerment” advisor.28 Although the trains were delivered late and did not work when they arrived, this meant that Transnet footed the bill for nearly USD300 million in commissions that appear to be kickbacks. As is common practice in corruption networks, the payments were made to offshore companies in secrecy jurisdictions and routed through numerous accounts, making the money more difficult to track.
Despite the attempts to muddle the money trails, an OCCRP investigation identified over USD100 million paid into accounts of two companies linked to Salim Essa: Tequesta and Regiments Asia. Both firms were registered in Hong Kong on exactly the same day, with the same address, and both started to receive multiple large money inflows.29 Hong Kong (like Dubai) offers a wide range of offshore services, ranging from tax avoidance to the provision of opaque companies that can be used for tax evasion and other crimes. Furthermore, there is no public record of beneficial ownership in Hong Kong.30 According to the 2018 Financial Secrecy Index, Hong Kong is the fourth most secretive jurisdiction in the world.31
Both Tequesta and Regiments Asia held accounts with the multinational banking-and-financial-services giant HSBC. A 2017 study reported that the company, which holds “at least 828 corporate entities in 71 countries”32, itself takes advantage of the world of offshore financial secrecy to maximise its profits. Using standard money-laundering tricks, payments from CSR to Tequesta and Regiments Asia travelled from their HSBC accounts through a range of banks from South Africa to Dubai and the United States.33 HSBC should have applied the necessary due diligence to “know their customer” before allowing Salim Essa to establish bank accounts and then immediately use them to channel over USD100 million to shell companies with no visible employees or operations.
Either the banks and authorities did not pick up on this noticeably suspicious activity or, if they did, they failed to act and stop it. It is clear that the financial architecture provided by banks in secrecy jurisdictions continues to be used by those involved in corruption and organised crime, providing them a free pass to move and preserve their loot.
The Cost of No Accountability
As South Africa seeks to uncover both the origins and mechanisms of state capture and to pursue accountability and restitution, it cannot ignore the private-sector enablers that were central to the networks of corruption. If there is no accountability for their role and if the infrastructure they have established is left intact, new networks will form to engage in similar illegal activities. South Africa’s failure to grapple with the private actors who were complicit in the crime of apartheid is a testament to the consequences of impunity. As discussed here, state capture is not the act of a few rogues: where secrecy and profit prevail at the expense of accountability and justice, it is both systemic and structural. It is imperative that the Zondo Commission of Inquiry into Allegations of State Capture, along with any subsequent criminal litigation, calls private-sector actors to account for their role in an audacious heist of public resources. It was not the first such attack – and without far-reaching accountability coupled with systemic and structural change, it will not be the last.
1 Open Secrets, The Bankers: Corporations and Economic Crime Report Vol. 1, 2019, 26. www.opensecrets.org.za/site/wp-content/uploads/Final-ReportOpenSecrets_Bankers_Reduced.pdf
3 Alexander Weber, Boris Groendahl and Nicholas Comfort, “Money to Launder: Here’s How (Hint: Find a Bank)”, Bloomberg, 9 March 2019. www.bloomberg.com/news/articles/2019-03-09/money-to-launder-here-s-how-hint-find-a-bank-quicktake.
4 Open Secrets, 28.
5 Robert J Burrowes, “Elite Banking at Your Expense: How Secret Tax Havens are Used to Steal Your Money”, Countercurrents, 6 March 2019. countercurrents.org/2019/03/06/elite-banking-at-your-expense-how-secretive-tax-havens-are-used-to-steal-your-money/.
7 Petr Jansky, Markus Meinzer and Miroslav Palansky, “Is Panama Really Your Tax Haven? Secrecy Jurisdictions and the Countries They Harm”, IES Working Papers 23/2018, Institute of Economic Studies, Charles University (Prague), 2018. https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3267366.
8 Open Secrets, 28.
9 Daniel Neale, “Taking Stock of 2018’s Money Laundering Scandals: When is Enough Enough? (Part 2)”, Global Financial Integrity, 9 January 2019. www.gfintegrity.org/taking-stock-of-2018-part-2.
10 Organized Crime and Corruption Reporting Project (OCCRP), “Danske Bank: 2018 Actor of the Year in Organised Crime and Corruption”, 2018. www.occrp.org/en/poy/2018.
11 Kristin Broughton, “Swedbank Ditches EY as External Auditor Amid Reports of Danske Bank Ties”, Wall Street Journal, 26 February 2019. www.wsj.com/articles/swedbank-drops-ey-as-external-auditor-amid-reports-of-danske-bank-ties-11551218963.
12 Paul Radu, “Vast Offshore Network Moved Billions with Help From Major Russian Bank”, OCCRP, 4 March 2019. www.occrp.org/en/troikalaundromat/vast-offshore-network-moved-billions-with-help-from-major-russian-bank.
13 Open Secrets, 29.
16 Open Secrets, 29–30.
17 Hennie van Vuuren, Apartheid Guns and Money: A Tale of Profit, Jacana: Cape Town, 2017
18 Angelique Serrao and Pieter-Louis Myburgh, “Dubai: The Gupta’s City of Shells”, GuptaLeaks, 27 October 2017. www.gupta-leaks.com/atul-gupta/dubai-the-guptas-city-of-shells.
20 Open Secrets, 23.
21 Khadija Sharife and Josy Joseph, “India’s Bank of Baroda Played a Key Role in South Africa’s Gupta Scandal”, OCCRP, 27 February 2018. www.occrp.org/en/investigations/7696-india-s-bank-of-baroda-played-a-key-role-in-south-africa-s-gupta-scandal.
22 Open Secrets, 22.
23 Sharife and Joseph.
24 Open Secrets, 25.
25 Mathew le Cordeur, “KPMG SA CEO, 7 Others Quit on #GuptaLeaks, SARS Rogue Unit Fallout”, News24, 15 September 2017. www.fin24.com/Companies/Financial-Services/kpmg-sa-ceo-7-others-quit-on-guptaleaks-fallout-20170915.
27 Marelise van der Merwe, “Gupta-linked ex-KPMG Auditor Struck from IRBA Register for ‘Egregious Dishonesty’”, Fin24, 28 March 2019. www.fin24.com/Companies/gupta-linked-ex-kpmg-auditor-struck-from-irba-register-for-egregious-dishonesty-20190328.
28 Khadija Sharife, “Guptas, Big Banks Linked to South African–Chinese Locomotive Deal”, OCCRP, 15 November 2017. www.occrp.org/en/investigations/7257-guptas-big-banks-linked-to-south-african-chinese-locomotive-deal.
30 “Beneficial ownership… refers to anyone who enjoys the benefits of ownership of a security or property, without being on the record as being the owner.” Wikipedia, “Beneficial Ownership”, 17 March 2019
31 Tax Justice Network, “Narrative Report on Hong Kong”, Financial Secrecy Index, 2018. https://www.financialsecrecyindex.com/PDF/HongKong.pdf.
32 Javier Garcia-Bernardo, Jan Fichtner, Frank W Takes and Eelke M Heemskerk, “Uncovering Offshore Financial Centers: Conduits and Sinks in the Global Corporate Ownership Network”, Nature, 24 July 2017. www.nature.com/articles/s41598-017-06322-9.
33 Khadija Sharife, “Guptas, Big Banks Linked to South African–Chinese Locomotive Deal”, OCCRP, 15 November 2017. See: https://www.occrp.org/en/investigations/7257-guptas-big-banks-linked-to-south-african-chinese-locomotive-deal.