Money Laundering: The Nature of the Phenomenon, Stages, and Practical Methods

Money laundering is the process by which criminals disguise the origin of illegally obtained income and give it the appearance of legality. In the modern world, this phenomenon has taken on a global character and has become one of the most complex problems for regulatory authorities. Let’s understand how this system actually works.

What is money laundering: definition and essence

Money laundering is the concealment or masking of the origin of funds obtained from criminal activities — such as drug trafficking, organized crime, terrorism, smuggling, and other felonies. The criminals’ goal is to make dirty money clean, that is, to give it the appearance of legitimate origin.

The authoritative Basel Committee on Banking Supervision describes money laundering through the lens of financial transactions: criminals use the financial system to transfer funds between accounts, hiding the true source and real owners, or use custodial services to accumulate income.

It is important to understand that the subject of this crime can be both financial institutions and individuals who perform one of the key actions:

1. Opening accounts to deposit funds;
2. Assisting in converting assets into cash or financial instruments;
3. Facilitating transfers through banks or other payment systems;
4. Cross-border money transfers;
5. Concealing or masking the origin of criminal proceeds by other means.

Money laundering solves two key tasks for criminals. On one hand, it hides traces of criminal activity and allows the “legitimate” use of criminal proceeds. On the other hand, it grants criminal groups access to legal business, enabling them to “hide” behind the mask of legality and constantly expand their criminal operations.

“Dirty money” refers to income from drug trafficking, arms smuggling, fraud, theft, bribes, and tax crimes.

How the money laundering system is structured: three key stages

The full cycle of money laundering consists of three sequential stages, each playing its role in transforming criminal proceeds.

Stage one: placement

At this initial stage, money laundering begins its work. Criminals take cash obtained from illegal activities and introduce it into the financial system. The most common scenario is converting small, scattered amounts into more manageable forms for control and concealment.

For example, street drug dealers receive numerous small bills that are inconvenient to carry and easy to detect. The solution: depositing money into a bank or purchasing securities. Once the funds are on a bank account or converted into mobile securities, the placement stage is complete.

In modern conditions, placement methods are diverse: smuggling cash, transferring to financial institutions for mixing with legitimate deposits. The development of financial technologies has expanded the arsenal: cash operations, money transfers, credit cards, mobile and online banking.

Practical result: criminals obtain primary processing of proceeds, making them more convenient for further operations and less detectable.

Stage two: layering

This is a critically important stage where money laundering becomes truly complex. Criminals create numerous financial transactions and transfers aimed at breaking the link between the money and its original source.

The mechanics are simple: through a series of purchases, sales, transfers between accounts and countries, the money undergoes transformation. Criminals use banks, insurance companies, brokerage firms, gold markets, car markets, retail — creating a tangled chain of transactions. Some operations are conducted through shell accounts, fictitious trades, or anonymous payments.

Typical layering tools:

• Opening accounts under fictitious names;
• Fictitious trading operations and payments;
• Buying and selling registered securities;
• Complex multi-level financial transactions.

With the advent of cross-border money laundering, these tools have become even more sophisticated. If these operations are conducted through so-called “tax havens” or regions with weak oversight, the true source, nature, and movement of funds become nearly impossible for regulators to track.

Stage three: integration

At the final stage, money laundering achieves its goal. The proceeds that have undergone layering, whose illegal origin is now almost impossible for an ordinary person to detect, are transferred as legitimate assets into accounts of legal organizations or individuals without obvious links to criminal groups.

Result: if layering is successful, criminal income is mixed with normal financial flows. Criminals gain full freedom to dispose of the funds in their new “clean” form — for example, investing in construction, opening companies, or investing in real estate, allowing dirty money to re-enter the financial system.

Practical methods and tools of money laundering

Today, there are over thirty methods of money laundering. Let’s review the most common and effective:

Physical smuggling and basic methods

Cash smuggling. In countries without strict reporting systems for cash transactions, smuggling illegal proceeds into the country and then depositing them in banks remains effective. This is one reason why states strictly limit cash amounts at border crossings.

Structuring (smurfing). When a reporting system for cash transactions over a certain limit is in place, criminals break down large sums into smaller amounts and deposit them gradually in different banks and at different times. This helps avoid automatic alerts from financial intelligence units.

Legal business as cover

Using sectors with high cash turnover. Casinos, bars, nightclubs, jewelry stores — establishments where cash flow is high and difficult to control. Criminals declare illegal income as legitimate earnings from operations through fictitious transactions.

Direct purchase of expensive property. Buying mansions, luxury cars, antiques, art, and securities, then reselling them gradually to transform into bank deposits.

Financial market instruments

Securities and futures. The vast volume of operations on financial markets, variety of instruments, and globalization create perfect cover. Criminals actively use stocks, bonds, futures, and derivatives.

Insurance market. Buying expensive insurance policies with subsequent refunds of premiums, payouts, and claims — masking the true source of income.

International and financial mechanisms

Offshore centers and tax havens. Countries and regions that allow the creation of anonymous companies or apply excessive confidentiality measures make it easy to hide the true source of money.

Manipulation of foreign trade. Overstating import prices or understating export prices in collusion with foreign partners. Criminals pay inflated commissions to foreign importers, who then return kickbacks, leaving illegal proceeds abroad.

Shell companies for foreign investments. Creating fictitious companies abroad, then transferring illegal income under the guise of foreign investments.

Underground banks. A vivid example is the high-profile “Yuanhua” case in China, where 12 billion yuan were linked to underground banks. Money was transported by car to an underground bank, which notified its Hong Kong partner about the payment in Hong Kong.

Bribing financial officials. Criminals bribe high-ranking officials of financial authorities, demanding relaxed oversight of payments. In 2001, Hong Kong’s Independent Commission Against Corruption uncovered the largest cross-border money laundering network totaling HKD 50 billion.

Corruption and business schemes

Earning and laundering via government official schemes. Corrupt officials quickly amass wealth during their tenure, then create enterprises. A key feature — after resignation, they often publicly boast of their wealth, “explaining” its source as legitimate business success.

Parallel business through relatives. Corrupt officials earn income, while relatives open nightclubs, restaurants, enterprises. The connection is not obvious, simplifying laundering.

Management through shell persons. A government official or manager creates a de facto private company managed by nominal owners, but real control remains with the official. This way, they transfer dirty money through economic deals and earn from legitimate activities simultaneously.

Investments and real estate

Investments via construction and real estate. Criminals invest in hotel construction, company openings, commercial and residential property purchases. Some establish companies abroad to legitimize illegal income.

Real estate speculation. Shell persons buy property from developers at 50-70% of market value, paying cash, then quickly resell with a profit of 50-100%, especially during pre-sales.

Cross-border transfers

Cross-border transfers via education expenses. Sending children abroad under the guise of studying, paying for education, insurance, commissions — all are pretexts for buying foreign currency and sending money abroad.

Overstating and understating trade prices. Inflating import prices or deflating export prices, with the difference remaining with the foreign partner as kickback.

Multiple cross-border transfers. Using loopholes in document retention periods. Direct cross-border transfers via special aircraft or persons with customs exemption rights. Usually involving $100 bills.

Special financial instruments

Travelers’ checks. Customs require declaration of cash, but not limits on travelers’ checks. They can be transferred to third parties without endorsement, then deposited in foreign banks.

Casino chips. Indirect exchange of chips in casinos. Chips are transferred to the laundering beneficiary, who exchanges them for cash (usually with a 5% fee) and claims winnings. This avoids direct tracking by banknote serial numbers.

Shell accounts. Due to fears that shell persons will claim lost savings books and withdraw money, shell accounts are often opened so that the actual owner does not know about them.

Foreign currency current accounts. Numerous small deposits are used to deposit money, then foreign currency is withdrawn abroad — the so-called “ants carry bricks” method, often combined with shell accounts.

Alternative methods

Antiques and jewelry. Fictitious purchases at low prices and sales at high prices, transferring money legally. Or buying valuable items claiming they are personal collections. Often acquiring bearer objects: stamps, historic musical instruments, famous cars, used private jets.

Charitable foundations. Politicians create foundations, donate under the guise of charity, deceive companies into donations, then drain the funds. Or use disaster relief funds to collect money, keeping donations on private accounts.

Forgery of documents and fictitious companies. Creating fake companies for virtual deals, inflating import prices, using forged trade documents.

Fake loans. The recipient holds a promissory note or check with deferred payment. Even if found, it appears as a credit relationship. After attention subsides, the promissory note is transferred to a third party or deposited in a bank.

Counterfeit coins and banknotes. Multiple small expenses with fake coins or bills through vending machines and exchange offices.

Gift certificates. High liquidity but complex to exchange for cash. Resold to HR departments for employee bonuses — gift certificates end up with third parties, owners get cash.

Underground currency exchange. Jewelry stores can exchange illegal foreign currency even for foreign checks, which are then deposited into foreign accounts.

Transnational company fund distribution. Found in financial and insurance companies — large volumes of cash are transported across borders.

Cryptocurrency method

In today’s era, money laundering through cryptocurrencies is becoming increasingly common. Criminals exploit blockchain anonymity and transaction speed to move funds, making money laundering nearly impossible to track with traditional methods.

Conclusion

Money laundering is a constantly evolving system that adapts to new technologies and regulatory methods. From classic physical smuggling to high-tech cryptocurrency schemes — criminals continually improve their approaches. Understanding these mechanisms is critical for financial regulators, banks, and the international community in the fight against organized crime and corruption.