Regulatory framework Lecture one Money Laundering and the The process by which criminals attempt to hide the Auditor true source of their funds in an attempt to make it look like their funds have come from legitimate sources. In many countries, the definition is even broader, and possessing or transferring the proceeds of ANY crime can be money laundering. Money Laundering and the ForAuditor example, breaching health and safety regulations in order to save money makes the company a money launderer – it possesses the cost savings, and these were saved by committing a crime. How money is laundered There are three 3 stages in laundering money. 1. Placement. This is the introduction or placement of the illegal funds into the financial system. Example, put money into a company we (directors/shareholders) control and pretend it is sales revenue. This may be in the form of lots of small cash deposits in numerous bank accounts. Also using cash intensive business How money is laundered 2. Layering. This is passing the money through a large number of transactions or “layers”, so that it becomes very difficult to trace it to its original source. Using the cash to create a trail of transactions complicated as possible and involving multiple countries. Examples include transferring the money through multiple bank accounts, perhaps across different national jurisdictions. How money is laundered 3. Integration. This is the final of funds back into the legitimate economy. The criminal now has “clean” money which can be spent or invested. The money looks legitimate to be spent so is taken out of company through salary, bonus, or dividends. Money Laundering – Auditor Responsibilities Over the past 20 years in particular since 2000, there has been the international attempt to tighten laws on money laundering and to force professionals to do more. This has been lead by Financial Action Task Force (FACT) on Money Laundering which has around 30 of the leading economies as members Money Laundering – Auditor Responsibilities Many countries have now made money laundering a criminal offence. The ACCA has issued a Technical Fact Sheet 94 to provide guidance to audit firms. The main obligations are; To make sure you know who your client really is and to confirm where they get their money from (“Customer Due Diligence”) To report any suspicions of money laundering to relevant authorities . (Eg Serious Organised Crime Agency – SOCA in the UK) Not to tip off a client when you have suspicions (any failure to do the above can result into prison) Practical things for Audit Firms to do/money laundering programme Appoint MLRO (Money Laundering Reporting Officer) whose job is to ensure that all other ML processes are in place in the firm and to decide whether suspicions raised by staff should be reported externally. The MLRO is likely to be a partner. Have Know Your Client (KYC) procedures. The better you know your clients the easier it is for you to spot odd transactions and behaviours. Practical things for Audit Firms to do/money laundering programme Check the identity of all new and existing clients and maintain evidence of identification thus Customer Due Diligence measures (eg by checking passports of directors, searches on the company itself, directors and who owns) Train all relevant staff in ML processes, to be aware of relevant legislation, and how to spot suspicious transactions to the MLRO. Practical things for Audit Firms to do/money laundering programme Maintain records of clients identification, and any transactions undertaken for or with the client. Report suspicions of money laundering to the NCA Know Your Client (KYC) The firm must gather “know your client” information. This includes; Who the client is Who controls it The purpose and intended nature of business relationships The nature of the client The client’s source of funds The client’s business and economic purpose Customer Due Diligence (CDD) CDD is the term used in the Money Laundering Regulations for the steps that businesses must take to; (a) Identify the customer and verify their identity using documents, data or information obtained from reliable source. (b) Identify any beneficial owner who is not the customer (c) Understanding the purpose and nature of business relationships Suspicious transactions Transactions that pass through several companies or countries, especially when there is no obvious reason for doing so. Multiple small transactions of a similar nature rather than one large individual transaction. The creation of complicated group of companies when a simpler solution appears to exist. The creation of a new company that is never actually used to trade. Cash based businesses Cash based businesses have always been a favourite for money launderers as they can pass their illegal funds through the company and claim it is sales revenue. Observation; Many businesses refuse to accept cash in excess of a certain limit. Any cash based business is useful for money laundering. Eg casinos Situations that could lead to money laundering offences A client under tax investigation….if problems are found the evaded tax is the proceeds of crime. Client making “facilitation payments” (eg bribes) to help to help smooth certain transactions (eg paying an official a fee to ensure a contract is won). Situations that could lead to money laundering offences Having clients in political positions makes them “politically exposed persons” (PEP), who have the power to enrich themselves with public money. As such, auditors should treat such clients with extra care, ensuring they fully understand the source of all their funds. The need for ethical guidance Money laundering situations may be complex, so ethical guidance would be useful in the following ways; In helping to understand the heavy legal burden In providing a framework of how to address situations not covered by law or previous experience In helping to resolve conflicts between client confidentiality, and the need to report externally. The need for ethical guidance In helping to guide an outgoing auditor in what he can say to an incoming auditor as part of the “professional clearance” process. In helping to guide auditors working in countries where there are no/limited money laundering laws. In helping to understand the interaction between money laundering and the audit report, and other reports to clients and 3rd Parties. Question 1 You are a manager in Lark and Co. responsible for the audit of Heron Co. an owner-managed business which operates a chain of bars and restaurants. This is your firm’s first year auditing the client and the audit for the year ended 31 March 20X2 is underway. The audit senior sends a note for your attention: Question 1 ‘When I was auditing revenue I noticed something strange. Heron Co’s revenue, which is almost entirely cash based, is recognized at $5.5 million in the draft financial statements. However, the accounting system shows that till receipts for cash paid by customers amount to only $3.5 million. This seemed odd, so I questioned Ava Gull, the financial controller about this. She said that Jack Heron, the company’s owner, deals with cash receipts and posts through journals dealing with cash and revenue. Ava asked Jack the reason for these journals but he refused to give an explanation.’ ‘While auditing cash, I noticed a payment of $2 million made by electronic transfer from the company to an overseas financial institution. The bank statement showed that the transfer was authorized by Jack Heron, but no other documentation regarding the transfer was available.’ Question 1 ‘Alarmed by the size of this transaction, and the lack of evidence to support it, I questioned Jack Heron, asking him about the source of cash receipts and the reason for electrical transfer. He would not give any answers and became quite aggressive.’ Required Discuss the implications of the circumstances described in the audit senior’s note; and (6marks) Explain the nature of any reporting that should take place by the audit senior.(3marks) Question 2 There are specific regulatory obligations imposed on accountants and auditors in relation to detecting and reporting money laundering activities. You have been asked to provide a training session to the new audit juniors on auditors’ responsibilities in relation to money laundering. Required Prepare briefing notes to be used at your training session in which you: Explain the term ‘money laundering’, illustrate with examples of money laundering offences, including those which could be committed by the accountant. Explain the policies and procedures that a firm of Chartered Certified Accountants should establish in order to meet its responsibilities in relation to money laundering. (10 marks) Professional marks will be awarded in part (c) for the format of the answer, and the quality of the explanations provided. (4 marks) Question 3 The audit strategy relevant to the audit of Waters Co concludes that the company has a relatively high risk associated with money laundering, largely due to the cashbased nature of its activities. The majority of customers purchase their cinema tickets and refreshments in cash, and the company transfers its cash to overseas bank accounts on a regular basis. Required Explain the stages used in laundering money, commenting on why Waters Co has been identified as high risk (5 marks) Recommend FOUR elements of an anti-money laundering programme which audit firms such as Hunt & Co should have in place. (6,marks) Laws and Regulations Affecting Clients (ISA 250) Regulatory environment (Read the article attached) Legal requirements relating to the company Companies are increasingly subject to laws and regulations with which they must comply. Some examples include; Company law Employment law Health and safety regulations Environmental law and regulation Civil law Contract Tort Legal requirements relating to the company ISA 250 Consideration of laws and regulations in an audit of financial statements provides guidance on the auditors’ responsibility to consider laws and regulations in an audit of financial statements Responsibility of management for compliance It is the responsibility of management (with oversight from those charged with governance) to ensure a clients’ operations are conducted in accordance with laws and regulations. The following policies and procedures, among others, may be implemented to assist management in the prevention and detection of non-compliance with laws and regulations Responsibility of management for compliance Monitor legal requirements Institute and operate appropriate systems of internal control including internal audit and audit committee. Develop, publicize and follow a code of conduct Ensure employees are properly trained and understand the code of conduct. Monitor compliance with the code of ethics and discipline employees who fail to comply with it. Maintain a register of significant laws with the entity. ‘Non-compliance’ ‘Non-compliance’ refers to acts of omission or commission by the entity, either intentional or unintentional, which are contrary to the prevailing laws or regulations. Such acts include transactions entered into by the entity, or on its behalf by management or employees. It does not include personal misconduct. Responsibility of the auditor Auditors cannot know and understand every law and regulation that affects every client, but they should aim to be aware of those that could materially affect the Financial Statements. By doing this, they are more likely to spot breaches, even if management do not tell them (or are themselves not aware). Responsibility of the auditor Where breaches are found, that the auditor considers material; Report the breach to management (it is their ultimate responsibility, not the auditor’s, to ensure the company is not breaking laws). If the breach involves management, report to the highest level possible (e.g Audit Committee) If the breach involves the highest level possible, may need to take legal advice and consider whether the of lack integrity necessitates resignation by the auditor. Responsibility of the auditor Consider the effect of the breach on the accuracy of the Financial Statements – it may result in a qualified audit report. If laws are new, or have been announced but precise detail is yet to be agreed by government, it may be difficult to assess the effect on the company, and may affect the Going Concern assessment. In some cases, a breach may have external reporting consequences. Question 4 An audit senior left the following note for your attention: ‘I have been working on the audit of properties, including the Group’s storage facility warehouses. Customers rent individual self-contained storage areas of a warehouse, for which they are given keys allowing access by the customer at any time. The Group’s employees rarely enter the customers’ storage areas. It seems the Group’s policy for storage contains contracts which generate revenue of less than $10,000, is that very little documentation is required, and the nature of the items stored is not always known. Question 4 While visiting one of Group’s warehouses, the door to one of the customers’ storage areas was open, so I looked in and saw what appeared to be potentially hazardous chemicals, stored in large metal drums marked with warning signs. I asked the warehouse manager about the items being stored, and he became very aggressive, refusing to allow me to ask other employees about the matter, and threatening me if I alerted management to the storage of these items. I did not mention the matter to anyone else at the client. Question 4 Required; Discuss the implications of the audit senior’s note for the completion of the audit, commenting on the auditor’s responsibilities in relation to laws and regulations, and on any ethical matters arising.
