Money laundering is hiding the source of proceeds from various illegal activities or organized crime.  It’s simply an attempt to clean dirty money allowing them to be used within the economy so it won’t be traced back to the perpetrators and will eventually be manifested as originating from legal sources hence called money laundering.

Dirty money may include those from drugs, illegal gambling, brothels, imitation or stolen goods, corruption, extortion, tax evasion and other financial crimes. 

How does money laundering work? Transactions may be complex but normally involves 3 processes.

On the initial stage, money launderers would try to introduce the illegal funds to the financial system.

Large amounts of cash can be broken into smaller bills that are then deposited directly into a bank account or cash intensive businesses, money transfer services, casinos, or physically transports the cash to another country

It may also be used to purchase a series of monetary instruments or virtual currencies that are then collected and deposited into accounts at another location. This stage is called placement.  Depositing your cash in a bank is not that simple.  Banks are expected to conduct due diligence to verify the identity and prove it including where your money came from.  Once the account has been opened or able to penetrate the financial services, the transactions would be checked whether it is legitimate or suspicious. 

Some types of criminal activity generate illicit proceeds held in bank accounts, such as fraud, embezzlement and tax evasion. Unlike drug proceeds, proceeds of these crimes rarely start out as cash but may end up as cash after laundering. 

Virtual Currency may also be used to incorporate illicit funds into e-wallets.  Criminals engaged in cybercrime or computer-based fraud, as well as in the sale of illicit goods via online stores also use the services of money mule networks. The illicit proceeds earned from these crimes are often held in the form of virtual currency, and are stored in e-wallets that go through a complex chain of transfers.

Once the funds have entered the financial system, the second stage called layering stage takes place. It could be executed by individuals or even networks. The money launderer engages in a series of movements of funds to distance them from their source.

The funds may be transferred physically or electronically to other associates or to entities operating on their behalf. The manner of placement varies and the form in which criminal proceeds were generated. 

Low wage earner or even students may be enticed to act as money mules to move money around even globally.  These money mules may know the real source, or play ignorant just to earn a bit of cash. The cash may be used to buy various high-value commodities such as gold, jewellery, diamonds.  It could also be channeled through purchase and sales of investment instruments, or the launderer might simply wire the funds through a series of accounts at various banks across the globe.

In the layering stage, combination of different techniques may be used as part of a scheme to make it more difficult to trace the funds. This use of widely scattered accounts for laundering is especially prevalent in those jurisdictions that do not co-operate in anti-money laundering investigations. In some instances, the launderer might disguise the transfers as payments for goods or services, thus giving them a legitimate appearance. The transaction may be complex and may even issue fake receipts to move the commodities around or may include issuing an invoice which is lower than the actual volume bought.  The rest of the high-value commodities would be off the books and may be sold to other retailers.  Once the commodities are sold back to cash, money mules would again would be used to send the money through several money exchanges around the world which would then hard to be traced to the origin. 

Having successfully processed the criminal profits through the first two phases the launderer then moves them to the third stage – integration – in which the funds re-enter the legitimate economy such as setting up a legal business or claiming payment by producing fake invoice, creating fictitious loan, contracts, or setting up a charitable institution with extravagant salaries. Most have associates who help to invest in various businesses and ultimate ownership is difficult to prove. It might be a complex chain of domestic and international shell company accounts. These entities may have no commercial logic, zero profit or at loss, fictitious trade, unusual terms of size and frequency of transactions, or loans with uncompetitive interest rate as if they are not worried on the interest or even foreign currency transactions or buy insurance policies and cash them early

Funds are transferred to accounts controlled by money launderers, their close associates or third parties acting on their behalf or on behalf of affiliated legal entities. The money launderers may invest the illicit proceeds in real estate, luxury goods, and businesses abroad (or, in some cases, in countries where the funds originated from).

To summarize, placement is the initial transaction when it is deposited into the financial system such as cash deposits, changing currencies or cash smuggling to another jurisdiction

Layering is concealing the criminal origin of proceeds using multiple transactions to distance the funds from origin like using several money mules by transferring to different accounts It may also include various financial instruments such as equities or bonds

Integration is creating an apparent legal origin for criminal proceeds allows clean money to integrate in to economy like invest the funds into real estate, luxury assets, or business ventures globally. Sadly, financial institutions and government officials may be involved in these complex criminal transactions. Detecting money laundering can be very difficult but may be even tougher due to virtual currencies, offshore banking and internet.  Financial institutions and even non-financial institutions are obliged to report suspicious transactions to authorities.  Hence complicating the transaction is the goal of criminals to eventually conceal the origin of the illicit funds and keep the dirty money clean.