Offshore Common Features in Financial Frauds

Spread the love

The most important characteristic that an ‘Offshore Finance Center’ must be able to offer is confidentiality. At the same time, confidentiality is perhaps the one characteristic that renders ‘Offshore Finance Centers’ most vulnerable.
Then (with respect to ‘Offshore’) there are certain factors that, if they exist, will facilitate, or at least do not militate against, wrongdoing. These factors include: legislation that is itself inadequate or which is inadequately enforced; absence of a (meaningful) licensing regime; weak regulation and/ or regulators; incompetent and/or inexperienced management in licence holding companies; unlicensed institutions carrying on licensable activity;
little or no compliance testing; failure to adhere to international accounting, auditing and regulatory/supervisory standards, not least in respect of controls; non-adoption of corporate governance principles; inadequate ‘know your customer’ and payments systems; and so on.

Accordingly, the problem and the solution revolve around getting the balance right. For example, client confidentiality is not a weakness, it is a strength. However, where confidentiality becomes secrecy that is used to mask dubious practice or criminal activity, this represents an abuse and must not be tolerated. The answer is to offer an appropriate level of  confidentiality – but not enough to enable this fundamental right to be exploited adversely. It is in this respect that there may be some value in distinguishing confidentiality from secrecy.

Interestingly, frauds ‘Off shore’ differ little from frauds ‘Onshore’ – and in many respects the differences are more apparent than real – except in tax matters – which, to some extent, might explain why ‘Offshore Centers’ are considered as tax havens. However, there are perhaps some features that are often central to wrongdoing ‘Offshore’. These include:

  •  prosecutions are not commonplace;
  •  knowing how the systems work will help resolve issues ‘offshore’ more quickly;
  •  ‘Offshore Centres’ are used in a wide variety of ways, for example to establish companies, to deposit money, to launder money, and to avoid stricter regulation elsewhere;
  •  the collusion of bank employees makes a fraud much easier to accomplish;
  • the use of a number of jurisdictions and (frequently) numerous shell companies to obscure the final destination of the funds;
  • weak ‘know your customer’ procedures and less than robust procedures in banks;
  • the exploitation by fraudsters of any situation where it is easy to make deposits and the difficulties for investigators in tracing the destination of the funds; and
  • the fraud does not usually emanate from ‘Offshore’; rather, ‘Offshore’ is used to accomplish it.

Both ‘shell banks/branches’ and ‘parallel owned banks’ offer potential for abuse. Shell banks are ‘licensed in an OFC [and] are not affiliated with a supervised financial group and whose management resides elsewhere’. By extension, shell branches have a limited physical presence. All the important decisions are taken elsewhere. Parallel owned banks are those which have a unit ‘Offshore’ and another ‘Onshore’ – and which are both owned by common shareholders but are not connected in a subsidiary/parent relationship. These organizations are frequently paper-based only.

The range of wrongful activity perpetrated ‘Offshore’ includes: money laundering, tax evasion, ‘Nigerian letters’, advance fee frauds, credit card frauds, prime bank guarantees, wrongful use of ‘Offshore’ companies, and many more. (For the avoidance of doubt, Nigeria is not an ‘Offshore Finance Center’.) Here are examples of three types of fraud:

  •  Ponzi schemes are swindles in which abnormally high rates of return are paid to initial investors out of funds contributed by later investors, who end up losing all of their money when the house of cards falls down.
  • Pyramid schemes involve the collection of money from individuals at the bottom (new investors) to pay the initial investors at the top, with all the emphasis on bringing in new members/investors and not on selling the product or service.
  • Smurfing occurs where numerous deposits of small amounts are made – each being below a reporting threshold. Frequently, the money is transferred to another account which is often in another country.
  • A phoenix firm is where the directors of one limited company move with the assets to a new company, leaving the liabilities behind and avoiding claims from customers.


Many of the jurisdictions which are regarded as ‘Offshore Finance Centers’ OFCs are small islands.  Most OFCs are located in small island economies and offshore finance is often seen as a useful economic development strategy for such places.’ It has to be said that the fundamental requisites for entering this market were less demanding previously than currently, but, as a subsequent chapter shows, there are still many centers that want to establish themselves as financial services centers. Like everything else, the higher the quality, the higher the cost.
A jurisdiction considering establishing an ‘Offshore’ financial services
activity  should consider the following requirements: political stability; credibility; positive international reputation; local consensus; and a sound financial infrastructure. Probably, most jurisdictions believe that they satisfy all these criteria already: ‘OFCs provide a useful and relatively inexpensive strategy of economic development for a number of small states and islands.’ This statement bears scrutiny. For example, the cost of establishing and maintaining an effective regulatory authority is far from cheap – if substance is to prevail over form. It has been said that, ‘while a financial centre can be a useful addition to their economy, significant infrastructural investment is needed to provide an internationally accepted minimum supervisory system’. Internationally, inadequate funding is not an acceptable excuse for failure to adopt appropriate regulatory practices or to adhere to international standards. If this fundamental criterion cannot be overcome, then it would be better if the services that require the (additional) regulatory resources were to stop (or not start as the case may be). ‘Jurisdictions with low levels of income have a much lower rate of compliance with all the assessed standards than wealthier jurisdictions. Such jurisdictions often have low volumes of financial activity and many of the poorer jurisdictions have eliminated or are phasing out their OFC activities.’ The other side of this coin is that the funding in many jurisdictions comes from licence fees, so the implications of (additional)
resources must be taken into account in setting fees. Naturally, if the fees
are too high, the jurisdiction risks lack of demand. The additional
implications listed below imply that the practice is less straightforward
than the theory.
Nevertheless, many small islands have created a successful ‘Offshore’ finance sector from fairly humble beginnings – and the strategy has paid off. To quote merely two examples: at one time, one person in four in Jersey worked in the finance sector and the Isle of Man derives nearly 40 per cent of its national income from its finance sector.
Subsequent to all the attention that has been given to ‘Offshore’ in the recent past, the controls that now need to be adopted to make an ‘Offshore’ center credible demand a certain critical mass. Those jurisdictions that are unable to generate this critical mass still need the controls and should not delude themselves by believing that less rigorous or fewer controls will suffice. Trying to cut corners in this area is precisely the sort of approach that has created negative feelings and suspicions about the integrity of ‘Offshore’. However, ‘the impact of large neighbors on island OFCs can be serious, ranging from economic pressure or the threat of sanctions, judicial pressure to break local bank secrecy laws, direct action in covert operations, or unilateral treaty re-negotiations which reduce offshore advantages. Island and microstate economies, by virtue of their smallness and openness often have no alternatives to developing service industries such as OFCs.’ The problem of critical mass should not be underestimated. The IMF has said that: ‘The lower income jurisdictions face the biggest challenge to build their supervisory capacity. Some of these jurisdictions with limited resources may first have to decide whether the benefits of developing a financial center will outweigh the cost of achieving internationally acceptable minimum supervisory standards.

The innate opportunity that OFCs offer for market research on new products and services is not to be underestimated: ‘[T]here are plenty of examples where the more flexible and innovative atmosphere of offshore has enabled oVshore centres to invent or pioneer products and services which remain largely exclusive to the oVshore world’ (captives; cell companies; limited liability partnerships; managed banks; asset protection trusts).
Two factors which contribute are the time zone and proximity to a larger trading country. An OFC, appropriately located, can provide an interface that enables trading to continue in an OFC that is just opening as the market elsewhere is closing.

Leave a Reply

Your email address will not be published. Required fields are marked *