Fool Me Twice.

The Russian banking scandal should have come as no surprise

The sudden attention by U.S. government officials and the mainstream media to the $7 billion or more of Russian money laundered through the Bank of New York might make you think this is the first time that multimillions have been stolen from Russia--or elsewhere--and washed through the international offshore system. In fact, it's not even the first time for the Bank of New York.

Several years ago, the Bank of New York, Chemical Bank, Citibank, and Chase Manhattan Bank were used by money launderers in a case that has not received press coverage until now. A Russian named Alexander Yegmenov set up eight phony New York state companies, opened accounts in the banks, and helped officials of a government TV station in St. Petersburg steal $2 million. Mikhail Syroejine, a station procurement official, allegedly used Yegmenov's shell companies to receive a payment of $2 million for Sony equipment. Syroejine, who was living in St. Petersburg, was supposed to buy some equipment for the TV station. He allegedly put through a fake order to a phony company Yegmenov set up in New York, sent $2 million to the company, and moved to the United States, living first in New York and then Santa Monica. The station never received its equipment or its money.

On January 26, 1994, according to a grand jury indictment, Syroejine opened an account at Chase Manhattan Bank in Manhasset, New York, and transferred $1 million into it. On January 29 of that year, he allegedly opened an account at Citibank in Huntington, New York, with a deposit of $600,000 from Chase. In early February, a Citibank check for $500,000 was deposited in a Chemical Bank account.

Then the money began to move offshore. On March 2,1994, more than $1 million was wired from the Chase account to the Lloyd's Bank, U.K., account of Jojan Consultants Ltd., registered in Dublin, a city that guarantees corporate secrecy. The rest moved from one shell company account to another, including $238,000 wire-transferred from the V.N. Express account at Chemical Bank to Priority Assets at the Bank of New York on April 26, and then more than $207,000 wire-transferred on May 10 from Priority Assets at the Bank of New York to Palmira Technologies at Chemical Bank. An additional $430,000 went to Barclay's Bank in Limassol, Cyprus, and another $400,000 was sent to an account called Mand Stifftung at Verwaltung und Privatbank Vaduz in Liechtenstein. Cyprus and Liechtenstein are both offshore secrecy havens.

That was just small change for Yegmenov. Between 1993 and 1995, he set up thousands of companies for Russian criminals. The criminals used these accounts to launder millions of dollars to offshore banks, according to Tom O'Connell, an INS agent on the case.

"The first four or five bank statements I saw had hundreds of thousands of dollars going through them," says O'Connell, who saw the bank statements of hundreds of the shell companies. "Most were out of the Chemical Bank in Dag Hammarskjold Plaza in New York City. The money would be wired in from Russia and then go out to the Cayman Islands or the Isle of Man or Switzerland in two or three days. There's at least 1,000 of them, and in each one there's money being wired into the U.S.--hundreds of thousands of dollars."

According to O'Connell, one of Yegmenov's clients was Vyacheslav Kirillovich Ivankov, at that time the most powerful Russian organized crime leader in the United States. Ivankov was convicted of extortion in Brooklyn in 1996 and sent to federal prison for ten years.

Yegmenov got caught in 1995 when the INS became suspicious about the large number of visa applications he was handling as an agent for Russians who, already in-the United States, claimed that their companies needed them to remain to work for U.S. subsidiaries (that is, the shell companies Yegmenov had set up). Investigators tapped his fax machines and learned that Yegmenov had set up thousands of shell companies--4,000 in New York State, 1,000 in Delaware, a few hundred in Pennsylvania, Massachusetts, Ohio, and other states, and a couple of dozen in such secrecy havens as the Isle of Man and the Cayman Islands.

Yegmenov pleaded guilty to money laundering and visa fraud, served a year in jail, and was deported. Syroejine was arrested but beginning January 18, 1996, most court records in his case were sealed, including any that might indicate the disposition of his case.

The Russian scams are a window onto the seedy world of offshore banking. One-third of the wealth of the world's richest individuals--nearly $6 trillion out of $17.5 trillion--may be held in offshore accounts, according to Merrill Lynch & Gemini Consulting's World Wealth Report. There are about sixty offshore banking centers.

Some offshore practices are considered legitimate. U.S. financial services companies have offshore components as part of money management to avoid taxation on short-term holdings, to provide customers with interest-bearing overnight sweep accounts, and for Euro currency lending and deposit taking.

But the legitimate reasons for offshore banks provide a useful cover. The major U.S. and foreign banks have offshore subsidiaries for clients and companies that want to avoid the laws and scrutiny of their own countries. Offshore havens allow rich people and businesses to evade taxes. They also facilitate international financial fraud, market manipulation, theft of intellectual property, illegal arms dealing, and drug smuggling. Court records show how offshore accounts were used by the Bank of Credit and Commerce International (BCCI) to steal billions of dollars of depositors' money from the mid-1970s until 1991. (As the result of secrecy laws, bank regulators failed to recognize that BCCI was lending to itself.) Offshore banking also facilitated the frauds involving Daiwa and Barings banks and the Sumitomo trading company in the mid-1990s, which led to jail terms for the employees involved. It figured in the multimillion-dollar scam operated by alleged insurance fraudster Martin Frankel.

At least $200 billion a year of the world's drug money is laundered offshore, according to the 1998 U.N. report "Financial Havens, Banking Secrecy, and Money Laundering." Raul Salinas, the brother of Mexico's former president, used offshore shell companies to hide the movement of more than $100 million in drug payoffs through a private investment company named Trocca, according to the October 30,1998, General Accounting Office report "Private Banking: Raul Salinas, Citibank, and Alleged Money Laundering." Trocca was set up at Cititrust, Grand Cayman, by a Citibank vice president in New York, according to the GAO report.

Offshore is home to nearly a third of all hedge funds, such as Longterm Capital Management, which was licensed in the Caymans, where U.S. regulators could not know its excessive leverage of $1.25 trillion-1,000 times its capital--or see the losses it was taking until they put at risk some of America's most significant financial institutions. These losses prompted the Federal Reserve in 1998 to intervene to prevent massive default.

Offshore accounts helped dictators Mobutu, Suharto, Marcos, and Duvalier to hide their loot and keep it after their overthrow. It is where criminals have washed money to buy political power and threaten democracy from Mexico and Colombia all the way to Russia.

Jack Blum, a Senate Foreign Relations Committee counsel in the BCCI investigation and co-author of the 1998 U.N. report, calls tax havens the biggest threat to the integrity of a country's tax base. "The very rich use sophisticated offshore structures, which include foreign trusts, shell corporations, and bank accounts in countries with bank secrecy laws. Data about an individual's bank dealings is often available to the individual in the U.S. on a computer screen. When the government wants it, however, the information is `not in the United States.' It is on a main frame computer subject to foreign secrecy laws."

In the banking world, there is a crucial difference between confidentiality and secrecy. Confidentiality means your neighbor or competitor can't walk into a bank and see your account. Secrecy means that law enforcement authorities with evidence you've committed a crime can't see your account--even if they have a court order. Sometimes even bank regulators don't know the identity of depositors and their account balances.

A few dozen offshore tax havens have laws permitting corporate secrecy. And there are more than three million anonymous corporations--which are designed to conceal the origin and destination of goods in trade and to evade taxes by hiding profits and assets.

Offshore trusts give control to unidentified "trust protectors." The local courts can't hear claims against trusts, and many have "flee clauses" requiring trustees to transfer assets in case of law enforcement inquiries or legal writs. This puts them beyond reach of creditors, estranged spouses, tax authorities, police, customs, prosecutors, and courts.

Such offshore operations often use a gimmick called layering--moving the money through multiple venues--to prevent a paper trail, says one international investigator. "Money launderers set up a British Virgin Islands corporation, open a bank account in Curacao, airfreight the money to Aruba, have that wire-transferred. It goes through three jurisdictions; there are no records," he says. "You can convert profits to losses, put money in phony loans, buy businesses without people knowing who you are, and evade all laws regulating money. If authorities investigating a loan to the company ask about owners, lawyers say, `That's protected by secrecy law.'"

In October 1998, I attended the IMF-World Bank annual meeting in Washington, D.C., and went to a panel on "Strengthening Banking Systems." I'd just read a news report that then-Deputy Treasury Secretary Lawrence Summers had remarked that a $4.8 billion IMF loan to Russia might have ended up offshore. So I asked the experts, "Why don't you end the bank secrecy system that hides and launders illicit funds? Why don't you abolish secrecy havens by disallowing international transfers of money from such jurisdictions?"

Howard Davies, head of the British Financial Services Authority, replied, "If there could be a way of extending the reach of principles and anti-money laundering networks to cover all offshore...." He left the sentence unfinished, then said it was difficult to achieve, that there was not much leverage, and ended, "I have sympathy with the spirit of your spirited question."

Stanley Fischer, deputy director of the IMF, declared, "Obviously, these are tax avoidance and regulation avoidance devices. It must be possible to strengthen regulatory frameworks, perhaps the way you mention.... The idea that there shouldn't be unregulated banking for tax avoidance and regulation avoidance is correct."

Six months later, the Group of Seven-- the leading industrial nations--met and considered how to deal with the dangers posed by offshore accounts. "We are very worried about offshore havens," said then-Treasury Secretary Robert Rubin. It is "in the interest of sound international tax policy that there not be offshore havens that people can use to evade taxes."

But when, at the same meeting, France's Finance Minister, Dominique Strauss-Kahn, urged that offshore centers that fail to properly regulate accounts or cooperate with law enforcement be cut off from financial contact with the world, he did not get a positive response from Rubin or the other Americans. "I don't see the thing moving," Strauss-Kahn told me later. "I'm afraid it will be a long time. Maybe I'm wrong."

Then the Bank of New York scandal broke. It should have come as no surprise to officials in Washington, since the scam of offshore banking was known to all of them. Only the particulars were different. Since at least the 1970s, wealthy tax evaders, drug dealers, and other criminals have been using these havens. It is because U.S. political leaders were afraid to take on powerful corporate interests, especially those on Wall Street, that the Russians found a system to facilitate their theft.

Once the Russian scandal with the Bank of New York broke, the Treasury Department sat up and took notice. By late September, the Treasury announced, as part of its new anti-money-laundering strategy, that it wanted to make it more costly for American banks to lend to entities in offshore centers that were badly regulated and didn't cooperate with law enforcement. For instance, U.S. banks would have to put aside reserves for loans made to such entities. "The impact on international finance and banking would be revolutionary" if such reserves were required, says Jonathan Winer, who until November was Deputy Assistant Secretary of State for International Narcotics and Law Enforcement Affairs. Since banks would have to keep more of their money as reserves, they couldn't lend as much elsewhere, so they would charge more for such loans.

Other Administration proposals would prosecute foreign officials who embezzle money and launder it through U.S. banks, make it illegal for people in the United States to launder criminal proceeds through foreign banks, give prosecutors greater access to records in bank secrecy jurisdictions by sanctioning individuals who hide behind such laws, and give U.S. courts jurisdiction over foreign banks that violate U.S. money-laundering laws if the banks have accounts in the United States.

Two days before the Administration announcement, James Leach, Republican of Iowa, head of the House Banking Committee, proposed with bipartisan support much stronger legislation attacking offshore havens. U.S. banks could not open accounts for foreign companies or individuals unless they knew the owners' identities, and they couldn't open accounts for "brass plate" banks that didn't operate where they were registered or that didn't identify customers moving money through their correspondent accounts, which are devices for anonymously bundling and transferring funds.

France continues to be outspoken on the issue. At this year's IMF-World Bank meeting, France proposed, in effect, to ban offshore bank and corporate secrecy.

Such radical measures are unlikely to be readily adopted. The banks, investment companies, and rich people who benefit from offshore secrecy are exerting power to keep the system generally intact. Klaus Engelen, a correspondent for the German financial paper Handelsblatt, wrote in Emerging Markets in September that a German official told him, "The major Wall Street houses again are muzzling the reformers in the U.S. Treasury."

John Byrne, senior counsel at the American Bankers Association, says the Leach proposals "put us in a competitive disadvantage; if our procedures are tougher than international procedures, we will lose accounts." Forcing U.S. banks to report possible criminal activity more frequently than they would have in the past is not going to work, Byrne says. He's afraid clients would tell him, "I'm going to go to a country where they're not going to ask all these penetrating questions and take my business elsewhere."

Byrne says a working group of the banks will meet with Treasury officials to discuss the implications of the proposed legislation.

When Treasury Secretary Summers testified before the House Banking Committee in September, it was clear he wanted to target some renegades but preserve the system. His colloquy with Representative Maxine Waters, Democrat of California, went like this:

Representative Waters: "One of my pet peeves is the fact that our respectable banks wire-transfer money to the banking centers in Antigua and other places. And we know why they are establishing what they are doing. What leadership are you going to provide to stop that practice?"

Secretary Summers: "With respect to the general issue of offshore financial centers-sometimes referred to as `havens'--I expect us to provide, in the context of the money laundering strategy, a set of proposals, and I think that it will also indicate--"

Waters: "Do you want to see it stopped?"

Summers: "Yeah, we--"

Waters: "Do you want to see the practice of wire-transferring to money laundering centers that we know about stopped, period?"

Summers: "Congresswoman, we want to see abuses stopped."

But focusing on the "abuses" is disingenuous. Hiding illicit money is the raison d'etre of offshore bank and corporate secrecy. Offshore banks catering to crooks can live with Summers's mild reform proposals. Criminals don't need loans from U.S. banks; they need a place to stash their loot. Summers refuses to cut to the heart of the offshore scheme: the anonymity of account and company owners. There will be more massive money-laundering scandals until the United States says no to dirty money and works to abolish offshore bank and corporate secrecy.

Lucy Komisar is a New York journalist who has spent several years investigating the phenomenon of offshore bank and corporate secrecy havens.