Hawala: Indian Law and the FATF Recommendations | November 2008
By Niti Dixit

Hawala, as it is referred to in the Middle East and South Asia, was commonly used before the advent of modern western banking services.  It is essentially an alternative remittance system that facilitates a transfer of money across international borders. 

Migrant workers often send their earnings to families at home through hawala operators (or hawaladars) simply because they, or their families, may not have a bank account, the hawaladar may offer a more attractive rate of exchange, there is little paperwork involved and the commission payable to a hawaladar may be lower than the bank charges for an international remittance.  There is a high degree of trust involved in these transactions ensuring that the system is almost always reliable. 

Anonymity provided by hawala may also be preferred by those who are illegal refugees in a country.
Unfortunately, Hawala has also been utilised as a money laundering and terrorist financing system.  Interpol, the World Bank, the International Monetary Fund and the Financial Action Task Force (FATF) have each studied hawala and recommended possible measures to remove the threats posed by the misuse of unregulated hawala transactions. 

In certain jurisdictions in the Middle East, hawaladars are licensed and the use of an alternative remittance system is regulated.  In India, hawala is not permitted and constitutes an offence under Indian law.

In a simple hawala transaction, person X in country A wants to send money to person Y in country B.  Person X approaches hawaladar M in country A and pays the requisite amount in the currency of country A.  Hawaladar M gives X a unique code that X has to communicate to Y for the purpose of identification.  Meanwhile, hawaladar M will contact hawaladar N in country B, who will pay the money to Y (after deducting commission), in the currency of country B.  While this transaction is simple enough, it can be complicated by use of several sub-agents.  The transaction may also be complicated if country B permits the use of licensed hawaladars.  If hawaladar N is properly licensed, the fund transfer within country B may not, in all cases, be illegal.

In India, it is not uncommon to use the import and export of goods to settle hawala transactions.  Jewellery, gold and other precious metals, among other things, serve as an ideal disguise for the settlement of hawala transactions through over- or under-invoicing.

Legal and Regulatory Framework in India
While hawala transactions in India are prohibited by the Foreign Exchange Management Act, 1999 (FEMA), which repeals the earlier Foreign Exchange Regulation Act, 1973, (FERA), there are other laws and regulations that also restrict such transactions.

FEMA provides, inter alia, that, except with the general or special permission of the Reserve Bank of India (RBI), no person shall 

• Deal in, or transfer any foreign exchange or foreign security to any person not being an authorised dealer.
• Make any payment to, or for the credit of, any person resident outside India.
• Receive (except through an authorised dealer) any payment by order, or on behalf of, any person resident outside India in any manner.
• Enter into any financial transaction in India as consideration for, or in association with, the acquisition or creation or transfer of a right to acquire, any asset outside India. 

Further, except as permitted under FEMA, no person resident in India shall acquire, hold, own, possess or transfer foreign exchange, foreign security or any immovable property situated outside India.
The penalty for contravention of FEMA is financial. The penalty can be up to three times the sum involved, if the amount is quantifiable, or, if not, up to INR 200,000. In the case of an ongoing contravention, a fine of INR 5,000 can be levied every day for the period of the contravention.  In addition, any currency, security or any other money or property in respect of which the contravention takes place may be confiscated by the government.  In repealing FERA, the Indian government removed penal provisions that provided for the arrest and imprisonment of persons convicted of an offence.  However, India still retains the Conservation of Foreign Exchange and Prevention of Smuggling Act, 1974 (COFEPOSA) which authorises the government to detain any person (including a foreigner) to prevent such person from acting in a manner that prejudices the conservation or augmentation of foreign exchange.  This is no empty threat: the Indian Supreme Court has permitted the detention under COFEPOSA of persons suspected of engaging in hawala (Union of India and Others  v Venkateshan S and Others reported in [2002] 5 Supreme Court Cases 285).

As stated earlier, hawala is often facilitated in India by the under- or over-invoicing of imported or exported goods. Anyone unable to explain discrepancies may also be charged under the provisions of the Customs Act, 1962.

In 2002, India enacted the Prevention of Money Laundering Act, 2002 (PMLA), which only became effective in 2005.  The PMLA makes “money laundering” an offence punishable with rigorous imprisonment and a fine and with the attachment and confiscation of property involved in money laundering.  “Money laundering” is defined as directly or indirectly attempting, indulging or assisting in any process or activity connected with the proceeds of offences included in the Schedule to the PMLA, and passing off such proceeds as legitimate property.  The Schedule to the PMLA includes, inter alia, offences under the Indian Penal Code (homicide, kidnapping for ransom, extortion, waging war against the State, among others), offences related to trafficking in drugs and illegal dealings in arms and ammunition, trafficking of women and offences under the Prevention of Corruption Act.  The Schedule to the PMLA does not include offences under FEMA, tax laws and securities laws.

The Foreign Contribution (Regulation) Act, 1976, regulates foreign contributions to political parties, charitable trusts, quasi or non-governmental organisations in order to, inter alia, monitor the use of such contributions for hawala or for money laundering.

Terror Financing
The Terrorist and Disruptive Activities (Prevention) Act, 1987 was India’s first attempt at a counter-terrorism law.  It was replaced by the Prevention of Terrorism Act, 2002.  Under these statues, prosecutions were undertaken, among other offences, for the use of hawala for the financing of terrorism.  However, both these statutes have since been repealed and at present India does not have a specific anti-terrorism law.

India and the FATF
India has enjoyed observer status with the FATF since February 2007.  In order to acquire full membership of the FATF, India is required to adopt the 40 recommendations of the FATF and the nine Special Recommendations on Terrorist Financing (collectively, the FATF Recommendations).  The Indian Ministry of Finance issued a press release in August 2008 stating that “India is actively pursuing membership of the FATF, which is engaged in establishing global standards and measures for countering money laundering and terrorist financing.... The technical requirements for getting the membership of FATF are being processed.”

India has taken certain measures to adopt the FATF Recommendations through national legislation and regulatory oversight.  These include the following actions:

• The PMLA was enacted in response to the FATF Recommendations and specifically provides for reciprocal arrangements between India and other countries to enforce the provisions of the PMLA and to exchange information with, or offer assistance to, a “contracting state” for the investigation of money laundering offences.
  
  
• India established the Financial Intelligence Unit, India (FIU-IND www.fiuindia.gov.in) on 18 November 2004, which reports directly to the Economic Intelligence Council headed by the Minister of Finance, Government of India.  The FIU-IND receives and analyses cash and suspicious transaction reports and disseminates valuable financial information to intelligence and enforcement agencies and regulatory authorities in India and foreign financial intelligence units.  It also exchanges information with foreign financial intelligence units in respect of suspicious transactions.
  
  
• The RBI issued "Know Your Customer Guidelines—Anti-Money Laundering Standards" on 29 November 2004 that require financial institutions to establish systems for the prevention of money laundering through, inter alia, customer due diligence.  The RBI issued further guidelines in February 2006 providing clarification on reporting cash and suspicious transactions to the FIU-IND under the provisions of the PMLA.
  
  
• India’s Insurance Regulatory Development Authority, the insurance regulator, has also issued guidelines under the PMLA to all insurance companies operating in India.

Recent Developments
On 17 October 2008, the Indian government introduced draft legislation to amend the PMLA in the Rajya Sabha, the upper house of the Indian parliament.  This draft legislation will, reportedly, require service providers such as money changers, money transfer service providers, credit card payment gateways and casinos to comply with the financial reporting requirements under the PMLA.  The proposed amendment also reportedly introduces new categories of money laundering offences such as insider trading and market manipulation.  Offences related to human trafficking, smuggling of migrants, piracy and environmental crimes, over- and under-invoicing of exports and imports will also be included in the Schedule to the PMLA.  Currently, the Schedule to the PMLA does not include securities legislation and customs and tax legislation.  The proposed amendments are intended to address offences that have cross-border implications or which, experience has shown, are often closely connected with terror financing.