White hats or black hats – As long as they catch vice?

by Ferdinand Balfoort

Transparency Times regular contributor

White Hat vs Black Hat

Spot the difference and the potential outcome. Courtesy of www.labnium.org.

In an earlier less regulated era, the current Chinese Leader Deng Xiao Peng, noted that "It doesn't matter whether a cat is white or black, as long as it catches mice.”

Equally, in IT terms white and black hat hackers are both focused on finding vulnerabilities in IT security systems, the former for the purposes of identifying and remediating them, while the latter focuses on exploiting them.

Does this choice of colour apply to financial services, professional accountants and lawyers? I would posit it does. Legal and regulatory systems are intended to provide protection against what society deems to be infractions that affect the greater good negatively, including tax evasion and money laundering. As a principle, laws and regulations are man made and therefore contain loopholes. Any white hatted professional could easily decide to become a black hat in the space of the time it takes to determine how to exploit a loophole. Our recent history is replete with examples.

In my work, I am engaged in several situations where not knowing the colour of the hat is costly.

Case 1: We are currently guiding a venture towards successful production and commercialization. It takes waste rubber tyres and plastic bottles and turns them into a new industrial product that can be used in a wide range of industries, (at half the cost of existing raw materials).

Having finally identified some investors in Europe to fund the development of the production plant, the biggest hurdle we now face is the bank imposed ‘Know Your Customer’ procedures. Client start-up funding has been transferred backwards and forwards between two major banks in Europe over the past three weeks in a game of financial ping pong. The UK bank does not believe the relevant due diligence forms have been prepared properly by the continental bank, and as a result, the much needed funds are in limbo.

We expect more grief when the mainstream bank in the UK transfers the funds to a smaller local bank, which will also want to do due diligence again. It is great for the compliance professionals involved. It is obviously not positive news for the principals of the start-up, whose nails have been bitten to the quick during this period. The smaller bank is now essentially the final arbiter whether this promising environmental venture lives or dies.

barbeque near a tire dump out of hand

A barbeque near a tire dump, Sesena, Spain, recently got out of hand. Courtesy of WSJ

Case 2: In Mauritius, we have been assisting a client to make sense of recent Foreign Account Tax Compliance Act (FATCA) imposed rules, that have filtered through to a local management company which registered and maintains an African holding company for my clients. The client is a company providing critical services on the African continent.

We wear white hats and do not work with any clients for which we have not completed our own satisfactory risk assessment and due diligence. New FATCA driven rules require an additional non-executive director from the management company, in addition to their bank authorizers and approvers. The client has had to accept this interference of their business, as well as a threshold on transactions of US$ 25,000 above which management company personnel must approve any transfers. Each and every transaction through bank accounts is vetted and reviewed at an average cost of US$ 50.

My clients spend a substantial part of their day, diverted from their core business practice while meeting the regulatory due diligence requirements and answering queries from the Mauritius management company. The management company is essentially starting to run my client’s business and charging for this dubious pleasure.

Case 3: Meanwhile in Malaysia, a major Wall Street investment bank is under investigation for not alerting authorities about an unusual transaction in the order of US$ 3 billion. The impact of the investigation is yet to be confirmed. It may lead to fines. This has usually been the case in the past decade when major banks were negligent.

The world is increasingly run via regulations that are adding much red tape and burden to companies.

This article outlines three different cases, but all very much connected to black hats and white hats. The white hat role of banks, accountants and other professionals involved in the setting up and management of corporate entities for their clients decreases the risk of corruption and fraud, while disproportionately suffering unproductive regulatory interference. A choice to wear a black hat perversely makes the world a more tricky place, as the exploitation of loopholes will ultimately result in more patchwork regulation to cover the gaps.

In this context, Transparency International New Zealand has consistently called for accountants and lawyers to put on their white hats, and to be pulled into the ambit of anti-money laundering legislation and requirements. We have also called for a public register to show beneficial owner details for those involved in all the facets of establishing and managing corporate entities globally.

The EU commission aims to crackdown further on money placed offshore for tax reasons. Courtesy the Guardian

This is echoed in the latest debate on EU regulations to introduce measures to identify the real ownership of companies and to clamp down on offshore avoidance, which are in the pipeline. Unfortunately, the pipeline is leaky again, as Laure Brillaud from TI EU notes: “This is a bold step by the commission but it’s not the brave leap needed to end this system of secrecy which fuels impunity”. Aided by black hat professionals, may we add.

It is this lack of transparency and coverage which causes the detailed invasiveness my clients suffer, while large transactions somehow slip under the radar. There are simply too many black hats out there, carrying time bombs behind their backs.

As a result, the costs of regulatory oversight and invasiveness are disproportionally borne by smaller businesses. A large investment bank may pay a fine which will, likely, be an immaterial tax on its professional fees. My clients also pay a “tax”, but in their cases this is a much higher burden proportionally. And it perversely increases the professional fee income for professional services firms. As long as we don’t have transparency in registration of legal entities (and our professionals are not held to account to perform appropriate risk assessments), every genuine entrepreneur globally will suffer because of the misdemeanours of others.

Isn’t it time to wear your white hat? Or will we continue to act as if “it don’t matter if you’re black or white”?


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