The Panama Papers: What You Don’t Know

The Panama Papers:

A trove of documents leaked from a Panamanian law firm brought the offshore world right to your doorstep.  The published files — 11.5 million of them — exposed the secret financial dealings of some prominent figures and revealed webs of corruption, money laundering and fraud.

According to The Economist, the documents show “the offshore holdings of 140 politicians and officials, including 12 current and former presidents, monarchs and prime ministers.”  In addition, it is alleged that the ill-gotten wealth acquired from transacting with “rogue states, terrorists or drug barons” was hidden behind anonymous corporations with fake directors or shareholders (“nominees”).  Close associates to Vladimir Putin are claimed to have shuffled billions offshore and the Prime Minister of Iceland has already resigned.

This came as a shock to the international community and naturally all eyes turned to Panama; hence, the Panama Papers.  Journalists and pundits alike took to the offensive and criticized Panama for its friendly tax policies and lax financial secrecy laws that facilitate tax evasion and money laundering.  In fact, OECD Secretary-General Angel Gurría recently stated that “the ‘Panama Papers’ revelations have shone the light on Panama’s culture and practice of secrecy.”

And this is what the media has focused on.  But is Panama really to blame?

Panama’s Commitment to International Transparency

The Panama Papers left in its wake a Panama striving to save its reputation.  Panamanian Finance Minister Dulcidio De La Guardia affirmed that Panama is “working very closely with the OECD” and has pledged to accelerate talks on financial transparency and compliance.  De la Guardia also noted that just last year at the United Nations Panama promised to adhere to global requirements.  In fact, he continued, “the international community should recognize what Panama has done in the last 18 months.”  In reality, though, Panama should be recognized for how far it has come since the dark days of the eighties.

Panama has made great strides since the days of Noriega and his “narco-kleptocracy” — in the words of John Kerry — that turned this tiny Central American nation into a hotbed for money laundering and drug trafficking.  Just recently, the Financial Action Task Force (FATF), an inter-governmental body charged with setting the standard on combatting money laundering, removed Panama from its “gray list”:

The FATF welcomes Panama’s significant progress in improving its [anti-money laundering] regime and notes that Panama has established the legal and regulatory framework to meet its commitments in its action plan regarding the strategic deficiencies that the FATF had identified in June 2014.

In fact, a 2015 U.S. State Department Report on money laundering and financial crimes commended Panama on its efforts.  The report concluded that Panama’s current action plan will improve its legal and regulatory frameworks in the fight against money laundering and create a more transparent financial network.  A few years earlier, the Organization for Economic Co-operation and Development (OECD), removed Panama from its own “gray list” for substantially implementing international standards on the exchange of tax information.  In addition, Panama has signed numerous bilateral Tax Information Exchange Agreements (TIEA), including with the United States, and has largely distanced itself from its 1980s image.

As part of its commitment, Panama abolished bearer shares, or shares that conceal beneficial ownership, and demanded that all such shares issued previous to the law be handed over to an authorized custodian.  The purpose, of course, was to assist the authorities in prosecuting tax evasion and money laundering cases against the beneficial owners of Panama’s anonymous corporations.

Clearly, Panama has pleased the international community and is making due on its commitment to combat money laundering and tax evasion.  The Panama Papers have created a skewed perception of this and have sparked questions about the efficacy of the laws in place — the same laws hailed as steps in the right direction.  That is why the advent of the Panama Papers raises an important question:  Is Panama really to blame?  Let’s look at two very important people involved in the offshore world: banks and law firms.

The Banks

Opening a bank account in Panama is actually quite difficult for foreigners.  The application process can last from two weeks to one month and banks are under no obligation to accept you as a client.  Applications are quite commonly over thirty pages and lawyers are frequently used to help navigate the process.  A personal interview is almost always required and banks are obligated to keep records on the ultimate beneficial owners (the real owners) of the company.

In fact, Panama created a Superintendency of Banks to “oversee the preservation of the soundness and efficiency of the banking system…in order to maintain and strengthen international financial integration.”  Law 2 of 2008 drives home the Superintendents mission.  For example, all banks are subject to inspection and supervision by the Superintendent and must confirm that they abide by the proper legal and regulatory framework established to prevent money laundering.  Banks must also establish policies and procedures that will allow them to know and identify the client (KYC laws).

The KYC laws are actually quite onerous.  For that reason, I only offer for purposes of this article select provisions of Law 23 of April 2015, in part aptly named, “Adopting Measures for the Prevention of Money Laundering.”  Law 23 echoes Panama’s principal banking law — Law 2 of 2008 — and establishes the basic requirements for due diligence on natural and legal persons (people and companies, respectively).

The banks must establish a financial profile of the client (or the real owner) upon opening the account and take reasonable measures to ascertain the source of funds.  When the client is a company, the identity of all officers, directors, legal representatives, registered agents and authorized signatures must all be verified.  In other words, whether the client is a corporation or human being, the real and actual owner must be identified.  If not, well, the bank is required to cease business operations upon “persisting doubt” of the persons’ identity.  High ranking public officials, including their associates, are more harshly scrutinized.  In addition to ascertaining the client’s identity, the banks are required to “know the nature of the business of the customer” and, in a Patriot Act kind of way, continuously monitor the business relationship with a special focus on any transaction over $10,000.00.

Banks, though, will never know the client as well as the lawyers do.  In fact, hiring a lawyer is usually the first step in the process as opening an offshore account involves a labyrinth of documents best suited to be handled by an attorney.  Thus, verifying the identity of the client actually begins with the lawyers – the onus is on them.

The Lawyers

As alluded to previously, the first line of defense in the global war against money laundering and tax evasion is the lawyers.  On the one hand, clients are much more likely to be transparent with their lawyer than with their banker.  On the other hand, the attorney-client privilege facilitates this trust and protects — by law — certain confidences of the client.

Lawyers, then, find themselves in the unique position of having access to highly personal and even incriminating information.  Consequently, they are much more adept at ascertaining the true identity of the client.  This is why the lawyer is such an important player in the prevention of money laundering and tax evasion

Lawyers in Panama, like the United States, must uphold the rule of law and practice in accordance with the Code of Professional Responsibility.  Ethics violations are pursued by the Panama Bar Association and discipline is administered by the country’s Supreme Court.  Lawyers are also subject to the same due diligence and KYC requirements imposed on banks as detailed in Law 23 of April 2015 (talked about above).  Unlike banks, though, lawyers and law firms are subject to more rigorous KYC obligations.

Generally, Law 2 of February 2011, “which regulates the measures to know the client for registered agents of juridical entities,” requires lawyers to do just that: know-your-client.  The registered agents, of whom can only be lawyers or law firms, must take appropriate actions to identify the client or beneficial owner in order to prevent “crimes related to money laundering, financing of terrorism, and any other illegal activity.”   In addition, the registered agents are also bound by any international treaties or agreements ratified by Panama.

Specifically, the law goes into great detail on what constitutes acceptable measures of compliance, and for those reasons what follows is a select bunch: The lawyers (as registered agents) must identify their client with documents, data or information obtained from reliable and independent sources.  If the client is acting on behalf of a third party, or is a corporation itself, all measures must be taken to identify both the third party and the client, including, but not limited to: (1) bank and commercial references; (2) copies of passports or national identification; (3) and copies of the latter for all shareholders of the client — if a corporation — when direct or indirect ownership is at least 25% of the capital.  If bearer shares are involved, the registered agent must ascertain the real identifies of those who hold the stock certificates.  The information and documents obtained must be kept up-to-date and any changes in ownership of the company would require the registered agents to know the new owners.

Until the client has been sufficiently identified, it is impermissible to render services as a registered agent/lawyer — save certain exceptions — before due diligence has been completed.  Policies must be established, as with the banks, and certain employees trained on proper KYC implementation and record keeping.  As always, competent authorities, such as the Attorney General, may request information regarding the client and demand any document or data used by the attorney in compliance with the Law.

The list goes on.

Conclusion

There is no doubt that financial institutions and lawyers are key players in the fight against money laundering and tax evasion.  As discussed, Panama has the proper legal and regulatory framework in place to ensure compliance with internationally accepted standards on transparency.  In this regard, Panama’s anti-money laundering and tax evasion laws are actually a lot stronger than many others in the world.  Let’s add some proportion to this and take a brief look at the United States:

During the seventies and eighties, Delaware capitalized on the heyday of globalization by advertising its services as a pioneer in offshore secrecy incorporations.  Despite marginally cleaning up its act, the United States is still known as the largest tax haven in the world.  The Tax Justice Network, a group committed to raising awareness on tax evasion and financial transparency, does not look favorably upon the United States.  In its 2015 Financial Secrecy Index, which ranks countries based on their secrecy and scale of offshore financial activities, the United States placed 3rd, only losing to Switzerland and Hong Kong.  Panama, however, comfortably sits in 13th place, far below the United States, and countries like Germany and Japan — surprisingly — are considered far more “secret” than Panama.

Yet, the Panama Papers paint a gloomy picture of the offshore world in Panama.  On the contrary, the Panamanian system is not the financial getaway car of the crooks and cronies.  Panama has made a concerted effort to combat financial crimes on the international, national and local level, and has the mechanisms in place to prevent it.  It is the banks and lawyers, though, who are charged with following through — again, the onus is on them.  Lawyers are humans, however, and some may find that ethics and the rule of law impede their own self-serving interests.

And this is what the fallout from the Panama Papers should focus on.  Instead, quite obviously influenced by sensationalism, the Panama Papers seek to question the integrity of the entire country by the actions of only one law firm.  In reality, Panama’s culture and practice of secrecy have nothing to do with the situation.  One law firm’s alleged culture and practice of flouting the law have everything to do with the situation.

Is Panama really to blame?