Islamic Republic of Iran - Opportunities and Financial Crime Risks

ISLAMIC REPUBLIC OF IRANOPPORTUNITIES AND FINANCIAL CRIME RISKS

OCTOBER 2015

I S L A M I C R E P U B L I C O F I R A N : O P P O R T U N I T I E S A N D F I N A N C I A L C R I M E R I S K S

THE IRAN OPENING

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• On 20 July 2015, the United Nations Security Council endorsed the Joint Comprehensive Plan of Action (JCPOA), as agreed upon by Iran and the P5+1 (the permanent members of the UN Security Council - China, France, Russia, United Kingdom, United States - plus Germany).

• “Implementation day” – expected early 2016 – is the date when the U.S. and EU will be obliged to lift sanctions as set out in the JCPOA. The majority of financial restrictions related to dealing with Iran will be lifted.

• Most U.S. “secondary sanctions” against non-U.S. persons will be terminated.

• Some U.S. and EU sanctions outside the JCPOA, such as those relating to terrorism and human rights, will remain in force.


FINANCIAL CRIME IN IRAN

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• Financial crime is a major issue in Iran. There is pervasive corruption within the ruling and religious elite, government ministries, and government-controlled business enterprises.

• Senior politicians on both sides of Iran’s political divide routinely criticise corruption in the government, as does the Supreme Leader.

• In April 2015, Supreme Leader Ali Khamenei said: “corruption is frequently spoken about, but this is of no use. If we only shout ‘thief, thief’, thieves do not stop their work.”

• Iran has a notable underground economy, encouraged by restrictive taxation, widespread goods smuggling, capital flight, currency exchange controls, and a large expatriate community.

“CORRUPTION IS FREQUENTLY SPOKEN ABOUT, BUT THIS IS OF NO USE. IF WE ONLY SHOUT ‘THIEF, THIEF’, THIEVES DO NOT STOP THEIR WORK.”


MONEY LAUNDERING RISKS IN IRAN

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• Implementation of EU, UN and U.S. sanctions, and circumvention of these sanctions, has undermined the potential for private sector growth in Iran, whilst facilitating money laundering.

• The Financial Action Task Force (FATF) has repeatedly warned of Iran’s failure to address the risks of terrorist financing. The FATF has urged jurisdictions around the world to impose countermeasures to protect their financial sectors from illicit finance emanating from Iran.

• Iran is a major transit route for opiates headed for the Persian Gulf, Russia and Europe. At least 40% of opiates leaving Afghanistan enter or transit Iran. Illicit proceeds from narcotics trafficking can be used to purchase goods in Iran; goods which are often exported and sold in Dubai.

• Iran’s bazaari community makes active use of value transfer systems, including hawala and moneylenders. Counter-valuation in hawala transactions is often accomplished via trade. Thus, trade-based transactions are likely to be a prevalent form of money laundering. Many hawaladars and traditional bazaari are linked directly to the regional hawala hub in Dubai.

AT LEAST 40% OF OPIATES LEAVING AFGHANISTAN

ENTER OR TRANSIT IRAN


MONEY LAUNDERING RISKS IN IRAN (2)

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• Half a million Iranians reside in the UAE, with nearly 10,000 Iranian-held companies based there. There are reports that billions of dollars in Iranian capital have been invested in the UAE, particularly in Dubai real estate. Increasingly, Iran’s domestic real estate market has also been used to launder money.

• Systems that facilitate corruption in Iran, whether through charitable foundations or intermediaries, pre-date the foundation of the Islamic Republic in 1979, and were widely used during the Pahlavi dynasty.

INCREASINGLY, IRAN’S DOMESTIC REAL ESTATE MARKET HAS ALSO

BEEN USED TO LAUNDER MONEY.


ANTI-MONEY LAUNDERING MEASURES IN IRAN

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• In 2008, amidst mounting pressure from the U.S. and the FATF, Iran’s parliament passed the country’s first AML law.

• Iran’s new AML law is a concerted effort to stop money laundering and terrorist financing. Iran’s AML law defines money laundering as obtaining, possessing, keeping, and using the benefits resulting from illegal activities, with knowledge that the funds came, directly or indirectly, from the commission of money laundering.

• Iran’s AML law created the “High Council on Anti-Money Laundering Secretariat”, composed of Iran’s economic minister, the head of Iran’s central bank, and various ministers of commerce, intelligence and the interior. It has the authority to approve and enforce necessary money laundering regulations.

IT HAS THE AUTHORITY TO APPROVE AND ENFORCE NECESSARY MONEY LAUNDERING REGULATIONS.


ANTI-MONEY LAUNDERING MEASURES IN IRAN (2)

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• Iran’s AML law requires all legal entities to adhere

to higher standards of record keeping, client identification, and reporting of suspicious transactions. In late 2009, Iran’s parliament ratified the bylaws, which resulted in the implementation of the legislation as well as the set-up of the High Council on Anti-Money Laundering, the Executive Secretariat and the Iranian Financial Intelligence Unit.

• The prevailing view in the West is that the new law was designed to appease the United States, the United Nations and the FATF, and thereby insulate Iranian banks from additional international scrutiny. The FATF has not changed its position regarding Iran.

• Despite Iran’s passing of its first AML law, UN Resolution 1803 called on UN states to scrutinise the activities of financial institutions within their territories relating to banks domiciled in Iran, including their branches and subsidiaries located abroad.

DESPITE IRAN’S AML MEASURES, THE UN HAS CALLED FOR ONGOING SCRUTINY OF FINANCIAL INSTITUTIONS WITH EXPOSURE TO IRAN


ENTERING IRAN

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• The most common way to enter the Iranian market has been through joint ventures and third party agents.

• Years of U.S., UN and EU sanctions have meant that the Iranian market lacks competition, and has been dominated by the state.

• Iran is a three-tiered economy, with state-owned, semi-private and private companies.

• Since 1989, the government has made privatisation a priority. Today’s reality, however, reveals a private sector dominated by government bodies, state-owned enterprises, bonyads (wealthy, non-governmental, ostensibly charitable, foundations) and pension funds.This process has been dubbed “pseudo-privatisation”.

YEARS OF U.S., UN AND EU SANCTIONS HAVE MEANT THAT THE IRANIAN MARKET LACKS COMPETITION


BUSINESS PARTNER RISK

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• The Ultimate Beneficial Ownership (UBO) structure of publicly listed companies can be elusive. The true beneficial owners of some of Iran’s largest publicly listed companies are state or Iranian Revolutionary Guard Corps (IRGC)-owned enterprises.

• Many Tehran Stock Exchange-listed entities are held by a combination of state or IRGC-owned enterprises, charitable trusts (bonyads), and pension funds.

• Other non-listed private companies are often indirectly or directly held by the state, or individuals closely tied to the Islamic Republic. For example, Mahan Air, Iran’s largest airline, is widely believed to be ultimately held by the Rafsanjani family. It has also been accused of collaborating with the IRGC and Hezbollah.

• Other private companies have close ties with the IRGC and its construction arm Khatam-al Anbiya, although these links are often hidden through complex structures.

• The IRGC also exerts influence over bonyads (charitable organisations) controlled by senior clerics. Bonyads are frequently criticised as inefficient and loss-making organisations subsidised heavily by the state, that hamper competition. Much like the IRGC, the bonyads are understood to have gained power after years of economic sanctions.


CASE STUDY: ARIA ZIGGURAT TOURISM DEVELOPMENT CO.

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• In September 2015, Aria Ziggurat Tourism Development Co., a private company, signed a management agreement with AccorHotels, for the management of two Ibis and Novotel hotels located at Tehran IKIA Airport.

• Aria Ziggurat, incorporated in 2010, is a majority-owned subsidiary of Iran Cultural Heritage and Tourism Investment Group Co. (“SEMEGA”), a company listed on the Tehran Stock Exchange.

• SEMEGA is held by a range of shareholders, including; Talaye Daran Caspian Trade Co. (8.79%), Laleh International Hotel Asaluyeh Co. (8.62%), Tanian Design and Engineering Co. (8.1%), Saba Salman Morning Trade Co. (7.03%), Sekandaran Trade Persia Co. (5.66%), and Molal Movahedin Credit Cooperative (5.03%). These entities have low press profiles, and their ultimate beneficiaries are unclear.

• SEMEGA’s chairman is Mehdi Jahangiri, the brother of Eshaq Jahangiri, Iran’s first vice president. He is a former deputy of planning and investment at the Cultural Heritage, Handcrafts and Tourism Organization (ICHTO), a government agency.

• Such arrangements suggest that Aria Ziggurat is likely to have strong ties to the government, with its ultimate beneficiaries possibly linked to the government, IRGC, or former/present public officials.


THIRD PARTY AGENTS

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• Though sanctions have been part of Iran’s economic reality since the foundation of the Islamic Republic, the ruling elite has never developed regulations or legislation to clarify how the economy should function under sanctions. This has been abused consistently, for over 35 years since 1979.

• The prevalence of organisations, or more often individuals, acting in the interest of the Iranian government to circumvent sanctions, has become heightened in recent years. Often, these individuals are politically connected, traditionally the relatives of politicians and clerics operating in collusion with lesser known associates.

• Many high profile corruption cases and allegations, such as those against Babak Zanjani, Reza Zarrab, Abbas Yazdi, Mehdi Hashemi Rafsanjani, and Reza Mostafavi Tabatabaei, have materialised, due to the state’s reliance on intermediaries, and the propensity for financial crime via this means.

• With the retraction of economic sanctions levied against Iran, the need for sanctions circumvention may disappear. However, Iran’s historic reliance on individual intermediaries and agents to conduct business overseas is likely to endure, and could serve as a prominent threat to multinational companies.

IRAN’S HISTORIC RELIANCE ON INDIVIDUAL INTERMEDIARIES AND AGENTS TO CONDUCT BUSINESS OVERSEAS IS LIKELY TO ENDURE


BRIBERY RISKS IN IRAN

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• Decades of economic isolation have made Iran’s business scene difficult to navigate for outsiders accustomed to adhering to globally-accepted principles. Bribery is a widespread cultural practice in Iran, which takes effect at local, national and transnational levels, and favours the politically connected.

• Bribery in Iran predominantly takes the form of kickbacks in the rewarding of state contracts, inflated or undervalued asset sales, and secret commissions. Corruption in the legal system, whether in the form of forged documents or facilitation payments, has hitherto provided little guarantee to foreign inventors.

• In recent years, it has emerged that even companies traditionally considered to have successfully entered Iran, such as MTN, have allegedly bribed public officials.

• The use of intermediaries by foreign companies is closely connected to bribery. Iran’s petroleum industry has been particularly conducive to bribery and corruption in the awarding of rights, tenders and contracts. Notable examples include the recent IOEC oil rig scandal, the 2001 Crescent Petroleum case, and the prominent 2004 Statoil corruption case.


CONCLUSION

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• International sanctions have heightened financial crime risks in Iran. Blocking access to banks, credit lines and SWIFT, has significantly hurt the private sector, whilst rewarding those willing and able to circumvent sanctions.

• With foreign access to Iranian markets, there is the potential for a competitive private sector to develop. However, the state will continue to act as the controlling party, not just as a facilitator. This means that dealing with third party agents intimately connected to the Iranian government and its officials is practically unavoidable.

• Conducting integrity due diligence on business partners, third party agents and intermediaries will help to ensure compliance in a complex, but potentially highly-rewarding, environment.

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Economy & Finance

Islamic Republic of Iran - Opportunities and Financial Crime Risks