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March 25, 2021

More than Online Product Safety, the SHOP SAFE Act Highlights the Risk of Counterfeit Transactions

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Introduced by Congressman Jerald Nadler (D-NY), Chairman of the House Judiciary Committee, and a bipartisan coalition of House representatives last March, this proposed law aims to make e-commerce platforms more accountable for permitting the sale of knockoffs by their vendors.

The SHOP SAFE Act “incentivizes e-commerce platforms to adopt best practices designed to limit the sale of counterfeit products that pose a risk to consumer health and safety,” according to the House Committee’s press release.

Projected to reach an aggregate value of $1.9 trillion by 2022 – excluding digital piracy proceeds – according to a 2016 report authored by European financial consultants Frontier Economics, the global counterfeit market has increasingly migrated online, right alongside the modern consumer.

In the U.S., e-commerce sales are projected to reach $794.5 billion this year on the heels of the COVID-19 pandemic, according to marketing research firm eMarkerter. Year-over-year, that represents a 32.4% increase from 2019, almost double the 18% that e-Marketer originally forecasted before the pandemic. Knockoff products have stealthily followed the broader trend.

To address the problem, the House Judiciary bill mandates liability for trademark infringement for hosting third-party sellers, unless compromised e-commerce platforms take 10 prescribed steps to prevent the sale of counterfeit goods on their virtual storefronts.

Additionally, the bill encourages platforms to “establish best practices such as vetting sellers to ensure their legitimacy, removing counterfeit listings, and removing sellers who repeatedly sell counterfeits,” according to the press release.

The bill also creates a legal impetus for online markets to take essential steps to “prevent the continued sale of counterfeits by the third-party seller.” Beyond obvious risks to consumer safety, with a particular focus on fake medical goods that have disrupted hospital procurement during COVID, online knockoffs also threaten the integrity of the global banking system.

For financial institutions (FIs) that provide banking services to online platforms, the SHOP SAFE Act has thus heightened anti-money-laundering (AML) and counter-terrorism-financing (CTF) risks. In effect, this bill has cast a light on the digital ‘last hop’ of the trade-based-money-laundering (TBML) cycle, where criminals cash-out online. And not all knockoff consumers are unwitting.

But prior to clarifying how these cyber-enabled, illicit-financing mechanisms work, it’s important to highlight the geopolitical undercurrents and problem regions that have allowed the counterfeiting threat to proliferate.

Genesis of the Bill

This legislation came on the heels of outgoing President Donald Trump’s Executive Order titled “Ensuring Safe & Lawful E-Commerce for US Consumers, Businesses, Government Supply Chains, and Intellectual Property Rights”.

A Department of Homeland Security report published last January to accompany the online counterfeiting EO addresses this growing pattern. “E-commerce has contributed to a shift in the sale of counterfeit goods in the United States, with consumers increasingly purchasing goods online and counterfeiters producing a wider variety of goods that may be sold on websites alongside authentic products,” says the DHS report.

As such, the DHS report says that the growing presence of knockoffs online presents a threat on a multitude of different levels. “Illicit goods trafficked to American consumers by ecommerce platforms and online third-party marketplaces threaten public health and safety, as well as national security,” says the DHS report.

The report also notes that the counterfeit threat “impacts American innovation and erodes the competitiveness of U.S. manufacturers and workers.” Circling back to the theme of illicit finance, however, knockoffs inherently increase FIs’ exposure to rapidly proliferating and largely hidden transaction-laundering (TL) risks.

Counterfeit Transactions  and the AML Angle

 Electronic Money Laundering, known as Transaction Laundering, is the digital evolution of money laundering and has become one of the biggest challenges facing the Anti-Money Laundering (AML) regime today. Transaction Laundering occurs when an undisclosed business uses an approved merchant’s payment credentials to process payments for another undisclosed store selling unknown products and services.

Beyond defrauding and potentially harming consumers by selling fake or harmful goods, online sellers who willfully deal in counterfeit products may also be engaged in laundering funds by falsifying the nature of goods being sold.

From an AML standpoint, consider an attack vector where a local drug distribution ring uses proceeds from narcotics sales to purchase Chinese counterfeit goods at below-market value and then sell the knockoff merchandise online at a huge mark-up as if they were legitimate. Without heightened due diligence, tax investigators would just mark reported income as the proceeds from e-commerce.

In traditional brick-and-mortar storefronts, this trade-based typology has already proven to be a popular narco-laundering mechanism in Colombia. Highlighting this scheme is the 2016 extradition of Colombian national Jhon Jairo Hincapie-Ramirez to the U.S.

Hincapie-Ramirez allegedly played a significant role in an international money-laundering conspiracy known as the Guangzhou Enterprise. The suspect and his co-conspirators were accused by the Department of Justice of shipping counterfeit goods of Chinese origin “around the world to launder over $5 billion” for Mexican and Colombian cartels, according to the 2015 indictment.

Preferred Method of Terrorism Financing

More frightening is the sale of counterfeit products online to finance terror attacks. The “infringement of intellectual property is becoming the favorite method of financing for terrorists,” said Interpol’s then-Secretary General Ronald K. Noble in 2003.

More recently, counterfeiting was the primary funding stream for the tragic 2015 jihadist attack on satirical French publication Charlie Hebdo. Proceeds from knockoff sales on e-commerce sites helped the French-Algerian Kouachi brothers procure the weapons used to murder 12 people and injure 11 others at the media outlet’s headquarters.

Also, in 2017, the Federal Bureau of Investigation reported that the Sunni terrorist group ISIS was executing fake transactions on the e-commerce platform eBay to funnel money to a U.S.-based operative.

Given the risk, and the increasing ease through which threat actors can conceal their illicit activity through proliferating e-commerce flows, the SHOP SAFE Act is essential to safeguard 21st Century financial integrity and national security.

The bill is a sorely needed enforcement tool to hold platforms like Amazon, which accounts for 50 percent of all U.S. retail e-commerce volume – and half of which is generated by third-party sellers – accountable for ghost-laundering risks.

As trade-based laundering becomes increasingly cyber-enabled via the last hop of e-commerce transaction chains, threat actors will continue to exploit regulatory loopholes until stronger laws are enacted and enforced. The SHOP SAFE Act is still under review by the House Judiciary Committee.