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including those who hold positions of responsibility and power in the business and financial world to the bar of justice.
In this appearance before this Committee I would like to give a general description of the nature and scope of activities involving the use of secret foreign accounts and their potential danger to the United States, then to discuss some of the fact patterns in this area that have been uncovered and finally to indicate my support for legislation designed to subject to our laws the use of secret foreign accounts by American citizens, and why I consider such legislation vital.
Abuse of secret foreign accounts is no longer limited to members of organized criminal syndicates and hoodlums. Although the use by the organized underworld of these accounts is substantial, to an ever-increasing extent they are now being used by wealthy and otherwise respectable persons in the business and financial world to cheat on taxes, to trade in securities in violation of our securities laws, to trade illegally in gold, to perpetrate corporate and other frauds, and to hide the fruits of other white collar crimes. The Swiss bank is where the organized underworld and respectable business man meet.
For years these violations were left virtually untouched by law enforcement agencies, in large part because investigation in this area is far more demanding in terms of time and expense than in more conventional areas of prosecution and far less promising of results. Similarly, there was no attempt by legislative bodies to remedy any of the evils flowing from foreign bank secrecy.
As a result of this almost total lack of enforcement, the abuses flourished. The activities of the unscrupulous businessman paralleled those of the hoodlum in determination to violate our laws through ingenious use of secret foreign bank accounts. Because such use represented “business” to them, foreign banks began openly to solicit secret accounts in this country, in many cases using as selling points the many advantages, illicit and otherwise, that flowed from the secrecy laws of their countries. Many foreign bankers organized systematic courier services to transport large amounts of cash from the United States to Switzerland and Nassau and other tax havens and set up branches and representatives in the United States to solicit and service customers. Many American banks opened branches in these foreign tax havens so that their customers could also avail themselves of the advantages provided by secret bank accounts. These American banks sought out, exploited and asserted the protections of local secrecy laws as vigorously as the foreign banker.
Their multinational operations became so large in scope that in many cases the banks doing the largest volume of business in some major Swiss cities are now not the large local Swiss banks, but the foreign branches of large American banks. Similarly, in the Bahamas alone 21 branches of American banks have been opened or authorized, far beyond the apparent needs of the tourist trade and the local economy. This opening of foreign branches by American banks is not just characteristic of banks whose main offices are located in the financial centers of New York, Chicago, Los Angeles and San Francisco, but also of banks centered in other places as well.
As a result of this expanded activity by American banks, transfers of funds, illicit and otherwise, through domestic banks on the way to secret foreign bank accounts became commonplace; the domestic clearing and correspondent facilities of United States banks became essential in many instances to the carrying out of illegal schemes involving foreign banks. For example, the facilities of a California bank and a midwestern bank were used, under circumstances that should have aroused suspicion, to transfer funds that were used to pay kickbacks to employees of non-commissioned officers clubs in Vietnam from an American company to a Swiss bank.
And when United States law enforcement agencies have sought to subpoena U'nited States banks to produce records of accounts maintained in a foreign branch in the belief that these accounts were being used to commit crimes in the United States, the banks have refused to produce such account records on the ground that by so doing they would violate the bank secrecy law of the country where the bank is located. This refusal has in some cases been sustained by our courts. To me it is shocking that a United States bank, by opening a branch abroad, can lend its facilities to citizens who are defrauding the government and violating our laws and then successfully deny its obligation to make account records available to the Department of Justice by claiming that the laws of a foreign country would be violated.
A startling development of recent years has been a significant change in the identity and ownership of foreign banks. Today numerous banks in Switzerland and the Bahamas are owned and controlled not only by Americans, but in some cases by American hoodlums closely linked to loansharking, gambling rackets and other illegal businesses. Such a bank does not need a large working capital to be a useful element of an illegal business. Its function is not to provide funds for the business so much as to provide an unreachable depository for illegal profits. Such a bank might not even keep its accumulated funds on deposit, but might well redeposit them in a more substantial foreign bank or even in a United States bank.
An American criminal who is not content simply to accumulate wealth in a foreign bank can easily and safely cause the bank to "end" it to him. These devices and many others are all at the disposal of this growing number of “foreign” banks controlled by or connected with the Americans and the Amer'ican underworld.
Taking these different types of operations together-the genuine foreign bank, the foreign branch of an American bank, and a foreign bank controlled by Americans and American hoodlums, I would conservatively estimate that their secret accounts hold hundreds of millions of dollars which have been used in or are fruits of violations of American law.
There is, however, a larger aspect to the problem. The significance of foreign financial institutions immune from the same governmental processes to which domestic institutions are subject goes well beyond the extent to which they are a cloak for conduct in violation of our laws. The leverage incidentally developed by a handful of private investors through vast accumulations of capital not in any way subject to our laws can, at a time of financial instability, represent a serious threat to the national economy.
For example, as a result of the Foreign Investors Tax Act of 1966 which was designed to encourage foreign investment, a corporation whose sole activity in the United States is in securities transactions is not subject to United States taxation. In general, this Act has initially achieved its purpose as billions of “foreign" dollars have been invested here. The corporate investors however, remain beyond the practical reach of the Securities and Exchange Commission and other law enforcement agencies. As a result in the long run the fact that these offshore funds, run by Americans, are operating beyond the practical reach of the law may be detrimental to American investors, to foreign investors in the American market and ultimately to the balance of payments itself.
For example, there is the case of Investors Overseas Services, Ltd. (IOS), and its mutual fund subsidiaries. With mutual fund assets before the break in the market of almost 2 billion dollars, about two-thirds of its assets are in the form of securities in United States corporations. Just during the past weeks it has been alleged by responsible sources that IOS has been engaged in a number of practices improper under American law. One instance cited is the phony write-up of oil and gas leases to land in the Canadian Arctic, apparently done with the assistance of American companies; another is large loans to insiders by foreign banks owned by IOS.
Disclosure of these transactions had had the inevitable effect of encouraging redemption of IOS shares at the rate of about 3 millions dollars a day since May 1. There is strong evidence that IOS controlled mutual funds have been dumping securities in United States markets, to raise cash to satisfy these and other cash demands of its stockholders and creditors. In an already jittery market the weakening effect of such sustained selling activity is obvious. If foreign financial transactions by Americans were subject to disclosure requirements, the alleged write-ups and insider loans might well have had to have been disclosed and the subsequent redemptions and coincident selling forestalled.
Indeed, if IOS had been subject to our disclosure laws perhaps the financial difficulty it has found itself in since the beginning of the year would have been avoided. Similarly, if foreign financial transactions were subject to disclosure requirements the comparable deterrent effect might have been felt. Absent these disclosure requirements, shady financial practices can be engaged in to the benefit of a few insiders. Unfortunately, I don't think we've seen the end of the IOS problem and its ramifications. The American markets and investors have already felt the effect of the dumping of securities by IOS. In the future, because the completely unchecked conduct by Americans running IOS has caused European investors to lose confidence in American-run companies and securities their willingness to purchase American securities has no doubt been reduced. Thus, the rers recut songht hy the Foreign Investors Tax Act has been frustrated.
With respect to specific violations uncovered by my office, as you can well imagine, a secret foreign account is of great value to a law violator in virtually every type of criminal offense. Whether the violations concern tax fraud, illegal insider dealing or stock manipulation, margin violations, or simply concealing the fruits of a crime, such as the proceeds from the sale of narcotics or unlawful kickbacks, the secret account immune from discovery by the Government is an ideal vehicle. Thus, prosecutions and investigations into unlawful activities connected with the use of secret foreign accounts have been equally varied, coming under many different laws. During my tenure as United States Attorney, we brought indictments against about 75 individuals for violations involving secret foreign accounts. Hundreds of other cases were referred to the Internal Revenue Service for investigation. In addition, for every case brought to indictment there were roughly six where, for lack of competent evidence, we could not proceed. I will illustrate as specifically as I am permitted to, especially where the facts have been made public in legal proceedings.
Practically every Swiss bank may act as broker and deal in securities for its customers. To deal in American securities, these banks maintain accounts in the Swiss bank's name at American brokerage houses. Through these it can trade the securities of all its customers. Inspection of domestic records reveals only trades for the benefit of the foreign bank. The identity of the principal is not recorded domestically; no distinction is made between trades for one principal and another. While I was United States Attorney my office worked closely wih the Securities and Exchange Commission to investigate frauds and abuses which have grown out of this trading system.
An illustrative case, now a matter of public record, is the "Gulf Coast Leaseholds case," United States v. Kelly, 349 F. 2d 720 (2d Cir. 1965), cert. denied, 384, U.S. 947 (1966).
In this case four "Liechtenstein trusts” holding Swiss bank accounts, operating under secrecy laws, were instrumental in a scheme by American promoters to sell $750,000 shares of unregistered over-the-counter stock to the American public at prices manipulated to over $16 a share. Once the promoters had taken their profits, the stock dropped to under a dollar. Although in each case the titular head of the trusts was a Swiss lawyer, each of the trusts used in the Gulf Coast case was American-owned. Both the identity of the American principals of the trusts and the trusts' ownership of the Swiss bank accounts were concealed under Swiss law.
The trusts were used as follows: One of the American promoters, a person with a criminal record, who had been enjoined from trading in his own name, bought 750,000 shares of worthless stock from an American company at a nominal price in the name of his Liechtenstein trust. At the time, the trust had assets of $20.80. The promoter then caused the trust to sell the shares through American brokerage firms, which transmitted the proceeds of the sale to Swiss banks at which the trusts had accounts. More than $4,000,000 was realized by the American promoter, through his trust, on his original investment of $20.80. All these transactions between conspirators in Switzerland had the benefit of maximum secrecy; only when insiders to the scheme finally divulged its workings was the fraud exposed and its participants prosecuted.
Another example of the use of secret foreign accounts is the “Allied Entertainment case." United States v. Hayutin, 398 F. 2d 944 (2d Cir.), cert. denied, 393 U.S. 961 (1968). This case also was successfully prosecuted because insiders to the scheme finally told the whole story.
To circumvent the prohibitions on the sale of unregistered stock already manipulated to an artifically high price, the insiders of the corporation arranged to have the shares delivered to a bank in Munich, Bankhaus Schneider & Munzing. Schneider & Munzing in turn sold the stock to the American public through brokerage firms where it had accounts. The proceeds of the sales were then mailed to insiders in the United States in $5,000 to $10,000 sums in envelopes falsely marked “securities”.
The Allied case also offers an example of the use of accounts with foreign branches of American banks. Part of the scheme was for brokers to be given unlawful cash payments for selling Allied shares to their customers. These payments were to come from the proceeds of the sales made for the insiders. To eliminate a paper trail between the proceeds of the sales and the payments to the brokers the insiders simply took the proceeds and deposited them in an account of the Frankfort branch of the Chase Manhattan Bank. From there the moneys were sent to Schneider & Munzing from where they were withdrawn and put to their unlawaful use.
In March of 1969 my former office obtained a 66-count indictment against six persons, including the principal officers of VTR, Inc., a firm whose stock is traded on the American Stock Exchange. That indictment charged a scheme in which the individuals involved used several Swiss and German banks, as well as a Liechtenstein trust to distribute illegally 85,000 shares of unregistered VTR, Inc. stock. The scheme was alleged to have worked as follows: One defendant placed the stock in Swiss banks bound by secrecy laws. Others then touted the stock by making blatantly false representations about the stock and the company to investors in the United States, Europe and the Far East. At the same time the price of the stock was artificially run up through purchases of a coconspirator. Prior to sale, the stock was transferred from the Swiss banks to the account of a Liechtenstein trust opened for this purpose at a German bank. The German bank then delivered the stock to the Swiss bank's New York correspondent bank, which, in turn, delivered the stock to unknowing customers. Virtually all 85,000 shares were sold within a period of six months, resulting in an enormous but illegal profit to the insiders.
The VTR case is the exceptional case in which the Swiss courts ordered the bank involved to testify. This came about, however, because even without the bank's records, the Securities and Exchange Commission was able to make an exceptionally strong factual showing that conduct also unlawful under Swiss law was involved. As I am sure you understand, cases where we can make such a showing are very rare. By far the more normal circumstances is one where Swiss laws against the divulgence of the information needed by us serve to frustrate our investigations.
Another example of insiders taking advantage of their positions through Swiss banks is charged in an indictment obtained a month or so after the VTR indictment against two individuals, the Executive Vice President of Realty Equities Corp. and a consultant to the company. This indictment alleged that, through a series of transactions, an opportunity became available to Realty Equities to repurchase a note with warrants attached at a price substantially below its fair market value. This opportunity was not utilized for the benefit of the corporation, but instead, the indictment charges, the note was purchased by a Swiss bank for the benefit of the consultant. The purchase was for $531,250 ; very soon thereafter, the note was sold for $988,542—a quick $450,000 profit. The Executive Vice President has been tried and convicted, and the consultant is awaiting trial.
The case against Max Orovitz, one of the principals and insiders of the General Development Corporation, is an example of a case in which a conviction was obtained on a violation of United States disclosure laws although the operation through a Swiss bank account concealed the motive for the illegal failure to disclose. In 1960, when Orovitz was Treasurer of General Development Corporation, $500,000 in General Development Corporation convertible bonds were delivered to him from the Union Bank of Switzerland's account at the Chase Manhattan Bank. Orovitz first used the bonds to secure bank loans he obtained, and later sold a principal amount of $250,000 without filing the required insider report with the S.E.C.. Because of the Swiss secrecy laws, it was never satisfactorily established how and for what reason these bonds had previously been held in the Swiss bank under the control of the Treasurer of the corporation. Were it not for the existence of disclosure laws, no criminal prosecution could have been brought, no matter what illegal dealings underlay these transactions.
Secret foreign accounts have also been used in connection with so-called “hot issues". In periods of speculation and a rising stock market, new issues of stock frequently sell in the open market at a subsatntial premium above the offering price. Technically, underwriters must offer and sell stock to “the public". But new issues are often in great demand, and brokers commonly sell them to favored customers. Our investigations revealed that the statutory scheme involving new issues tolerates fraud, deception and favoritism. One aspect of such fraud occurs where an underwriter of a new issue secretly purchases shares of new issues for his own account through Swiss banks without disclosing this critical fact to the public.
My former office obtained an indictment in 1969 of the president of a member firm of the New York Stock Exchange for his unlawful dealings in new issues. The indictment charges that significant amounts of three new issues, one of which was Weight Watchers International, Inc., were purchased by a Panamanian company through several Swiss banks, including such giants as Credit Suisse. The defendant owned 48% of the Panamanian company, which was in fact a dummy corporation, similar to a Liechtenstein trust. To give you some idea of the amounts potentially involved in this sort of case, one of the stocks involved was sold to the Panamanian company at $1114 per share, just prior to its market opening; its first public sale was for $36 per share, an increase of 300%. The potential abuse is magnified by the fact that some Swiss banks willingly arrange for the purchase of “hot issues” on very low or even no margin. They do this because during periods of market advance, “hot issues” are virtually a sure vehicle for quick, easy profit.
An area in which we have made extensive progress is in prosecuting Americans and foreigners for violating the Federal Reserve Board's margin requirements. Although the Federal Reserve Board has acted in July of 1969 to begin to close some of the loopholes in this area, the prosecutions brought in the Southern District of New York nevertheless are illustrative of the enormous illegal profits that can be made through the use of secret foreign accounts.
Until the Federal Reserve Board acted, as you are aware, while Americans trading through United States broker dealers were required to put up approximately 80% of the cost of most stock purchases, a foreign bank or broker was allowed to open a Special Omnibus Account at an American firm and trade on only 20–30% of the cost of the stock. To open a Special Omnibus Account the foreign broker had only to promise in writing to comply with Regulation T and American margin requirements. Our information and cases clearly demonstrated, however, that foreign firms frequently collaborated with Americans to abuse the Special Omnibus Account privilege.
In 1969 an indictment was filed against the Arzi Bank of Zurich, charging it with violating the margin requirements through active solicitation of American customers, who were allowed to trade on as little as 10% margin. Arzi Bank subsequently pleaded guilty to the indictment. The conviction represented the first time a Swiss bank was forced to answer criminal charges in this country.
One of the brokerage firms through which Arzi Bank dealt in America was Coggeshall & Hicks, a member of the New York and American Stock Exchanges. Our evidence showed that Coggeshall & Hicks and some of its partners and employees had knowingly engaged in margin violations along with Arzi. Indeed, some of the brokers at Coggeshall had accounts of their own at Arzi, through which they obtained illegal credit for themselves. Over $20,000,000 in securities were illegally traded in this manner for which trades Coggeshall received $225,000 in commissions. Coggeshall & Hicks, its senior partner, the Swiss manager of its Geneva office, and three former registered representatives were each indicted in early 1969 and each has pleaded guilty. Fines amounting to over $100,000 were imposed upon the defendants. The maximum fine was imposed upon the firm for encouraging and participating in these violations.
Under the new regulations, a foreign bank or brokerage firm will no longer be able to keep a Special Omnibus account through which only 20–30% of the cost of the stock must be provided. However, given the protection of secrecy, a foreign bank can participate in financing of security transactions which violate the margin requirements and United States brokers can illegally arrange or secure such loans from foreign banks with little risk of detection. Thus, resourceful persons are still able to trade on impermissible credit with the added advantage of complete secrecy on their profits.
In 1969 we also uncovered the use of foreign accounts in connection with corporate takeover attempts. The availability of credit unlawful under Regulation T is instrumental in the takeovers. One indictment in this area was filed in July of 1969. The defendant in this case was the Houston Oil Field Material Company (HOMCO) a comparatively small company traded over-the-counter. According to the indictment HOMCO through a series of blatant margin violations was able with $300,000 to purchase $1,000,000 in shares of a larger firm traded on the New York Stock Exchange. Several million dollars in profit were earned as a result of the leverage resulting from this purchase. HOMCO has pleaded guilty to conspiring to violate the margin requirements in connection with this scheme. The other defendants have not yet been tried.
This case is far from an isolated instance of Americans using foreign institutions to attempt corporate takeovers in a manner which may be illegal. Before I resigned as United States Attorney, we had under investigation a number of other cases where Swiss and Bahamian banks were used in connection with attempted corporate takeovers. In these cases, not only do Americans secretly accumulate stock which they later use for their own advantage, but if they acquire more than 10% of a company's stock, they fail to report as insiders, thus frustrating the reporting requirement of the Securities Acts as well.