How the 'PayPal for criminals' allegedly laundered $6 billion

"If Al Capone were alive today, this is how he'd be laundering money."

Preet Bharara
(Image credit: AP Photo/Richard Drew)

Federal prosecutors in New York announced Tuesday that they have charged seven men with laundering $6 billion online under the guise of a global currency exchange called Liberty Reserve. The company, prosecutors said, operated in "the shadowy netherworld of cyberfinance," allegedly pulling off what officials believe to be the largest online money laundering operation in history, and earning a comparison to an illegal version of PayPal.

Over the course of seven years, Liberty Reserve allegedly made 55 million transactions for millions of customers around the world, including some 200,000 from the United States. U.S. attorney in Manhattan Preet Bharara said a majority of the funds came from criminal activity like stolen credit cards, drug trafficking, and child pornography, but he also invited anyone with legitimate accounts to contact his office to recover money.

So how did Liberty Reserve allegedly use cyber-currency to launder $6 billion in ill-gotten cash — while remaining undetected for seven years? A guide to the company's alleged nefarious methods:

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What exactly is money laundering?

A blanket term referring to the process of taking "dirty" money, or money made illegally, and "cleaning" it, so it appears to have come from a legitimate source.

The phrase purportedly originated with mafia organizations, whose members often bought laundromats, and mixed the legitimate cash earnings from washing clothes with illicit earnings from prostitution, gambling, and other crimes, obscuring the original source of the dirty funds.

Since then, money laundering has become much more complex. Criminals may deposit cash in many small transactions to avoid attracting attention, or deposit it into an account in a country with greater bank secrecy. Often, criminals deposit money into trusts, which in some jurisdictions don't require the owner's true name to operate. In the case of Liberty Reserve, funds were changed into virtual currency to avoid detection.

So what is virtual currency?

Virtual currency is money that has been converted into an electronic currency, making it easy to move instantaneously between accounts outside of the regulated banking world.

The most well-known digital currency is Bitcoin, created in 2009 by a hacker who wanted to create a currency that would be free of government regulation. Bitcoins can either be earned by competing against others to solve complex math problems, or bought from someone on a currency exchange website that allows Bitcoin transactions. (See: Everything you need to know about the Bitcoin boom.)

Liberty Reserve used a digital currency its founders allegedly created called "LR," which made transactions instantaneous and harder to detect than cash deposits.

And how did Liberty Reserve allegedly launder all that money?

Liberty Reserve did not make cash payments itself, but instead used "third-party 'exchangers,'" from countries like Malaysia, Russia, and Nigeria, where government oversight was negligible, says the Times. "These exchangers would take and make payments, and then credit or debit the Liberty Reserve account, allowing Liberty Reserve to avoid collecting any banking information on its clients and not leave a 'centralized financial paper trail.'"

How did the alleged criminals get their money back?

The Wall Street Journal says prosecutors believe a criminal would send dollars (or another currency) to a "third party exchanger," which would convert the dollars into LRs. Once in digital form, the funds would go to an anonymous Liberty Reserve account the criminal set up using a fake, sometimes ludicrous, name (like "Russia Hackers," or, in the case of one undercover operative, "Joe Bogus"). The criminal would then transfer LRs to another criminal's anonymous Liberty Reserve account, usually in return for stolen credit card numbers, drugs, or some other illegal good or service. That criminal would then send those LRs to a different currency exchanger, which would exchange the LRs back into cash. Because Liberty Reserve never required clients' real names or proof of identity, criminals could transfer funds between parties without being detected.

Referencing one of history's most infamous convicted money launderers, Richard Weber, the head of the IRS' criminal investigation division noted: "If Al Capone were alive today, this is how he would be hiding his money."

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Carmel Lobello is the business editor at Previously, she was an editor at