How to transfer money through hawala. What is Hawala? How The Hawala System works. Hawala Banking

The word "Hawala" means trust. Its is an alternative or parallel remittance system, which works outside the circle of banks and formal financial systems. Hawala is an ancient system of money transfer which originated in South Asia and is now being used across the globe. This system mainly developed in India, before the introduction of western banking practices. It is also sometimes referred to as “Underground Banking”.

Though it is being used across the world to remit funds, but it is not a legal system. It works on the basis of many middle men called the hawaldars or the hawala dealers. The reason, why Hawala is extensively used inspite of the fact that it is illegal, is the inseparable element of trust and extensive use of family or regional affiliations.

The most common use for a hawala system is to send hawala money transfers to another person who is at a great distance from you. For hawala transactions, the money sender contacts a local hawaladar and gives him the money he or she wants to send. The hawladar then contacts another hawaladar in the destination city for the money and arranges to have the hawaladar in the destination city turn over the money to the recipient, minus a small fee. In the hawala transactions no money actually physically travels the distance at that time but the hawaladars keep a tally of the total owed and then settle the difference at a later date. The exact methods can differ greatly from hawala network to hawala network but this is the general overview of how hawala banking works.

Informal funds transfer (IFT) systems are in use in many regions for transferring funds, both domestically and internationally. The hawala system is one of the IFT systems that exist under different names in various regions of the world. It is important, however, to distinguish the hawala system from the term hawala, which means "transfer" or "wire" in Arabic banking jargon. The hawala system refers to an informal channel for transferring funds from one location to another through service providers—known as hawaladars—regardless of the nature of the transaction and the countries involved. While hawala transactions are mostly initiated by emigrant workers living in a developed country, the hawala system can also be used to send funds from a developing country, even though the purpose of the funds transfer is usually different (see box).

An initial transaction can be a remittance from a customer (CA) from country A, or a payment arising from some prior obligation, to another customer (CB) in country B. A hawaladar from country A (HA) receives funds in one currency from CA and, in return, gives CA a code for authentication purposes. He then instructs his country B correspondent (HB) to deliver an equivalent amount in the local currency to a designated beneficiary (CB), who needs to disclose the code to receive the funds. HA can be remunerated by charging a fee or through an exchange rate spread. After the remittance, HA has a liability to HB, and the settlement of their positions is made by various means, either financial or goods and services. Their positions can also be transferred to other intermediaries, who can assume and consolidate the initial positions and settle at wholesale or multilateral levels.

The settlement of the liability position of HA vis-а-vis HB that was created by the initial transaction can be done through imports of goods or "reverse hawala." A reverse hawala transaction is often used for investment purposes or to cover travel, medical, or education expenses from a developing country. In a country subject to foreign exchange and capital controls, a customer (XB) interested in transferring funds abroad for, in this case, university tuition fees, provides local currency to HB and requests that the equivalent amount be made available to the customer's son (XA) in another country (A).

Customers are not aware if the transaction they initiate is a hawala or a reverse hawala transaction. HB may use HA directly if funds are needed by XB in country A or indirectly by asking him to use another correspondent in another country, where funds are expected to be delivered. A reverse hawala transaction does not necessarily imply that the settlement transaction has to involve the same hawaladars; it could involve other hawaladars and be tied to a different transaction. Therefore, it can be simple or complex. Furthermore, the settlement can also take place through import transactions. For instance, HA would settle his debt by financing exports to country B, where HB could be the importer or an intermediary.

In earlier times, IFT systems were used for trade financing. They were created because of the dangers of traveling with gold and other forms of payment on routes beset with bandits. Local systems were widely used in China and other parts of East Asia and continue to be in use there. They go under various names—Fei-Ch'ien (China), Padala (Philippines), Hundi (India), Hui Kuan (Hong Kong), and Phei Kwan (Thailand). The hawala (or hundi) system now enjoys widespread use but is historically associated with South Asia and the Middle East. At present, its primary users are members of expatriate communities who migrated to Europe, the Persian Gulf region, and North America and send remittances to their relatives on the Indian subcontinent, East Asia, Africa, Eastern Europe, and elsewhere. These emigrant workers have reinvigorated the system's role and importance. 

While hawala is used for the legitimate transfer of funds, its anonymity and minimal documentation have also made it vulnerable to abuse by individuals and groups transferring funds to finance illegal activities.

Economic and cultural factors explain the attractiveness of the hawala system. It is less expensive, swifter, more reliable, more convenient, and less bureaucratic than the formal financial sector. Hawaldars charge fees or sometimes use the exchange rate spread to generate income. The fees charged by hawaladars on the transfer of funds are lower than those charged by banks and other remitting companies, thanks mainly to minimal overhead expenses and the absence of regulatory costs to the hawaladars, who often operate other small businesses. To encourage foreign exchange transfers through their system, hawaladars sometimes exempt expatriates from paying fees. In contrast, they reportedly charge higher fees to those who use the system to avoid exchange, capital, or administrative controls. These higher fees often cover all the expenses of the hawaladars.

The system is swifter than formal financial transfer systems partly because of the lack of bureaucracy and the simplicity of its operating mechanism; instructions are given to correspondents by phone, facsimile, or e-mail; and funds are often delivered door to door within 24 hours by a correspondent who has quick access to villages even in remote areas. The minimal documentation and accounting requirements, the simple management, and the lack of bureaucratic procedures help reduce the time needed for transfer operations.

In addition to economic factors, kinship, ethnic ties, and personal relations between hawaladars and expatriate workers make this system convenient and easy to use. The flexible hours and proximity of hawaladars are appreciated by expatriate communities. To accommodate their clients, hawaladars may instruct their counterparts to deliver funds to beneficiaries before expatriate workers make payments. Moreover, cultural considerations encourage expatriate workers to remit funds through the hawala system, and such considerations also apply to family members in the home country.

Many expatriate communities are exclusively male, because wives and other family members remain in the home country, where family traditions prevail. These traditions may require family members, especially women, to maintain minimal contacts with the outside world. A trusted hawaladar, known in the village and aware of the social codes, would be an acceptable intermediary, protecting women from having direct dealings with banks and other agents. Thus, a system based on national, ethnic, and village solidarity depends more on absolute trust between the participants than on legal documents.

On the receiving side, repressive financial policies and inefficient banking institutions, which have often lacked interest in the remittance business, have contributed to the development of IFT systems. In addition to overly restrictive economic policies, unstable political situations have offered fertile ground for the development of the hawala and other informal systems. Most IFT systems have prospered in areas characterized by unsophisticated official systems and during times of instability. They continue to develop in regions where financial development has been slow or repressed. Overall, financial development tends to check the spread of informal fund transfer systems, even though they exist in financially mature countries as well.

Despite its informality, the hawala system has direct and indirect macroeconomic implications—for financial activity as well as for fiscal performance. One aspect is its potential impact on the monetary accounts of countries on either end of the hawala transaction. Because these transactions are not reflected in official statistics, the remittance of funds from one country to another is not recorded as an increase in the recipient country's foreign assets or in the remitting country's liabilities, unlike funds transferred through the formal sector. As a consequence, value changes hands, but broad money is unaltered. However, hawala transactions may affect the composition of broad money in a recipient country.

In the remittance business, such transactions are conducted mainly in cash, even though hawaladars may use the banking system for other purposes. Individuals from developing countries who transfer funds abroad through the hawala system for investment or other purposes are usually members of wealthy groups. They supply local hawaladars with cash by making withdrawals from their bank accounts. As a consequence, hawala-type transactions tend to increase the amount of cash in circulation. Furthermore, IFT systems have fiscal implications for both remitting and receiving countries because no direct or indirect tax is paid on hawala transactions. The negative impact on government revenue applies equally to both legitimate and illegitimate activities that involve the hawala system.

Hawala transactions cannot be reliably quantified because records are virtually inaccessible, especially for statistical or balance of payments purposes. This holds true for both the remitting and, especially, the receiving sides of the transactions. Hawala transactions from developing countries are sometimes driven by capital flight motivations; they may also be driven by a desire to circumvent exchange control regulations and the like, leaving no traceable records. Nevertheless, the authorities of some countries have sporadically made estimates of hawala activity based on their expatriate populations and balance of payments data. In any case, all crude estimates should take into account both hawala and reverse hawala transactions (see box) as well as transactions driven by illicit activities. Although it would be impossible to provide a precise figure, the amounts involved in hawala transactions are likely to entail billions of dollars.

There is also a consensus that, in the wake of heightened international efforts to combat money laundering and terrorist financing, more should be done to keep an eye on IFT systems to avoid their misuse by illicit groups. Policymakers believe that the potential anonymity afforded by these systems presents risks of money laundering and terrorist financing that need to be addressed. Yet selecting the appropriate regulatory and supervisory response requires a realistic and practical assessment and an understanding of the specific country environment in which the IFT dealers operate.

Regulation of IFT systems in various jurisdictions will be a complex endeavor. The variety of legal systems and economic circumstances across countries make a uniform approach technically and legally impractical. In a number of countries, the hawala system is prohibited. Any attempt to regulate this system in these countries would, therefore, be at odds with existing laws and regulations and would be seen as legitimizing parallel foreign exchange operations and capital flight.

Where IFT regulations are conceivable, there is agreement that overregulation and coercive measures will not be effective because they might push IFT businesses, including legitimate ones, further underground. The purpose of any approach is not to eliminate these systems but to avoid their misuse. Against this background, policymakers tend to favor two options, which are already in force in some countries: registration or licensing of IFT systems.

While these measures could deter illegal activities, they will not, in isolation, succeed in reducing the attractiveness of the hawala system. As a matter of fact, as long as there are reasons for people to prefer such systems, they will continue to exist and even expand. If the formal banking sector intends to compete with the informal remittance business, it should focus on improving the quality of its service and reducing the fees charged. Therefore, a longer-term and sustained effort should be aimed at modernizing and liberalizing the formal financial sector, with a view to addressing its inefficiencies and weaknesses.

The hawala system can exist outside of the traditional legal system because hawaladars generally engage in hawala transactions with other hawaladars based on a long relationship of mutual trust, often built up over generations of hawaladars. Thus with hawala banking there is no need for formal legal protection, which is expensive, and there is a very low risk of default when you transact with such well known individuals.

This hawala system is by far the most private form of transferring money. The entire hawala transaction can occur over a couple of phone calls, emails, text messages, or instant messages. Although the United States requires registration of these kinds of hawala banking services, it is very hard to enforce such a requirement because of the difficulty detecting the hawala transactions. No formal records of the individual hawala transactions are usually kept after the hawala transaction has occurred. All that exists is usually a running tally of what is owed, often encrypted or coded by the hawaladars in the hawala network. This is far different from the extensive disclosures required by banks for a similar transaction.

The hawaladars also have the benefit of being able to settle accounts in a hawala transaction with something of value other than a currency. These non-cash hawala transactions can be used to avoid currency controls, official exchange rates, import or export duties, or other undesirable tax effects through the hawala system. These legal, privacy and economic advantages allow the hawaladars to perform the service of a hawala money transfer at a much lower cost than is usually available through bank money transfers.

There are many who strongly criticize the hawala system as dangerous because the hawala transactions are extremely private. The privacy invading aardvarks want to stick their nose in everyone else’s business. Although there have been no conclusive findings that hawala transactions through hawaladars have contributed significantly to terrorism or organized crime, some argue that such hawala transactions are likely to occur.

These critics wish to either ban hawala systems (there are strict laws in some states regarding these hawala transactions) or subject the hawala network to rigorous reporting requirements similar to how the banks currently operate. The reasoning appears to be something along the lines of, criminals eat food therefore we need to outlaw the private exchange of food unless there is a paper trail. Reporting requirements as they are currently constructed not only offend the notion of justice which requires that there be probable cause that there is criminal activity afoot or evidence of a crime, based on articulable facts, before a search can be conducted but also greatly invade privacy when individuals can use a hawala system with hawaladars for a hawala money transfer. If you want to engage in hawala transactions, you will want to consult with a privacy attorney before hand to make sure that you are not in violation of any of these arbitrary laws.

The search may only occur after a neutral judge finds that there is probable cause and then issues a valid warrant. Although the banks are subject to invasive reporting requirements, they also require large amounts of capital to operate and thus are not easily overlooked by enforcers of such policies. Hawaladars can easily operate undetected with hawala transactions through the hawala system and it is likely that many will do so. Catching a hawaladar will be harder than catching a drug smuggler that never smuggles any drugs across the border.

Because of the dramatic benefits that a hawala system offers via hawala transactions through a hawaladar it is only a matter of time before it becomes widely used in many more hawala transactions throughout the world. Individuals that act as hawaladars and are well known in their niche or community will grow in influence as they are able to provide hawala banking services at a much lower cost than may be found elsewhere. People who have strong relationships with others in their field of work or in their social life, who have the means to help others with such hawala transactions, will become hawaladars, if just for a family member as a one time hawala transaction. In addition, the hawala banking services provided by these modern hawaladars will benefit the privacy of individuals. Hawala transactions will also help you avoid tax liability when you are traveling outside of tax free states. To further protect your privacy when engaging in hawala transactions, look to the book How To Vanish, Legally Protecting Your Personal and Financial Privacy to show you lots of tools and tips.

Hawala works by transferring money without actually moving it. In a hawala transaction , no physical movement of cash is there. Hawala system works with a network of operators called Hawaldars or Hawala Dealers. A person willing to transfer money, contacts a Hawala operator at the source location. The hawala operator at that end collects the money from that person who wishes to make a transfer. He then calls upon his counterpart or the other Hawala operator at the destination place/country was the transfer has to be made. Now the hawala operator at the tranferee’s end, hands over the cash to the intended recipient after deducting a certain amount of commission. The best way to understand Hawala is through understanding a single hawala transaction. For example, Chinappa is a taxi driver staying at UK on an expired tourist Visa. He wants to remit some money for his family in India.

Chinappa cannot approach an authorized money transfer agent/bank there as he is an illegal immigrant in the UK. Thus Chinappa finally lands up at a hawala operators office, who not only promises him to deliver the cash to his native place in India at a reasonable commission , but also in a very short period of time. Chinappa then hands over the cash to the UK hawala operator. The UK hawala operator then calls his Indian counterpart and asks him to deliver funds to Chinappa’s family member. Any member of Chinappa’s family can now collect cash from the Indian Hawala operator, after deduction of commission charges and on producing an authentication code, which is generally used in all hawala transactions. A reverse Hawala transaction can also be initiated, where a father approaches the same Indian hawala operator for remitting funds for his son studying in UK through the UK hawala operator. In this manner, money never actually moves. The position of the hawala operator’s in each others books gets squared off.

Hawala has been made illegal in many countries, as it is seen to be a form of money laundering and can be used to move wealth anonymously. As hawala transactions are not routed through banks they cannot be regulated by the government agencies and have thus emerged as a major cause of concern. This network is being used extensively across the globe to circulate black money and to provide funds for terrorism, drug trafficking and other illegal activities. In India, FEMA (Foreign Exchange Management Act) 2000 and PMLA ( Prevention of Money Laundering Act) 2002 are the two major legislations which make such transactions illegal.

Inspite of the fact that hawala transactions are illegal, people use this method because of the following reasons:

· The commission rates for transferring money through hawala are quite low

· No requirement of any id proof and disclosure of source of income is there

· It has emerged as a reliable and efficient system of remittance

· As there is no physical movement of cash, hawala operators provide better exchange rates as compared to the official exchange rates

· It is a simple and hassle free process when compared to the extensive documentation being done by the banks

· It is the only way to transfer unaccounted income

So, the next time you come across the word Hawala, I am sure you will be able to draw a picture about the transaction in your mind.

In the most basic variant of the hawala system, money is transferred via a network of hawala brokers, or hawaladars. It is the transfer of money without actually moving it. In fact, a successful definition of the hawala system that is used is "money transfer without money movement". Hawala example transaction; see text for an explanation

The figure shows how Hawala works: (1) a customer (A, left-hand side) approaches a hawala broker (X) in one city and gives a sum of money (red arrow) that is to be transferred to a recipient (B, right-hand side) in another, usually foreign, city. Along with the money, he usually specifies something like a password that will lead to the money being paid out (blue arrows). (2b) The hawala broker X calls another hawala broker M in the recipient's city, and informs M about the agreed password, or gives other disposition instructions of the funds. Then, the intended recipient (B), who also has been informed by A about the password (2a), now approaches M and tells him the agreed password (3a). If the password is correct, then Mreleases the transferred sum to B (3b), usually minus a small commission. X now basically owes M the money that M had paid out to B; thus M has to trust X '​s promise to settle the debt at a later date.

How to transfer money through hawala. What is Hawala? How The Hawala System works. Hawala Banking