What is 'Black Money'

Black money is money earned through any illegal activity controlled by country regulations. Black money proceeds are usually received in cash from underground economic activity and, as such, are not taxed. Recipients of black money must hide it, spend it only in the underground economy or attempt to give it the appearance of legitimacy through money laundering.

BREAKING DOWN 'Black Money'

In its simplest form, black money is money on which tax is not paid to the government. A store that accepts cash for its merchandise and does not issue receipts to its customers will be transacting in black money since it would not pay tax on the unaccounted sales. Furthermore, a property buyer who purchases land valued at $200,000 from which $50,000 is reported on the books and $150,000 is paid under the table to the seller, will have transacted in black money worth $150,000. The sellers in both examples have earned money from legal sources but evaded taxes.

The most common source of black money is illegal means through the black market or underground economy, such as drug trafficking, weapons trading, terrorism, prostitution, selling counterfeit or stolen goods such as credit cards, or selling pirated versions of copyrighted items such as software and musical recordings.

The portion of a country’s income that is tied to its black economy affects the economic growth of the country. Black economy constitutes a financial leakage since tax income from unreported earnings is not received by the government, thereby, serving as a loss of revenue to the government. In addition, since these funds rarely enter the banking system, economies are stifled, as money remains hidden that otherwise could be used by banks to stimulate the economy by funding small business owners and entrepreneurs. In addition, black money causes the financial health of a nation to be underestimated. Since unreported earnings cannot be included in the gross national product (GNP), a nation's estimates of savings, consumption and other macroeconomic variables would be biased and misleading for accurate use in policy making and planning.

Most black money holders attempt to convert the money into legal money, also known as white money. This is typically done through money laundering, which can be attempted in a number of ways. For example, consider a consumer who pays the sales tax on retail goods, but does not actually purchase the merchandise. If he receives a sales receipt and is reimbursed for the price of the goods, the reimbursement is considered black money. The seller counters this effect by selling the merchandise to another customer who purchases the item, but does not receive a receipt for this purchase.

Money laundering can also be perpetuated using the hawala system of transactions. The hawala system is an informal and cheap method of transferring money from one region to another without any actual money movement and without the use of banks. It operates on codes and contacts, and no paperwork or disclosure is required. For example, a money launderer in the U.S. may decide to send $20,000 through a hawala dealer to a recipient in India. The exchange rate agreed upon will be fixed at a significantly higher rate than the official rate.

Tax havens, such as Switzerland, offer anonymity to money launderers due to the lax policies on funds deposited in their countries. Other outlets for black money include real estate, jewelry, informal and cash economies, bullion investments, etc.

It is almost impossible to estimate the amount of black money in any economy. For this reason, it is not included in the GDP of a country.

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