navigate

Navigating The Complexity of Ownership From The Lens of Sanction By Extension

Download Whitepaper cross

Watch our latest product launch event

cross

We see you are from -

We offer parity pricing to make our services accessible beyond borders. 

cross

Blogs

Shell Companies: A Significant Threat for Businesses Worldwide

15 January, 2024

blog_image blog_image

Shell companies are businesses developed by money launderers to disguise their illegal gain and hide the ultimate beneficial owners of the company. The 2016 Panama Papers were the initial step in exposing shell companies and their framework for laundering. They disclosed business entities and individuals using worldwide jurisdictions to launder money. 

Most of these shell companies are registered in tax havens, which cause government losses of $500 billion to $600 billion yearly. According to the International Monetary Fund (IMF), in 2017, American Fortune 500 companies registered offshore and are hiding tax over $2.6 trillion from the US government.  But the problem is still there. What are shell companies? How are they operating it, and is their operation legal?

What is a Shell Company? 

In simple words, a shell is a bogus company registered on paper. It was not engaged in physical activities, sending goods, or providing services, and was not involved in legal business functions to generate revenue.

Shell companies are mainly registered in tax havens or states with limited regulations, such as Bermuda, Ireland, the British Virgin Islands, Switzerland, and Singapore. The attorney, accountant, or third party registered offshore businesses. Most of these locations have no or nominal rigid regulations on holding assets and don’t identify the owner.  

Why are Shell Companies legitimate? 

There are various reasons for legal businesses to set up offshore companies. Most of the time, we hear shell companies are established for money laundering and tax avoidance. However, offshore businesses are not entirely banned or illegal due to their legal use. Such as: 

  • To raise the capital by collecting funds from the international market
  • Companies also set up temporary shell companies to hold funds
  • Shell companies make it easy for businesses to invest internationally in various countries
  • Preventing your assets from tax lawsuits when your hometown country’s economy is a disaster

These are legal reasons to set up offshore businesses in a limited regulated country and to boost the global economy. 

Read more: Understanding the Offshore leaks

Ways Businesses Abuse Shell Companies

Even though there are legal reasons to operate shell companies, many wealthy individuals misuse loopholes in offshore business frameworks. Most companies registered as shell companies in tax havens are from the US because of progressive tax policies. Companies and individuals misuse shell businesses to: 

  • Use it as a tax-dodging funnel 
  • Disguised the real identity of the ultimate beneficial owners of the company 
  • Laundered illegal gain in a secure technique 
  • Conclude a scam by fraudsters and deceive the regulatory bodies 

Also read: What is A Front Company? A Comprehensive Guide

How do Shell Companies Work?

The attorney of the tax haven designs the structure of the shell companies. They utilise loopholes in the country’s regulations to set up complex ownership frameworks. Shell companies operations process in the given steps: 

Formation 

The initial step is to find a country with favourable tax regulations for the particular business or individual’s gain. After that, hire a law firm to register shell companies according to country regulations. Most tax haven countries registered companies with nominal documentation, registration fees, or inadequate Know Your Business compliance. Usually, they are registered in the limited liability company (LLC) structure. In this registration structure, the businesses’ actual owners or ultimate beneficial owners (UBOs) hide behind shareholders and nominee directors. 

Set-Up Bank Accounts 

After formation, the shell companies frequently open offshore bank accounts to transact their illegal gain. These accounts are mostly known as lax regulation because of the lack of strict regulation to open accounts and ongoing monitoring. These accounts are the layer of security during the transactions and assist shell companies in withdrawing or depositing money without scrutiny. Through these accounts, funds can be deposited into owners’ accounts without identifying the source.

Complex Ownership Structure

Shell companies rely on complex ownership structures to hide the real owners’ identities. They use unknown figures as nominee directors, who are front figures for the companies. These shareholders hold official positions in the companies but do not have the right to interfere in company operations. For the complex structures, shell companies create various layers such as the attorney, foundation trustees, shareholders, or offshore entities to make it challenging for the regulatory authority to find the actual owner of the company. 

Legal and Financial Transactions 

Shell companies are illegal but comply with limited regulations and invest in the country’s assets to show a money trail. They used various legal frameworks for the transactions, such as asset protection, mergers, property acquisitions, and tax planning. These serve as the authenticate financial transactions and vehicle their illegal gain into the global economy. They also get support from these shell companies to avoid tax, utilise money transfer schemes, engage in complex loan agreements, and exploit the weak regulators of the countries. 

Why are Shell Companies a Massive Threat for Businesses Worldwide?

Shell companies are primarily set up by the muddying in the business owners’ structure, which poses a real threat to businesses. They can hide the money trail and create complexity so that the regulatory bodies can uncover the actual owners. This gives them leverage to avoid the tax, conduct crimes, launder money, and fund terrorist organisations. 

  • Through shell companies, it is convenient for individuals to launder money and wash their illegal cash
  • Businesses must comply with KYB/AML regulations, and shell companies damage the compliance procedures.
  • Complex ownership structure disguised AML criminals, adverse media about companies, and politically exposed persons, which increased the risk of financial crimes.  
  • Legal Business’s involvement with financial criminals gave them hefty regulatory fines and damaged their reputation.
  • It is challenging for businesses to verify the company’s structures, especially for an international investor to verify their source of income before partnering. 

The Role of Shell Companies in Money Laundering

The criminals and corrupt individuals use the complex business structure of shell companies to launder money. Furthermore, if you investigate money laundering schemes, they are also linked with other financial crimes, such as terrorist financing, mass weaponization, drugs, and human trafficking. Given are some tricks and techniques that businesses and individuals use to launder money through shell companies:

Money Laundering Methods

  • Trade-Based Money Laundering

This is a classic technique to launder money by creating fake invoices for buying products from shell companies and then showing revenue from selling these products in the market. Most shell companies use other bogus businesses to make counterfeit invoices and pay them from illicit funds.

Read more: Top 5 Signs Indicating Trade-Based Money Laundering

  • Layering 

The complex transaction technique to launder money, shell companies fake the transactions with multiple companies to layer the transaction. Regulatory bodies could not find the money trail in the layering structure, and the source will always work behind the curtains. Most companies involve international investors in complex transactions to hide from scrutiny.

  • Real-Estate Transaction 

The most favourable launder technique is investing in real estate for businesses or individuals. Due to a lack of regulatory authorities and law implementation in the tax haven estate, shell companies invest in properties and then sell these at high profits. 

  • Loan Scheme 

The other technique business owners use is loaning money to a legal company. The legal company then pays back with higher interest as profit, which assists them in washing their illegal gain. 

  • Goods for Goods 

Some shell companies also trait the products with a legally registered company in the country. They purchase the goods at a lower amount from them, and after the price increases, they sell the same product at a higher price tag with profit- indirectly, they are laundering their illegal money.

Real Examples of Money Laundering Shell Companies

  • Danske Bank Scandal: Denmark’s biggest bank used shell companies for money laundering to assist their customers in tax evasion. 
  • Panama Papers: in 2016, German journalists and the International Consortium of Investigative Journalists (ICIJ) revealed the 11.4 million confidential documents of the shell companies, including businesses and politicians. 
  • Unitouch Group: linked with over 50 shell entities to launder money acquired from illegal real estate deals in various states.
  • Los Zetas Drug Cartel: The Mexican drug dealers utilize shell companies to wash their money and resources back into Mexico. 

How KYB Safeguards Businesses From Shell Companies? 

Know-your-business (KYB) is an international standard to protect businesses from shell companies. This supports legal businesses in detecting counterfeit companies by documentation. Through the KYB, companies can verify their address, ultimate beneficial owners (UBOs), and shareholders, as well as unveil the money launderers and adverse media. In-depth information about the company helps the investor make adequate decisions before taking further steps. 

The KYB is an automated business verification software with 250+ database sources, providing services in over 200+ countries and states. It accelerates business verification with machine learning and remote measures. The KYB offers remote business verification through an online information collector. With advanced real-time business due diligence, companies can easily protect themselves from shell companies and safeguard from regulatory fines.

If you want to learn more about KYB Solutions, how can it save your business from fraud? Contact us to learn more about it.

Latest Posts

02 July, 2024

.

How to Do Business Background Check in 2024?

28 June, 2024

.

Know Your Vendor: Helping Businesses Reevaluate Partnerships

27 June, 2024

.

Why Sanctions Screening Matters for Businesses in 2024?

Recent Blogs

How to Do Business Background Check in 2024?
Know Your Vendor: Helping Businesses Reevaluate Partnerships
Why Sanctions Screening Matters for Businesses in 2024?