El uso de empresas ficticias en el lavado de dinero

Shell Companies

There is a ghost looming in Europe that is the ghost of the Panama Papers. The Panama Papers was the tip of the iceberg and was the well-known publicized incident revealing the true use of shell companies.

There were other cases before or after the incident, such as the Paradise Papers, a collection of over 13.4 million confidential electronic documents relating to offshore investments that were leaked to German reporters. Many of these leaks were gathered in a single database from the famous International Consortium of Investigative Journalists and are nowadays offered for investigation. 

Shell Companies

The Shell Companies

A shell company is linked to offshore companies, IBCs, and tax havens. They are used to hide assets and avoid taxation. Tax evasion has existed since the early stages of state formation, whether nation-states or empires in the past. What changed is the means of avoidance and the state’s mode of tax collection. However, to comprehend the vehicles, we must first investigate the historical facts, particularly the tax havens.

What exactly is a tax haven? There is no unified definition around the world, so let’s go with the most official one, that of the OECD or Economic Co-operation and Development.

It identifies a tax haven jurisdiction based on four distinct features:

  • No or low taxes;
  • A lack of effective information exchange;
  • A lack of transparency; and
  • A lack of substantial activity

These four features make a country or jurisdiction attractive for various purposes, such as traditional tax avoidance or illicit use of legal entities. But the feature that makes tax havens attractive for exploiting shell companies is the secrecy or the lack of transparency laws and exchange of information. 

It means that a person or a group of stakeholders can effectively hide behind a legal vehicle registered in such a country, transact, and move money and assets without ever being discovered by authorities or other stakeholders. The official definition of an offshore company is a Term used to describe a company registered in a country other than the country or countries in which it conducts business.

An offshore company is frequently used for captive insurance, international marketing, shipping, and tax avoidance schemes. A shell company is formally registered, incorporated, or otherwise legally organized in an economy. However, it does not conduct any operations in that economy other than in a pass-through capacity. Shells are typically conduits or holding companies.

In the past, tax havens, as a concept of jurisdiction, can be found as far back as antiquity. Of course, the concept is related to a preferential tax regime established in a region, for example, to attract population or trade. In Ancient Athens, for example, merchants used nearby islands to store their goods to avoid a city-imposed customs duty on goods of 2 percent on imports and exports. Also, Greek Islands such as Delos were legally given a special tax regime to operate as a treasury for the Athenian alliance.

Much later, in colonial times, the great European empires gave special tax incentives in their colonies to be considered attractive for the population to migrate and enhance the local trade and economic activity. Most notably, British Crown dependencies held the lion’s share of these regimes and probably still today are considered tax havens, such as the Cayman Islands, Bermuda, British Virgin Islands, Turks and Caicos, Gibraltar, and others. But apart from the incentives of the colonial times, the contemporary regime as we know it started shaping in the 1800s and early 1900s.

Shell Companies

One of the first accounts of a jurisdiction allowing favorable taxation and secrecy laws is that of New Jersey in 1880, which established a more liberal regime for legal entity incorporation to avoid financial difficulties. The state of Delaware followed the same path in 1898, and it is still regarded as one of the more business-friendly environments today. In the early 1900s, Ronen Palan traces the earlier modern practice of tax haven law in 1929 during the case between Egyptian Delta Land and Investment Co. Ltd. and Todd in his 2009 study, the History of Tax Havens. 

The writer admits in this court ruling that: it was demonstrated that, despite being registered in London, the company did not have any activities in the UK and thus was not subject to British taxation. According to Picciotto, this case created «a loophole that, in a sense, turned Britain into a tax haven.» Companies can now incorporate in the United Kingdom while avoiding paying British tax.

In 1934 it was the turn of Switzerland to act as the Banking Act of 1934, in article 47, strengthened the principle of bank secrecy by placing it under the protection of criminal law. The new Swiss law demanded ‘absolute silence in respect to a professional secret,’ that is, absolute silence concerning any accounts held in Swiss banks. 

Around the same time, Luxembourg introduced the holding company concept, which became exempt from income taxes. Similar law liberation happened in Bermuda, Bahamas, and Panama in the interwar years. These actions were also very much influenced by the consequences of the Great Depression that hit the world in 1929 and created the need for jurisdictions with limited resources to attract capital and economic activity.

The second World War winded down the actual economic activity, which was enacted in the 1950s with greater force. The modern tax havens were created in the 50s and 60s along with the resident companies. A new pole that merged in the equation of tax heaven was that of location. For example, the Bahamas were selected for such activities from the American economic system for their proximity to the USA until the revolution and overturn of the Batista regime in 1959. 

All these havens introduced familiar legislation modeled on the successful havens, including provision for zero or near-zero taxation for exempt companies and non-residential companies, Swiss-style bank secrecy laws, trust companies’ laws, offshore insurance laws, flags of convenience for shipping fleets and aircraft leasing and recently establishing advantageous laws aimed at facilitating e-commerce and online gambling. Whatever the market needs, the tax heavens establish it.

Soon after, other countries joined the game, particularly in the Middle East, such as Dubai in the mid-1970s and Bahrain, Cyprus in the 1980s, and jurisdictions in the Indian Ocean, Africa, and post-soviet republics that emerged from the Soviet Union in dire financial straits and desperate need of funds and financial activity in the 1990s. Other countries with traditionally stricter regulations, under pressure from the existence of tax havens, attempted to compete by providing benefits to specific industries.

The most notorious example is Ireland for tech companies in 1987 with its favorable tax regime. The major problem that emerged after the 1990s was the EU acknowledged the harmful tax competition between EU members, which pressured ECOFIN to establish a code of conduct for business taxation on the 1st of December 1997. The Code of Conduct requires the Member States to refrain from introducing any new harmful tax measures and amend any laws or practices deemed harmful in respect of the principles of the Code. The Code covers tax measures that have, or may have, a significant impact on the location of the business in the Union. 

The criteria for identifying potentially harmful measures include the following:

  • An effective level of taxation that is significantly lower than the general level of taxation in the country concerned
  • Tax benefits reserved for non-residents
  • Tax incentives for activities that are isolated from the domestic economy and therefore have no impact on the national tax base
    • Granting of tax advantages even in the absence of any real economic activity
  • The basis of profit determination for companies in a multinational group departs from internationally accepted rules, in particular, those approved by the OECD
  • Lack of transparency
Shell Companies

ECOFIN identified 66 tax measures with harmful features whose benefits had to lapse no later than 2005. Since then, many of these practices have been abolished, but others either remain or member states are battling in EU courts for legitimacy, such as Irish regimes, Luxemburg, and Dutch tax incentives.

Around 1998, OECD joined this crusade to end harmful tax practices in the Member States, tax havens, and non-OECD economies. Since then, OECD has also been producing the official list of tax haven jurisdictions which ended published in 2009, and has introduced the Model Tax Agreement on Exchange of Information in Tax Matters, also known as CRS. 

Many former tax havens participated in the CRS system and were deemed cooperative. It later introduced the famous Base Erosion and Profit Shifting or BEPS action, where «139 countries and jurisdictions are collaborating to put an end to tax avoidance strategies that exploit gaps and mismatches in tax rules to avoid paying tax.»

As stated on the OECD website, BEPS refers to tax planning strategies that exploit gaps and mismatches in tax rules to artificially shift profits to low or no-tax locations where there is little or no economic activity or to erode tax bases through deductible payments, such as interest or royalties. Although some of the schemes used are illegal, most are not.

It undermines the fairness and integrity of tax systems because businesses that operate across borders can use BEPS to gain a competitive advantage over enterprises that operate at a domestic level. BEPS introduces 15 actions to be undertaken by its members, which mainly try to tackle harmful tax practices and transfer pricing, which is the most modern way for tax avoidance, especially for large corporations.

The most recent BEPS obligations have been transferred to the EU and other legislations in international reports of country-by-country reporting or DAC6 or EU 6th Directive of Administrative Cooperation. Here, member countries share tax details on a company group basis, and mandatory disclosure rules, which are the most recent, require taxpayers and advisors to disclose aggressive tax planning arrangements.

Now that we have established the historical parts of the problems, we need to focus on the actual participants or players involved, which are no other than those of the legal entities either characterized as offshore companies or shell companies. The characterization only depends on the company’s use and offers little definition, as shell companies can operate outside the traditional offshore or tax heaven jurisdiction. 

It is the usage of the vehicle that matters the most. The common denominator in shell corporations is a certain level of anonymity and lack of transparency. Thus, shell corporations are more likely to be incorporated in countries that favor at least a little such lack of transparency. But why would someone need or prefer anonymity in business? There are numerous legitimate reasons to do so, including competition, industry secrets, discretion, and even the avoidance of criminal activities. Still, none of these legitimate reasons outweigh the actual causes, which are to engage in a specific type of illegal activity to avoid being caught.

The problem of shell company activity has been known for a long time and is directly linked to anonymity and lack of transparency. The US Permanent Subcommittee on Investigations found that states routinely incorporate hundreds of thousands of new, non-publicly traded companies in the United States each year. It did not obtain the identities of the corporate owners, obstructing law enforcement investigations into people using US shell corporations for money laundering, tax evasion, terrorist financing, or other crimes, were one of the most important reports.

The panel found that using shell firms in the United States allows persons to conceal their identities and undertake criminal behavior and that investigators have had difficulty identifying the owners of these shell companies. Of course, this is self-evident, but it required formal disclosure, particularly in the United States, where different states allow varying amounts of corporate transparency. 

Furthermore, the lack of transparency was first identified in 2001 in the hearings before the Permanent Subcommittee on Investigations. John M. Mathewson, a convicted felon and former chairman of Guardian Bank & Trust on Grand Cayman, testified that most of his bank customers were involved in some form of tax evasion.

These are the first indications that anonymity provided by certain corporations in specific jurisdictions is directly related to financial crime, but estimating the scope of the problem in terms of numbers is extremely difficult. John Walker proved this correlation in 1995. While trying to provide a model for estimating money laundering proceeds, he determined the attractiveness index’ to money launderers. 

Nevertheless, we must focus on the various methods used with shell corporations regarding owner hiding and financial activity. Of course, an interested party needs to assess how a corporation established in a jurisdiction can be involved in these activities. It is widely known that some jurisdictions are more attractive than others regarding setting up corporate vehicles and anonymity. One major criterion is the speed of incorporation, and when we mean speed, this is the combination of minimum paperwork, capital required, and maximum efficiency. 

There are numerous criteria to consider when deciding where to incorporate, including what you intend to do with the company. For example, in the new digital age and digital entrepreneurship, online activity plus the digitization of a country’s structures is a strong criterion; the law of establishing certain dubious businesses, such as gambling, cannabis trading, or other modern industries, can also be a criterion.

Banking secrecy, particularly in an advanced and mature banking system, can play a role in the decision, as can other factors such as financial and political stability, location, and culture, which refers to the geographical and cultural proximity of the jurisdiction that may solve arising problems.

Many lists online about this issue may have biases because most are also offering incorporation services in parallel, so one should make a serious effort to find overlaps between these lists and identify the «top risk» among them. We compiled an excel spreadsheet from various internet sources and determined when a jurisdiction appears. We only looked at the instances where a jurisdiction appears more than once. The jurisdictions are ranked in financial secrecy in the table’s second row. All data are derived primarily from recent inquiries in 2020 or 2021.

Even if the Walker data were extremely old in 1996, we could see the tendencies about to catch up in the next years, which means the general preference for incorporation in certain friendly jurisdictions. For instance, the United Kingdom regime was, is, and will be an amiable environment for businesses, even if, in the latest years, the government has elevated the transparency issue by establishing a beneficial owner’s registry named PSC or People with significant control.

Shell Companies

Singapore was and is a very trendy jurisdiction, and of course, the traditional USA, also depending from state to state, with the leading state, the Delaware jurisdiction. In the years that followed Walker’s findings, more states came into play in direct competition with Delaware, such as Nevada and others. Traditional offshore jurisdictions such as Nevis, the British Virgin Islands, Belize, Bermuda, Bahamas, Panama, and Cyprus are still in use today with excellent incorporation services. It also developed banking systems, in most cases, political stability and secrecy, even if they occasionally exist within EU legislation. In many of these cases, secrecy can also be achieved through the use of fiduciaries.

A fiduciary is a person or organization who acts on behalf of another person or persons. According to the official definition, they put their client’s interests ahead of their own, with a duty to maintain good faith and trust. Being a fiduciary entails being legally and ethically obligated to act in the best interests of the other. It means that during the incorporation process, a fiduciary will act as if he is the owner or beneficial owner of a company and will assume legal responsibilities even for the sake of ownership to protect the actual customer with the appropriate monetary gain.

Such services raise the cost of maintaining a corporation in such jurisdictions, but they help anyone who needs to conceal the company’s ownership from legal scrutiny. We can also see from our own experience that two major types of jurisdictions have become popular in recent years: former Soviet democracies and Oceania. Georgia, for example, has received a lot of attention in recent years, as has Estonia and its digitized environment and digital citizenship, and of course, New Zealand, which, as a former Crown subject, has inherited the UK structures and expanded its business-friendly environment. 

Final Thoughts

The majority of what is possible has been described in the preceding cases. International initiatives and stringent legislation are in place to provide participants with the tools they need to determine whether a company is legitimately used or is acting as a vehicle for tax avoidance, sanctions avoidance, or other purposes. The final factor is human investigative skills, knowledge of specific regimes, and the method for determining the actual owners of an entity. This work must be done with due diligence to identify an entity’s ownership.

In addition, there is the actual business that is done. In many cases, the transactions or actions of the company will provide clues to dig deeper, as not all legislation is a straight jacket for all cases. Everything may appear in order at times, but transactional methods provide the necessary indications for further investigation.

Nonetheless, banks will always be at the center of the storm, whether it is identified at the outset or during operations and business relationships. Whatever the case, the only requirement is to do what is necessary to find the required information and act on it. If not uncovered, identify the loopholes and tricks to patch our systems so they cannot be exploited the next time we encounter a shell company or a similar structure. 

Errors are unavoidable, and most people who require these structures pay large sums of money to be advised by the best and stay ahead of the curve. Criminals will always be one step ahead of the capabilities of law enforcement, which cannot be avoided.