Many business owners will have heard of shell companies, and it’s a topic that is important to understand in order to effectively protect your business.
Whilst shell companies can sometimes have legitimate purposes, the system is also commonly abused for personal gain or criminal activity. Avoiding these less than genuine shell companies protects your business from the substantial risk of unknowingly assisting in tax avoidance, money laundering or another financial crime, that could result in you receiving a large fine.
What is a shell company?
A shell company is a business that doesn’t have any significant assets or deliver any goods or services to generate revenue, and don’t appear to have any active business operations. They may have a registered address, but usually have no physical office so sometimes only exist on paper.
Shell companies can exist in any country but are most common in tax havens such as:
- Cayman Islands
- United Arab Emirates
- Malta etc.
These companies are set up by anyone (individual or organisation) and are used in a variety of different situations for legitimate businesses as well as criminal enterprises.
Why are there shell companies?
There can be legitimate and illegitimate reasons for shell companies, the most common being the latter. This is why it’s vital to know and understand the warning signs of these unlawful shell companies, so you don’t get caught out.
Legitimate reasons for shell companies.
Some of the most common reasons for shell companies include:
- Avoiding the costs of compliance in countries with high regulations. Setting up a shell company in a country that has lower standards, such as less environmental requirements than typically found in their domestic region.
- Companies in volatile economies use shell companies to store money in a more stable economy.
- They could be a precursor before a business becomes fully operational and may hold assets whilst it’s being set up.
- Tax and regulatory avoidance are another popular reason. For example, UK tax avoidance usually entails setting up shell companies generally in Ireland which has a lower corporate tax rate than the UK.
Illegitimate reasons for shell companies
Shell companies usually come into play during the layering stage of money laundering, where money is used for storing and transferring washed funds back to the destination economy. Crossing international borders, using fake invoices, and performing many transactions confuses authorities and slows down investigations.
As named by FATF, these eight countries do not have sufficient AML regulations in place:
- North Korea
- São Tomé and Príncipe
These countries and others are popular for their lack of financial regulations, so local authorities would not aid in the investigation. Vested interest allows these schemes to prosper as governments collect tax on the shell company’s funds without having to provide anything in return.
The other two popular illegal reasons to use a shell company include tax evasion and concealing assets – in the case of divorces, court cases, mergers, or acquisitions. Hiding assets in this way is a form of fraud.
What are the signs I’m dealing with a shell corporation?
Here are some of the most common signs of a shell company.
Lack of operational activity
As these firms typically engage in little to no operations, it can indicate their main goal is to facilitate illegal money laundering if they’re missing an actual product or service offering.
Tax haven connections
These locations have lenient regulations which allow criminals to exploit tax benefits and conceal funds obtained through money laundering. The presence of an organisation in an offshore jurisdiction or a recognised tax haven is a major warning sign.
Minimal employee presence
The absence of a qualified workforce shows that businesses may be committing financial crimes rather than engaging in actual operational activity, as shell companies often employ very few people, sometimes none at all.
If a company has an unusually low capitalisation compared to the industry standard, or the nature of their operations doesn’t seem right, it could be a front for illegal activity. Shell companies have little to no capitalisation meaning they have limited financial resources which contradicts genuine businesses.
Lacking physical presence
Lack of a physical presence is a warning sign that should raise suspicion about their actual operations, as shell companies often do not have a working office or a genuine business address.
Non-disclosure of beneficial owners
Whilst legitimate businesses frequently disclose their ownership structure, shell companies work to conceal the true UBOs. If a company is unwilling to reveal the identities of its owners, or offers inaccurate and incomplete information, you can easily identify it as a shell company.
If you notice a company usually operating in high-risk sectors like finance, real estate, banking, and cross-border trade, you should be conscious that these industry sectors provide opportunities for financial crime such as tax evasion and money laundering. If you notice a company in these sectors, you should apply additional scrutiny.
Unusual financial transactions
Disproportionate economic activity could be an attempt to obscure genuine fund sources/launder money. Shell companies may conduct unusual financial transactions e.g., frequent fund transfers to offshore accounts, intricate deals involving many countries, or large volumes of unrelated transactions.
Lack of transparency
Insufficient details regarding ownership, management, or financial standing are red flags as shell companies often provide limited or insufficient information within public business records.
Unusual corporate structure
Complex structures are intended to conceal ultimate beneficial owners making it a challenge to track the flow of funds and identify perpetrators. These companies frequently have intricate ownership structures, a network of interconnected entities and numerous levels of subsidiaries which can be a warning sign.
This importance of a good due diligence process
A good due diligence process will allow you to investigate all areas of a business and assess their value; this means you can make an informed decision on whether to proceed doing business with them.
Red Flag Alert can protect you against the adverse, legal, professional, and reputational damage that could occur if you’re found to have facilitated illegal activity by doing business with an illicit shell company.
Search every UK company and their financial details with RFA company search and reports, verify identities with our IDV&AML toolset, and find the real UBO all through our platform.
How Red Flag Alert can help
Protect your business from dealing with criminally linked shell companies by streamlining your onboarding process with Red Flag Alert using our all-in-one platform.
Red Flag Alert AML check software offers:
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