Anti-Money Laundering Verification and Shell Companies
Shell companies are notorious for all the wrong reasons, both morally and from the point of compliance. These entities, often called ghost companies, are frequently used to hide illegal funds and, more importantly, the identity of beneficial owners. Regulated businesses performing anti-money laundering verification on shell companies find it a real pain point and a compliance headache. In this blog, we discuss why shell companies came into existence; tactics used by bad actors to launder money; the progress made on beneficial owner registers and best-practice client due diligence when onboarding shell companies.
Anti-money laundering verification of shell companies
Anti-Money Laundering Verification and Shell Companies
A look behind the inception of shell companies
The days of being a bad actor with a numbered Swiss Bank account and an obliging Swiss Banker that could keep a secret, or an Austrian account if you weren’t mainstream, are long gone. Criminals and kleptocrats promoted Switzerland to claim the title of being the world’s largest centre for managing offshore wealth and hiding illicit funds. Anti-Money Laundering Verification and Shell Companies
This all changed in October 2018, when the Swiss tax agency and the Federal Tax Administration (FTA) officially started exchanging bank account data with tax authorities in other countries. Suddenly, individuals could no longer hide dubious funds in Swiss banks as their details would be shared with governments within their home jurisdiction.
This meant that the bad actors needed a new way of effectively removing their fingerprints from the stolen funds being laundered through the financial system – and found it in shell companies. These became the number one choice for former state-sanctioned individuals, kleptocrats and money launderers to move their money around freely without obstruction, and making Anti-Money Laundering verification difficult for compliance teams across the globe.
What is a shell company and how does it work?
A shell company is a company, or corporation, that exists only on paper and has no office or employees, but may have a bank account or may hold passive investments or be the registered owner of assets, such as intellectual property, or ships. The company may serve as a vehicle for business transactions without itself having any significant assets or operations. Sometimes shell companies are used for legitimate business purposes, however, they can also be used for tax evasion, tax avoidance, and money laundering, or simply to achieve a specific goal such as anonymity. Anonymity may be sought to shield personal assets from others, such as a spouse when a marriage is breaking down, from creditors, from government authorities, besides others.
The 2016 Panama papers leak, revealed how complex networks of shell companies enable bad actors to drain treasuries; traffic arms, drugs and endangered species; and exert authoritarian influence on democracies worldwide. As well as how these can often be traced back to Britain’s offshore financial centres.
How shell companies are used to launder money
Shell companies usually claim cash transactions on behalf of their customers to launder money. Multiple transactions increase anonymity and reduce the chances of tracing the original recipient. Money launderers then deposit funds into the company that are transferred to the criminal’s account by creating false invoices. Such transactions create the appearance of propriety and clean money. The shell company can then make withdrawals and either return the money to the initial criminal or pass the money through another layer of shell companies, to further cloud who initially deposited the money, ensuring Anti-Money Laundering verification of shell companies remains challenging.
Tactics used by shell companies to remain anonymous
1. Layers of corporate structures
Using layers of corporate shell companies is a tactic deliberately used to hide the trail of illegal proceeds, to increase the difficulty faced by regulators to detect and uncover a laundering activity. The known methods are: Cash converted into Monetary Instruments by way of banker’s drafts and money orders and material assets bought with cash then sold.
2. Different jurisdictions
Often multiple financial territories are used to increase the complexity of tracing dirty money. For example, a shell company may be set-up in the British Virgin Islands, to funnel funds to a Trust in Wyoming (USA), whilst a lawyer based in London, could be used to manage this money, potentially to be held in a bank in Malaysia.
Any one of those structures would be vulnerable to investigation from a law enforcement agency or government. However, when taken together, it becomes an almost entirely impregnable system, because no one agency could afford to combat all of those different country’s legal systems simultaneously and unlock all the protections the different countries grant to companies.
3. Hiding Ultimate Beneficial Ownership (UBO)
Lastly, shell companies are often set up in a manner that obscures the Ultimate Beneficial Owners (UBOs) true identity and makes verification extremely difficult. They may be sanctioned individuals or on a PEP list, but the degree of anonymity these companies provide means they can evade sanctions, and avoid the AML measures firms use to detect suspicious financial activity.
Crackdown of anonymous shell companies at the G7
The 2021 G7 Summit, held in the UK, explicitly endorsed the global adoption of greater corporate transparency by unravelling the shell companies through the use of beneficial ownership registers to prevent kleptocrats from undermining the recovery from COVID-19.
Daniel Bruce, Chief Executive of Transparency International UK, said:
“Anonymous shell companies are a well-recognised tool of kleptocrats and organised crime groups involved in the trafficking of drugs, arms, endangered species and people. Despite growing evidence of their use for illicit finance, the international community has been slow to act decisively against anonymous companies. The G7 now has the opportunity to lead the path to long-lasting solutions by implementing strong measures at the national level and by pushing for stronger global standards.”
It is only recently that global leaders have agreed to crack down on anonymous shell companies and place it higher up the agenda.
Companies House reform – improve anti-money laundering (AML) verification of shell companies
The 2018 5th Anti-Money Laundering Directive (5AMLD) recognised that transparency can be a powerful tool in preventing money laundering and financial crimes, and asked EU member states to open up their beneficial ownership registers to all. Although since Brexit the UK is no longer part of the EU, it made its company registry publicly accessible in 2016. However, as the recent FinCEN files investigation revealed, the UK continues to be an attractive place for global criminals and kleptocrats. This has been attributed to the low cost and ease of company formation in the UK and the (currently) unverified nature of the data.
In combating this, the UK’s Economic Crime Plan made reform of Companies House a priority and places a focus on including plans to introduce compulsory identity verification to help deter and detect fraud and money laundering; and giving Companies House greater powers to query, investigate and remove false information in the register.
Companies House now has increased powers and a proactive approach. Which means that the collaboration between regulated business, Companies House and technology providers, in tackling the complexities of identifying and continually monitoring Ultimate Beneficial Owners will move the fight closer to the fraudsters that hide their illicit gains behind these complex structures.
EU Beneficial Owner Registers
Greater transparency and public access for company registries and EU beneficial ownership is a key focus for both the UK and European Union (EU). However, as the latest Transparency International ACCESS DENIED report highlights, there is a lack of availability and accessibility of beneficial ownership data across many European Union member states.
The majority of countries across the Union (24 out of 27), do have at least a private central beneficial ownership information register in place. However, the fact that these are private makes it almost impossible to verify UBOs if you are not within the member state.
Denmark and Latvia are leading the way, with free and accessible Ultimate Beneficial Ownership registries. However, Italy, Hungary and Lithuania are yet to establish any type of beneficial ownership registers. See the map to the left.
Transparency International Report: How accessible is Beneficial Ownership Data in the EU?
Read the latest Transparency International report that highlights the lack of availability and accessibility of beneficial ownership data in some EU countries. Download now to learn more.Download Report Now
Anti-Money Laundering (AML) verification of shell companies
Although shell companies are not always created with bad intentions, their ability to hide ownership identity makes them a challenge for compliance officers. Even with regulators across the globe enforcing tougher Anti-Money Laundering laws, amid growing pressure for all EU countries to make UBO registers data freely and publicly available, shell companies are still a problem.
As a compliance officer, what can you do?
The first step is for compliance teams to ensure they are partnered with the right AML solution and technology provider, that can aggregate accurate, trustworthy global data sets from a variety of sources to map out connections between multiple entities. Compliance technology partners worth their salt should easily be able to identify Ultimate Beneficial Ownerships, as well as the presence of bad actors.
Below are some key measures:
- Know Your Business verification: With robust verification on businesses, regulated firms can make sure they are conducting business with real, legitimate companies and not a suspicious shell company
- Client Due Diligence: Compliance teams should perform comprehensive CDD remote verification on the company directors and beneficial owners, using a combination of real-time ID document verification, liveness checks, address verification and more. (NB. This will need to be remote as the company individuals will often be in multiple jurisdictions.)
- Sanctions Screening: Customers that appear on international sanctions lists may seek to use shell companies to access the legitimate financial system. AML teams must screen customers against the relevant international sanctions lists, such as OFAC’s Specially Designated Nationals and Blocked Persons list or the UN’s Consolidated List and it is worth investigating further to see what shell companies, fake or legitimate, they are connected with
- PEP Screening: Politically Exposed Persons (PEPs) represent a higher AML risk and may use shell companies as a way of evading CDD measures. PEP status should be monitored on an ongoing basis
- Adverse media: Ownership of shell companies often generates adverse media and can indicate a change in a customer’s risk profile. Accordingly, firms should monitor for adverse stories, from traditional screen and print media, to online and social media sources.
- Ongoing monitoring: It is integral to monitoring any event changes, for both the corporate entity or company UBOs or directors, to manage your risk.
If you would like to learn more about any of these areas, that are essential to Compliance teams’ AML functions, NorthRow will be able to advise