Corporate Vehicles Used to Facilitate Illicit Finance

Corporate Vehicles Used to Facilitate Illicit Finance A corporate vehicle is a legal entity that allows an administrator to perform commercial activities and manage assets on behalf of another person or company. Various forms of corporate vehicles can be used to facilitate the movement of illicit funds. For example, corporate vehicles can be misused for money laundering, bribery and corruption activities, sheltering assets, and tax evasion. Vehicles such as corporations, partnerships, and trusts are all effective methods to maximize anonymity of ownership as well as its actual purpose. Public Companies and Private Limited Companies In most jurisdictions, corporate structure is distinguished between public companies and private limited companies. For public companies, shares are freely available and traded publicly, there is usually no limit to the number of shareholders, information on ownership and its board of directors is publicly available, and the companies are subject to significant regulation. Conversely, private limited companies are not publicly traded, are restrictive in the number of shares, can be owned by one or many, and are subject to minimal regulatory oversight. Limited liability companies (LLCs) are very common corporate vehicles that are subject to misuse. LLCs are an attractive vehicle because they can be owned or managed anonymously; virtually anyone can own or manage an LLC, including foreign persons and other business entities. A member of an LLC is equivalent to a shareholder in a corporation. A manager of an LLC, on the other hand, is equivalent to an executive officer or member of the board of directors. An LLC can lack managers, in which case the members manage the LLC. FinCEN has undertaken a number of activities to better monitor LLCs, because not every state (especially US domestic LLCs) undertakes the same measures and controls toward LLCs, particularly in the monitoring, recording, and reporting of managers, ultimate beneficiaries, and nominees. International business corporations (IBCs) are entities formed outside a person’s or business’s country of residence, typically in offshore jurisdictions, for confidentially or asset protection purposes. IBCs permit the person to reduce transparency between the owner in her home country and the offshore entity where the company is registered. As a result, some benefits include asset protection, access to multiple investment markets, estate planning, legitimate tax benefits, and ability to serve as holding companies. The inherent risks with IBCs are that they are usually created in tax havens and typically require incorporation with a local agent, who may further reduce the transparency of the IBC (e.g., serving as a nominee owner or director) and facilitate opening accounts in the name of the IBC. Private investment companies are established and used in a similar manner; however, they are typically limited to holding investment assets in tax-neutral offshore financial jurisdictions. Corporate vehicles example Bearer shares in corporate formation Bearer bonds, bearer stock certificates, and bearer shares are prime money laundering vehicles because they belong on the surface to the bearer. When bearer securities are transferred, because there is no registry of owners, the transfer takes place by physically handing over the bonds or share certificates. Basically, the person who holds the bonds or shares gets to claim ownership. Bearer shares offer many opportunities to disguise their legitimate ownership. To prevent this strategy, FATF in its 40 Recommendations suggested that employees of financial institutions conduct EDD and ask questions about the identity of beneficial owners before issuing, accepting, and creating bearer shares and trusts. Financial institutions should also keep registries of this information and share it appropriately with law enforcement agencies. Several FATF members do allow the issuance of bearer shares, maintaining that they have legitimate functions in facilitating the buying and selling of such securities through book entry transfers. They also can be used, according to some sources, for concealing ownership for tax optimization purposes. Bearer checks are unconditional orders (i.e., negotiable instruments) that, when presented to a financial institution, must be paid to the holder of the instrument rather than to a payee specified on the order itself. Bearer checks are used in several countries. The financial institution is usually not obligated to verify the identity of the presenter of a bearer check unless the transaction exceeds a specific threshold. A non-bearer check may become a bearer instrument, payable to the individual who presents it, when the original payee has endorsed it. Shell and Shelf Companies Although shell companies can be created for legitimate purposes, they can also be established with the primary objective of claiming the proceeds of crime as legitimate revenue and/or to commingle criminal proceeds with legitimate revenue. The use of shell and shelf companies to facilitate money laundering is a well-documented typology, according to FATF. FATF offers the following definitions: • Shelf company: A corporation that has had no activity; it has been created and “put on the shelf.” This corporation is then later sold to someone who prefers a previously registered corporation over a new one. • Shell company or corporation: A company that at the time of incorporation has no significant assets or operations FATF issued a report called The Misuse of Corporate Vehicles, Including Trust and Company Service Providers in which it states that the ease with which corporate vehicles can be created and dissolved in some jurisdictions is of particular concern. This allows the vehicles to be used not only for legitimate purposes (e.g., business finance, mergers and acquisitions, and estate and tax planning), but also by financial criminals to conceal the sources of funds, while keeping their ownership concealed. Shell companies can be set up in onshore as well as offshore locations, and their ownership structures can take several forms. Shares can be issued to a natural or legal person or in registered or bearer form. Some companies can be created for a single purpose or to hold a single asset. Others can be established as multipurpose entities. Shell companies are often legally incorporated and registered by the criminal organization, but they have no legitimate business. Often purchased “off the shelf” from lawyers, accountants, and secretarial companies, they are convenient vehicles to launder money. Sometimes, the stock of these shell corporations is issued in bearer shares, which means that whoever carries them is the purported owner. Tax haven countries and their strict secrecy laws can further conceal the true ownership of shell corporations. In addition, the information may be held by professionals who claim secrecy. When FATF reviewed the rules and practices that impair the effectiveness of money laundering prevention and detection systems, it found that shell corporations and nominees are widely used mechanisms to launder the proceeds from crime. The Money Laundering in Canada report offered four related purposes for establishing or controlling a shell company for money laundering: 1. Shell companies accomplish the objective of converting the cash proceeds of crime into alternative assets. 2. Through the use of shell companies, the launderer can create the perception that illicit funds have been generated from a legitimate source. Once a shell company is established, commercial accounts can be created at banks and other financial organizations. Especially attractive to money launderers are businesses that typically handle a high volume of cash transactions, such as retail stores, restaurants, bars, video arcades, gas stations, and food markets. Illicit revenues can then be deposited into bank accounts as legitimate revenue, either alone or commingled with revenue legitimately produced from the business. Companies also offer criminals legitimate sources of employment in the community, which in turn helps cultivate an image of respectability. 3. Once a shell company is established, a wide range of legitimate and/or fake business transactions can be used to facilitate the laundering process. These include lending money between criminally controlled firms, paying for fictitious expenses or salaries, disguising the transfer of illicit funds under the guise of payment for goods or services, purchasing real estate with the proceeds of crime, or disguising payments for real estate as mortgages issued by a shell company. As a medium between criminal organizations and other laundering vehicles, shell companies are flexible and can be tailored to a launderer’s specific needs. For example, criminal organizations that launder money through real estate can incorporate real estate agencies, mortgage-brokerage firms, and development or construction companies to facilitate access to real property. 4. Shell companies can also be effective in concealing criminal ownership. Nominees can be used as owners, directors, officers, and shareholders. Companies in one country can also be incorporated as subsidiaries of corporations based in another country (especially a tax haven country with strict secrecy and disclosure laws), thereby significantly inhibiting investigations into their ownership. Shell companies can also be used to hide criminal ownership in assets, by registering these assets, such as real estate, in the name of a company. Criminal enterprises also use real businesses to launder illicit money. These businesses differ from shell companies in that they operate legitimately, offering industrial, wholesale, and retail goods or services. The Canadian report identifies the following money laundering techniques used in conjunction with criminally controlled companies: • Using nominees as owners or directors: To distance a company from its criminal connections, nominees are used as company owners, officers, and directors. Nominees will often, but not always, have no criminal record. Further, companies established by lawyers are often registered in the lawyers’ names. • Layering: In some cases, several companies are established, many of which are connected through a complex hierarchy of ownership. This method helps to conceal criminal ownership, facilitates the transfer of illicit funds between companies, and complicating any paper trail. • Loans: Proceeds of crime can be laundered by lending money between criminally controlled companies. In one case, a drug trafficker had US$500,000 in a bank account in the name of a shell company. These funds were loaned to restaurants in which the drug trafficker had invested. This seemingly legitimate use of the funds helped make it appear as though the funds were being properly integrated into the economy. The US$500,000 was repaid with interest to avoid suspicion. • Fictitious business expenses/false invoicing: Once a criminal enterprise controls corporate entities in different jurisdictions, it can employ a laundering technique known as double invoicing. An offshore corporation orders goods from its subsidiary in another country, and the payment is sent in full to the bank account of the subsidiary. Both companies are owned by the criminal enterprise, and the payment for goods is actually a repatriation of illicit money previously sent out of the country. Moreover, if the subsidiary has charged a high price for the goods, the records of the parent company will show a low level of profit, and it will pay less in taxes. Conversely, an offshore corporation buys goods from a parent company at an inflated price. The difference between the actual price and the inflated price is then deposited in the subsidiary’s account. • Sale of the business: When the criminal sells the business, he has a legitimate source of capital. The added benefit of selling a business through which illicit money circulates is that it will seemingly exhibit significant cash flow and, as such, will be an attractive investment that could realize a high selling price. • Buying a company already owned by the criminal enterprise: This laundering method is most frequently used to repatriate illicit money that was previously secreted to foreign tax havens. Criminal proceeds from offshore are used to buy a company that is already owned by the criminal enterprise. In this way, the launderer successfully returns a large sum of money that had been secreted out of the country. • Paying out fictitious salaries: In addition to claiming the proceeds of crime as legitimate business revenue, criminally controlled companies can help make participants in a criminal conspiracy appear to be legitimate by paying them salaries. Trusts Trusts are private fiduciary arrangements that allow a grantor, or settlor, to place assets for future distribution to beneficiaries. The grantor/settlor will usually appoint a third party, a trustee, to administer the assets in accordance with the instructions provided in the trust document. Trusts are often seen as separate legal entities from the grantor; as such, they are often useful for estate planning and asset protection purposes. The instructions usually state how the grantor/settlor wants the funds to be distributed and are limited only to a legal purpose. Trusts fall into one of two categories: revocable and irrevocable. In revocable trusts, the grantor/settlor can terminate the trust. In irrevocable trusts, the grantor cannot terminate the trust once it is created. The flow of funds from the trust assets (i.e., the principal) to the beneficiaries can occur in several ways, including providing them with the income generated by the principal, providing fixed distributions of interest and/or principal, or putting conditions on distributions (e.g., completing certain levels of schooling). Trusts also name “remaindermen,” who are designated to receive any residual assets after the conclusion of the trust’s term (e.g., after the death of the grantor or the beneficiaries). Trusts allow a significant amount of flexibility and protection and have been used legitimately for centuries. The significance of trust accounts—whether onshore or offshore—in the context of money laundering cannot be overstated. It can be used in the first stage of converting illicit cash into less suspicious assets; help disguise the criminal ownership of funds and other assets; and form an essential link between different money laundering vehicles and techniques, such as real estate, shell and active companies, nominees, and the deposit and transfer of criminal proceeds. In some jurisdictions, trusts can be formed to take advantage of strict secrecy rules in order to conceal the identity of the true owner or beneficiary of the trust property. They are also used to hide assets from legitimate creditors, protect property from seizure under judicial action, and mask the various links in the money flows associated with money laundering and tax evasion schemes. For example, an asset protection trust (APT) is a form of irrevocable trust that is usually created (i.e., settled) offshore for the principal purposes of preserving and protecting part of one’s wealth from creditors. Title to the asset is transferred to a person named the trustee. APTs are generally used for asset protection and are usually tax neutral. Their ultimate function is to provide for beneficiaries. Some proponents advertise APTs as allowing foreign trustees to ignore US court orders and simply transfer the trust to another jurisdiction in response to legal action threatening the trust’s assets. Payments to the beneficiaries of a trust can also be used in the money laundering process, because these payments do not need to be justified as compensation or as a transfer of assets for services rendered. Lawyers often serve as trustees by holding money or assets “in trust” for clients. This enables lawyers to conduct transactions and administer the client’s affairs. Sometimes, illicit money is placed in a law firm’s general trust account in a file set up in the name of a client, nominee, or a company controlled by the client. Trust accounts are also used as part of the normal course of a lawyer’s duties in collecting and disbursing payments for real property on behalf of clients.