Wealth creates wealth. And supercharging that wealth creation is ensuring 'maximum tax efficiency.' To do this the wealthy create complex or opaque structures with multiple layers of ownership and shareholdings.
They often will create these structures in tax efficient or tax haven countries, for example, Monaco, Liechtenstein, Switzerland, British Virgin Islands, and the Cayman Islands, however they can also be in unexpected locations such as Rarotonga, Tonga and Samoa.
In February 2023, the EU added the British Virgin Islands, Costa Rica, Marshall Islands and Russia to their ever growing blacklist for tax havens. Other countries include the Bahamas, Fiji, Palau, Panama and Vanuatu.
In each of these countries, there’s no public company register, so it takes a lot of expertise and skill to understand how the organisations are structured. This makes it incredibly difficult to identify the beneficial ownership chain for AML purposes, leading to the ability for criminal activity to be hidden.
What is an offshore company?
An offshore company or shell corporation is a business that’s created for the sole purpose of holding funds and managing another entity’s financial transactions. Unlike a traditional company, it doesn’t have employees, make money or provide customers with a product or service. While shell corporations aren’t illegal, many have been created for illegal purposes. Shell corporations can allow companies to exploit the benefits of liberal tax laws, anonymity and relaxed regulatory regimes in countries like Panama or the Cayman Islands.
These offshore countries or territories are where it’s easy to set up companies, there are laws that make it difficult to identify owners of companies or there is low or no corporation tax – often called tax havens.
Anyone can set up an offshore company in a low tax jurisdiction, the most well-known being British Overseas Territories such as the Cayman Islands and the British Virgin Islands, as well as countries such as Switzerland and Singapore.
What is a tax haven, and are they illegal?
Tax havens are jurisdictions or territories that allow for non-residents to set up companies and minimise the amount of tax paid on large transactions. Some of these jurisdictions also provide anonymity to the owners of the company, meaning that money laundering and other criminal activity can be hidden.
Loopholes in the law allow people to ‘optimise’ (minimise) their tax obligations by moving their money or setting up companies in tax havens, so whilst it may not be illegal, it is unethical.
Although having secretive offshore assets itself is not illegal, using a complex network of offshore and unknown companies to move around money and assets is a well-known way to hide the proceeds of criminality.
If it’s not illegal, then why is this an issue?
The International Monetary Fund has said the use of tax havens costs governments worldwide up to $600bn in lost taxes each year. Oxfam has found that tax havens are costing countries with low GDP at least $170bn in lost tax revenues each year.
The onflow effect is less tax revenue for the government, leading to an increase in taxes on goods and services, which ultimately hurts those at the bottom.
On top of this, it facilitates money laundering, corruption, and hinders financial regulators to identify risks in capital markets.
The problem is, criminals know that firms are time poor and overwhelmed by information, so they create complex structures to further overload the system, providing needed cover for their illicit activities.
How does this happen? Let’s take a look.
People who trade across multiple countries often set up offshore companies in tax havens to pool profits to avoid being taxed twice. This only becomes illegal if the profits are not declared in the individual’s home country.
The Pandora Papers leak of 2021 showed us that the owners of more than 1,500 UK properties were bought using offshore firms, and that over 330 politicians from 90 countries used secret offshore companies to hide their wealth.
The biggest concern with shell corporations is their ability to provide anonymity. In the Caribbean, banking secrecy laws allow owners of shell companies to conceal ultimate beneficial ownership (UBO) details, and therefore their identities. This makes it easier for illegitimate funds to be concealed and transferred to others, without any oversight or ability to track the source of funds.
There is a lot of grey in multi-jurisdictional finance, however shell companies are also used for outright illegal purposes, such as tax evasion, money laundering, fraud, and organised crime.
Some of those who should be gatekeepers to anti-money laundering, such as accountants, take pride in exploiting legal loopholes to help their clients minimise tax and shield assets from law enforcement. They aren’t just turning a blind eye – some of them are overtly complicit. These professions should be captured activities, but they are actively helping people to hide their money instead.
There are a lot more tax havens today than ever before, which highlights what the anti-money laundering space is trying to combat. However, it also highlights that the sector has been massively under-invested in – first being seen as a burden rather than something that actively fights money laundering. The money hidden in offshore accounts is more than the GDP of the United States. Modern day anti-money laundering technology needs to be invested in like how money laundering is being invested in – it’s becoming harder and harder to find. Firms and governments all need to make that investment to help fight financial crime.
How can we combat this?
Modern criminals need modern solutions to stop them.
Recent developments in regtech help to counter complex foreign ownership by drilling down into the ownership structure, verifying and understanding a lot of complex information quickly, and helping surface the data to firms to easily digest and understand – allowing them to make risk based approvals quickly.
The problem is, criminals know that firms are time poor and overwhelmed with information, so they create complex structures to further overload the system, providing needed cover for their illicit activities. Technology helps solve that problem by crunching through a lot of information quickly, and surfacing any red flags.
About First AML
First AML is an AML technology provider, and the maker of Source, an all-in-one AML platform. Source powers thousands of compliance experts around the globe to reduce the time and cost burden of complex and international entity KYC. Its enterprise-wide, long term approach to the KYC / CDD data lifecycle addresses time and cost challenges while minimising compliance, reputational and security risks.