

Knowledgebase
Shell companies are business entities that are often used by money launderers to hide illegal funds and the identity of beneficial owners.
In 2016, the Panama Papers exposed the extent to which shell companies were being used to launder money in jurisdictions around the world. The AML threat posed by shell companies is significant: the leaked documents revealed that shell companies had been set up in a variety of low regulation jurisdictions such as the British Virgin Island and the Cayman Islands, with many of those enterprises linked to prominent political officials and their families. Responding to the leak, global tax authorities were able to recover around $500 million and pursue a number of criminal prosecutions against firms and individuals involved.
In the United States, some estimates suggest that the misuse of shell companies costs the country around $70 billion per year. Given the scale of the threat to the legitimate financial system, it is important that firms understand the AML risk that shell companies pose and are able to detect customers that are attempting to use them to launder money.
Shell companies are non-public entities that are formed to protect or hide another company’s assets. Existing only on paper, shell companies typically have no physical premises, employees, revenue, or significant assets, but may hold bank accounts or investments. Shell companies are not inherently illegal: they can be formed quickly and relatively inexpensively in the legitimate financial system and used as vehicles to raise funds, hold stocks, or act as limited liability trustees.
However shell companies are also frequently misused for illegal purposes and, in particular, as part of money laundering schemes. In most jurisdictions, shell companies can be set up by registered agents in a manner which obscures ultimate beneficial ownership (UBO). Effectively, this means that shell companies can be established with a degree of anonymity and then used to hide illegal funds, evade sanctions, and avoid the AML measures that firms use to detect suspicious financial activity.
The anonymity associated with shell companies and the deliberate efforts by criminals to avoid regulatory scrutiny can make AML compliance challenging. Accordingly, AML compliance teams should be familiar with red flag characteristics that indicate when a shell company may be being used to launder money. Those red flags include:
In order to comply with domestic regulations and the recommendations of the Financial Action Task Force (FATF), firms must put risk-based AML programs in place to deal with the AML threat posed by shell companies. In practice, this means that firms must gather information about, and perform risk assessments on, their customers in order to determine a proportionate AML response.
In determining whether customers are attempting to misuse shell companies to launder money, a firm’s AML response should focus on UBO, business relationships, and transactional activity. Compliance teams should seek to aggregate data from a variety of sources to map connections between entities, reveal ownership and understand transactional flows. With that in mind, an AML program should include the following features and measures:
In the wake of the Panama Papers, financial authorities are taking steps to prevent the use of shell companies to launder money. In the United States, for example, the Corporate Transparency Act (CTA) was introduced in 2019 to crack down on the anonymity associated with shell companies. Under the CTA, companies must report their ultimate beneficial ownership to the Financial Crimes Enforcement Network (FinCEN) upon their formation. The CTA defines beneficial owners as natural persons that:
In order to manage the data collection and analysis obligations required to identify shell company misuse, firms may seek to integrate a range of smart technology, such as artificial intelligence and machine learning tools. In addition to the automated speed and efficiency that it brings to the compliance process, smart technology also enables firms to better adapt to changes in legislation such as the CTA and to new criminal methodologies.
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