Understanding Shell Companies and Corruption Spread by them - Seeker's Thoughts

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Monday, 15 October 2018

Understanding Shell Companies and Corruption Spread by them

Shell companies 

A shell company is described as non-trading organization that does not engage in any activity but exists by name only. 

Shell companies are usually listed on the stock exchange and or are not illegal inherently; however, a large number of fraudulent used as a vehicle for illegal activities like – tax avoidance or for trying to cover up or hide real turnover of money. 

 Note- these companies exist only in paper and have no physical presence. 

Shell company’s functions 
Illegal activities generally carried out by a shell company include tax evasion, bankruptcy frauds, fake services schemes, market manipulation and money laundering. 

Tax evasion- Tax evasion is the criminal act of using illegal means to avoid paying taxes, or unlawful attempt to minimize tax liability through fraudulent techniques to avoid giving tax. 
Bankruptcy fraud - Bankruptcy fraud occurs when a person knowingly lies or fail to mention information about his/her finances when his/her bankruptcy is being processed. Hiding assets, such as foreign properties or vehicles is another form of bankruptcy fraud. 
Fake services schemes- fake services schemes occurs when a victim pays money and the scheme don’t exist by the company. 
Market manipulation and money laundering - market manipulation is a deliberate attempt to interfere with the free and fair operation of the market and create artificial, false or misleading appearances with respect to the price of, or market for, a product, security, commodity or currency. Where money laundering is the process of creating the appearance that large amount of money obtained from criminal activity, such as drug trafficking or terrorist activity, originated from legitimate source. 

Aim of shell companies 
The aim of shell company is to return the illegally held money into legal wealth for which tax has been paid and the source is accounted for. These companies are typically created by the person that hold the unaccounted money. 
Often company  want to hide their actual profits, so they buy and sell through shell company that means only by fake name company which don’t exists but registered and transacting through these shell companies (due to the country’s tax laws) and hence is successful in avoiding taxes. 
Generally, infrastructure companies are the most active in this area as these companies are required to bribe a large number of people ranging from politicians to government officials to local mafia. The infrastructure company would pay the shell company x amount through a cheque which would later be returned by the shell company in cash. 
This cash is then used to pay the bribe, the shell company covers its tracts by showing it as a payment to other smaller shell companies. 
Other uses of such companies are parking asserts while dealing in complex transactions, protecting trade secrets and as a tool in mergers. 

Issues around shell companies in India  
There is no legal definition for shell company, they are also not defined under companies act 2013. However out of 15 lakh registered companies, only 6 lakh file their annual returns and this leads to a suspicion that there may be a huge number of illegal shell companies in India. 
There is no specific law to deal with only shell companies. The current procedures are done under benami transaction prohibition amendment Act 2016; prevention of money laundering act 2001 and companies act 2013. 
It is so much difficult to gather data on transaction and also difficult to distinguish between genuine and illegal shell companies. Transaction from multiple accounts can make tracking difficult. Existence of complex corporate structure in India also makes it difficult to find shell companies. 

Government’s steps to recognize the shell company 
Recently government set to finalize the definition of a shell company for the purposes of enforcing penal laws for various violations. The doubtful financial transactions, ownership and assets of thousands of companies have been studied in a bid to come up with acceptable criteria to declare and entity a shell company as per the law, 
A discussion among the committee members on the definition is yet to declared also the agencies involved in the exercise are getting caught up in investigation into important cases, including those against Nirav modi and Mehul Choksi. 

Conclusion  
The new law would provide a clear definition of shell companies based on parameters such as revenues, assets employee strength apart from requirement of filing returns etc. The government must ensure that every company discloses the information to the tax department even if they have zero income. There should be a permanent body which can be created to handle shell company's fraud in foreign country. This way government can simplify the corporate structure and make efforts to use big data to track tax evaders.