Shell company

A shell company has a certificate of incorporation, a PAN and a registered office. What it does not have is a business.

The workbook lists shell companies — establishing inactive companies or corporations that exist only on paper — among the placement methods, next to a closely related one: hiding the beneficial owner's identity through trusts and offshore companies. The attraction is the same in both. A bank or broker dealing with a company sees directors and authorised signatories, not the person whose money it is. Unless the intermediary looks through the structure, the launderer never appears on the form.

So the control against shells is not scepticism about companies in general. It is the obligation to find the natural person behind every one.

How a shell is used. Beyond placement, the integration tactics in Chapter 1 all run naturally through a company: fake employees paid in cash, loans to directors or shareholders that will never be repaid, and dividends paid to shareholders of companies controlled by criminals.

How the rules look through it.

• Rule 9(1)(b) — the reporting entity shall take reasonable steps to understand the nature of the customer's business, and its ownership and control.
• Rule 9(3)(a) — for a company, the beneficial owner is the natural person who, alone or together, or through one or more juridical person, has a controlling ownership interest (more than 10% of shares, capital or profits) or who exercises control through other means. Control includes the right to appoint a majority of the directors or to control management or policy decisions, including by virtue of shareholders' agreements or voting agreements.
• Rule 9(3)(d) — where no natural person is identified, the beneficial owner is the senior managing official.
• Rule 9(6) — the company submits its certificate of incorporation, memorandum and articles, PAN, a board resolution or power of attorney, the documents of its beneficial owner and signatories, the names of senior management, and its registered office and principal place of business.

What SEBI adds for a corporate client (Chapter 7, section 7.1.8): a copy of the balance sheet for the last financial year (initially for the last two years), and the latest shareholding pattern including all those holding control, directly or indirectly, certified by the company secretary, whole-time director or MD and submitted every year — plus photograph, POI, POA and PAN of individual promoters holding control.

Companies having close family shareholdings or beneficial ownership are also named as Clients of Special Category, attracting enhanced due diligence.

An illustrative case built on the workbook's rules.

Trivikram Exim Pvt Ltd applies to open a trading and demat account with a Chennai broker. Its papers are in order: certificate of incorporation eleven months old, memorandum and articles, PAN, board resolution authorising investment in securities.

What the documents show.

Applying Rule 9(3). Each shareholder holds 50%, far above the 10% threshold, so on shareholding alone they are the beneficial owners. But the broker learns that both have signed a voting agreement with a third person, Mr Menon, who funded the Rs 3.6 crore. Control under Rule 9(3)(a) expressly includes control by virtue of voting agreements, so Mr Menon is a beneficial owner and must be identified and verified with reliable and independent sources.

The judgement. A company with no revenue, nominee directors and a funder who appears on no document is exactly the profile the placement list describes. The broker may not open the account without completing CDD. If Mr Menon refuses to be identified and the application is withdrawn, the attempted transaction is reportable in an STR even though it never happened.

Chapter 1 (Introduction to AML, CFT and PF), section 1.2.1, names shell companies in the placement list and gives the company-based integration tactics. The rules that expose a shell are Rule 9(1), 9(3) and 9(6) in Chapter 3, section 6.2.1 of Chapter 6, and the corporate documentation list in Chapter 7, section 7.1.8. Expect stage-identification questions and, more often, questions on the beneficial-ownership tests that a shell is designed to defeat.

• Legal existence is not legitimacy. A shell is fully incorporated; the defining feature is that it exists only on paper.
• Control counts, not just shares. A person with no shares who controls the company through a shareholders' or voting agreement is a beneficial owner.
• The company threshold is more than 10%, for shares, capital or profits.
• The listed-entity exemption does not help a shell. It applies where the client or the owner of the controlling interest is listed on a stock exchange in India or a notified jurisdiction, or is a subsidiary of such an entity.
• Balance sheets: initially two years, then every last year, and the shareholding pattern is certified and submitted every year.
• Do not confuse a shell company with a shell financial institution, a separate term used in the IFSC paper's correspondent-banking rules.