Deviant shells and the war on black money

Kaushik Dutta | Updated on January 15, 2018

Ulterior designs Must be dealt with precisely and ruthlessly   -  solarseven/shutterstock.com

Only collective effort and strong, deterrent action will help eliminate below-the-radar operations

Shell companies are in the news again. Investigative agencies have found that about ₹4,000 crore of cash was deposited in shell companies following the demonetisation drive in November 2016.

This should surprise no one. In May 2016, investigations revealed that 24 ghost companies operating from a single branch of a leading public sector bank in Delhi were used to cheat the Government and banks of several crore rupees. In another case (in 2015), 59 companies operating from a single branch of another bank had remitted forex worth ₹6,000 for non-existent imports.

Globally connected

The leaked Panama Papers (2016) exposed a global network of shell companies operating from tax havens used for moving assets and cash from one country to another illegally. No wonder, an OECD report ( Misuse of Corporate Vehicles for Illicit Purposes) said that shell companies, which are front companies incorporated around the world without any tangible business, are increasingly being used for illicit purposes.

Often such shells have a common registered address with ‘dummy’ directors who may be real persons but are untraceable or unrelated to the business, or are poor and unlettered and lend their names for a consideration. In Kolkata, Delhi and other cities, over 300 companies can be found registered at one single address, all for facilitating illicit transactions.

In India, shell companies have traditionally been used for rotating and siphoning off funds through fictitious sales, inflated purchases, unjust commissions or for creating equity for individuals operating behind the scenes. They are also used for creating fictional tax losses or expenses, which are sold to profitable companies at a price, thereby reducing or eliminating the tax liabilities of these companies.

Banks officials play a critical role in their operations. Suspicious transactions are often below the threshold of automatic banking software triggers. In some cases, ‘seed’ money is introduced as capital in one shell which is then passed on to other shells in a single day in a single branch. Thus, each company gets identical sums as capital, which is instantly lent or invested in another company. The exercise is repeated five to ten times to create the illusion of real transactions and multiplying money. The SIT on black money says such manipulation of stocks and creation of non-taxable capital are gaining popularity.

In cases involving forex, large remittances are sent out as payment for fictional imports, advances or commissions, later moved into other shells and then brought back as receipts (called round-tripping). SIT points out that investments from the Cayman Islands, a tax haven, to India amount to ₹85,000 crore, reflecting the role of shells operating from tax havens in money-laundering.

Shells are also used to act as fronts to hold properties or payments for fictitious sale until it is bleached white.

The fight-back

How does India fight against illegal activities of shells? Limiting cash deposits to ₹3 lakh is one such measure which makes large deposits or layering of cash difficult, if not impossible.

Another is real-time monitoring and detection of unusual transactions or rise in the market price of those with little business. For this, MCA 21, the portal in which all corporate filings reside, is a good starting point. It can be mined for common directors, common registered addresses, little business and suspicious transactions to create alerts. A central KYC registry of transactions will also be useful.

Technology plays a significant part in surveillance and oversight. Robust business rules embedded in the artificial intelligence (AI) of machines can create actionable analysis, drawing information from databases of income tax, banks, the RBI, SEBI and MCA. Such a mechanism will help both pre-emptive and preventive actions.

Swift and exemplary punishment is equally essential. Suspected shells must be promptly weeded out and action under the harsher provisions of the Prevention of Money Laundering Act and sections of fraud in the Companies Act 2013 should be initiated. Apart from those directly involved, others in the chain of activities should also be held culpable.

Ultimately, it must be a collective effort. A strong deterrent mechanism brought about by diligent investigations and quick judicial decisions will produce the desired result. The current levels of conviction for white-collared crimes, estimated at 0.006 per cent by some experts, needs to improve significantly.

Fighting against deviant shells is critical to our fight against black money which fuels rampant corruption and drives away benefits and rights from the poor at a much higher rate than the rich — at 10:1 — and is estimated to be about 24 per cent of India’s GDP. This can only be our war to win.

The writer is a founder of Thought Arbitrage Research Institute, a not-for-profit think tank

Follow us on Telegram, Facebook, Twitter, Instagram, YouTube and Linkedin. You can also download our Android App or IOS App.

Published on March 19, 2017
This article is closed for comments.
Please Email the Editor