Company Formation Given Undersized Role in Financial Gatekeeping

Published on Jan 28, 2020

Banks will remain vulnerable to money laundering and other financial crimes unless further action is taken to improve transparency in the company formation sector, experts have said after an investigation revealed how easily shell firms can be set up across the world for illicit purposes.

Organised Crime and Corruption Reporting Project

Last month, the Organised Crime and Corruption Reporting Project (OCCRP) and partnering news outlets disclosed that the UK-based Formations House had created fraudulent companies in 12 jurisdictions and operated across Europe, Africa and South Asia. The firm functioned as a front for a Pakistan-based operation that purportedly formed some 400,000 companies for its international clients, according to the media outlets, which based their reporting on leaked documents.

The scandal points to the fact that banks are not fully equipped to identify financial crime, according to Steve Smith, a partner at law firm Eversheds Sutherland and a former prosecutor with the UK’s Financial Conduct Authority.

“We call banks the gatekeepers of the financial system but actually banks are fully reliant on the information that is filed on Companies House as a reliable source,” he said.

Smith, who specialises in corporate crime and investigations, added that banks cannot discharge their due diligence obligations if they are relying on manipulated information in the first place

“Getting due diligence correct is the lifeblood of the transaction monitoring regime,” he said. “If you get that right, then the rest of the system has a good chance of working. But if you have someone at the gate putting in false information or trying to mislead the system, then what chance does the rest of the system have?”

A lack of accurate ownership data is an EU-wide problem and not just one in the UK, according to Open Ownership executive director Thom Townsend, who is working to set up a register of global beneficial ownership.

A firm like Formations House can use UK data to perform due diligence checks, but if that information comes from another jurisdiction and is of poor quality or difficult to obtain, there is only so much that can be done, Townsend said.

“And companies can always claim—and this could be a legitimate claim—that they’ve made their best effort,” he added.

Companies House

In the UK, the government has acknowledged Companies House needs to be reformed. A consultation in 2019 recommended for the first time that the register should also verify information that is filed.

The step followed the announcement of EU reforms intended to better shield the bloc from money laundering, in part by obligating member-states to take additional steps to ensure that accurate beneficial ownership data on designated entities is collected and made available to law enforcement officials and financial supervisors.

But this needs to be backed up by a regulatory environment that is fit for purpose, according to Transparency International investigations lead Ben Cowdock.

Formations House was able to continue operating despite an inquiry and prior warning from HMRC, according to media reports.

“We need to see larger fines being issued, which we’re seeing in other sectors like for estate agents,” said Cowdock. “HMRC needs to start looking at the formations sector and applying the same principles as well—so larger fines and, if necessary, people losing licenses.”

An HMRC spokesperson said the average value of penalties for money laundering offences has gone up with a record £7.8m fine handed down in 2019, and that the tax collector is currently investigating more than 200 cases of financial crime.

“HMRC recognises the harm money laundering causes, which is why we have teams of dedicated anti-money laundering specialists working alongside criminal investigators and tax experts,” the spokesperson added.

Hiba Mahamadi is a freelance journalist based in the UK.


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