The European Commission proposed a new directive this week to target shell companies, less than three months after the Pandora Papers investigation by the International Consortium of Investigative Journalists exposed the large-scale use of anonymous vehicles to hide money, avoid taxes and disguise asset ownership.
The proposal, dubbed “Unshell,” would seek to ensure that letter-box companies that have “no or minimal economic activity” in the EU cannot benefit from any tax advantages, the text of the proposal says.
“Recent investigations such as OpenLux or the Pandora papers were another reminder of the injustices that characterize our economic system today,” economy commissioner Paolo Gentiloni said at a press conference on Wednesday.
OpenLux, by Le Monde and other news organizations, showed how Luxembourg’s investment fund industry helps people launder money and avoid tax.
Pandora Papers, an ICIJ investigation in collaboration with 600 reporters worldwide, is based on a leak of 11.9 million financial records from 14 offshore financial service providers. The data unveiled details on shell companies and trusts owned by 29,000 people from around the world, including country leaders, powerful business people, criminals and celebrities.
Those people used shell companies registered in secrecy jurisdictions, including the British Virgin Islands, the United Arab Emirates and the Cook Islands, to own real estate, precious artworks and antiquities, and investment portfolios, the documents show.
Among shell company owners in Pandora Papers, ICIJ and its partners identified prominent European politicians including Czech Republic’s former Prime Minister Andrej Babis, who used a web of shell companies to own luxury estate in Southern France, and Dutch Finance Minister Wopke Hoekstra who invested in a shell company with interests in a safari enterprise in Kenya. They both denied wrongdoing.
According to a 2018 study commissioned by the European Parliament’s financial crimes committee, a “‘shell’ company provides anonymity as a key element while simultaneously guaranteeing control over the shell company and its resources.”
The use of shell companies can be legal, the study adds, but “when associated with anonymity … they can be misused and thus entail serious risks of tax avoidance, tax evasion, money laundering and abuse of social rights.”
Three criteria will determine whether an entity exists only on paper and, consequently, is deemed unable to obtain tax relief and tax benefits, according to the new directive proposed by the commission.
The criteria are: the nature of the company’s income, the proportion of cross-border transactions for the company’s business, and whether the company’s management is outsourced or performed in-house.
The proposal “will enable us to step up the fight against tax avoidance and evasion by tightening the screws on shell companies – or letterbox companies – used as vehicles for tax avoidance or evasion,” Gentiloni said.
“The new rules will establish transparency standards around the use of shell entities, so that their abuse can more easily be detected by tax authorities,” he said.
If the entity is a shell company, it will have to comply with new tax reporting obligations and “inbound payments will be taxed in the state of the shell’s shareholder,” according to the proposal. If the company’s purpose is to own luxury real estate, the asset will be taxed by the state where the property is located “as if it were owned by the individual directly,” the document says.
The new directive will also increase exchange information across the bloc and enable member states to request another member to conduct a tax audit of any shell company.
In addition to the initiative on shell companies, the commission’s proposal also included the implementation of a minimum tax of 15% for large corporations that have their parent or a subsidiary in the EU.
The minimum tax requirement follows a “historic deal” agreed upon by 136 countries and brokered by the Organization for Economic Co-operation and Development last October, and is aimed at stopping the global race to the bottom in terms of corporate tax rates.
The EU Tax observatory, a research think tank led by economist Gabriel Zucman, estimated that such reform in the EU would increase the corporate income tax revenue by more than $90 billion a year.
Once adopted by EU Member states, the proposed directive will come into effect in January 2024.