What Is a Shell Company?

By Colin Dodds · July 22, 2021 · 5 minute read

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What Is a Shell Company?

A shell company, also called a shell corporation, refers to any legally structured corporation that has no meaningful assets or business operations. In popular culture, they’re often used to conceal illegal businesses, or to conceal the owners of a business from law enforcement, the public, or both. However, shell companies are not illegal, and they do have some legitimate uses.

As business entities, they exist to protect, and sometimes to conceal or at least misrepresent the assets of the shell company’s owner. But there’s nothing necessarily illegal about shell corporations themselves. It’s important to not only understand the definition of a shell company, but also to recognize how and why they’re used by businesses and people.

How Are Shell Companies Created?

There is more than one way to create a shell company. Most often, the people or corporations that launch new shell corporations use a registered agent in the country where the company will have its legal headquarters. So, in the United States, shell companies would need to register with the Securities and Exchange Commission.

In most countries, the agent must register his or her name, and the name of an owner or a shareholder director. The cost of creating and legally registering a corporation will vary from country to country, from as little as a few thousand dollars to as much as several hundred thousand dollars.

Being “hollow,” by definition, shell companies can do a great many things. They can open bank and brokerage accounts. They can transfer funds in and out of their home country. They can buy and sell real estate or other companies. And own copyrights and earn royalties on those copyrights.

Why Do Shell Companies Exist?

People and corporations use shell companies in a wide range of legitimate businesses for legitimate reasons. Those might be used as a vehicle to raise funds, as a legal entity to attempt to take over another business via a reverse merger, or as a legal entity to give form to a company that intends to go public.

Shell Corporations Provide Tax Benefits

Many shell corporations operate in a legal gray area, where the major corporations and wealthy individuals may use them to dodge taxes.

A great many companies have found ways to move their profits to offshore shell corporations to take advantage of less expensive, or more permissive tax regimes in other countries. American corporations might set up shell companies in countries with inexpensive labor, where they have already begun to outsource some of their operations.

Corporations aren’t the only ones who use shell companies to avoid paying taxes. Wealthy people around the world use shell corporations, domiciled all over the world, to hide their earnings and their wealth from the governments of the countries in which they prosper.

This widespread employment of shell corporations to legally avoid taxes became impossible to ignore after the publication of the Panama Papers in 2016. The 11.5 million documents in the leak showed how the wealthy used 214,488 offshore shell companies to avoid taxes in their home countries and resulted in a global scandal. “It’s not that they’re breaking the laws,” said then-President Barack Obama at the time. “It’s that the laws are so poorly designed that they allow people, if they’ve got enough lawyers and enough accountants, to wiggle out of responsibilities that ordinary citizens are having to abide by.”

Shell Companies Offer Less Risk and More Opportunity

Tax avoidance isn’t the only reason a corporation would set up a shell corporation. It might create a shell company to operate in a country, while protecting its other operations from the legal, political and financial risks related to that country. That way, if something goes wrong in the country where it operates, the parent company can limit its exposure by existing – at least on paper – offshore.

A corporation may also set up a shell corporation in another country to gain a window into new regions. A business might set up a shell company in Panama or Switzerland to gain access to the local business community to find contacts and information that would lead it to business opportunities in Latin America or Western Europe.

Shell Companies Can Be Used as SPACs

While shell companies come up in the news in relation to questionable tax-avoidance schemes or the widespread abuse detailed in the Panama Papers, they’ve hit the headlines again for less-nefarious reasons recently. That has come with the use of shell companies in special purpose acquisition companies, or SPACs.

There are almost 500 shell companies that qualify as SPACs by some estimates. These are companies formed exclusively to raise capital via an initial public offering (IPO), which will then purchase a company already in operation. SPACs are one type of “blank check company.” And while these companies have existed for decades, they’ve grown increasingly popular in recent years.

These companies issue an IPO, then hold the money in a trust, until the SPAC management team chooses a company and buys it. And if the SPAC doesn’t find a company to buy, or can’t buy the company or companies it likes within a pre-set deadline — often twenty-four months — then the managers promise to liquidate the SPAC and give investors their money back.

Recommended: What Is An IPO?

Shell Companies and Shady Dealings

While there are many legitimate uses for shell companies, criminals also use them to shield their operations and their assets from authorities. And as different jurisdictions compete for business, new loopholes emerge on a regular basis. In Panama, the British Virgin Islands, Nevada and Delaware, to name only a few, there are strong laws that prevent the government from revealing the beneficial owner of a given shell corporation.

And for creative financiers, there are always new ways to add layers of anonymity, such as phony company directors, who agree to sign their names for a few dollars. Among professionals who specialize in such things, there are ways to find would-be board members, and for countries and states with convenient tax and privacy laws.

The Takeaway

Most investors wouldn’t use shell companies in their day-to-day trading, but they might consider allocating part of their portfolios to a SPAC. It’s important to remember that these are speculative, risky investments, so they don’t make sense for every portfolio.

Whether you’re looking to put money into SPAC or into an ETF, get started investing today by opening an account on the SoFi Invest® platform. SoFi Invest offers an active investing solution that allows you to choose stocks and ETFs and other investments. SoFi Invest also offers an automated investing solution that invests your money for you based on your goals and risk.

Photo credit: iStock/akinbostanci

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