In 2015, an anonymous person leaked 11.5 million finance-related documents (from a law-firm in Panama, Mossack Fonseca) to a German newspaper.
After a year-long investigation, it was found that Mossack Fonseca (MF) had helped its clients hide taxable income from governments and, in some cases, clean dirty-money through creation of shell companies in tax-haven countries such as Panama, Cayman Islands etc.
A shell company is a company that doesn’t produce anything and exists only on paper; a tax-haven is a country with zero or very low tax rates and almost a guarantee that the client information wouldn’t get exposed, thanks to the country’s heavy restrictions on information-sharing.
MF was found to have been licensed by various tax havens (it operated in 21 markets) to register companies there.
If someone wanted to register a company in one of these tax havens, MF would look after paperwork, open bank accounts and offer its own employees to act (on paper) as executives and other staff for a fee (initial + annual).
The tax haven countries allow this because it is a big source of money for them & also provides jobs to lawyers, accountants etc.; it is estimated that British Virgin Islands alone receives $200 million from these ‘companies’ and Mauritius has 5000 employed in shell-company related jobs.
Creating a shell company is unethical but not necessarily illegal & a lot of corporates such as Apple, Skype etc. use shell companies to save tax.
E.g. a company in the US (corporate tax let’s say 30%) can move its patents, formula or an important ingredient of the business to its shell company in Switzerland (corporate tax 8.5%) & to access this asset, the US company will pay a hefty fee to the Swiss shell company, thereby reducing its profits (by incurring hefty cost) in the US and, in turn, tax liability.
E.g. an individual in the UK can set up a shell company in Panama, which then buys another company in Cayman Islands and that company buys a property in the UK and leases it to earn rent; not only does the individual in the UK save tax on initial ‘big money’ because lack of ownership but avoids tax on the rental income from the property.
Most of the shell companies that MF had set up were legitimate but it
was because of a few used for illegal purposes and MF’s lack of due diligence to catch those that it got embroiled in such controversy and had to close down in 2018.
E.g., as a part of the process, MF asked for identification documents to run a background check on the person opening an offshore company.
Not everyone came out clean in these background checks, yet some of these people were allowed to open offshore companies and clean their dirty money.
The scale of these international operations was so big that some of the cases are still being investigated and the governments are still recovering money.
