Misuse of legal forms
By: Joost Marée (Strategic Advisor Fraud prevention at the Ministry of Finance) and Erik Reissenweber (AML specialist, AMLC)
It is possible to misuse legal forms in the Netherlands for purposes of money laundering such as fraud, tax fraud and other criminal activities. Investigation services and private parties must be aware of the risks. The AMLC published a Dutch-language podcast with Joost Marée on 12 July on this topic. In this article, based on that podcast, we focus on some of the characteristics of misuse of legal entities that Joost encountered in his work. Individually, these characteristics are usually quite common. In particular, if a business exhibits a combination of the aforementioned characteristics, this may be reason to subject the client to closer scrutiny.
The legal entity cannot be reached after having been set up
As a rule, legal entities which have been set up for non-legitimate reasons are not reachable. In many cases, such a legal entity tends not to develop actual legitimate economic activities and moreover the daily managers or directors cannot be found. This is in contrast to entrepreneurs who actually want to be accessible to customers and business partners. So if the legal entity is unreachable, when you would expect it to be, this could be cause for further investigation.
Not having a VAT identification number
Legitimate legal entities that are subject to VAT because of their activities have a valid VAT identification number. A business operator is obliged to provide this number on the company's website. If the VAT-registered legal person cannot provide a VAT identification number or if that legal person cannot be found with a valid VAT identification number in the European Commission's system (the VAT Information Exchange System: VIES), this constitutes a relevant feature of abuse.
A registered office in a multi-business centre or residential address
Legal entities may, for legitimate reasons, have a registered office in a multi-business centre which is a building that houses several business operations and secretarial or facility services are shared. However, especially when, according to the Chamber of Commerce registration, a legal entity performs material activities, possibly in combination with longer existence of the legal entity, it is not always logical that the legal entity have a registered office at such addresses. In practice, we see that legal entities without legitimate business activities are regularly located in business premises. After all, this does not require large and expensive business premises of your own, but can suffice with renting an address for a few tens of dollars per month. Similarly, establishment of a business where you would expect substantial activity at a residential address, in combination with other characteristics, can be an indication of possible abuse of a legal form.
Share transfer without consultation of annual financial statements
Entrepreneurs taking over a company naturally prefer to do so on the basis of consultation of the annual financial statements that provide insight into the financial health of the company (company size determines which financial information must be disclosed). If shares are transferred without consulting the annual financial statements, relevant civil-law notaries and financial institutions would do well to ask for a logical explanation. The question is also justified in this case whether it is clear what parties are transferring.
The price of the shares is not proportionate to the annual financial statements
In the event that it is evident from the annual financial statements what the approximate value of a private limited company (BV) should be and in the event that the shares are offered for amounts that are substantially less or more, it naturally gives cause to conduct further searches as to whether it is a case of misuse or whether it is a case of a concealed shift of assets/money laundering between the seller and the buyer.
The price of shares is based on forged financial statements
Naturally, forged financial statements are a serious red flag. To start with, the skill is to be able recognize forged annual financial statements, as well as the breach or the offence it by definition involves. Companies with untrue balance sheets are often misused. In such cases, we often note horizontal fraud, the misuse of subsidies or grants or the misuse of measures such as Corona support.
A change of Directors of a foundation and transfer of assets
The appointment, reappointment and dismissal of directors of a foundation are laid down in the foundation's articles of association (determined by the notary). Changes within the board must be notified to the Chamber of Commerce, in which the notary has no role.
With foundations, we see proportionally more abuse of the legal form in practice. With such a change of directors, the foundation may therefore transfer assets with less certainty about the natural persons involved, or recourse to the foundation's debts may be hampered.
These risks are particularly recognisable in the case of foundations with assets (money, real estate, vehicles) and/or foundations in which a business is conducted. Transfer of assets (shortly) after a change of director may therefore indicate abuse of the legal entity.
A foundation over a limited company
As there is no obligation to effect changes of the Directors via a civil-law notary, a limited company can get into the hands of Directors who have not notified a civil-law notary for identification in the event that the foundation has the ownership of a limited company. Take extra care if you come across this legal form. Such a scheme is seen on a regular basis in cases where legal entities are misused.
No remuneration in a limited company
Further to the description set out in the Articles of Association, it is a matter of material activities in the company, but there is no remuneration in the limited company, not even the usual pay. If reference is made to material activities in the Articles of Association, you would expect a consideration for work, i.e., remuneration. In the event that it is not evident from the (consolidated) financial statements or other financial reports that there is remuneration in the limited company, or in any of the other companies in the same structure, the advice is to ask for a legitimate explanation for such an unusual phenomenon.
Missing payroll tax and sales tax payments
An investigator requisitioning transactions from the company's bank due to suspicions obtains insight into the company's payment transactions. The KYC or transaction monitoring analyst at the company's bank will usually also be able to see these transactions as part of a customer review.
Both investigator and analyst can determine whether there should be tax liability for resources sales tax and payroll tax. To do so, it is important to know what activities the company carries out and/or whether there is a fiscal unity. Of a company that is liable to payroll tax and/or turnover tax, the payments for these taxes can be found in the company's transactions. If these payments are not reflected in the payment records while you would expect them, this constitutes grounds for further investigation.
Some legitimate reasons for missing the returns discussed are, for example, exemption from certain activities so that no turnover tax has to be paid (e.g. healthcare). There may also be a fiscal unity and that the sales tax due is remitted to another company. Furthermore, the company may pay the remittance from another bank account.
Setting aside assets
Sometimes the assets of a legal entity consist of only one bank account or a vehicle. Generally, a legal entity is meant to run a business and to have economic activities. If the legal form is merely for the setting aside of assets, it may be useful to make further enquiries and to make an assessment of the legality of the legal form. Often such legal entities are not referred to for turnover tax and/or income tax and social insurance contributions.
Online presence of enterprise
If it seems logical that a company should be found on the internet, for example to offer customers products or services or inform them of the company's existence, then it pays to search the company's website. If, unexpectedly, they cannot be found or clicking through on a nice website produces error messages, there are inaccuracies on it or various translation or typing errors, it remains unclear who owns the company or where the company is located, this may be reason to investigate further.
The characteristics of legal forms set out above are not exhaustive but they may be indicative of the misuse of legal forms, especially if combinations of several described characteristics occur.