Unmasking Shell Companies

Unmasking Shell Companies

Legal experts say a stricter definition of ‘beneficial interest in a share’ under company law and strengthening of the monitoring mechanism of listed entities may help prevent abuse of shell companies

Two recent events, though unrelated, could have a wide-ranging impact on the abuse of shell companies for money laundering and tax evasion. The first is a provision in the Companies (Amendment) Bill, 2017, that was recently cleared by the Lok Sabha. It proposes to define, for the first time, the term “beneficial interest in a share”. 

It further makes it mandatory to maintain a register of persons with a significant beneficial interest in a company. The other event is the Securities and Exchange Board of India (Sebi) setting up a committee on “fair market conduct” to suggest measures to improve surveillance of the markets.

“The Companies (Amendment) Bill, 2017, gives an extremely wide and inclusive definition of ‘beneficial interest in a share’ that recognises all the ‘direct and indirect’ rights or entitlement of persons. Apart from the right to receive or participate in any dividend or distribution, the definition requires identification of ‘any’ rights in shares as ‘beneficial interests’,” says Sharad Abhyankar, partner, Khaitan & Co.

Experts say that till now, “share” of a company was considered to be an integrated bundle of rights, privileges and obligations that cannot be separated and assigned to different persons. The proposed amendment seeks to give a legal recognition of the fact that for the same shares there could be multiple beneficial interest holders.

Under Section 90 of the Act, the Bill proposes to make it mandatory to maintain a register of significant beneficial interests in a company. This, say experts, will help bring transparency about individuals, including trusts and persons not resident of India, who either have significant influence or control over the company. “This is likely to be a serious deterrent for non-disclosure of real interest holders. Further, Section 90 also imposes a very heavy burden of enquiry into beneficial interest holders, which may be difficult to discharge,” says Abhyankar.

Inder Mohan Singh, partner, Shardul Amarchand Mangaldas & Co, points out that a lot depends on the final rules to make the new definition of 'beneficial interest in a share’ effective in preventing abuse of the provision. “The rules must help identify the ultimate beneficiary,” he says.

Many securities law experts say the appointment of the T K Viswanathan Committee on “fair market conduct” could not have come at a better time. Most believe there is no need to change the Sebi Act, 1992, to prevent the abuse of shell companies.

“Section 12A of the Sebi Act, read with the Prohibition of Fraudulent and Unfair Trade Practices Regulations is wide enough to deal with it,” says Sumit Agrawal, partner, Suvan Law Advisors. He is in favour of the T K Viswanathan Committee suggesting specific steps to improve surveillance of shell companies and penny stocks.

Yogesh Chande, partner, Shardul Amarchand Mangaldas & Co, says the real issue is supervising and tracking down such companies based on the filings made by them to stock exchanges. “Apart from seamless sharing and exchange of data among various regulators and authorities, a thorough analysis could also be an efficient tool for stock exchanges to track suspected shell companies,” says Chande.

Experts point out that the market regulator’s role till now has largely been focused on preventing tax evasion carried out through manipulation on the exchange platform. The best way forward for Sebi is to step up surveillance and enforcement, say experts. The first is to identify shell companies or penny stocks that could be used for manipulation. This would require imposition of strict trading curbs on them to avoid price rigging. The other area is acting against manipulators and companies who are involved in price rigging or colluding with individuals who launder money.

So far, Sebi has identified 145 cases of longterm capital gains evasion. It has completed investigation in 85 cases and shared the report with the Central Board of Direct Taxes to take action in such cases. The market regulator aims to complete investigation in the remaining cases by the end of September.

The Business Standard, New Delhi, 14th August 2017