Identifying beneficial owners, a challenge to dismantling shell companies

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Identifying beneficial owners, a challenge to dismantling shell companies

Between 2014 and 2019 alone, fake invoicing by shell companies caused tax evasion worth over 354.5 billion pesos, according to the SAT.

One day before signing a million-dollar contract with the government of Oaxaca, the company Grupo Constructor Maragall, S.A. de C.V. was reported as an alleged shell company by the Mexican tax authority. Nevertheless, this didn't prevent it from continuing as a public contractor between 2020 and 2021. 

Overall, Grupo Constructor Maragall received 17.9 million pesos to improve sections of highway in Oaxaca, together with the company Dirección de Supervisión, Prestación y Restauración de Obras Grupo Juárez, S.A. de C.V., according to the public contract dated June of last year.

“It’s a crime that, in a poor state like Oaxaca, more than 16 million pesos have been entrusted to a company that didn’t guarantee the completion of the work due to its fiscal record, even more so when the executing agency, Caminos y Aeropistas de Oaxaca (CAO), had full knowledge of the company's status,” says local politician César Morales, who also denounces the unfinished and “deteriorating highway project.” 

Since 2014, the Tax Administration Service (SAT, in Spanish) keeps an updated public list of companies that are not traceable, do not have assets, personnel, or infrastructure, and cannot prove that they delivered the services they offer. 

The SAT calls them Companies that Invoice Simulated Operations (EFOS, in Spanish), although they are popularly known as shell companies. They represent a problem for the tax authority because they are often used to evade taxes, launder money, and embezzle public resources. 

“Let's suppose that I have a company and the SAT detects that I have 10 invoices, each one for two or five million pesos, but I do not have employees, nor do I rent offices or have assets to provide the service with which I am generating those millions. The SAT will send me a notice to clarify this situation, which is called proving the materiality of the operations,” says Bianca López, a tax accountant. 

As of August 18, 2021, there were 638 companies suspected of being EFOS and 10,709 that had already been confirmed, including Grupo Constructor Maragall, which was unable to disprove the accusations. 

As a matter of fact, only 10% have managed to clarify their situation and escape from that list since it began, according to open data from the SAT. 

However, its public disclosures and periodic updating have not prevented cases such as Grupo Constructor Maragall, nor does it prevent the creation of new shell companies or help identify the real beneficiaries behind their operations. 

“The Mexican government has no strategy to fight this problem, there is no coordination mechanism between all the government agencies involved in this. The SAT does not coordinate with the Financial Intelligence Unit (UIF), nor with the Federal Prosecutor's Office (PFF), nor with the Attorney General's Office (FGR), and that's the reason we have an unfavorable result,” says Luis Pérez de Acha, tax lawyer and former member of the citizen participation committee of the National Anti-corruption System. 

He points out the damage caused by shell companies is twofold, since, on the one hand, they don't pay taxes and, on the other, they divert resources. “It’s a theft of public money,” adds Pérez de Acha. 

Between 2014 and 2019 alone, fake invoicing by shell companies caused tax evasion worth over 354.5 billion pesos, according to the SAT. 

“It represents 1.4% of the Gross Domestic Product,” according to the former head of the SAT, Margarita Rios Farjat, in 2019.

As for the money diverted through public procurement fraud, there is no global figure, but multiple efforts by civil society organizations and journalists have managed to link EFOS to distinct government entities. 

Iniciativa Sinaloa, for example, revealed, in 2020, that state and municipal governments along Mexico’s northern border diverted over 2.6 billion pesos through shell companies during the same period analyzed by the SAT. This amount of money was identified only because the tax authority released 15,000 invoices that linked border governments to shell companies, in response to a freedom of information request made by Iniciativa Sinaloa, explains Miriam Ramírez, project manager of the Iniciativa.

“That's how we got it, but now the situation is completely different. They already know what we want the information for and now we’re running into more obstacles, not to mention that it’s even harder to get data about the current government,” says Ramírez, who sees the need to seek new and better transparency instruments to identify those who benefit from the creation of shell companies.

A challenge for authorities and civil society organizations interested in auditing public spending is to identify who’s behind the shell companies, as the ultimate owners are usually hidden through straw people, tax havens, and even stolen identities, says Pérez de Acha. 

“It requires a lot of intelligence work, database management, and, without coordination, it’s unthinkable, it’s very unlikely that the real beneficiaries can be found,” adds the expert.

In other countries, mainly in Europe, including the United Kingdom, Denmark, and Ukraine, there is an active effort to use beneficial ownership registries to disclose the names of those who exercise effective control over companies. 

Open Ownership, a non-profit organization that provides assistance to implement beneficial ownership transparency, claims this can help tackle corruption, reduce investment risk, and improve national and global governance. 

For that matter, it defines a beneficial owner as someone who has the right to some share or enjoyment of a legal entity’s income or assets or has the right to direct or indirect influence over the entity’s activities. Additionally, it urges countries to specify that a beneficial owner must be a natural person, not a legal entity.

If more countries commit to create these registries, it opens up the possibility of connecting them to other databases around the world to achieve better results, says Peter Low, Open Ownership’s country manager for Mexico, among other places. “You then have ways to cross-reference the data between countries and that can reveal instances of wrongdoing, which an individual may try to cover up in their own country,” he says. 

To explain the potential of beneficial ownership registries, he details the case of the current Prime Minister of the Czech Republic, Andrej Babiš, who formed a series of trusts and relied on complex schemes to distance himself from Agrofert Group, a company he founded in 1993 that has more than 250 subsidiaries, including newspapers and food processors.

“It was through the beneficial ownership registry in Slovakia where some of the entities were based and where they had to make declarations that the European Union found that actually the Czech Prime Minister had been in violation of conflict of interest legislation because, despite restructuring his commercial interest, he was still ultimately in control of these businesses and commercial entities.” 

In Mexico, Low identifies at least two efforts to create a beneficial ownership registry. 

One of them is led by the Extractive Industries Transparency Initiative (EITI), which brings together representatives of civil society, companies, and governments from 55 countries to implement a “global standard to promote the open and accountable management of oil, gas, and mineral resources.” 

The second effort is run by the Beneficial Ownership Leadership Group (BOLG), where Mexico’s Secretariat of Public Duties and the UIF have been participating since 2019.

So what is holding Mexico back from having a public registry? International experience points to a series of challenges that governments must face, Low answers. Among them, he mentions probable disagreements between the agencies and individuals involved in the creation of these registries, as well as concerns in terms of the constitutional rights to privacy and personal data protection, as the Mexican Constitution imposes controls on the handling of data that can help identify people. 

Still, the path of the money must be transparent when it comes to public resources, says Ramírez. “We cannot protect the data of some and not others. We must know from the moment a Mexican peso leaves the public coffers where it ends up, because it’s precisely in these gaps of opacity that corruption occurs,” she says. 

Currently, 34 countries have a public registry of beneficial owners in at least one region or economic sector, according to Open Ownership, although none of them are in Latin America. The point is that, even though some countries such as Argentina, Costa Rica, and Brazil already have beneficial ownership registries, none of them are public, according to Low.

In Mexico, civil society representatives advocate for an open registry, as they see opportunities to use data presented in a timely manner to prevent acts of corruption. 

“The authorities have access to certain information, but the challenge is that data may be scattered across different agencies. There are special mechanisms for an authority to request and be authorized to share this information, which can delay an investigation,” explains Vania Montalvo, project coordinator for Transparencia Mexicana and member of the national EITI multi-stakeholder group (MSG). In her opinion, the inability of the authorities to react in time is both a challenge and a threat. 

The problem is that there is a lack of leadership and political will, according to Oscar Pineda, a researcher for the organization PODER and a member of the international EITI board. PODER is a non-profit organization that advocates for corporate accountability and human rights in Latin America. 

“We have not made much progress in Mexico because there has not been this commitment or political will from the parties. The change of government also didn’t help. We lost a year between 2018 to 2019,” he acknowledges.

It wasn't until September 2, 2021, that the Mexican MSG agreed on a definition of beneficial owners based on the general principles raised by Open Ownership, with an extra addition: Mexico aims to consider the participation of Politically Exposed Persons.

“It was included that, if a public official participates in a company, this must be disclosed regardless of the power or control he or she has over the company. This is not a criterion that necessarily considers the experience of other countries, but in Mexico it seemed relevant to include this information,” says Montalvo.

For researchers and journalists, opacity and impunity have fostered the ideal scenario for the creation of shell companies and the commission of financial crimes. 

Although the General Law of Transparency demands that government institutions publish their contracts and invoices, they can simply not comply because there are no consequences, explains Pérez de Acha. 

The same omissions were detected within the Public Property Registry and the Public Commercial Registry, two resources that could aid investigations of alleged cases of corruption. 

Currently, Mexico has an integral Registry Management System (SIGER, in Spanish), managed by the Secretariat of the Economy (SE), in which all types of commercial acts are registered, such as the incorporation of companies and shareholder assemblies to grant or revoke powers of attorney. 

However, it does not show all the links between legal entities and individuals and it does not allow us to identify the true owners or who holds the control beyond whatever is established in the articles of incorporation, explains Montalvo. 

Not to mention that there is also a backlog of information in SIGER’s digital archives compared to what still remains in physical records. 

This system gathers the information of 1.6 million companies, according to the SE, as of July 7, but there are many more companies that are not yet available. 

The National Institute of Statistics and Geography (INEGI, in Spanish) acknowledges the existence of 6.3 million companies in Mexico, according to the 2019 economic census. 

In this regard, the SE admits that its tool is incomplete because “various registry offices have a historical collection, recorded in books, pending to be captured and validated.” It also details that the federal entity with the greatest lag is Mexico City, since the most recent version of SIGER operates in all other states except that one. 

Mexico City is also the entity with the highest number of detected EFOS, according to an information request submitted by Empower. To date, it accounts for 1,577 of these companies.

“The information in SIGER provided by Mexico City is very limited, there is practically nothing, and this is an issue given the large number of companies that are incorporated there,” says investigative journalist Arturo Ángel, author of Las empresas fantasma de Veracruz (The shell companies of Veracruz) and Duarte, el priista perfecto (Duarte, the perfect PRI politician).

SIGER’s inaccessibility and lack of maintenance are two other problems that he identifies, since the system regularly shows errors and performs poorly. “The registry should be much simpler and friendlier to use. Most of the time it takes too long to look for things,” he says. 

Now the challenge for investigative journalists is to get to the root of the problem and unmask the private structures behind the creation of shell companies, says Ángel.

“It used to be a very good story to tell how money was diverted through shell companies, because the phenomenon was not well known, but now we fall short. We have to aspire to know final beneficiaries and to punish those who created the scaffolding for corruption,” he adds, referring to the lawyers, accountants, and notaries who facilitate such cases. 

Some companies identified as EFOS operate in more than one federal entity. An example is that of Publicidad Latina Jocu, S.A. de C.V., which was founded in 2013, has a fiscal domicile in the State of Mexico, yet issued invoices to the governments of Baja California and Coahuila, according to the SAT, as well as for a civil society organization that received funds from the federal government.

This company's data is not shown on SIGER, it has no trademark registration with the Mexican Institute of Industrial Property and there is no record of its time as a public contractor in the National Transparency Platform, where all public entities must disclose their contracts. 

“People involved in illicit activities are interested in keeping their identities hidden. That still might be possible even with a beneficial ownership registry, but the important thing is that this would make it a lot more difficult and expensive to do,” says Low.

As for Grupo Constructor Maragall, this company is listed on SIGER, although the system requires a fee to consult its information.

There, Óscar Segura Fuentes and Bulmaro Abadia Castillejos are identified as shareholders and María Antonieta Chagoya Méndez as the notary who made possible the registration.

The latter is Notary Public Number 78 in the State of Oaxaca and was accused of certifying altered documents that were used to displace an indigenous community in Oaxaca, with a view of a new tourism complex, according to an article published this year by Proceso magazine.

In Mexico, notaries have powers and responsibilities that they would not have in other countries. In the Latin notarial system used by Mexico, notaries can draft, rewrite, preserve, and reproduce deeds and notarial acts and be auxiliaries to the federal and local tax authorities. In contrast, in the Anglo Saxon system, they are limited to certifying the authenticity of signatures and not the veracity of the content of a document, according to the Mexico City College of Notaries.

In the course of this investigation, different efforts were made to contact the shareholders of Grupo Constructor Maragall and the notary involved in the creation of the company, but none of them responded to requests for comments.

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