Understanding How it Works: The Building Blocks#

The first is: How do these corporate structures actually function? I think the easiest way to show you is to teach you how you’d set up an international business network yourself. You never know, it might come in handy!

The other thing that needs better explaining is: Is all of this actually legal? The headlines can’t seem to make up their minds if they’ve found the biggest fraud ever, or if they’re just mad because it’s all… “technically legal.”

This whole complex mess is really just basic company setup taken to the absolute extreme.

At the base level are Limited Liability Corporations (LLCs). Like the name says, they have Limited Liability. This means if a company goes bust, the people who put money into it (the investors) can only lose the amount they invested. They aren’t on the hook for more. This is super important for modern finance. It lets investors put money into risky projects without freaking out about losing their entire life savings if the company fails. You probably wouldn’t have invested in a company like Tesla when it was just starting out if you could lose more than your investment in such a risky idea, right?

Now, companies are owned by shareholders. These shareholders can be one of three things:

• The first and most obvious is a regular human person. Accountants and lawyers call this a “Natural Person.” So, when you hear “natural person,” think of a squishy meat sack.
• A shareholder can also be another company. Think of something like Warren Buffett’s Berkshire Hathaway, which owns hundreds of smaller companies under it.
• Finally, a Trust can also be a shareholder.

Trusts are similar to corporations in many ways:

• They are both separate legal entities.
• They can both hold assets.
• They both have limited liability.

But unlike a company, a trust is much simpler. While a company can do anything from making phones to building spacecraft, a trust is simply an entity that holds onto stuff for the benefit of a specific, pre-decided entity, called the “Beneficiary.” And it’s controlled by another specific, pre-decided entity, the “Trustee.”

Here’s a simple example: The beneficiary is a millionaire’s son who gets money from a trust fund his dad set up. The trustee is the person who has to tell the spoiled 35-year-old man-child that no, he can’t take a million dollars out to start a jet ski jousting league.

If this sounds confusing, don’t worry. The best way to get it is to think of all these things – companies and trusts – as building blocks. You can stack them on top of each other in pretty much any way you can imagine.

Building a “Financially Invincible” Structure#

With those building blocks in mind, let me show you one of the most solid corporate setups out there.

Let’s say you’re a really successful businessman. Maybe legitimate, maybe not – let’s not ask too many questions for now. You have your company here, making lots of money and generally doing what businesses do by selling something people want.

The simplest way for you to own this company is just to be the direct shareholder. But if the company is big enough, you really don’t want to do that for two reasons:

1. If the company gets sued or goes bankrupt, you lose everything. Yes, it’s a separate legal thing, so you personally aren’t liable for the company’s debts, but you still lose your business and your income.
2. (The second reason isn’t explicitly stated here, but the structure implies avoiding direct ownership risk).

Instead, here’s what you do:

• Put your profitable operating company down here.
• Create a Holding Company to own all the shares of that operating business.
• You can also put really valuable business assets, like a warehouse or a shop, into this Holding Company.

Now, when your operating business pays out money (a dividend), it doesn’t come straight to you. It goes to this Holding Company. If the operating business down here gets sued, it doesn’t really matter. Why? Because it doesn’t own anything super valuable. It can just declare bankruptcy, and you can start a new operating business under the Holding Company, which still owns the warehouse and all the other valuable stuff.

If you’re thinking, “Okay, but what if the Holding Company gets sued?” you’re starting to think like a real businessman! The thing is, the Holding Company is way less likely to be sued than the operating business because it barely does anything other than own things. It doesn’t sign contracts, hire people, make products, or take on debt. It basically avoids doing anything that could get it sued. So, this is great.

But we’re not finished yet. You want this Holding Company to, in turn, be owned by a Trust. That means when the Holding Company passes money up, it doesn’t come directly to you; it goes to this Trust. The Trust will then eventually pass money on to you.

Remember, the Trust needs a Trustee. This is the person (or entity) that decides when and how much the Trust pays out to you, the Beneficiary. For this, you set up yet another company. This company does nothing except decide when money is paid out of the Trust. It doesn’t even decide who it pays to; that’s all already set up in the rules of the Trust itself.

Okay, this is starting to look a bit crazy, right? But what does all this complexity actually do?

It makes you pretty much financially invincible.

• If your actual operating business gets sued and goes bankrupt? Oh well, it owned nothing valuable anyway, so you can just start another one next week.
• If YOU get sued and need to declare personal bankruptcy? That also doesn’t really matter. Why? Because, on paper, you don’t own any valuable assets yourself. Sure, you keep getting money from the Trust fund over here, but you can’t own a Trust; it’s just a pass-through entity. The only shares you personally own are in that Trustee Company, and they’re basically worthless in terms of asset value. All they do is determine when a Trust payment is made. And, by the way, even if someone did take those shares from you, it wouldn’t stop the money flow forever, because a Trust is legally required to pay out any cash it has at least once a year. This prevents a rogue trustee from holding the beneficiary’s money hostage.

All the things of real value are held safely in that Holding Company in the middle of this structure. This means those assets are protected from problems on both sides (the operating business and your personal finances) by what are essentially layers of limited liability corporate shields. It doesn’t matter if any part of the structure that’s likely to face problems actually does face problems, because the core assets are safe and sound in the middle.

Now, there’s absolutely nothing wrong with this structure by itself. Almost every wealthy person uses something similar, if not identical, for financial protection. Getting sued is an unfortunate reality of being wealthy.

Taking It International: The “Shopping” Approach#

But here’s where things get really interesting… There is absolutely no requirement for all these different entities (Operating Co, Holding Co, Trust, Trustee Co) to be registered in the same country.

An American business could be owned by a British Holding Company, which feeds money into a Trust set up in Singapore, which ultimately sends money to a Russian citizen. That’s just a random example, of course. What the Pandora Papers revealed was that wealthy people were picking and choosing the countries to set up these businesses in extremely carefully.

It’s a common joke among international accountants that setting up these structures is like going shopping for everything you want. You want a bit of banking privacy? Get a company in Panama. Want low corporate taxes? Set up a Holding Company in Ireland. Want currency stability? Use a structure piece in France. You just snake your corporate structure through all these different places, and you end up stacking all these benefits on top of each other.

The Legal Grey Areas#

Now, this is where things start to get a bit fuzzy. It is specifically illegal in most countries to set up corporate structures like this with the sole intention of avoiding taxes.

How do lots of international businesses get around this rule? By claiming there was some other legitimate reason for setting it up across so many countries. These reasons could include:

• Having multiple offices around the world for business operations.
• Owning multiple properties in different countries.
• Needing to move money from the country where the business operates to the country where the owner lives.

For example, if an American investor owned a coal mine in Brazil, there’s nothing wrong with having a Brazilian company that’s owned by an American Holding Company. Deciding which international corporate structures are built for legitimate business purposes and which are built just for dodgy reasons is where it gets really hard.

Some places have more registered companies than they do citizens, so auditing every single one is just impossible. Even if it was possible, the people doing the dodgy stuff could easily get around it by having a chain of multiple Holding Companies, each in a country with strong corporate privacy laws. If the authorities in Singapore get suspicious about a local Holding Company that’s owned by another foreign Holding Company, they’d have to call up the business regulator in the country where that other company is based and ask for details about its owners. If that company is set up in a place like Montenegro, the Singaporean financial authorities are probably just going to be told to “go duck themselves” because local laws mean that kind of information is kept secret.

You can start to see the problem here, right? And you can see why these data leaks were such a big deal. For the first time, financial authorities and regular people alike had complete transparency into the structures that some of the wealthiest people in the world had set up. Again, while none of this by itself was illegal, it’s pretty clear that someone putting this much time, effort, and money into making such a complex and hidden international business structure isn’t just doing it just to protect assets or run their business normally.

Common Trends & Why the Leaks Were a Big Deal#

There was a clear pattern found in most of the more questionable files that were leaked.

• The operating businesses were usually based in countries with less-than-great records on corruption.
• The money from them would then be transferred to Holding Companies operating in much more politically stable places. London City, Singapore, and the Netherlands were all very popular choices. It’s not worth going through all this effort to hide and secure your assets if they’re just going to get seized in a political revolution or economic crash.
• These Holding Companies in stable countries would then be owned by a chain of Trusts and companies before the money ultimately flowed back to the owner in whatever country they lived in.

Has Anything Actually Changed? The Real Impact#

So, has anything actually been done about this? Well, yes, a few significant things have happened. It’s easy to feel down thinking about all this widespread corruption and tax dodging going unpunished, but the information brought to light by the Panama Papers and the leaks that followed has led to:

• The arrest of dozens of high-profile officials.
• The resignation of a prime minister.
• The return of hundreds of billions of dollars to tax agencies all over the world.

The second major thing that happened was the introduction of widely accepted standards for registered companies to list their Beneficial Owners. If you try to set up a new business today in most countries, a key question you’ll be asked is: who are the beneficial owners? A beneficial owner is defined as the Natural Person who ultimately receives the profits from the business after everything else is sorted out. Requiring it to be a Natural Person means that an endless spiderweb of shell companies doesn’t help hide things anymore, because you still have to name an actual human being at the very end of the chain.

The third thing was heightened scrutiny on certain individuals known in the industry as PEP’s, or Politically Exposed Persons. If the beneficial owner of a company is someone who holds public office or a senior position in a large company, they are considered more likely to be involved in corruption. Because of this, new international banking laws require these individuals to identify themselves as PEPs when they do something as simple as opening a bank account. This gives countries a starting point for auditing new companies, making it harder for these individuals to hide money obtained improperly.

The final major impact is the push for a Global Minimum Tax. As I was making the original video, Ireland – a place famous for international corporate structures – agreed to put in place a 15% corporate tax rate as part of the global minimum tax proposal. This scheme likely wouldn’t have nearly as much momentum as it does today if these leaks hadn’t shown just how huge this issue was.

It’s easy to feel disheartened when people say that nothing will ever come of these reports. But that feeling of apathy is exactly what these potentially fraudulent operations want. If people think nothing will happen because of these reports, then people stop caring about the reports. If people stop caring about the reports, then media outlets won’t publish them. And if media outlets won’t publish them, then these structures might never be investigated in the first place.

Now, if you’ve been thinking throughout all this, “Hmm, if you can’t beat ‘em, join ‘em,” well, I like your style. Maybe go check out my video on what to do if you get rich so you can also be an “internationally condemned businessman.”

As always, big thanks again to my channel members and patrons on Patreon for making it possible for everyone to keep learning How Money Works.