Terrorism Finance, Business Associations, and the "Incorporation Transparency Act"

• Author: J. W. Verret
• Position: Assistant Professor of Law, George Mason Law School
• Pages: 857-910

Assistant Professor of Law, George Mason Law School. The author gratefully acknowledges assistance from the George Mason Law School Center for Law and Economics and the Corporate Federalism Initiative at George Mason Law School. Thanks also to Jill Evancho, Chief Justice Myron T. Steele, Steve Bainbridge and Larry Ribstein for giving me the idea to focus on this topic, and the staff at the Louisiana Law Review for their helpful assistance.

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I Introduction

Each year, two million corporations and limited liability companies are established in the United States. The process by which these entities are created has traditionally been governed under state law. On June 18, 2009, the Senate Homeland Security Committee considered a bill introduced by Senators Levin, Grassley, and McCaskill, titled the "Incorporation Transparency and Law Enforcement Assistance Act" (the "Levin Bill" or "the Bill"). The Levin Bill requires that states maintain an accurate and updated list of all beneficial owners of corporations and limited liability companies created in the state and make that list available to law enforcement and others by subpoena.¹ In many states, these lists will likely become part of the states' public records similar to other business entities' formation documents.

Business entities, including corporations, limited liability companies (LLCs), limited liability partnerships (LLPs), non-profit organizations, and other entities created under hybrid forms, are created when formation documents are filed with the Secretary of State of a particular state. States require that business entities maintain updated contact information of an agent for service of process to facilitate litigation against a business entity, but, owing to the complexities of business ownership, states do not currently undertake the task of keeping an up-to-date list of all current owners of all business entities organized under their laws.

In suprpot of the Levin Bill, its proponents cite a handful of cases investigated by federal agencies that were later dropped because of difficulty determining beneficial ownership in the investigated entities as evidence for why the bill is vital to stopping Page 858 terrorism financing.² However, a proper analysis of the effects, costs, and potential constitutional challenges facing the Bill reveals it as little more than a red herring--an empty gesture meant to generate the appearance of action. Furthermore, although legitimate prosecution of business entities engaging in activities that represent a threat to national security or violate tax, banking, or securities laws is a vital element of the federal government's law enforcement mandate, this does not mean that state governments should be enlisted to support the Department of Justice (DOJ) merely because federal prosecutors find their work too difficult or expensive.

This Article will examine the costs of the Levin Bill and compare those costs with its purported benefits. As such, in part this Article offers an exercise in cost-benefit analysis. The analysis will remain somewhat stylized, without the need for formal modeling, simply because the legislative architecture under review offers scant benefit toward the goals listed in its opening clauses. This Article will show that the Levin Bill stands to impose significant liability on small businesses. The Article will describe how the Levin Bill threatens the existing function that business entities serve in economic development, as well as how it threatens to irreparably harm the attorney-client relationship. It will also describe how the Levin Bill offers little benefit, as it will be unable to prevent or reliably detect terrorism finance. Lastly, the Article will examine alternatives to the Bill that have been put forward.

The Levin Bill may not necessarily pass as it is currently crafted; however, the analysis in this Article is still highly relevant. The problems inherent in the Levin Bill's approach will creep into any variation on the Bill's theme of a federal mandate to track controlling beneficial owners of companies and other business entities. This Article's focus on the provisions in the current Bill will remain useful no matter what variation is considered. This is shown by the Article's final analysis of alternative measures put forward by the Senate Banking Committee and the Uniform Law Commission. Page 859

II Details Of The Levin Bill

The Levin Bill mandates that states require corporations and limited liability companies to maintain with the state in which the business entity was formed an up-to-date list of all beneficial owners.³ A beneficial owner is defined as "an individual who has a level of control over, or entitlement to, the funds or assets . . . that, as a practical matter, enables the individual, directly or indirectly, to control, manage, or direct the corporation or limited liability company."⁴ The Levin Bill also requires that the state maintain a copy of driver's licenses of all such beneficial owners.⁵ The state is then required to turn information over to law enforcement or federal agencies requesting information through subpoena or pursuant on an international treaty.⁶ The Levin Bill carries stiff penalties for business entities failing to maintain an accurate list of their beneficial owners with the state.⁷ As a penalty for violation of the Bill, a business owner can be fined up to $10,000 and sent to prison for up to three years for failure to maintain accurate beneficial ownership information with their state of formation.

The Levin Bill requires annual reporting that updates the states' list of beneficial owners.⁸ The Bill also contains a provision that affords generous access to the beneficial ownership list, mandating that states make the list available upon "(i) a civil or criminal subpoena or summons from a State agency, Federal agency, or congressional committee or subcommittee requesting such information; or (ii) a written request made by a Federal agency on behalf of another country under an international treaty, agreement, or convention . . . ."⁹ Nevertheless, since most states would be required to keep beneficial ownership information open to the public, the wide restrictions would become fairly irrelevant, leaving the federal government with a nearly limitless ability to access the ownership information.¹⁰

The Levin Bill is the third beneficial ownership bill that the Senate has considered in the last ten years, and the second was one of the few bills endorsed by then-Senator Obama. The Levin Bill was the subject of hearings before the Senate Homeland Security Committee in July and November of 2009. The issue of beneficial Page 860 ownership reporting has recently become the subject of a turf battle between the Senate Homeland Security Committee and the Senate Banking Committee, where Chairman Dodd introduced a competing discussion draft.¹¹ A companion to the Levin Bill was introduced in the House of Representatives in 2009. With the support of the Department of Homeland Security (DHS), the DOJ, the Treasury Department, and numerous senators on both sides of the aisle, it seems likely that beneficial ownership reporting will become law in some form. With the Levin Bill currently serving as the chief vehicle for the debate, a particular focus on the Bill seems appropriate.

III Problems With The Implementation Of Beneficial Ownership Reporting

A Internal Inconsistencies

At one level, the Levin Bill is internally inconsistent; even if one were to accept that beneficial ownership reporting will provide benefits sufficient to justify the costs to business entity creation, the Bill is designed in a manner that leaves loopholes that may lead to abuse of the nation's business entity creation system. For example, the Bill requires that the states collect and maintain beneficial ownership information on corporations and LLCs but not on LLPs, non-profit organizations, or other business entities.¹²As such, it is ineffective at hindering use of those entities for the crimes that the Levin Bill is intended to stop. Even if terrorists were to comply with the self-reporting requirements of the Bill, they could nevertheless merely switch to using these alternative business entity types for their illegal activities.

The National Association of Secretaries of State (NASS) also testified that non-profits would be nearly impossible to regulate under a beneficial ownership reporting regime, as they essentially do not have beneficial owners of any identifiable sort.¹³ In light of this fact, non-profits could become the new weapon of choice for money launderers under the present Bill. This could have the Page 861 unintended consequence of tarnishing the reputation of the nonprofit community. Indeed, evidence indicates that al-Qaeda operatives make significant use of non-profit charities in financing...