A holding company is one of the most instinctive responses in international corporate structuring. A business expands beyond its home jurisdiction. Assets accumulate. A professional adviser — a lawyer, an accountant, a corporate services provider — recommends a holding structure. An entity is incorporated, usually in a jurisdiction chosen for its tax treatment or its network of double tax treaties. Shares in the operating subsidiaries are transferred upward. The holding company becomes, on paper, the owner of the group.
This arrangement is so common that it has acquired the status of received wisdom. Of course there is a holding company. Every international group has one. The question of whether it is actually doing what it is supposed to do — and whether its presence helps or hinders the business in its dealings with banks, investors, and counterparties — is asked far less often than it should be.
In my experience, holding companies do two things simultaneously. They provide genuine structural benefits that are worth having. And they generate specific, predictable problems that most of the people who set them up never anticipated. Understanding both sides is the only way to use a holding structure intelligently.
The legitimate purposes of a holding company are well established. Asset protection: by separating ownership from operations, a holding structure limits the exposure of the group's assets to the liabilities of individual operating entities. Tax efficiency: a holding company positioned in the right jurisdiction can reduce withholding tax on dividends, optimise the treatment of capital gains, and provide access to a network of bilateral treaties that individual operating entities could not access directly. Structural clarity: a single holding entity that owns all the operating subsidiaries creates a clear ownership hierarchy that is easier to present to banks, investors, and counterparties than a web of separately owned companies.
These purposes are real. They justify the use of holding structures in appropriate circumstances. The problem arises when a holding company is put in place to achieve one of these purposes — and then the business changes, or the regulatory environment changes, or the holding company never had the economic substance needed to achieve the purpose in the first place — and the holding company remains in the structure, serving no clear function, attracting questions it cannot easily answer.
The concept of economic substance is the most significant development in international tax and corporate compliance of the past decade. The principle is straightforward: a legal entity should have genuine economic activity in the jurisdiction where it is registered. It should have people making decisions there, costs incurred there, revenues genuinely attributable to activity conducted there. A letterbox entity — one that exists on paper in a jurisdiction but conducts no real activity — does not have substance. And an entity without substance cannot claim the benefits that the jurisdiction offers.
This principle, which has been progressively hardened into law across most significant holding jurisdictions — through the OECD's Base Erosion and Profit Shifting framework, through the European Union's anti-avoidance directives, through the substance requirements introduced in jurisdictions like the British Virgin Islands, Cayman Islands, and others — has changed the calculus of holding company structuring fundamentally.
A holding company in a low-tax jurisdiction that holds shares and receives dividends but has no employees, no genuine management activity, and no costs of its own is, in the current environment, a liability. It attracts scrutiny from tax authorities in the jurisdictions where the operating subsidiaries pay tax. It generates questions from banks conducting KYC reviews, who are trained to look for substance indicators and to treat their absence as a risk signal. It creates due diligence problems when the group is being reviewed by an investor or a potential acquirer, because the holding company's inability to demonstrate substance casts doubt on whether the tax position it was designed to achieve is actually defensible.
The holding company that looked like protection, when it was set up, has become a source of exposure.
Banks approach holding companies with a specific set of questions. A compliance officer reviewing a group with a holding structure wants to understand three things: what does the holding company actually do, what economic activity justifies its presence in its chosen jurisdiction, and does the structure as a whole make sense from a legitimate business perspective?
When a holding company has genuine substance — a board that meets and makes real decisions, management costs that are incurred in the jurisdiction, a genuine flow of dividends and returns that reflects actual business activity — these questions are answerable. The compliance officer can document the answers and close the review.
When the holding company is a letterbox — when the honest answer to "what does it do?" is "it holds shares" and the honest answer to "what economic activity justifies it?" is "not much" — the compliance officer cannot close the review satisfactorily. The structure looks, from the outside, like a device. It may not be one. But it looks like one. And that appearance is enough to create a banking problem.
I have seen this pattern many times. A group with a perfectly legitimate operating business, generating real revenues from real clients, maintained a holding structure that was set up years earlier for entirely defensible reasons. The reasons no longer applied. The holding company had no employees, no costs, and no genuine management activity. When the group applied to a new bank — or when an existing bank conducted a KYC refresh — the holding company generated a stream of questions that the group could not answer satisfactorily. The relationship became difficult or was refused, not because of anything wrong with the operating business, but because the holding company made the structure unreadable.
Due diligence conducted by an investor or an acquirer tests holding structures with the same rigour as a banking review — and often with greater resources and more focused attention.
An investor reviewing a corporate group with a holding company will want to understand the tax position: does the holding company actually achieve the tax benefits it was designed to achieve, or has it lost those benefits through a failure of substance? They will want to understand the governance: does the board of the holding company make real decisions, or is it a formal structure with no genuine authority? They will want to understand the flows: do dividends, management fees, and other intercompany payments reflect genuine economic activity, or are they paper transactions designed to move funds between entities?
If the answers to these questions are unsatisfactory, the due diligence will identify the holding company as a risk. That risk will be priced: either through a discount to the transaction value, or through an escrow requirement, or through representations and warranties that shift the tax risk to the seller, or through a restructuring requirement that delays the transaction and generates costs.
The cost of a holding company that does not work — that exists in the structure without genuine substance or purpose — is not the cost of setting it up. It is the cost of what it does to the structure when that structure is scrutinised.
None of this means that holding companies are a mistake. They are not. In appropriate circumstances, a holding structure provides real benefits that justify its cost and complexity.
The circumstances in which a holding company makes sense are those in which it has genuine economic substance and a clearly articulable purpose. A holding company in Cyprus, for example, that employs a management team that genuinely directs the activities of the group — that makes investment decisions, approves intercompany arrangements, and manages the group's banking relationships — and that has costs and revenues reflecting that activity is a defensible structure. It has substance. Its presence in Cyprus is explainable by reference to the genuine management activity that takes place there, the treaty network that Cyprus offers, and the regulatory environment in which the group operates.
A holding company that was set up to access a treaty network but has no employees and no genuine management activity is a different thing entirely. It may once have been defensible under older standards. In the current environment, it is a risk.
The question to ask about any holding company in a group is: if a compliance officer, a tax authority, or an investor's due diligence team asked "why does this entity exist and what does it actually do?" — could you give a clear, honest answer that would satisfy them? If the answer is yes, the holding company is working. If the answer is "we'd need to think about how to explain it," the holding company has a problem.
When a holding company is not working — when it cannot demonstrate substance, when its purpose is no longer clear, when it generates more questions than it resolves — the structural answer is one of two things.
Genuinely substantiate it: introduce the management activity, the board governance, the costs and revenues, the physical presence that are needed to make the substance case. This is a real commitment, not a cosmetic one. It requires people, costs, and genuine decision-making authority to be located in the holding jurisdiction. Done properly, it transforms the holding company from a liability into an asset.
Or remove it: if the holding company no longer serves a purpose that justifies its cost and complexity — and the compliance burden it creates — the cleanest solution is to collapse the structure. This is not always straightforward, and it has tax implications that need to be carefully managed. But a simpler structure that can be clearly explained is almost always preferable to a complex one that cannot.
The choice between these options depends on the facts of the specific situation. What it does not depend on is inertia. A holding company that nobody can explain is not a neutral element in a corporate structure. Every time it comes under scrutiny — from a bank, from a regulator, from an investor — it costs something. The only question is whether those costs are acknowledged and addressed, or left to accumulate.
Vladimir Shuvalov is a legal and tax adviser with thirty years of experience in international corporate structuring, banking acceptability, and cryptocurrency architecture.
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