Court of Appeal in conjoined appeal cases of Mobilx, Blue Sphere Global and Calltel upholds previous lower court decisions and provides new guidance on the ‘Kittel’ test. The approved judgement is available here [download]
The Court of Appeal heard together the appeals of three cases, two of which HMRC had already won (Mobilx and Calltel) together with one in which the Chancellor of the High Court found against HMRC (Blue Sphere Global). The pre-existing decisions in each of those cases were not overturned resulting in HMRC losing its appeal on Blue Sphere Global but maintaining the findings it had sought in Mobilx and Calltel.
The principle in the ECJ decision of Kittel was examined by the Court of Appeal and it has been determined that Kittel does no more than to remove the right to deduct input tax from a person who, by reason of his degree of knowledge, can be regarded as someone who has aided fraudulent evasion of VAT. The Kittel doctrine has therefore been clarified and narrowed in the following way: The question to be asked now is not whether an appellant should have known that its transactions were more likely than not to be connected with fraud but whether it should have known that its transactions were connected with fraud. The correct question as things stand then is whether a trader should have known that its transactions were connected with fraud.
With respect to the burden of proof, the CA have indicated that it is for HMRC to prove that a trader’s state of knowledge was such that his input tax ought to be denied. The Tribunal have been guided to look at all the surrounding circumstances to establish whether there is sufficient knowledge to treat the trader as a participant in the fraud. Tribunals have been directed away from a simple focus on the question whether a trader has acted with due diligence. Instead they ought ask the essential question taken from Kittel: whether the trader should have known that by his purchase he was taking part in a transaction connected with fraudulent evasion of VAT. The Court indicated that the trader’s state of knowledge ought to be determined by reference to not only the merit of individual transactions but also with regard to the wider context of the trader’s activities from which inferences can be drawn. In effect the Tribunal is directed to look at all the circumstances of an appellant and all of it’s trades to determine whether an individual transaction forms or patterns part of a fraudulent scheme.
HMRC have also been directed to query why, if not for fraud, traders believe they have enjoyed the opportunity to reap large rewards over a short period of time. In HMRC’s Public Notice 726 traders were warned that the imposition of joint and several liability was aimed at businesses who “know who is carrying out the frauds, or choose to turn a blind eye” (3.3). They were warned to take heed of any indications that VAT may go unpaid (4.9). Traders must therefore prepare to advance a reasonable explanation based on their individual case for why their trading was able to lead to such reward and wherever possible assert deals and other business in which there is no taint of fraud. In addition appellant traders must respond substantively to each and every bit of evidence that HMRC outline as an indicator of fraud, even if circumstantial.
Tribunals are directed that they should not unduly focus on the question whether a trader has acted with due diligence as was the case in BSG before the Tribunal. Even if a trader has asked appropriate questions, the circumstances in which transactions take place cannot be ignored if the only reasonable explanation for them is that they have been or will be connected to fraud. We reiterate that Tribunals are now likely to refrain from focusing simply on the question of due diligence and will instead ask the essential question: “whether the trader should have known that by his purchase he was taking part in a transaction connected with fraudulent evasion of VAT”. It is undoubted that from now on the overall circumstances as well as the due diligence will be determinative.
There are in excess of 800 live appeals at the Tax Chamber of First-Tier Tribunal (involving more than GBP2 billion of denied input tax credits) and no doubt hundreds of extended verification decisions awaited from HMRC (which may involve up to GBP3.5 billion of VAT). Whilst every appeal case is different and turns on its own merits, the Court of Appeal judgment will come as good news for those traders caught up in a chain in which fraud was perpetrated some distance away from its own transactions and whose due diligence may not have been the best but have wider circumstances to show their business model was/is genuine and not directly connected to fraud. Traders with pending tribunal cases should note that it is now even more important that they respond fully and vigorously to HMRC’s lengthy list of ‘indicators of fraud’. If these are not aggressively challenged they will likely be accepted by the Tribunal.
It should be borne in mind that is almost inevitable that the Court of Appeal decision will now be appealed to the Supreme Court. The appeal will likely centre on the fact that Kittel is an European legal test being applied domestically without being brought into force by UK legislation. The national domestic legal tests to prove liability as an accessory to fraud are a higher hurdle in comparison with the test in Kittel and this discrepancy is yet to be fully examined judicially. It is inherently unfair for HMRC to proceed against exporters and not the fraudsters directly and in such circumstances it is all the more important that the full weight of judicial attention is brought to bear on the actions of HMRC.
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