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Think you’re not at risk? 5 steps to avoid the VAT fraud spotlight

Commercial solicitor Leigh Ellis explains why business owners who import goods into the UK should perform crucial due diligence on VAT paid by suppliers in order to ensure there has been no fraudulent evasion – with particular reference to ‘carousel fraud’.

Carousel Fraud
Fraudulent evasion of VAT can occur in many forms, but carousel fraud – also known as missing trader inter-community fraud – is of particular concern for importers as the liability for fraud can extend down the entire chain of trade.

When Does Carousel Fraud Occur?

Carousel fraud occurs when goods are imported VAT-free from other EU countries and subsequently sold through a chain of other domestic traders, sometimes utilising false business identities. The first link in the chain will often disappear without providing VAT documentation, and then the final link will claim VAT to be repaid from the government, seeking to reclaim funds upon export which were never paid by the first importer.

The chain can become a carousel as the goods are rotated through borders, often multiple times. Her Majesty’s Revenue and Customs (HMRC) estimates losses due to pay outs from VAT fraud of up to £5.5 billion from 2005 to 2006 and of up to £2.5 billion from 2008 to 2009 with high levels of carousel fraud in computer chip and mobile phone trading. These figures prove VAT fraud is a serious concern for HMRC. HMRC takes aggressive steps to counteract it.

Legal Guidance on VAT Fraud

Following the 2006 European Court of Justice decision in Kittel v EtatBelgeand EtatBelge v Recolta, the courts received guidance on liability for VAT fraud, especially related to carousel fraud. According the Kittel principle, a trader is liable for VAT fraud and HMRC may refuse a company’s right to deduct VAT if, “it is ascertained, having regard to objective factors, that the taxable person knew or should have known that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT”.

This standard applies if a trader knew or even should have known the goods were connected to fraudulent activity so the burden is higher upon traders to ensure they operate at an industry standard level of knowledge regarding the VAT status of the goods they trade and also of the traders they do business with. Therefore, even a lack of knowledge related to partners’ VAT fraud is no defense if a trader should have known.

Consequences of Kittle Principle

Not only can a company be liable for the actual amount of VAT fraud committed by partner traders, future rights to deduct import VAT may also be denied. The Kittel principle then calls for due diligence and knowledge in trading to avoid liability for VAT fraud.

Businesses operating in high risk industries such as mobile telephones, microchips or other, easily transportable and high value goods, must pay particular attention to their supply chains. Due diligence should consider a number of factors including the trading history of customers and suppliers, the commercial integrity of any transactions and whether or not the goods in question actually exist.

Read VAT Notice 725 issued by HMRC to get properly tuned in to what you should know.

Carousel Fraud Checklist

Before working with a new trading partner:

  1. Ask for their VAT number for intra-European trade;
  2. Call the HMRC VAT helpline (0300 200 3700) to check it;
  3. Do the same for the EU at VIES (here).
  4. Check the details received;
  5. Keep records of all searches and documentation received. You may need them later.

If the VAT number does not check out, you must, amongst other things, charge VAT to the customer for the goods. Just because the VAT number is correct is not the end of the story. If you are in the business of selling goods which are small in size and high in value – mobile telephones, computer chips – you are in a higher risk business. If anything does not check out, such as businesses addresses or the chain of sales, think twice about whether the deal will be worth the potential hassle.

Remember, you can only reclaim VAT if you have a valid VAT invoice.

For specialist advice handling cases of supply chain due diligence, VAT fraud and civil claims cases based upon accusations of VAT fraud contact Leigh Ellis at Drukker Solicitors.

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