Examination of Witnesses (Questions 1-19)
MR MIKE
WELLS, MR
PAUL GERRARD
AND MR
DAVID HUBBARD
17 NOVEMBER 2004
Q1 Chairman: Mr Wells, welcome back to
the Committee. Could you introduce yourself and your colleagues?
Mr Wells: Yes, of course. Good
afternoon. My name is Mike Wells, I am the acting director of
strategy for Customs and Excise. On my left is David Hubbard,
who is the head of our excise group. On my right is Paul Gerrard
who is the head of my tax strategy group.
Q2 Chairman: Could we start with a general
point? You say in your memorandum ". . . the government is
committed to tackling tax fraud". So far as excise duty is
concerned is the government succeeding?
Mr Wells: We are making some good
progress. After some very sharp rises in excise fraud in the 1990s
in particular the trend has started to reverse and we are seeing
reductions across most of the excises. However, that is not enough
and we are not complacent about the changes we have managed to
make so far. The trend is in the right direction and we shall
be publishing the latest set of figures at the time of the next
pre-budget report (PBR), which I think will show that trend is
continuing. If it would help the Committee, I should certainly
be pleased to submit an additional memorandum once we have those
latest results.
Q3 Chairman: I understand why those cannot
be available now. The latest figures you do have show in percentage
terms smuggling and fraud accounting for 51% of the hand rolling
tobacco market, 18% of the cigarette market and 16% of the spirits
market, losing us a total of £3.5bn a year. Is that really
satisfactory?
Mr Wells: No, it is not satisfactory.
Q4 Chairman: But you said you were succeeding.
Mr Wells: My point was that the
direction of travel is in the right direction now rather than
in the wrong direction as it was several years ago. It is not
enough. Our objective is to reduce those levels of fraud further.
They were rising very sharply and had we not taken the action
which we took with the various strategies we might talk about
later today, I think those losses would have continued to escalate.
They are not growing any longer, they are reducing. In the case
of hand rolling tobacco, which you mentioned, I would agree that
figure is still too high, but it is about 1,000 tonnes a year
less smuggled tobacco than it was several years previously. Similarly
on cigarette smuggling we have seen the volumes of cigarettes
which are smuggled reduced by about 15%. We have also seen reductions
in other areas such as cross-Channel passenger smuggling in the
alcohol sector. There are grounds for some belief that we are
moving in the right direction, but it is not far enough yet and
I would not presume to say that it is a satisfactory state of
affairs.
Q5 Chairman: When you say that it is
moving in the right direction, you estimate the total loss at
£3.5bn. That lost revenue seems to have jumped enormously
in recent years. Why was that? Why did it increase so rapidly?
Mr Wells: Fraud grew through the
1990s for a variety of reasons. One of the reasons was the significant
facilitation to trade and to passenger movements which took place
with the single market. That coincided with very large growths
in international trade and passenger movements. Passenger movements
are up something like 70%, air travel is an awful lot cheaper
than it was at one stage and volumes of trade into and out of
the UK have doubled in the last decade. That, combined with the
facilitation around the single market, has been exploited by organised
crime and once that effect takes hold it has a multiplying effect.
We saw that grow very rapidly in the latter part of the 1990s.
Obviously also the UK is an attractive place for fraudsters because
of our relatively high rates. Inevitably that makes us a target
to exploit. I would also acknowledge that in some respects during
the 1990s we in Customs did not respond as quickly as we might
have done to some of those problems. At that stage we did not
seek to estimate the overall size of problems. We did not seek
to set outcome targets in terms of reducing fraud, but we measured
ourselves rather in terms of outputs. At times that could be a
rather perverse measurement because measuring yourself in terms
of the volume of products seized or the number of people prosecuted
could in many ways be a measure simply of the problem growing
rather than the effect in tackling it. We tried to change that
situation over the last four to five years and now try to measure
ourselves in terms of the outcome we are achieving and in that
sense the direction of travel is now in the right direction, albeit
not nearly far enough.
Q6 Chairman: Some of these factors you
mention were known factors, were predictable factors, you knew
we had entered the single European market, you could see air passenger
traffic growing.
Mr Wells: Hindsight is a wonderful
thing is it not? Perhaps in hindsight the combination of those
different things would have made it more predictable that fraud
would grow. As I acknowledged, the approach in the 1990s, which
was about pursuing outputs rather than outcomes probably was not
the right one to do that. With hindsight that may be correct.
I would add that in trying to measure the overall size of problems
and pursuing an approach based on reducing the overall size of
the problem, we are quite unusual amongst tax authorities and
the older, more traditional style of measuring outputs alone is
much more common elsewhere. We were maybe not alone in not anticipating
those things as well as we might have done.
Q7 Mr McFall: I should like to look at
the issue of tax stamps and the Scotch Whisky Association memorandum
which we received. In their memorandum the Scotch Whisky Association
say that there is an urgent need for a reality check to be introduced
to Customs' methodology and estimates of fraud. You are well aware
that the National Audit Office concluded that your estimate for
spirits fraud of £600m should be presented as a range between
£330m and £1,080m. They also concluded that the Scotch
Whisky Association estimate should be presented as a range between
£10m and £260m statistically. Does this not mean in
practice that no one knows what the level of spirit fraud is?
The Scotch Whisky Association mentioned that the NAO themselves
did not get to the bottom of the matter. Give us your comments
on that and whether you agree with the Scotch Whisky Association?
Mr Wells: It is certainly the
case that measuring an illicit market is an extremely difficult
thing to do. Firstly, by definition it is illicit, therefore it
makes it very difficult to have certainty and I would not suggest
that there is certainty in the estimates. Secondly, in the case
of the so-called sin taxes there is a difficulty also in measuring
total consumption. A lot of us sometimes tend to underestimate
our consumption of these things, so there is a difficulty there
too. Having said that, the National Audit Office did find Customs'
estimates of the spirits market to be reasonable.
Q8 Mr McFall: They also found the Scotch
Whisky Association estimates reasonable.
Mr Wells: They did.
Q9 Mr McFall: So we do not know where
we are.
Mr Wells: When we come to update
our estimates we shall also be publishing a so-called confidence
range, as the National Audit Office recommended. We recognise
that is a sensible thing to do and we will do that. Nonetheless
we believe that the illicit spirits market is a substantial market
and evidence from frauds we have detected and indeed frauds which
have been the subject of hearings before this and other committees
illustrates that there has been a substantial spirits fraud problem.
Although the absolute level of spirits fraud is something on which
undoubtedly there is a degree of uncertainty and hence that is
why we will publish a range, I would still maintain that there
is a significant spirits problem.
Q10 Mr McFall: The evidence you presented
to other committees was regarding alcohol being sold in and around
pubs, street markets and car boot sales. Is that correct?
Mr Wells: No, I am referring to
major diversion fraud in spirits, which has been going on for
a number of years. There were very substantial frauds during the
1990s, during the period I was referring to earlier and indeed
in more recent times and in the memorandum we have submitted to
this Committee we have identified some of the frauds we found
in the year 2001-02, which is the last year for which we have
published spirits fraud estimates. We know that substantial numbers
of frauds were taking place. We know that there were organised
criminal groups.
Q11 Mr McFall: Do you have hard evidence
to present to us today?
Mr Wells: What I have said to
you is that I believe that the estimates we have published are
reasonable and that within the context of a range and acknowledging
the degree of uncertainty, I believe that spirits fraud is a significant
problem and that the operational evidence also suggests that it
is a significant problem.
Q12 Mr McFall: It would be helpful if
harder information were out in the public domain, because this
is largely a theoretical debate here.
Mr Wells: We should like as much
as anybody to be able to provide the most precise estimates that
we can do. As you said with your initial question, there is a
wide range and the difficulty is trying to make that more precise.
We do publish our figures each year. We do open them up to examination
and we are open to making changes where the evidence supports
the basis for making those changes.
Q13 Mr McFall: The issue here is that
there is such a wide range of estimates that there is little credibility
about them. They really need more credibility.
Mr Wells: I can only really say
again that I should like that to be the case.
Q14 Mr McFall: With a range from £150m
to £1bn there is something wrong somewhere, that is the issue.
Is that correct?
Mr Hubbard: It is correct that
we would find it difficult to regard either of these estimates
as unequivocally reliable. I know you have been a very active
participant in all the discussions which have gone on about this
issue. Both the Chancellor of the Exchequer, when he gave evidence
to the Treasury Committee after the Budget, and the Economic Secretary
to the Treasury in the debate in the committee of the whole house
in dealing with the legislation acknowledged that there was uncertainty
about these estimates. There is no disagreement that there is
uncertainty: the disagreement comes as to what action it is appropriate
to take in the light of this uncertainty. There clearly is spirits
fraud there; there is some uncertainty about the extent of that
fraud, so there is a judgment to be made about what action it
is still important to take in the face of that fraud.
Q15 Mr McFall: The Scotch Whisky Association
memorandum states that Customs' estimates imply unfortunately
that none of the measures which the Scotch Whisky Association
has undertaken on a voluntary basis, like 1998 excise warehousing
regulations, 1999 owner of warehousing regulations, etcetera,
has made any impact on the level of fraud. They are saying that
does a disservice to people.
The Committee suspended from 2.43pm to 2.53pm
for a division in the House
Mr Wells: The question was around
the voluntary measures with the industry and the impact they had
had. The first thing to say is that the last year's figures we
published are for 2001-02 and they predate those particular voluntary
steps which we welcome. We will be publishing updated figures
at around the time of the Pre-Budget Report. I do expect them
to show some reduction in spirits fraud, but nonetheless it will
still be a substantial problem. The variety of measures which
have been taken are clearly helpful, but the problem remains substantial.
Q16 Mr McFall: Do you think, as Customs
and Excise, that tax stamps are essential to combat fraud? Can
you give me an assessment of how the talks are going between you
and industry regarding its implementation?
Mr Hubbard: In the debate in the
Committee of the whole House in April you called for intense dialogue
and for constant dialogue among all parties in the interests of
getting a good deal for everyone involved. We have continued to
have very extensive discussions with the industry, both Customs
and Treasury officials and the Economic Secretary to the Treasury,
John Healey. What we have been doing is exploring a number of
different aspects of the detailed design of a tax stamps system,
in the hope of finding ways to minimise compliance costs on the
industry, while also maintaining the anti-fraud benefit of the
tax stamp scheme. Without going into too much detail, the three
key areas which could make a significant reduction to compliance
costs are the exact scope of the tax stamp scheme, that is exactly
what products would be required to bear a tax stamp, the design
of the tax stamp, that is whether it is a strip stamp over the
top of the bottle or a label-incorporated mark with a self-adhesive
option, or a mixture of those and options for financial security
or for alternatives to financial security in the way the tax stamp
scheme operates. On those and other aspects we have had a very
constructive dialogue with industry and there are now several
options which ministers are considering in the run-up to the Pre-Budget
Report on the way forward.
Q17 Mr McFall: Evidence we have received
indicates that the root cause of much of excise duty fraud is,
in the opinion of those submitting the evidence, the high rate
of duty per se and in comparison with other countries.
To what extent is the estimated level of fraud from cross-border
shopping taken into account when setting duty rates?
Mr Wells: On the question of rates
of duty and their relationship to fraud, undoubtedly there is
a relationship; it would be foolish of me to pretend there was
none. However, it is important to bear in mind that in most cases
the illicit product is a product which has borne either no duty
or very little duty indeed; in the case of spirits we are talking
about diverted duty suspended product, in the case of oils we
are talking about the misuse of red diesel and in the case of
tobacco we are predominantly talking about product which has come
from the far side of the world, having borne negligible or no
duty. When we compare duty rates, it is really comparing duty
rates in the UK against zero or near to zero. That is the context
and indeed several other countries in Western Europe, with much
lower rates of excise duty than the UK, also suffer significant
smuggling problems and fraud problems in these areas. Italy and
Spain, for example, have had substantial tobacco smuggling problems
despite having much lower rates of tax. Belgium has a very substantial
diesel fraud problem despite being in the bottom third of oils
tax rates in the Member States. It is very much more complicated
than a straightforward lower tax equals lower fraud equation.
Of course there are also a variety of other reasons for which
these taxes are applied. I referred earlier to them colloquially
as sin taxes and indeed there are other environmental, social
and health reasons for which these taxes are applied. That has
to be considered, as do the other ways in which fraud can be tackled
and as does the relative balance of the different types of taxation
for raising the revenue which is needed for public services. Clearly
it plays a part, but it is one part of a complex mix.
Chairman: Let us turn and look at tobacco
in some more detail.
Q18 Angela Eagle: Your PSA target for
tobacco smuggling is to reduce the illicit market to 17% by 2005-06.
Is that a demanding enough target given that the illicit market
share for 2002-03 was only 1% higher than that at 18%. A 1% improvement
does not seem an awfully demanding target to achieve.
Mr Wells: The first thing to say
is that the target was set prior to us achieving that figure,
which is better than the target we were set for the year in which
it was 18%. We began with this strategy in 2000. Cigarette smuggling
was growing very rapidly from negligible levels in the mid-1990s;
about one in five cigarettes smoked in the UK was smuggled by
around the turn of the century, so that was a growth of 20% in
four years. There was every reason to believe that was going to
continue at a rapid rate had we not taken action. Experience elsewhere
in the world has shown that illicit markets could get to very
large levels. We have seen that in the United Kingdom with hand
rolling tobacco, indeed the industry were forecasting, as were
Customs and Treasury models, that without action smuggling would
continue to grow very rapidly. To the financial year we have just
finished we forecast that it would have been at 34% without action.
It is against that expected growth that the target to achieve
17% was set; effectively half that it would otherwise have been.
Q19 Angela Eagle: So your argument really
is that you have prevented growth and held the line and taken
it down.
Mr Wells: In effect we are trying
to run up a down escalator, or vice-versa, and therefore one has
to bear that in mind. Nonetheless, what we have achieved is something
which is better than our original forecast and I would hope that
we will better that 17% target and indeed we have now been set
a new PSA target which runs through to 2007-08, by which time
we have been tasked to get the illicit cigarette market down to
13%. We are not trying to limit our achievement to the level of
17%. If we can better that and if we can better it faster, then
that is certainly our objective.
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