Memorandum by the Institute of Chartered
Accountants in England and Wales
WHO WE
ARE
The Institute of Chartered Accountants in England
and Wales ("ICAEW") is the largest accountancy body
in Europe, with more than 128,000 members. The Tax Faculty is
the focus for tax within the Institute. It is responsible for
tax representations on behalf of the Institute as a whole and
it also provides various tax services including the monthly newsletter
"TAXline" to more than 11,000 members of the ICAEW who
pay an additional subscription.
INTRODUCTION
1. The Tax Faculty of the Institute of Chartered
Accountants is pleased to respond to the call for evidence by
Sub-Committee A in its enquiry into the issues surrounding VAT
carousel fraud.
2. It has always been possible for a person
in business to disappear without paying VAT. As long as businesses
collect tax which they are required to pay over to HM Revenue
& Customs (HMRC) that possibility will always be present.
MTIC fraud and carousel fraud however are on an altogether different
scale. We agree that the prevalence of the MTIC fraud and the
huge sums involved warrant urgent action and we support HMRC in
their battle to eradicate it.
3. We understand that MTIC fraud is perpetrated
by a relatively small number of people. By now they must have
considerable assets which they have no doubt sought to hide. We
assume that police detection techniques have been employed to
identify the guiding minds of the fraud and their assets. Clearly
sufficient resources must be allocated to this task. This is a
crucial first step in reducing or eradicating the fraud.
4. Tax fraud undermines the tax system and
sends the wrong message to those who pay their taxes. We support
the provision of extra resources to fight this fraud. There is
a need for specialists and the right type of resources.
THE ORIGIN
AND CAUSE
OF MTIC FRAUD
5. In theory VAT is a tax that is easy to
collect and is to a large extent self policing. It is difficult
to avoid or evade. Tax is collected from businesses at each stage
of the production cycle. The tax at risk of fraud or non-collection
is limited to the VAT on the value added by the last trader. However,
in 1993 a departure from the normal VAT system was introduced
which created the opportunity for MTIC fraud. MTIC fraud relies
on the system of zero rating of goods supplied to a registered
trader in another member state. Without zero rating for goods
crossing the borders of member states MTIC fraud could not exist.
6. According to the Budget 2006 Red Book
(Table C8 on page 262) the receipts for VAT for 2004-05 were £73
billion. The latest HMRC estimate for MTIC fraud is that it cost
the UK between one and two billion pounds annually, although later
estimates have put this up to £8 billion.
7. The Single Market system for accounting
for VAT on movements of goods between member states is known as
the transitional or destination system. No VAT is charged in the
country from which the goods are despatched. Tax is accounted
for under the destination system in the country receiving the
goods. The re-introduction of border controls abolished at the
start of the Single Market in 1993 is not a practical possibility
and would not meet the objectives of the Treaty to create a common
market identical to an internal market.
8. In planning the Single Market, the Commission
pointed out the danger that the VAT-free transfer of goods between
taxable persons in different member states gave rise to the possibility
that some of those goods would leak into free circulation without
tax being paid. It thought that the destination system was prone
to abuse and evasion.
9. The Commission recommend the origin system
under which VAT is charged in the country of despatch and the
trader in the other member state reclaims the tax in his own country
just as for domestic transactions. That way, no movements of goods
would be VAT-free. However, a means had to be found to give the
business in the country of acquisition relief for tax paid in
the country of despatch. To do that the Commission proposed a
clearing system. That was rejected for a number of reasons, including
that of political sovereignty. Operationally, it was claimed it
would be too complicated and too costly to operate. It was of
course nowhere near as complex as the clearing systems operated
by banks and credit card companies. The cost of the system is
likely to have been relatively insignificant compared to the cost
of the fraud that has taken place since 1993.
10. The destination system is known officially
and in the Directive as the transitional regime. The Commission
still favours the origin system as the definitive regime and if
the Community wishes to move to a true single market that is identical
to an internal market some form of clearing system is inevitable.
We think the UK and other member states should review their objections
to both a clearing system and the origin system in the light of
experience since 1993. A number of misconceptions entered the
decision-making process in the early 90s. For example the harmonisation
of rates of tax in member states is not essential in order to
operate the origin system as was previously thought (although
it makes it simpler). A clearing system would pave the way for
the single VAT registration of traders operating in more than
one member state and would complete the internal market—a
cherished objective of the Community. We think there should be
a review of the practicability of a clearing system and whether
it will reduce the risk to the collection of tax. The objective
is to strengthen the structure of the tax and to make the revenue
derived from it more secure. However, we recognise that any move
to an origin system will take time. Accordingly, other more short
term solutions are necessary to fight MTIC fraud and we consider
these below.
HOW MTIC FRAUD
WORKS
11. In its simplest form MTIC fraud is carried
out by a VAT-registered trader who acquires goods from a VAT-registered
trader in another member state. The goods enter the UK VAT free
and they are then sold to another business in the UK and VAT is
charged on that supply. The supplier then disappears without paying
the tax. If the UK business customer supplies the goods to another
VAT-registered trader in another member state the same goods can
leave the UK and then be brought back to the UK where the fraud
can be repeated. The UK business customer may or may not be aware
of the fraud. The goods may or may not actually cross the borders
of member states and the paperwork purporting to evidence such
movements may be false.
ACTION TO
PROTECT INNOCENT
TRADERS
12. Guidance has been published by HMRC
to help traders avoid being unwittingly involved in MTIC fraud.
Some may be naive, gullible or greedy but otherwise innocent traders
who are more likely to be caught up in fraud. They should be treated
as compliant traders unless there is evidence to the contrary.
13. In the linked cases of Optigen (Case
C- 354/03), Fulcrum Electronics (Case C-355/03) and Bond
House Systems (Case C-484/03) the European Court of Justice
held that transactions not otherwise vitiated by VAT fraud constitute
supplies of goods for VAT purposes. They are an economic activity
regardless of the intention of someone else involved in the chain
of supply and/or the possible fraudulent nature of another transaction
in the chain either before or subsequent to the transaction carried
out by the taxable person and about which he had no knowledge
and no means of knowledge. The three companies submitted VAT returns
claiming large repayments arising as a result of purchases of
computer processing units. HMRC rejected the claims on the grounds
that the purchases formed part of a carousel or missing trader
fraud designed to obtain repayment of large sums that had never
been paid as output tax. HMRC argued where goods move in a circle
of transactions through the same chain of companies for the purpose
of stealing VAT, there is no economic activity and no VAT is payable
or repayable on the transactions. The ECJ rejected this argument
and found that transactions within a fraudulent trade can fall
within the Directive and within the scope of the tax. On 18 January
2006 the Commissioners issued Business Brief 01/06 setting out
their practice in the light of the Court's decision.
NEW REVERSE
CHARGE
14. In our briefing paper to MPs relating
to the Finance Bill this year we welcomed the proposal to apply
to the European Commission for a derogation to introduce the reverse
charge. We note that the Commission have now proposed this, although
it still has to be approved by the Council. We agree that the
reverse charge is useful (we recommended its adoption in 2003),
although it can only be a partial and temporary solution to the
problem.
15. There is a risk that the fraudsters
may quickly turn their attention to goods not subject to the proposed
reverse charge and/or to services. Secondly, we have a number
of concerns on the detailed application, speed of introduction
and the consequent burdens on business generally. For example,
we consider that the £1,000 de minimis limit is far
too low, since the average transaction involved in the fraud appears
to be well over £100,000. We also think it preferable not
to require retailers to operate the reverse charge on their supplies
because it would be difficult for the fraudsters to carry out
MTIC fraud by operating as retailers.
16. HMRC accept that the reverse charge
introduces a further weakness into the system, since it defers
payment of tax to the Exchequer until the last link in the chain
of supply, where the whole of the tax charged to the consumer
is at risk of non payment. Under the normal VAT regime tax is
paid to the Exchequer at each stage of the production cycle and
the tax at risk is only the amount of tax on the value added at
each stage.
FURTHER ACTION
17. In the following paragraphs, we list
a number of further measures which could be introduced to counter
the fraud. Since all of them would place some additional burdens
on innocent businesses, HMRC would need to be certain that they
could operate them promptly and efficiently.
VAT REGISTRATION
18. HMRC quite properly need to carry out
checks to ensure that the applicant is a legitimate business.
However, there is also a need to register legitimate businesses
quickly and efficiently. At present, the delays in VAT registration
are unacceptable, and hold back the development of new businesses.
19. Commercially available information,
such as that provided by the credit agencies, may assist in building
up a risk profile. It might also be useful in relation to changes
of ownership and transfers of going concerns. Fraudsters can avoid
registration checks by taking over an existing business already
VAT registered.
"CREDIT LIMIT"
FOR INPUT
TAX RECOVERY
20. When a businesses files a VAT Return
making an unusually large VAT repayment claim, HMRC will carry
out a credibility check before authorising the repayment. In MTIC
fraud, the claimant is not the fraudster himself but often the
business that purchased the goods from the fraudster. If that
business is not involved in the fraud, HMRC are faced with an
impossible task at that stage—the fraudster has already
charged VAT to the business, collected it and disappeared.
21. We have suggested to HMRC that they
could consider a limit (like a credit limit) on input tax claims
for a VAT return period. If the limit is going to be exceeded
the trader should be required to notify HMRC in advance and obtain
their approval. Failure to give notice would mean a delay to the
repayment whilst a thorough investigation is carried out.
22. We recommend that the limit be set at
a generous level so that the trader will only rarely have to give
notice of an unusual claim such as when he buys premises or there
is a major change in trading. For example a business whose input
tax claims average £50,000 for each VAT Return period could
be given a limit of £100,000. A transaction limit could also
be set.
TRANSFERS OF
GOING CONCERNS
23. A fraudster involved in MTIC fraud may
prefer to take over an existing VAT registration in view of the
delays in obtaining a new VAT registration. We think that checks,
similar to those made on new VAT registrations, should be made
when there is a transfer of a going concern. There is already
a requirement to notify HMRC within 30 days of the change of ownership.
HMRC could consider whether it would be useful to require the
transferor to obtain clearance from them in advance, and to specify
the nature of the new trade.
CHANGE OF
CONTROL OF
COMPANIES
24. HMRC could consider introducing a requirement
for a controlling shareholder to notify on the sale of a controlling
interest. For this purpose the controlling shareholder's holding
should be treated as including those of connected persons. Until
such notification, the controlling shareholder would be responsible
for the VAT obligations of the company. We think that checks similar
to those made on a new VAT registration should be carried out
where there is a change in the control of a company.
JOINT AND
SEVERAL LIABILITY
25. Since 2003 there has been a new joint
and several liability relating to the supply of specified goods
(computers, telephones etc). A taxable person who supplies specified
goods can be held liable for VAT on a previous or subsequent supply
of the same goods where he knew or had reasonable grounds to suspect
that the VAT would go unpaid.
26. In practice we think that this is a
very difficult liability to enforce in the case of those involved
in MTIC fraud. The necessary evidence is not normally available.
HMRC'S NEMESIS
DATABASE
27. We think that the operations designed
to capture data on unique identifier numbers in relation to mobile
phones will have an impact in reducing fraud involving the goods
identified. Unfortunately, it requires a great deal of administrative
work, and may only divert the fraudsters towards other goods.
6 October 2006
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