Summary

Where a trader had actual knowledge that he was participating in a transaction which formed part of a chain whose purpose was the fraudulent evasion of tax, or had failed to take all reasonable steps to guard against it, then even when he had no privity of contract with the perpetrator he would forfeit his right to deduct input tax.

Facts

The appellant companies (C and O) appealed against a decision by the respondent commissioners refusing to pay their input tax repayment claims. C bought consignments of mobile phones from other United Kingdom traders which it sold immediately to customers, usually in other Member States. In many cases C sold phones to O which then sold the consignment on to a trader in another Member State. The commissioners had traced back chains of transactions which led to C and O's acquisitions, and maintained that it could be inferred that the true purpose of the chain had been to defraud the revenue by means of a missing trader intra-community fraud. It was also alleged that they had been involved in contra-trading and that in those cases the traders involved had correctly accounted for VAT in order to conceal fraud or make its prevention more difficult. C and O's proprietor (G) provided evidence that after three years of trading C had a turnover of £406 million and that O had achieved a turnover of £120 million in eight months of trading. The issues for determination were (i) whether a tax loss referable to the supply chain had been proved; (ii) if so, whether the fraudulent nature of the tax loss had been proved; (iii) whether the relevant tax loss had been suffered at the time of C and O's transactions; (iv) whether C and O had known, or had the means of knowledge, of the relevant tax loss in the supply chain in question at the time of entering into their transactions in that supply chain. C and O submitted that they had not forfeited their right to deductions for input tax since, if there had been any tax loss due to fraud, they had no means of knowing that such a loss had occurred, or was likely to occur, and had taken all reasonable steps to guard against it.

Held

It was incumbent on the commissioners to raise a case which was sufficient to demand an answer that there were facts or circumstances which supported, or was at least consistent with, the conclusion that the trader had known of, or should have known of, fraud in the chain. The mere fact that there was fraud would not be enough, and there had to be some basis on which to conclude that the trader had known of it or should have taken some reasonable precaution to guard against it, Kittel v Belgium (C439/04) (2006) ECR I-6161 considered. In the instant case the commissioners had demonstrated on a balance of probabilities that there had been a tax loss that was attributable to fraud. There was no obvious pattern to the transactions of a sequence of traders drawn from a finite pool. The ability of any of them to generate turnover of such magnitude and in such a short period was implausible and there was almost nothing in the transactions which was consistent with a genuine market. The manner and content of G's evidence had shown that he had been well aware that C and O had dealt in goods which were being used as the instruments of fraud and that the transactions had been arranged for no other purpose. There was no doubt that almost all of the relevant transactions had been wholly artificial and C and O had entered into them only to benefit from the fraud. The absence of any rational explanation for the fact that C and O had dealt with each other suggested an illegitimate motive and that the only reasonable explanation was that it was to shift VAT liabilities and available claims from one to the other. If a trader in the position of C and O had actual knowledge that he was participating in a transaction which formed part of a chain whose purpose was the fraudulent evasion of tax, then even if he had no privity of contract with the perpetrator of the fraud, he would forfeit his right to deduct, Dragon Futures Ltd v Revenue and Customs Commissioners (2006) V & DR 348 and R (on the application of Just Fabulous (UK) Ltd) v Revenue and Customs Commissioners (2007) EWHC 521 (Admin), (2007) BTC 5522 applied. C and O had been properly deprived of their right of deduction. Having concluded that C and O had had actual knowledge of the fraudulent purpose of the transactions, there was no requirement to question whether they had the means of knowledge. However, had such a finding not been made it would be impossible not to conclude that they had failed to take reasonable precautions to ensure that their transactions had not been connected with fraud, as their due diligence and response to it had fallen well below the requisite standard. The creation and assembly of documentation relating to each deal in which they entered and their due diligence were designed only to persuade the commissioners that they were legitimate traders. The appeal was allowed in respect of one conceded transaction but was otherwise dismissed.

Appeal allowed in part