UK: Being Civil To MTIC Fraudsters

Last Updated: 3 April 2009
Article by Neil Swift

This article was first published in the Tax Journal, Issue 973, 23 March 2009

Neil Swift, an associate in the Fraud and Regulatory department of Peters & Peters, looks at attempts by HMRC to combat missing-trader fraud by non-criminal means

MTIC fraud has had such a devastating effect on the VAT free movement of goods between one EU state and another that it is hardly surprising that it has prompted Government to produce one quick fix response after another. The interaction of missing traders, buffers and brokers has led to the loss of thousands per transaction and millions or even billions of pounds per year.

The fundamental challenge for law enforcement has been that whilst financial rewards for the fraudsters have been high, the risk of being punished has been low. A sad fact recognised by the Public Accounts Committee. However, whilst the scale of the fraud appears to have peaked in 2005/6 with £4-6billion of attempted fraud, government efforts to combat MTIC fraud are paying dividends with a reduction in attempted fraud in 2007/8 to between £500million and £2billion.

Although it takes time for criminal prosecutions to progress through investigation to conviction, in its 2008 Departmental Report HMRC reported only 36 convictions throughout the whole of 2007. Given the scale of the fraud there is clearly a substantial criminal law enforcement deficit and notwithstanding the Government's apparent success in stemming the tide, MTIC fraud remains a sufficiently attractive and lucrative criminal enterprise to represent a threat to the Exchequer for some years to come.

Against this background, on 6 February 2009 HMRC published Notice 161, describing its policy of conducting civil investigations into and imposing civil evasion penalties on those knowingly involved in MTIC fraud.

Selective Approach To Criminal Investigation

It has never been the policy of Her Majesty's revenue-collecting departments, howsoever organised, to criminally investigate and prosecute all those suspected of tax offences. With its primary responsibility of collecting revenue, the resource-intensive and time-consuming approach of criminal investigation and prosecution has traditionally been reserved for the most serious cases, where only criminal sanction is appropriate and where successful prosecution can do most to encourage the compliance of others.

While this 'selective' policy has been the subject of challenge, the practice of offering the majority an administrative alternative, with the object of collecting the tax and interest and punishing the errant behaviour with a financial penalty, remains.

With the coming together of the Inland Revenue and HM Customs & Excise the Civil Investigation of Fraud (CIF) procedure became the non-criminal aspect of the policy. CIF continues to allow HMRC to give the taxpayer suspected of serious tax fraud the opportunity to co-operate and comprehensively disclose his or her wrongdoing, following which HMRC collects the tax, interest and appropriate penalty.

The Criminal Investigation Policy provides a non-exhaustive list of circumstances in which HMRC will commence a criminal rather than civil investigation. Rather than repeat the list in full it is sufficient to note those features commonly occurring in MTIC fraud: it is generally the territory of organised gangs conducting a systemic attack, often involves the use of false documents (such as invoices bearing hijacked VAT numbers, or providing a false trail for goods that do not exist), and is almost certainly part of a repeated course of unlawful conduct. More significantly, the Policy specifically states that one of the categories where HMRC would usually initiate criminal investigation is MTIC fraud.

So, one is prompted to ask, where does Notice 161 fit in? In a Written Ministerial Statement on 23 February 2009 Stephen Timms, Financial Secretary to the Treasury, stated that the new procedure is to be used where neither criminal investigation nor the CIF procedure is appropriate. At this point it should be noted that non-criminal enforcement measures have been used to tackle MTIC fraud for many years but before considering what the appropriate use for the new procedure might be, let us first look at the procedure itself.

Notice 161 Procedure

In cases where HMRC suspects that there have been serious indirect tax irregularities due to knowing involvement in MTIC fraud the first step will usually be a meeting between HMRC, the taxpayer and the taxpayer's professional adviser, at which HMRC will confirm:

  • the period(s) or return(s) it is investigating
  • that the investigation is not being conducted with a view to criminal prosecution in relation to those period(s) or return(s)
  • why HMRC suspects that there are serious indirect tax irregularities and
  • why HMRC believes that dishonest conduct has occurred.

The taxpayer is then given an opportunity to provide an explanation, including a wholly exculpatory one, for the suspected irregularities.

A significant point of difference from the CIF procedure is that rather than the taxpayer being encouraged to own up to his delinquency in full in return for an assurance that he will not be prosecuted for it, a taxpayer dealt with under Notice 161 should be warned of the possibility that disclosure of any irregularity outside the investigation's specified scope may be prosecuted criminally.

Although Notice 161 does not specifically invite the taxpayer to commission a formal disclosure report, it is implicit that the taxpayer, should he wish to co-operate with the enquiry, will need to make some form of disclosure, possibly accompanied by a payment on account. As in CIF cases, having considered the disclosure, HMRC reserves the right to make its own enquiries and if necessary may make use of its statutory information powers against both the taxpayer and third parties.

If the taxpayer does not wish to cooperate with the investigation he does not have to. However, if he does not, or if HMRC discovers that he has not done so as he should, there will be a consequential effect on the level of penalty.

The Notice states that if the taxpayer has been dishonest HMRC will normally apply a civil evasion penalty. However, if one assumes that the requirement of showing 'knowing involvement' refers not simply to the taxpayer's own transaction, but to being knowingly involved in a transaction which forms part of an MTIC fraud, it would appear that HMRC must suspect, and persuade the taxpayer that it can prove, actual knowledge of the fraud rather than means of knowledge. If that is correct, it is difficult to see how a taxpayer might persuade HMRC that while at the relevant time he had knowledge of the facts he had no dishonest intent. HMRC are bound to draw an inference of the latter from the former.

The usual principles of penalty mitigation will apply, with the appropriate reductions for an unprompted disclosure, an early and truthful explanation of the extent of the irregularities and how they arose, and full and prompt co-operation during the investigative process.

If dissatisfied with HMRC's written decision on the nature and extent of the irregularities and applicable penalty, further representations can be made but ultimately HMRC will issue a formal assessment. If dissatisfied the taxpayer can request a local reconsideration or appeal to the Tribunal.

MTIC Fraud -- Changing Law Enforcement Strategy

On one view Notice 161 simply reflects the evolution of HMRC's policy of dealing with MTIC fraud using means other than traditional criminal enforcement.

Although at the outset criminal prosecution was its primary weapon HMRC has, over time, used other measures to disrupt the fraud and stem the losses. Pressure has been exerted on UK banks to withdraw facilities from the relevant trade sectors. Alongside the introduction of statutory joint and several liability HMRC sought to promote an interpretation of the VAT legislation that would permit it to deprive innocent traders of the right to reclaim repayment of input VAT in so called tainted chains.

When this approach was rejected by the ECJ (in the Optigen, Fulcrum and Bond House cases) HMRC pursued a policy of extended verification of repayment returns. The ostensible purpose was to determine whether, in accordance with the Kittel test, the taxpayer knew or should have known that it was participating in a transaction connected with fraud. The indirect but no doubt fully intended effect of this was further disruption, with capital tied up for many months during the verification process, restricting the ability of even the blameless to trade. In response, fraudsters developed the practice of contra trading, where the dishonest broker offsets his claims for repayment of input VAT in the tainted chain against the output tax collected when importing and selling on goods in a second 'clean' chain of supply.

HMRC has increased the resources devoted to verifying new applications for VAT registration. The introduction of the reverse charge for mobile phones and CPUs has frustrated most of the business to business delinquency associated with these products. Fraudsters have had to look elsewhere for portable high value goods to move around, ranging from expensive motor cars to sports performance tablets. HMRC remains vigilant for attempts to circumvent the legislation.

Use Of The Procedure

HMRC has increased the resources devoted to verifying new applications for VAT registration. The introduction of the reverse charge for mobile phones and CPUs has frustrated most of the business to business delinquency associated with these products. Fraudsters have had to look elsewhere for portable high value goods to move around, ranging from expensive motor cars to sports performance tablets. HMRC remains vigilant for attempts to circumvent the legislation.

The procedure could be used as a means of dealing with knowing buffers. However, as buffers generally account for their VAT, it would appear that this must be coupled with the imposition of joint and several liability to yield significant tax revenues. Perhaps it is to be regarded as part of a wider plea-bargaining exercise to enlist assistance in prosecuting the major players. However if the buffer does not go on to give evidence for the Crown it remains to be seen what if any evidential use could be made of a confession and civil settlement against others in a prosecution for conspiracy to cheat.

It is perhaps a reflection of the changing nature of MTIC fraud that unlike the statutory counter measures employed, the Notice is not specific to a particular trade sector. This may well be to allow a rapid response to MTIC whatever the commodity, and whether the trader is thought to be totally delinquent or only selectively so. With that in mind perhaps the procedure could be used where a small but significant part of a taxpayer's activity was tainted by fraud.

Finally, given the cross-border nature of this type of crime, consideration must also be given to whether an assurance of non-prosecution by HMRC would provide any or sufficient protection in relation to the possibility of an overseas criminal enquiry, particularly suspected money laundering.

Conclusion

It is safe to assume that criminal investigation and prosecution in this area is still an important part of HMRC's overall enforcement strategy but the circumstances in which appropriate use will be made of a civil remedy against those who acknowledge their dishonest involvement in this most serious type of tax fraud remains to be seen.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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