Success in Tax Tribunal | A Major Win in VAT & Kittel Case
KANGS has successfully represented a well-established UK based construction company and its director in VAT related proceedings against HMRC before the First-tier Tax Tribunal.
Hamraj Kang, senior partner of KANGS provides some background on the case and details the issues addressed by the KANGS Tax Litigation Team to achieve this successful result.
KANGS has a strong history dating back to 1997 of successfully representing both corporate and individual clients in VAT litigation. Our expertise encompasses a wide range of matters, including both civil tax investigations and criminal tax fraud investigations.
In this case, our client company (CCSL) and its director (KC) were engaged in the supply of construction and concrete formwork. HMRC contended that the supply chains utilised by CCSL could be traced back to a substantial tax loss, and furthermore alleged that KC knew, or should have known of, this connection.
Background
On behalf of CCSL and its director KC, we lodged appeals against the following decisions made by HMRC:
- A decision to refuse CCSL’s claim to deduct input tax claimed on the purchase of labour from another company (WCL) on the basis that those transactions resulted from the fraudulent evasion of VAT and that CCSL knew, or should have known, that this was the case (applying the Kittel Principle).
- A decision to assess CCSL to a penalty in accordance with section 69C of the Value Added Tax Act 1994 (‘VATA 1994’).
- A decision to assess the company director (KC) to a penalty in accordance with section 69D of VATA 1994.
The Issues in the Case
The right to deduct input tax under the VAT Act 1994 is fundamental for taxable persons.
HMRC's denial of this right in this case was based on the Kittel Principle, a test originally established in the Court of Justice of the European Communities (‘CJEU’) case of Kittel v Belgium and Belgium v Recolta Recycling SPRL, which states that a taxable person loses the right to deduct input tax if they knew or should have known that their transaction was connected to fraudulent VAT evasion.
The Tax Tribunal's task in the CCSL case was to determine whether all four elements of the Kittel principle criteria were satisfied.
It was common ground between the parties that there was a VAT loss, and that this loss resulted from a fraudulent evasion.
The key issues in dispute were firstly, whether the transactions conducted by CCSL were connected with that fraudulent evasion and secondly, if so, whether CCSL and its director knew or should have known that the transactions were connected to fraud.
When HMRC invokes the Kittel Principle it is well established that the responsibility lies with HMRC to prove each element of the test laid down by the CJEU, and the standard of proof is the civil standard of the ‘balance of probabilities’.
The Hearing
The contested hearing featured live testimony from both parties. Officers from HMRC and representatives from CCSL were called to give evidence, and each was subjected to cross-examination to assess the validity and accuracy of their claims.
HMRC's argument hinged on the claim that all labour supplied to CCSL by WCL could be traced back to companies identified as ‘fraudulent defaulters’, which were known to have evaded VAT. In this context, HMRC characterised WCL not as a fraudulent defaulter itself but rather as a ‘buffer company’ within the supply chain.
The Tribunal was presented with a comprehensive analysis of the trading chains, which CCSL argued did not support the conclusions drawn by HMRC. The evidence presented highlighted discrepancies and complexities in the trading relationships that undermined HMRC's findings.
The Tribunal was informed that there was evidence of additional supplies not associated with defaulting traders, indicating that HMRC had not established, on the balance of probabilities, that the transactions in question were actually linked to the fraudulent defaulters. Furthermore, the Tribunal observed discrepancies in WCL’s VAT and CIS returns, which suggested the possibility of legitimate labour supply activities that extended beyond those connected to fraudulent defaulters.
The Tribunal agreed with the above analysis and ruled that while WCL did utilise these fraudulent defaulters, there was insufficient evidence to conclusively link CCSL's transactions to these instances of fraud.
Consequently, this finding alone was enough to decide the Tax Tribunal case in favour of CCSL and its director KC.
Knowledge of Fraud: The Issues
In the light of the Tribunal’s findings above, it was not strictly necessary for the Tribunal to address the issue of ‘knew or should have known’. However, it opted to conduct a further analysis as it had heard extensive arguments on the topic during the trial.
The Tax Tribunal went on to examine whether CCSL knew or should have known about the fraudulent connections related to the transactions with WCL.
Various issues were raised, requiring the Tax Tribunal to assess the importance of several factors in the case. These included the existence of multiple VAT Deregistration VETO Letters, the details of CCSL's due diligence practices, visits by Local VAT Officers to VAT-registered traders, the composition of invoices, trading patterns, the length of trading chains, and how commercial relationships influenced the actions of the parties involved.
Knowledge of Fraud: The Tribunal’s Conclusion and Decision
The Tax Tribunal had previously determined that HMRC had failed to meet the burden of proof required to establish a connection between the transactions conducted by CCSL and fraudulent VAT evasion.
The Tribunal also noted that even if it were to be proven incorrect regarding the ‘connection’ issue, after considering the evidence as a whole, it did not find that HMRC had demonstrated that CCSL was aware that the transactions were linked to fraud.
The Tribunal determined that HMRC had not established that the 'only reasonable explanation' for the circumstances surrounding CCSL's transactions with WCL was a connection to fraud.
Furthermore, the Tribunal affirmed that HMRC had not established, on the balance of probabilities, that CCSL should have known that the transactions were connected to fraud.
The Final Tax Tribunal Ruling
This decision marked a significant victory for our client, CCSL, and its director, KC, on all counts. The Tribunal ruled in favour of our client regarding every issue that was under dispute.
As the appeal against the Kittel decision was allowed, it followed that the appeals against the company penalty on CCSL and the company director penalty on KC were also both allowed.
How Can We Help?
The decision in this case highlighted the complexities involved in tracing transactions through supply chains and the burden of proof placed on HMRC to establish connections to fraud in Kittel cases.
In many instances, it is crucial to put HMRC to strict proof. The mere fact that a Tax Assessment has been issued does not necessarily mean that it is accurate or correct.
It is essential to consult with HMRC tax specialists as soon as a dispute is anticipated. Taxpayers often receive advance warning through correspondence or compliance visits from HMRC, which can signal the impending issuance of a formal Tax or VAT Assessment against the company, along with Penalty Notices for both the company and its individual officers.
We have significant experience in supporting taxpayers facing disputes and investigations with HMRC. What sets us apart is our comprehensive expertise in both civil tax investigations and more serious criminal tax investigations.
Our highly experienced HMRC Tax Team is available via:
Tel: 0333 370 4333
Email: info@kangssolicitors.co.uk
We provide initial no obligation discussion at our three offices in London, Birmingham, and Manchester. Alternatively, discussions can be held through live conferencing or telephone.
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