“Article 1 1. This Directive establishes the common system of …VAT. 2. The principle of the common system of VAT entails the application to goods and services of a general tax on consumption exactly proportional to the price of the goods and services, however many transactions take place in the production and distribution process before the stage at which the tax is charged. On each transaction, VAT, calculated on the price of the goods or services at the rate applicable to such goods or services, shall be chargeable after deduction of the amount of VAT borne directly by the various cost components … Article 2 1. The following transactions shall be subject to VAT: (a) the supply of goods for consideration within the territory of a Member State by a taxable person acting as such … Article 167 A right of deduction shall arise at the time the deductible tax becomes chargeable. Article 168 Insofar as the goods and services are used for the purposes of the tax transactions of a taxable person, the taxable person shall be entitled, in the Member State in which he carries out these transactions, to deduct the following from the VAT which he is liable to pay: (a) the VAT due or paid in that Member State in respect of supplies to him of goods or services, carried out or to be carried out by another taxable person …”
“22. It is not, in fact, the taxable persons who themselves bear the burden of VAT. The sole requirement imposed on them, when they take part in the production and distribution process prior to the stage of final taxation, regardless of the number of transactions involved, is that, at each stage of the process, they collect the tax on behalf of the tax authorities and account for it to them.”
“Trader A, in an EU member state (say France), sells taxable goods to Trader B, in another member state (say the UK). In effect, Trader B acquires those goods free of VAT. Trader B, who is the defaulting trader in the UK (i.e. a trader who incurs liability to VAT but who goes missing without discharging that liability) or the trader using a hijacked VAT number (i.e. a trader using a VAT number belonging to someone else), sell the goods to a UK “buffer” (UK Buffer 1). Trader B charges VAT on the supply to UK Buffer 1. Trader B is liable to account to HMRC for the output VAT it has charged to its customer (UK Buffer 1), but goes missing before discharging that liability to the tax authorities. The goods can then be sold through a number of UK Buffer companies. The last UK Buffer company (UK Buffer 3 in this example) sells the goods to the UK Broker 1 (Trader C). UK Buffer 3 pays HMRC the output VAT charged after having deducted the input VAT paid. UK Broker 1/Trader C exports the goods to another Member State or outside the EU. Exports are exempt from VAT, but UK Broker 1 /Trader C is entitled to claim a refund of the input VAT paid on the purchase of the goods from HMRC. The resulting tax position is shown in the right hand column [in the diagram] (“VAT returns”). Should HMRC make this repayment, the loss of VAT by Trader B Is crystallised and goes on to fuel the next round of MTIC transactions. When UK Broker 1/Trader C’s purchaser is Trader A,there is what is known as a “carousel fraud”
““The arrangement centres around UK Broker 1 and its appearance, in this example, as a broker in one set of transactions and as an acquirer in a second set of transactions. The left hand column of transactions from bottom left to top left [in the diagram] (“Defaulter chain”) possesses the normal MTIC fraud characteristics, as described in the first example. UK Broker 1 appears as a normal broker in the defaulter chain and, having sold the goods outside the UK, is in a repayment position. The contra trade appears in the middle column [of the diagram] (“Contra trading chain”) where UK Broker 1 now acts as an acquirer and purchases goods directly from another Member State. UK Broker 1 then sells the goods (plus VAT) to UK Broker 2, who then sells the goods outside the UK to create a repayment claim. The resulting tax position is shown in the right hand column [of the diagram] (“VAT returns”). By off-setting its net output tax as an acquirer in the middle column with its net input tax as a broker in the left-hand column, UK Broker 1 ends up owing HMRC£1 . It has, therefore, disguised its own repayment claim by creating the contra trading chain with no (apparent) VAT loss. This does not matter to UK Broker 1, as another broker (UK Broker) appears not to be participating in a transaction chain that commences with a defaulting trader and who would therefore argue that there are no grounds for HMRC to withhold payment of his input VAT credit repayment claim pending verification. The “Contra-trading chain”, however, forms part of the overall scheme to defraud HMRC, as it forms no more than an extension of the original transaction chain commencing with a defaulter (“Defaulter chain”). Should HMRC make this repayment to Broker 2, the loss of VAT by Trader B is crystallised and goes on to fuel the next round of MTIC transactions.”
“43. … an analysis of the definitions of taxable person and economic activities shows that the scope of the term economic activities is very wide, and that the term is objective in character, in the sense that the activity is considered per se and without regard to its purpose or results.”
“51. In the light of the foregoing, it is apparent that traders who take every precaution which could reasonably be required of them to ensure that their transactions are not connected with fraud, be it the fraudulent evasion of VAT or other fraud, must be able to rely on the legality of those transactions without the risk of losing their right to deduct the input VAT … 52. It follows that, where a recipient of a supply of goods is a taxable person who did not and could not know that the transaction concerned was connected with the fraud committed by the seller, Article 17 of the Sixth Directive must be interpreted as meaning that it precludes a rule of national law under which the fact that the contract of sale is void, by reason of a civil law provision which renders that contract incurably void as contrary to public policy for unlawful basis of the contract attributable to the seller, causes that taxable person to lose the right to deduct the VAT he has paid. It is irrelevant in this respect whether the fact that the contract is void is due to fraudulent evasion of VAT or to other fraud.”
“53. By contrast, the objective criteria which form the basis of the concepts of ‘supply of goods effected by a taxable person acting as such’ and ‘economic activity’ are not met where tax is evaded by the taxable person himself … 54. As the Court has already observed, preventing tax evasion, avoidance and abuse is an objective recognised and encouraged by the Sixth Directive …Community law cannot be relied on for abusive or fraudulent ends … 55. Where the tax authorities find that the right to deduct has been exercised fraudulently, they are permitted to claim repayment of the deducted sums retroactively …. It is a matter for the national court to refuse to allow the right to deduct where it is established, on the basis of objective evidence, that that right is being relied on for fraudulent ends. “56. In the same way, a taxable person who knew or should have known that, by his purchase, he was taking part in a transaction connected with fraudulent evasion of VAT must, for the purposes of the Sixth Directive, be regarded as a participant in that fraud, irrespective of whether or not he profited by the resale of the goods. ” 57. That is because in such a situation the taxable person aids the perpetrators of the fraud and becomes their accomplice. 58. In addition, such an interpretation, by making it more difficult to carry out fraudulent transactions, is apt to prevent them. 59. Therefore, it is for the referring court to refuse entitlement to the right to deduct where it is ascertained, having regard to objective factors, that the taxable person knew or should have known that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT, and to do so even where the transaction in question meets the objective criteria which form the basis of the concepts of ‘supply of goods effected by a taxable person acting as such’ and ‘economic activity’. 60. It follows from the foregoing that the answer to the questions must be that where a recipient of a supply of goods is a taxable person who did not and could not know that the transaction concerned was connected with a fraud committed by the seller, Article 17 of the Sixth Directive must be interpreted as meaning that it precludes a rule of national law under which the fact that the contract of sale is void - by reason of a civil law provision which renders that contract incurably void as contrary to public policy for unlawful basis of the contract attributable to the seller - causes that taxable person to lose the right to deduct the VAT he has paid. It is irrelevant in this respect whether the fact that the contract is void is due to fraudulent evasion of VAT or to other fraud. 61. By contrast, [my underlining] where it is ascertained, having regard to objective factors, that the supply is to a taxable person who knew or should have known that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT, it is for the national court to refuse that taxable person entitlement to the right to deduct.”
“38. … if one asks whether, if contra-trading as so described is established, it would satisfy the Kittel test, my answer is yes it would. It has the relevant connection. Indeed such trading is put in place for the express purpose of providing a diversion or a smokescreen.”
“67. The tribunal has little hesitation in applying the test potentially across the whole of any relevant chain of transactions, and not limiting it to the contract of sale to, and the contract of sale by, the taxable person. It does so bearing in mind the evidence it has seen of the deals in these appeals already. It is over-simplistic to look only at the individual contract of sale or purchase. … Kittel was also concerned with the contract of sale itself. But the Court did not blind itself, and its judgments should not be used to blind others, to the context of what it decided. … 71. The tribunal therefore does not accept that there is any specific limit “up” or “down” the chain to the knowledge to be considered by a taxable person. More specifically, the taxable person may be alerted to third party elements in its contracts by the terms of those contracts, by its counterparties, or by others of the web of supporting contracts that facilitate the trade. … 75. [The test is] … Has the taxable person, at the time of entering a transaction involving payment of value added tax by or to that person, and taking into account the actual knowledge of the taxable person at that time … taken all proportionate steps available to it to ensure that, on the balance of probabilities, no aspect of the transaction is connected with any other party involved in, or any other transaction involving, fraud on the public revenue through the value added tax system?”
“Accordingly, whilst it is legitimate for the measures adopted by the member states to seek to preserve the rights of the treasury as effectively as possible, they must not go further than is necessary for that purpose. They may not therefore be used in such a way that they would have the effect of systematically undermining the right to deduct VAT, which is a fundamental principle of the common system of VAT established by the relevant Community legislation.”
“In fact, the right to deduct provided for in Article 17 et seq of the Sixth Directive is an integral part of the VAT scheme and in principle may not be limited.”
“(e) The CJE’s analysis in Kittel focuses on the circumstances in which a taxable person’s entitlement to the right to deduct is to be refused. It focuses on the amount the taxable person seeks to deduct. The judgment makes no reference to the amount of tax originally lost from the fraud or that entitlement to the right to deduct is to be calculated by reference to the amount of that original tax lost.”
“14. If the input tax claim of the second broker (trader B) were denied by HMRC because trader B knew or should have known he was an accomplice in a VAT fraud, and/or there was no genuine supply, and the transaction put back as though no supply had taken place, it would result in the output tax of the broker (trader A) being cancelled and the contra-broker (trader A) reverting back to the status of a ‘ordinary’ broker in an MTIC VAT carousel fraud.”
“It must also be borne in mind that a finding of abusive practice must not lead to a penalty, for which a clear and unambiguous legal basis would be necessary, but rather to an obligation to repay, simply as a consequence of that finding, which rendered undue all or part of the deductions of input VAT.”
“In the situations referred to … Member States may provide that a person other than the person liable for payment of VAT is to be held jointly and severally liable for payment of VAT.”
“27. By its questions, which must be considered together, the referring court asks essentially whether, where a recipient of a supply of goods is a taxable person who did not and could not know that the transaction concerned was part of a fraud committed by the seller, Article 17 of the Sixth Directive must be interpreted as … [precluding the rule of national law which caused such innocent taxable person to use his right to deduct that tax]. 28. The referring court also asks whether the answer to that question is different where the taxable person knew or should have known that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT.”
“If JF were correct, then HMRC would be powerless to prevent massive fraudulent claims involving multiple chains in different goods. It cannot be right that Community law sanctions sophisticated VAT fraud. It is an absurd proposition that the Sixth Directive permits for instance a defaulter, contra-trader and broker to conspire to create a tax loss, offset that loss into another supplier and then deliberately and fraudulently claim an input tax refund.”