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The following is an article written by David Bedenham about HMRC’s wide-ranging application of the ‘Kittel principle’. The current focus appears to very much be on the labour supply industry and the allegation of ‘Mini Umbrella Company Fraud’ (or ‘MUC Fraud’).  This article highlights the need for taxpayers to get specialist advice at an early stage when faced with a Kittel decision. If you have any queries about Kittel-related issues or similar denials of input VAT or assessments to VAT, please contact Iain MacWhannell (imw@jha.com).

On July 6, 2006, the Court of Justice of the European Union (CJEU) handed down the decision in Axel Kittel v Belgium; Belgium v Recolta Recycling SPRL (Kittel).

Few could have predicted just how extensively HMRC would come to use the Kittel power to deny input VAT to taxpayers operating in a variety of sectors (mobile phones, CPUs, computer software platinum, airtime/VOIP, alcohol and, more recently, labour supply and the payroll sector).

Shortly after the CJEU’s decision, I was seconded from Chambers to the fledgling Kittel team at HMRC’s Solicitor’s Office. There I worked on some of the very first Kittel cases (which at that time largely related to mobile phones, CPUs, and computer software). Once I returned to Chambers, I began to appear regularly for HMRC in Kittel cases. Since 2012, I have acted exclusively for taxpayers in a variety of indirect tax appeals including some of the most significant Kittel cases to date (e.g. the very recent case of PTGI v HMRC [2022] UKFTT 20 (TC) where the appeal against a £19m denial of input tax was allowed in full).

Based on those 16 years of experience of litigating cases involving the Kittel principle (and other associated principles such as those in Mecsek-Gabona, Fini, Ablessio and Facet), I set out below 16 pointers that I hope will be of use to those conducting Kittel appeals. These are not meant to be an exhaustive guide on how to conduct a Kittel case. Rather, they are some of the things that you might want to think about and, where appropriate, take advice on:

1. The decision letter: Ideally, you will have taken specialist advice as to how to best engage with HMRC during the investigation stage (i.e. before the decision letter arrives). Sometimes a stitch in time really can save nine. However, once HMRC has taken the decision to issue a Kittel decision, it is a rare case that they do not then see through to the end.

Once the decision letter arrives, review it carefully. Is it only Kittel that is being relied on? Or have HMRC also relied on other grounds to deny input tax (e.g. Mecsek, Fini or inadequate evidence for zero-rating)? What VAT periods does the denial relate to? Are HMRC out of time?

2. Grounds of Appeal: In some Kittel cases, it may be sufficient to state, in relatively simple terms, that the Appellant disputes the connection with fraud and denies that it knew or should have known of that connection. However, if there are other grounds for challenging the Kittel decision (such as HMRC being out of time or a challenge to whether knowledge of a given individual can be attributed to the Appellant), these should be articulated at this early stage. If they are not, the Appellant runs the risk of being shut out from arguing them (or at the very least of having to apply to amend with all of the costs and delay that goes with that). Also, if there are other bases for the decision (Mecsek, Fini etc), it is important that the Appellant sets out its grounds for challenging those as well.

3. HMRC’s Statement of Case – is dishonesty alleged against the Appellant?: The Court of Appeal in HMRC v Citibank; HMRC v E Buyer UK Ltd [2017] EWCA 1416 (Civ) held that an allegation that an appellant knew or should have known of a connection with a third party’s fraud does not require HMRC to allege fraud or dishonesty against the appellant. However, where HMRC do choose to make an allegation of dishonesty or fraud against an appellant, it must be “pleaded, particularised and proved in the same way as it would have to be in civil proceedings in the High Court”.

4. HMRC’s Statement of Case – is there an allegation of an “overall scheme to defraud”? – HMRC often allege that the transactions on which input tax have been denied were part of a wider “scheme to defraud” and that the existence of such an overall scheme is relevant to the Appellant’s state of knowledge. If such an allegation is made it will be important to not only assess whether there is evidence of the existence of such a “scheme” but also whether the scheme as alleged is actually capable of being probative of the Appellant’s knowledge (i.e. HMRC sometimes assert that the presence of such a scheme means that the Appellant “must have been told who to buy from and who to sell to” – but is there any evidence of that?).

5. HMRC’s Statement of Case – are there any other bases for the decision? – Even if Kittel was the only basis given in the decision letter, HMRC sometimes include alternative bases (such as Fini or inadequate evidence of zero-rating) in the Statement of Case. If HMRC do adopt this approach, the Appellant may need to seek to make a corresponding amendment to the grounds of appeal.  If HMRC raised alternative bases in the decision letter but have not addressed these in the Statement of Case, it may be advisable to flush this issue out in correspondence so that the Appellant knows what case it is facing.

6. HMRC’s evidence: This should be carefully reviewed as soon as possible after receipt. Leaving detailed review until shortly before the hearing is a recipe for disaster. Does the evidence support the allegations made in the Statement of Case? By way of example, where HMRC have alleged that someone further up the chain has fraudulently defaulted, does the evidence show that (1) there has been a default; (2) that default is in relation to the Appellant’s supply chain; and (3) the default was the result of fraud (rather than, for example, ordinary business failure).

Also check whether the evidence raises any new issues that have not been set out in the Statement of Case. It may be that HMRC will need to seek to amend their Statement of Case to raise these new issues (and the Appellant will need to consider whether it will object to that amendment)

7. Requesting Further and Better Particulars of HMRC’s case: sometimes the Statement of Case (even when read with HMRC’s evidence) leaves the Appellant in the position of not knowing what exactly HMRC’s case is. On some occasions, the Appellant might be best advised to simply let HMRC proceed with the vague allegation and raise the argument in due course that HMRC ought to be held to their pleaded case. On other occasions, the Appellant would be best advised to ask HMRC to provide details (“Further and Better Particulars”) of exactly what HMRC are alleging. This will be a very important and fact-sensitive decision so it is sensible for advice to be obtained before making such a request.

8. Disclosure: Under the Tribunal rules, HMRC (and the Appellant) need only disclose the documents upon which they intend to rely. However, where there is reason to believe that HMRC hold other documentation that may assist the Appellant’s case or undermine HMRC’s case, an application for specific disclosure can be made to the Tribunal. Before applying to the Tribunal, the Appellant should ask HMRC to voluntarily provide the additional material and explain why it is relevant (e.g. there may be reports of visits to the alleged defaulters that may be relevant to the issue of whether they were behaving fraudulently or not). Again, whether to seek specific disclosure is an important and fact-sensitive decision so it is sensible for advice to be obtained before requesting disclosure.

9. The Appellant’s evidence – witness statements: witness statements should not include legal submissions (which is often forgotten by both sides), and should focus on the facts (albeit the legal position obviously demarcates what facts are relevant). As well as setting out the Appellant’s positive case, the Appellant’s evidence should also respond fully to the factual aspects of HMRC’s case (to the extent that what is said by HMRC is within that witness’s knowledge). By way of example, if HMRC allege in the Statement of Case or in evidence that there was “no price negotiation”, this (assuming it is incorrect) needs to be specifically addressed and evidenced (by a witness statement making clear that there was price negotiation and explaining how that negotiation was conducted, and exhibiting any documents in support).

10. The Appellant’s evidence – industry knowledge: HMRC (and the Tribunal) may have limited experience of your industry. Explain it. Explain the opportunities and why they exist. Explain the market and the different sorts of market participants (and where the Appellant fits in). In short, explain how it all works. Circumstances that might look suspicious or questionable can take on a different slant when the industry and its norms are properly understood.

11. The Appellant’s evidence – the Appellant’s documents: If an Appellant wants to rely on a document, it needs to be exhibited to a witness statement (and/or, depending on the directions made in the appeal, included on a List of Documents). It is no good for an Appellant’s witness, when cross-examined on the absence of documentation, to reply “I’ve got that at the office/on my computer”.

12. The Appellant’s evidence – HMRC’s documents: If HMRC have exhibited documents such as letters or visit reports that set out a certain version of events (e.g. at a meeting the Appellant’s director said “x”) and the Appellant disagrees with that version of events, this disagreement should be specifically set out in the Appellant’s witness evidence. Similarly, if HMRC exhibits documents addressed to the Appellant and the Appellant disputes having received them, this dispute should be specifically set out in the Appellant’s witness evidence.

13. The Appellant’s evidence – the circumstances of the transactions: In Mobilx, the Court of Appeal made clear that it is not enough for HMRC to prove simply that someone in the position of the Appellant should have known that it might be taking part in a transaction connected with fraudulent evasion of VAT. Rather, the “should have known” limb will only be satisfied if the Appellant should have concluded that “the only reasonable explanation for the transaction…was that it was connected with fraud.” In AC (Wholesale) Ltd v HMRC [2017] UKUT 191 (TCC), the Upper Tribunal stated that HMRC are not required to rule out every possible explanation (even where not raised by the Appellant) but also said:

“Of course, we accept (as, we understand, does HMRC) that where the appellant asserts that there is an explanation (or several explanations) for the circumstances of a transaction other than a connection with fraud then it may be necessary for HMRC to show that the only reasonable explanation was fraud…”

Accordingly, if the circumstances relied on by HMRC to demonstrate that the Appellant (knew or) should have known of the connection with fraud can be explained, that explanation should be raised in the Appellant’s witness statement (and supported by documentation where possible). By way of example, in a recent case in which I acted for the Appellant, HMRC referred to the fact that the Appellant’s sales and purchases were “back-to-back” (that is, the same volume of goods were bought and sold such as to mean that there was never a need to “hold” stock). However, the Appellant was able to adduce evidence that in its industry back-to-back trading is part of normal, legitimate trading such that it could not be said that fraud was the “only reasonable explanation”.

14. Notices of Issues (Fairford direction): Even though the burden of proof in a Kittel case is on HMRC, the Appellant can be required by the Tribunal to set out what is in issue in the appeal (often referred to as the Tribunal giving a Fairford direction). Where such a direction is given, it is important that it is properly complied with. An Appellant is ill advised to simply say “everything is in issue” as a Tribunal may well hold that such an approach is a breach of the direction.
     
15. Penalties and personal liability: HMRC have various powers to not only issue penalties to the Appellant but also to seek to make those involved in the management of the company personally liable for those penalties. Depending on the dates of the transactions, HMRC may, for example, use the power under Schedule 24 of the Finance Act 2007 or the powers under s69C and s69D of the Value Added Tax Act 1994. It is important to identify the power used (and to ascertain whether HMRC are permitted to use that power on the given facts), not least because different time limits apply depending on the power used. Penalties can sometimes be issued years after the initial Kittel decision – so it is not safe to assume that because no penalty has been issued at the same time as the Kittel decision, one will not follow at a future date. This makes it very important to think carefully (and take appropriate advice) before taking any steps to, for example, put a company that has received a Kittel decision into liquidation rather than appealing that decision. In certain circumstances, a failure to appeal a Kittel decision (or a penalty decision) on behalf of a company can restrict the arguments that can be raised on a later appeal against a personal penalty (although the Court of Appeal has recently confirmed that whether there can restraints imposed on the arguments that can be raised is fact sensitive – HMRC v Kishore [2022] EWCA Civ 1565).
     
16. Misfeasance and breach of directors’ duties: Even if HMRC do not pursue personal liability directly, a liquidator of a company that is indebted to HMRC can look to bring claims against individuals in the civil courts to recover amounts equivalent to the sums owed by the company to HMRC. That is what happened in one of my early cases (Abbey Forwarding (in Liquidation) v Hone and Others [2010] EWHC 2029 (Ch) albeit in that case the High Court judge found that HMRC had not established fraud less still any breach of duty leading to personal liability. Accordingly, before making any decision not to pursue an appeal against a Kittel decision, or to put the taxpayer company into liquidation, thought should be given to the potential ramifications.

Kindly reprinted with the permission of David Bedenham.

What is domicile?

The concept of “domicile” has been heavily discussed in the media in recent weeks. But what is domicile and why is it important?

In short (and losing a lot of the nuance) an individual’s domicile is the place of their permanent home. A home is more than just a place of residence. An individual’s residence is where they are currently living and this may change from year to year. Even an individual’s main residence where they spend the majority of their time is not the same as their domicile.

A person acquires a domicile at birth from their father, or if their parents are unmarried then from their mother. This is known as their “domicile of origin”. So Mr Smith born to English-domiciled parents has an English domicile of origin, irrespective of where he is born in the world.

An individual’s domicile can change over time and if it does, the individual is said to have acquired a “domicile of choice”. Two elements are required in order to establish domicile;

a) The individual must actually physically live where they intend to become domiciled, and

b) The individual must intend to reside permanently and indefinitely in that jurisdiction, with no end in sight.

For example if Mr Smith aged 30 moved from the UK to France to work for 10 or even 30 years he would not lose his English domicile as long as he does not intend to reside permanently in France. If he later decided he would like to stay in France permanently, he would lose his English domicile of origin and acquire a French domicile of choice at that stage. Alternatively, if Mr Smith intended to remain in France permanently and indefinitely from when he arrived he would obtain a French domicile of choice from the point of arrival, whether he moved aged 30 or much later in life, say to retire at 65.

Why does it matter?

Individuals who are domiciled outside of the UK (“non-doms”) have access to a number of favourable tax regimes. Among the most useful is the remittance basis of taxation, which allows a non-Dom to shelter non-UK income and capital gains from UK tax as long they are kept offshore: Tax is paid only on foreign income and capital gains brought to (or otherwise enjoyed in) the UK. In contrast an individual with a domicile in the UK is taxed on their worldwide income and gains.

Non-doms also benefit from significant inheritance tax exemptions on non-UK property, both on death (saving 40%) and on otherwise chargeable lifetime transfers such as setting up trusts (a 20% saving).

HMRC’s Approach

The essence of the test of a person’s domicile is easy to state, but in reality more nuanced and very difficult to prove. Unsurprisingly given the tax advantages, HMRC are vigorous in enquiring into non-doms, especially individuals born in the UK but claiming non-dom status as a consequence of their parent’s domicile, and such enquires can be intrusive, all-encompassing and lengthy to conclude. The final arbiter will, if necessary, always be the courts, but taking specialist legal advice early in the process can help to smooth and speed up the enquiry process or avoid potentially costly mistakes where planning is undertaken that is dependent upon domicile.

Domicile and the political landscape?

The tax treatment of non-doms is a substantial political and financial question. Non-doms bring in about £8bn a year of taxes; to put that into perspective the new NICs increase will raise about £6m a year.

Labour have announced that they intend to abolish the non-domicile tax regime. No details on how this will be accomplished, or what will replace it, have been announced although the party are considering a move to a shorter-term scheme for temporary residents. This could, for example, see tax benefits only available to  individuals resident in the UK for no more than five years, in line with a number of other G7 countries. In 2000 Gordon Brown, then Chancellor of the governing Labour party, announced a similar review that was eventually scrapped.

The Conservatives have announced no plans to change the law around domicile or its tax benefits.

If you wish to discuss domicile or assistance with HMRC enquires, please contact your usual JHA contact or the author Tom O’Reilly at TOReilly@jha.com.

Tax note: Financial Institution Notices (FIN)

Paragraph 4A of Schedule 36 to the Finance Act (“FA”) 2008¹ provides HMRC with the power to obtain information and documents from financial institutions via a Financial Institution Notice (“FIN”).  According to HMRC, this power was “expected to have a negligible impact on about 20 financial institutions”,² such as banks and building societies.  HMRC is expected to inform the Treasury about the number of FINs issued “as soon as reasonably practicable after the end of each financial year”.³  Whether they had a negligible impact or not will be known with certainty following that report.

The main features of this power are:

1. FINs are documents issued by an authorised officer of HMRC to a financial institution requiring production of certain information specified within the FIN.
2. Two conditions must be met for HMRC to issue a FIN:
   1. It must not be ”onerous for the institution to provide or produce” the information, and
   2. The ”information or document is reasonably required by the officer” to check the tax position of a taxpayer or to collect a tax debt of the taxpayer.
3. The FIN must contain the name of the taxpayer to whom it relates and the reasons why the information is required.  The HMRC officer must give a copy of the FIN to the corresponding taxpayer.
4. Neither the FTT’s approval, nor the taxpayer’s consent, is necessary to issue a FIN.  A financial institution cannot appeal against a FIN.
5. Paragraph 61ZA of Schedule 36 to the FA 2008 establishes that financial institution means:
   1. Custodial institutions, depository institutions and specified insurance entities, as defined by the OECD’s common reporting standard for automatic exchange of financial account information, or
   2. “A person who issues credit cards”.
6. Schedule 34 to FA 2021 establishes additional rules for particular circumstances, including penalties for those who breach a requirement imposed under the new paragraph 51A of Schedule 36 to FA 2008.

¹Incorporated by s 126 of the Finance Act 2021.
²HMRC, “Amending HMRC’s Civil Information Powers” (3 March 2021).
³ FA 2021 s 126(4)(5).

Cantina Levorato SRL v. HMRC

[2021] UKFTT 461 (TC)

This decision of the FTT is interesting because:

1. The Appellant was an Italian company that was assessed to a UK tax on the basis of HMRC’s allegation that certain “irregularities” for the purposes of excise duty legislation had occurred in the UK element of the supply chain.  HMRC had issued a “Uniform Instrument Permitting Enforcement”, which was received by the Appellant from the Italian tax authorities.  HMRC conceded (and the FTT ruled) that this did not constitute a notification for the purposes of s 12 FA 1994.
2. The conclusion is different from several cases following  Honig v Sarsfield,¹ a Court of Appeal judgment that decided that the statutory time limit did not apply to the notice of the assessment.  For example, in Cirko v HMRC,² the FTT had upheld the assessment, concluding that the delay of the notification (two years after the assessment had been raised) had “no bearing on the validity of that assessment”.  Here, the FTT reached the opposite conclusion.
3. It is the first time that (as far as the authors are aware) the FTT has followed the test created by the Supreme Court in FMX Limited v HMRC³ to quash assessments.  Based on EU law, the principle states that legal certainty requires that assessments are communicated within a “reasonable time”.  Although the FTT had previously applied the test,⁴ it had (as far as the authors are aware) never invalidated an assessment based on it.  In this case the FTT found that the four-year delay between the raising (2013) and notification (2017) of the assessment did not represent a “reasonable time”.

¹ [1986] STC 246.
² [2019] UKFTT 0482 (TC).
³ [2020] UKSC 1.
⁴ Mr Stephen J Mullens v HMRC [2021] UKFTT 131 (TC).

The invasion of Ukraine has prompted the UK government to speedily publish the draft legislation for the Economic Crime (Transparency and Enforcement) Bill 2022 which requires foreign entities that acquire UK property (freehold interests or leases granted for more than 7 years) to register with Companies House and declare details of their beneficial ownership. Implementation will proceed at record pace following royal assent and ultimately the register could be open for public inspection (albeit with restricted access to date of birth and residential addresses of beneficial owners).

The objective of the Bill is to crack down on foreign criminals using UK property to launder proceeds of corruption.

Any non-UK entity that already owns (and indeed acquired at any time in the previous 20 years) or going forward buys UK land will be required by the new rules to disclose to Companies House details of its beneficial owners/individuals with significant control (broadly those owning more than 25% of the shares/voting rights or otherwise exercising significant control) in exchange for the issue of an ID number necessary to complete title registration. Information provided will need to be verified and updated annually. Sanctions for non-compliance of course will include restrictions on an ability to create charges over or dispose of the land as well as daily fines of £500 and/or criminal sanctions including prison sentences of up to 5 years.  At present those who already own land will have a grace period of 18 months to register.

The effects of the new legislation will be felt not only by the Russian oligarchs and kleptocrats it is aimed at but also by those families who have historically favoured holding UK land through offshore entities as a means of asset protection or to safeguard privacy for other reasons. The new rules when read alongside the expanded scope of the UK Trust Register are a significant step towards global transparency.

This article is a follow-up to our two previous articles of 20 August 2021 and 7 December 2021.

On 8 October 2021, the OECD/G20 published a statement confirming that 136 jurisdictions¹ had agreed to a two-pillar solution to address the tax challenges that arise from the digitalisation of the economy and setting out an implementation plan.

Regarding the “Pillar Two” component, a 15% global minimum tax on corporations was agreed upon, and model rules to give effect to the Global Anti-Base Erosion rules (the “GloBE rules”) were published on 20 December 2021. Shortly after, on 11 January 2022, the UK government launched a consultation on the UK’s implementation of the GloBE rules by 4 April 2022.

As mentioned in our last article, the Pillar Two component imposes a top-up tax on parent companies regarding the low-taxed income of subsidiaries (thereby decreasing the leverage of low-tax jurisdictions). It also incorporates a rule which denies deductions or requires an equivalent adjustment as an alternative to the first rule.

The recently published model rules define the scope and set out the mechanics of the GloBE rules. Their implementation is envisaged to be completed by 2023.

The GloBE Rules

• Chapter 1 defines the scope of the GloBE rules, which apply to members of an MNE Group with annual revenues of €750m or more. Tax authorities will use the Consolidated Financial Statements of the Ultimate Parent Entity (the “UPE”) to determine if the €750m threshold has been exceeded in at least two of the last four Fiscal Years. Certain entities, including pension funds, real estate investment vehicles, international organisations and NGOs fall outside the scope of the GloBE Rules.
• Chapter 2 sets out the methodology to determine the amount of the UPE’s Top-Up Tax liability. Very broadly:
  • The Income Inclusion Rule (“IIR”) provides that the UPE shall pay a tax in an amount equal to its allocable share of the Top-Up Tax of the corresponding low-taxed entity. The Top-Up Tax is allocated through a formula including the number of employees and the value of tangible assets in each jurisdiction.
  • The Undertaxed Payment Rule (“UTPR”) means that an entity shall be denied a deduction in an amount equal to the additional cash expense that an undertaxed entity should have. In other words, instead of paying extra tax, the relevant group entity is denied a deduction (thereby producing the same effect, in economic terms).
• Chapter 3 deals with the computation of GloBE Income or Loss. Transactions between entities located in different jurisdictions that are not consistent with the Arm’s Length Principle need to be adjusted. The income attribution rules in Article 7 of the OECD Model Convention are recognised for permanent establishments.
• Chapter 5 deals with the computation of the Effective Tax Rate and Top-Up Tax:
  • The Effective Tax Rate is the sum of the adjusted covered taxes (broadly, taxes on income or profits) of the MNE Group in a jurisdiction, divided by the “Net GloBE Income”² of the jurisdiction.
  • The Top-up Tax Percentage is the difference between the Minimum Rate (15%) and the Effective Tax Rate.
  • The formula also includes two carve-outs: one relating to the payroll costs of employees and another to the carrying value of qualified tangible assets.
  • There is also a de minimis exclusion: the Top-Up Tax for an entity shall be deemed zero if: (a) the average GloBE Revenue of that jurisdiction is less than €10m, and (b) the average GloBE Income is less than €1m.
• Chapter 8 addresses the administration of the GloBE Rules. Most notably, there is an obligation on MNE Groups to file a standardised information return in each jurisdiction that has introduced the GloBE Rules. There is also provision for certain safe harbours if the conditions provided under the GloBE Implementation Framework, which the Inclusive Framework on BEPS will develop, are met for the relevant fiscal year.

Implementation of the GloBE Rules in the UK

On 11 January 2022, HMRC launched a consultation on the implementation of the GloBE Rules into UK law. The key points are:

• An IIR will be included in the Finance Bill 2022-23 and will have effect from 1 April 2023, and a UTPR will follow on 1 April 2024 (at the earliest).
• The IIR and the UTPR will only apply to MNEs whose consolidated annual revenues are greater than €750m. The government says that a lower threshold could damage the UK’s attractiveness as a parent location for limited gains.
• The UK will only apply the IIR to UPEs of an MNE Group or intermediate parent entities of foreign headquartered groups when more than 20% is owned by investors in a jurisdiction that has not introduced Pillar Two.
• Another pending issue is the interaction between the GloBE Rules and the US’s Global Intangible Low-Taxed Income (“GILTI”) Regime. Whereas the UE’s relevant rules are incompatible with the GILTI Regime, the UK appears to have adopted the OECD’s position to engage with “international partners to reach solutions (…) as soon as possible”.
• The Research and Development Expenditure Credit Regime will be a Qualified Refundable Tax Credit. It will be treated as an addition to an MNE Group’s GloBE Income rather than a reduction in tax in the Effective Tax Rate calculation. HMRC says that this will “ensure RDEC continues to be an effective instrument for promoting R&D activity in the UK”.
• Finally, the UK is exploring the idea of introducing a Domestic Minimum Tax (“DMT”) to protect domestic taxing rights. The DMT would be closely based on the GloBE Rules, but instead of allowing a foreign country to charge top-up taxes in relation to low-taxed profits of an MNE Group’s entities in the UK, the UK would instead impose that top-up tax.
• One advantage would be to reduce compliance costs of UK headquartered groups by preventing them from being subject to the UTPR in multiple countries for their UK operations.
• The DMT would be implemented on 1 April 2024 or later. In this regard, we should note that the UK corporation tax will increase to 25% from 1 April 2023.

¹ 137 now with the inclusion of Mauritania on 4 November 2021.
² The GloBE Rules also define what is understood by Net GloBE Income.

SUMMARY

1. A so-called “MTIC case”, in which HMRC alleged knowledge or means of knowledge of fraud.  The taxpayer, PTGI, denied those states of knowledge.  After a relatively lengthy trial, the Tribunal allowed the appeal of PTGI.
2. The decision represents a good reminder that HMRC’s “MTIC” decision-making mould is not a “one size fits all”, unbeatable formula at the Tribunal.  The Tribunal will robustly analyse HMRC’s (usually) inference-led allegations.

BACKGROUND AND ISSUES

1. PTGI was a telecommunications company with a retail and a wholesale arm.  The retail arm focused on selling pre-paid telephone cards to individuals, and the wholesale arm focused on purchasing minutes used for the retail component and arbitrage trading.  At all material times, PTGI was wholly owned by its US parent company, PTGI-ICS Inc, a public company listed on the New York stock exchange.
2. On 20 February 2017, HMRC denied PTGI-ICS Limited (“PTGI” or the “Appellant”) the right to deduct input tax (£13.75M) claimed in VAT periods 06/15, 09/15 and 12/15.
3. On 18 August 2017, HMRC denied the same right (£5.42M) for VAT period 03/16.
4. HMRC claimed that PTGI incurred the input tax in transactions connected with the fraudulent evasion of VAT and that PTGI knew or should have known of this.
5. HMRC accepted that the burden of proof was on them and that the standard of proof was the balance of probabilities.
6. PTGI accepted that there was a tax loss at the start of each transaction chain and that the tax losses were attributable to the fraudulent evasion of VAT.
7. The issues are:
   1. Is there a tax loss?
   2. If so, does the tax loss result from fraudulent evasion?
   3. If there is fraudulent evasion, were the Appellant’s transactions connected with the fraud?
   4. If they were connected, did the Appellant know or should the Appellant have known that its transactions were connected with fraud?
8. PTGI accepted that there was a tax loss resulting from fraudulent evasion.  It also accepted the accuracy of the transactions’ descriptions, which were found to be connected to each loss via IKB or Indigo.  Therefore, the focus of the appeal was on the fourth question (the “knowledge question”).

FINDINGS

1. The FTT found that “what must be established, on the balance of probabilities, is that the Appellant should have known or should have known that the only reasonable explanation for the circumstances in which the relevant purchases took place was that they were transactions connected with such fraudulent evasion”.
2. The FTT said that it was “telling” that despite HMRC’s regular visits and the amount of information received from IKB and Indigo, neither was de-registered for VAT nor had input VAT claims been denied during the relevant period.  The Tribunal, therefore, concluded that, even if the due diligence had been different, it was unlikely that this would have given PTGI the means of knowing that the transactions were connected with fraud.
3. The FTT further concluded that the relevant surrounding circumstances did not establish that PTGI should have known of the connection to fraud and nor should it have known that the only reasonable explanation for its transactions was a connection with fraud.
4. The surrounding circumstances established a heightened risk that trading with IKB and with Indigo might have resulted in a connection with fraud and no more.
5. The FTT allowed this appeal.

HMRC has published a consultation on draft regulations to implement the Organisation for Economic Cooperation and Development (OECD) rules on mandatory disclosure of certain avoidance arrangements. Helen McGhee and Nahuel Acevedo-Peña explain the background to the new rules and their implications.

What is the history of the UK’s current disclosable arrangements regulations?

The OECD published the Model Mandatory Disclosure Rules (MDR) for CRS Avoidance Arrangements and Opaque Offshore Structures back in March 2018. The EU engineered its own version of these rules in parallel to the OECD, and these are set out in an amendment to the Directive on Administrative Cooperation, known as DAC 6.

DAC 6 was designed to give EU tax authorities early warning of new cross-border tax schemes by requiring intermediaries (including law firms, accountants and tax advisers) to file reports where arrangements met one of a number of hallmarks (in Categories A to E) that could be used to avoid or evade tax. As the UK was, at that time, an EU Member State, DAC 6 was implemented in the UK in January 2020 in the form of the International Tax Enforcement (Disclosable Arrangements) Regulations 2020, SI 2020/25 (for the purposes of this News Analysis the UK implementing regulations are simply referred to as DAC 6). It will not have gone unnoticed that the UK has now left the EU and the government has made the decision to implement the OECD model rules to replace the somewhat controversial EU version of the rules.

Why is the government proposing to introduce new regulations?

DAC 6 prompted some concern among the professional services industry regarding the onerous level of reporting required and the increased administrative burden placed on advisers. Perhaps as a result of the uproar and certainly to reflect the UK’s more global approach to tax transparency following its EU departure, the government amended the UK regulations (to ensure they remained operative from 1 January 2021) and introduced significant modifications to achieve closer alignment with the OECD MDR.

The hope is that adoption of a global MDR further promotes country by country consistency in the application of disclosure and transparency so that aggressive tax planning can be tackled at a global level.

What is the effect of the new regulations, and what differences are there from the existing rules?

The new regulations seek to achieve the same objectives as DAC 6 in requiring the disclosure and reporting of any aggressive cross-border tax arrangements (designed to facilitate non-compliance through the use of CRS avoidance arrangements and opaque offshore structures) in order to allow tax authorities to react promptly to tackle harmful tax practices.

MDR sets out broadly similar reporting requirements for intermediaries (including promoters who design or market the arrangement, service providers who assist or aid the implementation of the arrangement and sometimes taxpayers) as DAC 6 but with some discernible differences and important exemptions.

Many of the differences between the two regimes are minor nuances in the definitions (including a reference to reportable taxpayer in the MDR as opposed to a relevant taxpayer) but importantly HMRC proposes to take a similar approach to the interpretation of these terms in the context of the MDR as it took for DAC 6.

The key differences are the exemptions: see below.

Are there any exemptions from the requirement to report?

The exemptions represent a welcome relief for many tax professionals.

The consultation document states that the regulations are intended to avoid duplicate reporting where possible. Therefore a person may be exempted from reporting where the information has already been reported to HMRC or to a tax authority in a partner jurisdiction. Of real significance (following vehement discussions with the Law Society surrounding DAC 6), there is an exemption from reporting where disclosing the information would require the person to breach legal professional privilege.

For arrangements entered into during the period between 29 October 2014 and the date the regulations come into effect, the regulations will only require reporting of CRS avoidance arrangements, and not opaque offshore structures. Additionally in this period, the reporting requirement will only apply to promoters and not to service providers or taxpayers.

There is also a very welcome de minimis exemption that applies to exempt from reporting a potential CRS avoidance arrangement where the value of the financial account is less than US$1m.

Do historic arrangements need to be reported?

CRS avoidance arrangements entered into between the publication of the CRS (29 October 2014) and the date the MDR regulations come into force will need to be reported subject to the preceding exemptions.

Are we expecting revised HMRC guidance?

HMRC intends to publish guidance on MDR once the regulations are finalised and before the rules come into effect. We can expect that the guidance will be broadly consistent with the existing guidance at HMRC International Exchange of Information Manual IEIM 600000 except where there will be tweaks to reflect the OECD model or to address any gaps in the existing guidance.

When are the new regulations expected to come into force?

The new regulations are expected to come into force in summer 2022. It should be noted that while SI 2020/25, which implemented DAC 6 in the UK, will be replaced and repealed, those regulations will still have effect in relation to arrangements entered into before the MDR regulations come into force.

Should lawyers be advising their clients to do anything now to prepare?

As with DAC 6, there will potentially need to be an audit to ensure any necessary reporting of historic arrangements. The government has acknowledged that this retrospective reporting requirement is likely to create an onerous obligation on businesses and the exemptions outlined above are designed to ease this burden. Where HMRC has previously been informed of an arrangement there is no requirement to notify again. Going forward, when reporting is required, the client must comply with its disclosure obligations within 30 days of the first step of the arrangement being implemented.

Clients ought to be aware of the differences between MDR and DAC 6 where they had previously prepared for the implementation of DAC 6.

The narrative surrounding legal professional privilege is important to note. Lawyers who are unable to report as a consequence of legal professional privilege are still required to ‘notify their client in writing of the client’s disclosure obligations (regardless of whether the client is another intermediary or a reportable taxpayer) within 30 days of the arrangement being made available or the assistance or advice being given’.

On 8 December 2021, judgment in the Post Prudential Group Litigation was handed down by the First-tier Tribunal (Tax Chamber) (“FTT”). These were appeals and applications for closure by approximately 200 taxpayers, who had made a variety of claims seeking repayment of unlawful DV tax imposed on dividends received from foreign portfolio holdings. The FTT considered the validity of these various statutory claims following decisions in test cases in the CFC & Dividend GLO, namely Claimants in Class 8 of the CFC and Dividend Group Litigation v Revenue and Customs Commissioners [2019] EWHC 338 (Ch), [2019] 1 WLR 5097 (“Class 8”) and Prudential Assurance Co Ltd v HMRC [2018] UKSC 39; [2019] AC 929 (“Prudential SC”).

The taxpayers succeeded in all the major issues raised. Some points were decided in HMRC’s favour but, as these were only argued in the alternative to the taxpayers’ main case, the ultimate result of the decision was that all of their claims succeeded.  It is of course now open for HMRC to apply for permission to appeal the decision.

In the meantime, following the Tribunal’s decision, it is now possible to make DTR claims under the extended time limit provided under s806(2), with the starting date in most circumstances being the Prudential SC decision in July 2018.  Taxpayers should note that where management expenses or other forms of losses or group relief were applied against DV income the DTR is not lost but carries forward automatically and applies against the next payment of CT on any income. Steps should be taken to ensure that the carried forward DTR is applied where it can be.  In addition, the FTT has held that EUFT can be claimed at the foreign nominal rate where s806(2) is engaged.

The full judgment in The Applicants in the Post Prudential Closure Notice Applications Group Litigation and Another vs The Commissioners for HM Revenue and Customs [2021] UKFTT 0459 (TC) (“Post-Prudential”) can be found here.

On 26 November 2021, the High Court of Justice issued its judgment in S&S Consulting Services (UK) Ltd, R (On the Application Of) v HM Revenue and Customs [2021] EWHC 3174. The case concerned the issue of availability of injunctive relief in the context of VAT deregistration appeals in the First-tier Tribunal (“FTT"). S&S also made an application for judicial review of HMRC’s decision to deregister it for VAT, which at the time of the hearing, had not yet been considered on the papers.

HMRC cancelled S&S’s VAT registration because it concluded that the company had been principally or solely registered to abuse the VAT system by facilitating VAT fraud. S&S denied any wrongdoing and claimed that it might become insolvent before the hearing of its appeal as a result of the deregistration.

It was also common ground that although S&S had lodged an appeal to the FTT, the FTT had no power to require HMRC to re-register S&S by way of interim relief pending the outcome of the appeal. S&S made an application to the High Court for relief.

Held: Application rejected.

Key points:

• The decision to grant an injunction in a public law case involves the exercise of discretion which takes into account all relevant matters, including the strength of the case advanced by the party seeking relief, but without applying a rigid test, such as requiring a ‘strong, prima facie case’.
   
• The Court considered the difference between the cases concerning alcohol approval schemes (CC&C v Revenue and Customs Commissioners [2015] 1 WLR 4043, R (ABC Ltd) v Revenue and Customs Commissioners [2018] 1 WLR 125) and the process of registering for VAT. It was held that the differences did not warrant a different approach to the Court’s grant of injunctive relief, as the processes involved were, in material terms, the same.
   
• The Court reaffirmed that, following the UK’s exit from the EU, Section 42(4) and 42(4A) of the Taxation (Cross Border Trade) Act 2018 specifically preserve the effect of EU law principles preventing the abuse of the VAT system.
   
• The Court also reaffirmed the Ablessio principle, under which HMRC is entitled to cancel a person’s VAT registration where it is satisfied that the registration is being used to facilitate fraud on the VAT system. This confirms the criteria previously followed in R. (Ingenious Construction Ltd) v HM Revenue and Customs [2020] EWHC 2255 (Admin).
   
• The allegations made by the company, that HMRC broadly misunderstood the facts and failed to consider relevant matters, did not amount to abuse of power, and were in any case points that fall within the scope of the FTT appeal.
   
• It is not an absolute rule that HMRC must always give notice of intended VAT de-registration.
   
• In respect of the substantive argument, the High Court concluded that “whilst there may be a risk of the Claimant becoming insolvent before the presently listed appeal… it has not shown that there is a sufficiently high probability that that will be so”.
   
• Further, the Court indicated approval of HMRC’s arguments on why the balance of convenience and consideration of all relevant factors in the present case comes down in favour of refusing the injunctive relief. The Court noted a question of the overall appropriateness of the order to re-register someone whom HMRC, rightly or wrongly, had found to be facilitating VAT fraud. The Court referred to the decision in R (OWD Ltd (t/a Birmingham Cash and Carry)) v Revenue and Customs Commissioners [2019] 1 WLR 4020 at [70]-[72], where the Supreme Court expressed ‘unease’ at the High Court making an order to safeguard the position of a wholesaler in the circumstances where it would involve the Court requiring HMRC to treat a trader as a fit and proper person when it had concluded that it was not.

HMRC has recently published a policy paper on its approach to tax fraud, as well as new guidance on joint and several liability notices for tax avoidance, tax evasion and repeated insolvency.