First-tier Tribunal (Tax)

[2010] UKFTT 561 (TC)

 

 

 

 

                                   

 

 

TC00812

Appeal number:  LON/2007/1440

 

 

 

 

VAT – Input Tax – MTIC fraud – Whether tax loss – Yes – Attributable to fraudulent evasion of VAT – Yes – Whether Appellant knew or ought to have known of fraud – Yes – Appeal dismissed

 

FIRST-TIER TRIBUNAL

TAX CHAMBER

 

 

                                PROCOMM CONSULTANCY LTD               Appellant

 

 

                                                                      - and -

 

 

                                 THE COMMISSIONERS FOR HER MAJESTY’S

                                             REVENUE AND CUSTOMS (VAT)         Respondents

 

 

 

                                                TRIBUNAL:  MISS J C GORT (Judge)

                                                                         ANDREW PERRIN FCA

                                                                         HELEN MYERSCOUGH ACA

                                                                       

 

Sitting in public in London on 15-23 March and 6-7 July 2010

 

Mr Geoffrey Cox QC, instructed by Hassan Khan & Co, for the Appellant

 

Mr Mark Cunningham QC, instructed by Howes Percival, for the Respondents

 

 

© CROWN COPYRIGHT 2010

DECISION

 

1.         This is an appeal against two decisions of the Commissioners contained in letters dated 20 July 2007, 5 September 2007 and 21 November 2007 to deny entitlement to deduct input tax in the sum of £773,850, claimed in the Value Added Tax (“VAT”) accounting period 03/06 and £2,216,592.80 in the period 05/06. The Commissioners’ decision to deny input tax relates to eighteen transactions involving the sale of consignments of mobile telephones by the Appellant (“Procomm”) to customers in Europe.  Six of those deals took place in March 2006 and twelve in May 2006.  The grounds for those decisions were that the input tax claimed by Procomm was incurred in a transaction or transactions connected with the fraudulent evasion of VAT and that Procomm knew or should have known of that fact.

 

2.         By a Notice of Appeal dated 14 August 2007 and a re-amended Notice of Appeal dated 14 August 2007 and served under cover of a letter dated 17 December 2007 Procomm appeals against the decision.  The grounds of appeal are as follows:

 

1.         The decision is wrong in fact and law;

2.         The Commissioners’ interpretation is unreasonable, disproportionate and misconceived;

3.         The Commissioners have failed to consider all of the relevant information, and the factors considered are wrong and/or irrelevant and/or unacceptably unparticularised and/or do not address the correct legal test and/or failed to explain what Procomm should have done and/or are based on the false legal premise that Procomm could have addressed the problem of fraudulent activity to be found in the chain of supply;

4.         Procomm has a right to deduct and is entitled to repayment of the claimed tax credits; and

5.         The decision is in breach of the fundamental principles of EC law.

 

3.         This appeal was first heard by a differently constituted tribunal on 8 June 2009.  For reasons which are not relevant to this present appeal, after a hearing lasting six days the chairman (as he was at the time) of that tribunal found it necessary to recuse himself.  The hearing before us took no account of the evidence given at the previous hearing, although we will refer to various procedural matters and the timing of the submission of some of Procomm’s evidence.

 

The background

 

4.         Procomm registered for VAT with effect from 6 February 2000.  The VAT registration form was signed by Clive Spencer Jefferson, who, with his wife, were the only directors of Procomm, its main business activity was given as Mobile Telephone Wholesale.  Its estimated turnover in the following twelve-month period was £10m, it expected the VAT on its purchases regularly to exceed the VAT on its taxable supplies and it did expect to be either buying goods from, or selling goods to, other EU Member States.

 

5.         Procomm submitted VAT returns for the VAT period 03/06 and 05/06 on or about 31 May 2006 and 6 June 2006 respectively.  The returns were selected for in-depth verifications due to the large repayments requested by Procomm and the Commissioners conducted detailed enquiries into the build-up of the figures on the returns and traced the transactions back to the supply chains.  Procomm was informed on 14 July 2006 of the fact that its return for the period 03/06 was undergoing extended verification and on 21 August 2006 that the return for the period 05/06 was also being inspected and it was updated on the position of the verifications on various dates between September 2006 and April 2007. 

 

6.         Following completion of the verifications the Commissioners issued the decisions to Procomm denying entitlement to the right to deduct input tax in respect of the six deals carried out during the period 03/06 and the twelve deals carried out during the period 05/06.

 

Missing Trader Intra Community (“MTIC”) Fraud

 

7.         When the VAT system is correctly operated it is axiomatic that:

 

(i)        an amount of VAT charged by one VAT registered trader to another VAT registered trader should be accounted for as output tax; and

(ii)       the amount of VAT previously charged as output tax may subsequently be reclaimed by the purchaser as input tax (so as to ensure that the tax is neutral regardless of how many transactions are involved); and

(iii)      when a business’s input tax claim exceeds its output tax it will be entitled to make a claim for a repayment of VAT.

 

A typical transaction shown in an MTIC fraud involves a “missing” or “defaulting” trader, who imports goods from another EU Member State and then sells them on to a number of intermediary or “buffer” traders; having passed through a number of different companies, the goods are then sold to a “broker” trader, who exports the goods.  These transactions are referred to as “defaulter chains”. 

 

8.         In a classical case a trader, trader A based in a European Union (“EU”) Member State, sells taxable goods to trader B in the UK.  Trader B acquires those goods free of VAT.  He then either becomes a defaulting trader (i.e. a trader who incurs liability to VAT but who goes missing without discharging that liability) or uses a hijacked VAT number (i.e. a VAT number belonging to someone else), he then sells the goods to a UK buffer trader, but goes missing before discharging that liability to the tax authorities.  The imported goods are subsequently sold through a number of UK buffer companies, and the last buffer company sells the goods to the UK broker, paying HMRC the output VAT charged after having deducted the input VAT paid.  The UK broker then exports the goods to another Member State, or outside the EU.  The exports are zero-rated for VAT purposes, and the UK broker claims a refund from HMRC of the input VAT paid on the purchase of goods.  Should HMRC make the repayment, the loss of VAT occasioned by trader B is crystallised and goes on to fund the next round of MTIC transactions.

 

9.         In the past the goods which were exported to the EU by the broker were frequently re-entered into the United Kingdom for the whole circular chain to begin again (hence the colloquial name ‘carousel’), or, in some cases, no goods existed and there was simply a paper trail attached to the money which changed hands.  Frequently it is the case that a trader in the chain would pay a substantial proportion of the sum owed to the next trader in the chain to a third party who was not part of the main deal chain, in an effort to conceal from the Commissioners the fact of the fraud. Over time more sophisticated systems have been devised by the fraudsters but we are not concerned with those here.

 

10.       Fraud of this sort is responsible for vast losses to the UK Treasury.  From 2006 to 2007 the scale of the attempted MTIC fraud was £2.25 billion to £3.25 billion.  Not all these attempts were successful and the Commissioners estimate that the impact on VAT receipts from 2006 to 2007 was £1bn-£2bn. 

 

The Legislation and the Legal Position

 

11.       At the relevant time the Sixth Council Directive 77/388/BC of 17 May 1977 applied, but there is no material change in the present Council Directive 2006/112/EC of 28 November 2006 which provides:

 

167 – A right of deduction shall arise at the time the deductible tax becomes charged.

 

168 – In so far as the goods and services are used for the purposes of the taxed 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.

 

12.       These provisions are implemented in UK domestic law in the VAT Act 1994 (“the Act”).  Section 1 of the Act provides that VAT should be charged, in accordance with the provisions of the Act, on, amongst other things, the supply of goods in the United Kingdom.  Section 1(2) establishes that liability to account for VAT on that supply of goods is on the suppliers.  Section 4 provides that VAT should be charged on any taxable supply of goods made by a taxable person in the course or furtherance of a business carried on by him.  Section 24 defines input tax, and provides:

24-(1)  Subject to the following provisions of this section, “input tax”, in relation to a taxable person, means the following tax, that is to say –

 

(a)       VAT on the supply to him of any goods or services;

(b)       VAT on the acquisition by him from another member State of any goods; and

(c)       VAT paid or payable by him on the importation of any goods from a place outside the Member States,

 

being (in each case) goods or services used or to be used for the purpose of any business carried on or to be carried on by him …

 

(6)       Regulations may provide –

 

(a)       for VAT on the supply of goods or services to a taxable person, VAT on the acquisition of goods by a taxable person from other member States and VAT paid or payable by a taxable person on the importation of goods from places outside the Member States to be treated as his input tax only if and to the extent that the charge to VAT is evidenced and quantified by reference to such documents as may be specified in the regulations or the Commissioners may direct either generally or in particular cases or classes of cases;

 

25-(1)  A taxable person shall –

 

(a)       in respect of supplies made by him, and

(b)       in respect of the acquisition by him from other Member States of any goods,

 

account for and pay VAT by reference to such periods (in this Act referred to as “prescribed accounting periods”) at such time and in such manner as may be determined by or under regulations and regulations may make different provision for different circumstances.

 

(2)       Subject to the provisions of this section, he is entitled at the end of each prescribed accounting period to credit for so much of his input tax as is allowable under section 26, and then to deduct that amount from any output tax that is due from him.

 

26-(1)  The amount of input tax for which a taxable person is entitled to credit at the end of any period shall be so much of the input tax for the period (that is input tax on supplies, acquisitions and importations in the period) as is allowable by or under regulations as being attributable to supplies within subsection (2) below.

 

 

Regulation 29 of the VAT Regulations provide:

 

29-(1)  Subject to paragraph (2) below, and save as the Commissioners may otherwise allow or direct either generally or specially, a person claiming deduction of input tax under section 25(2) of the Act shall do so on a return made by him for the prescribed accounting period in which the VAT became chargeable.

 

(2)       At the time of claiming deduction of input tax in accordance with paragraph (1) above a person shall, if the claim is in respect of –

 

(a)       a supply from another taxable person, hold the document which is required to be provided under regulation 13; …

 

provided that where the Commissioners so direct, either generally or in relation to particular cases or classes of cases, a claimant shall hold, instead of the document or invoice (as the case may require) specified in sub-paragraph (a) … above, such other documentary evidence of the charge to VAT as the Commissioners may direct.

 

13.       If a taxable person has incurred input tax that is properly allowable he is entitled to set it against his output tax liability and, if the input tax credit due to him exceeds the output tax liability, he is entitled to receive a payment. 

 

14.       Closing submissions in the appeal were deferred until after the release of the judgment of the Court of Appeal in the case of Mobilx on 12 May 2010.  In that case the Court of Appeal confirmed that the circumstances in which deduction of input tax should be refused are as laid down by the European Court of Justice (“ECJ”) at paragraph 61 of its judgment in the case of Kittel, namely:

 

“… 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.”

 

In accordance with the judgment of the Court of Appeal in Mobilx the burden of proof is on HMRC both to establish that the deals in question are connected with fraud and that the Appellant knew or ought to have known of that connection. 

 

15.       The following cases were referred to in the course of this appeal:

 

 

 

 

 

(A)      ECJ

 

Garage Molenheide BVBA v Belgium C-286/94 [1997] ECR I-7281, ECJ

Commissioners of Customs and Excise v Federation of Technological Industries and Others C-384/04 [2006] ECR I-4191, ECJ

Axel Kittel v Belgian State C-439/04 [2008] STC 1537, ECJ

R (on the application of Teleos plc and Others) v Revenue and Customs Commissioners C-409/04 [2007] ECR I-7797, ECJ

Netto Supermarket GmbH v Finanzamt Malchin C-271/06 [2008] ECR I-771, ECJ

 

(B)       ECHR

 

Bulves v Bulgaria A/3991/03 [2009] ECHR 143

 

(C)      House of Lords

 

Total Network SL v HMRC [2008] UKHL 19

Re B [2008] UKHL 35, [2009] 1 AC 11

 

(D)      High Court

 

Red 12 Trading Ltd v HMRC [2009] EWHC 2563 (Ch)

Mobilx v HMRC [2010] EWCA Civ 517

R (Just Fabulous (UK) Ltd) v HMRC [2007] EWHC 521 (Admin) [2008] STC 2123

HMRC v Brayfal Ch/2008/App 0082, 4 March 2008

HMRC v Livewire Telecom Ltd; Olympia Technology Ltd [2009] EWHC 15 (Ch)

Mobilx Ltd (In Administration) v HMRC [2009] EWHC 133 (Ch)

Calltel Telecom Ltd v HMRC [2009] EWHC 1081 (Ch)

Blue Sphere Global Ltd v HMRC [2009] EWHC 1150 (Ch)

 

(E)       VAT & Duties Tribunal

 

Dragon Futures Ltd v HMRC [2006] UKVAT V19831

Calltel Telecom Ltd v HMRC [2007] UKVAT V20266

Livewire Telecom Ltd v Revenue & Customs [2008] UKVAT V20533

Olympia Technology Ltd v Revenue & Customs [2008] UKVAT V20570

Honeyfone Ltd v HMRC [2008] UKVAT V20667

Europeans Ltd v HMRC [2008] UKVAT V20883

Red 12 Trading Ltd v HMRC [2008] UKVAT V20900

S&I Electronics Plc v HMRC [2009] UKFTT 108 (TC), LON/2007/0793

 

The issue

 

16.       Procomm initially put the Commissioners to proof  that each of the eighteen deals could be traced back via the chains shown in Annex 1 to a defaulting trader and that there was a tax loss to the Commissioners occasioned by the fraudulent evasion of value added tax in respect of each of those deals.  However, in the course of the hearing Mr Cox on behalf of Procomm, conceded the matter and the only issue before us was whether the Commissioners have shown that Procomm either knew or should have known that the deals it was making were in each case connected with that fraud.  For the avoidance of doubt we should state that, before that admission was made in terms, we had heard and seen sufficient evidence to satisfy us that all the chains were connected with fraud and the admission was properly made.

 

The evidence

 

17.       Prior to the hearing we were provided with fourteen trial bundles of documents and a further five files were produced at the hearing.  In addition there were four files of authorities.  We heard oral evidence from the following three witnesses on behalf of the Commissioners:  Alan Chambers, Judith Elmer and John Fletcher.  Mr Chambers and Mrs Elmer are both officers of HMRC, Mr Fletcher is a Principal Adviser in KPMG.  Mr Fletcher’s evidence principally related to the grey market for mobile telephones in 2006 and he was treated as an expert.  The evidence of two further officers, Richard Taylor and Roderick Stone, was not challenged by Procomm and therefore their witness statements were read to the Tribunal.  Mr Clive Jefferson gave evidence on behalf of Procomm.  HMRC had prepared schedules showing (1) the deal chains (2) the profits and distribution of profits (3) the VAT losses (4) the inspections and inspection reports and (5) the VRN checks carried out by Procomm.  We do not propose to reproduce schedules (3), (4) and (5) here, but will refer to them as necessary.  We produce schedule (1) as Annex 1 and schedule (2) as Annex 2.

 

The facts

 

18.       We find the following facts.  Procomm was incorporated in 1999 as Ringdell Ltd.  In December 1999 it was acquired by Mr Jefferson and its name changed to its present one.  At all times Mr Jefferson and his wife were the only directors, each holding 50% of the share capital.  Mr Jefferson had worked in the mobile telephone industry in different capacities for several years previously.  At the relevant time there were two people working in the office including Mr Jefferson and three people working variously as drivers, warehousemen and mechanics with overlapping duties.  Mr Jefferson was at all times actively involved in the management and trading of the company.

 

19.       Procomm had been subject to regular VAT inspections since 2000.  In 2002 Mrs Elmer was the VAT officer assigned to Procomm and she paid her first visit in July 2002.  In or about early 2003 Procomm had resumed its earlier business of brokering mobile telephones, it having been prevented from doing so for a period by a shortage of funds. The resumption of Procomm’s wholesale trade in mobile telephones was enabled by loans from third parties which we set out below at paragraph 24. It was part of the Commissioners’ practice to monitor traders dealing in mobile phones and electrical items on a wholesale basis.  In the course of those visits Mrs Elmer made clear to Mr Jefferson the need for retaining documentation and the importance of clearing the VAT registration numbers of potential traders through Redhill.  On one occasion at his own request Mr Jefferson was given guidance on joint and several liability.  He was also informed that Redhill could only confirm whether the VAT registration details of a business were correct and matched the information held by customers and no more, and this could not be viewed as authorisation for the trader to do business with the company holding that VAT registration.

 

20.       During a visit in April 2003 Mr Jefferson had been supplied by Mrs Elmer with Budget Notice 2003 setting out the dangers of MTIC fraud.  Notes of that visit record that Mr Jefferson was aware of the importance of retaining records and all export evidence.  By the time of this visit the earlier loans to the company had been repaid but further loans had been taken out.  Repayment of all input tax claimed was authorised.  Mrs Elmer records during a subsequent visit in June 2003 that export evidence was comprehensive and later recorded that in her view Procomm was trading responsibly.  In October 2004 an officer of HMRC telephoned Mr Jefferson advising him that full verification in respect of the period 08/04 would take place in respect of two deals in that period; those deals were subsequently traced back to defaulting traders.  By a letter dated 18 November 2004 Mrs Elmer advised Procomm that third party payments had been identified in its supply chain.  She informed Procomm that she had not sufficient evidence to refuse to repay the associated input tax which was being made on a ‘without prejudice’ basis.  On 23 November 2004 Mr Stone advised Procomm that a company called Octogan Electronics had been deregistered, this was a company with which Procomm had been trading but it no longer did so after that warning.  In March 2005 a company called Borders VAT Services wrote to Redhill on behalf of Procomm complaining of delays of up to four days in respect of its requests for VAT number verifications.  On 28 September 2005 a letter was sent to Procomm in respect of the tax period 04/05 relating to a tax loss of £46,000 as a result of Procomm’s trade in Sandisk Compact Flash Cards.

 

21.       The only specific warnings given to Procomm were as follows: Octogan Electronics (see above); Daycomm, in respect of which a notice of deregistration was sent out on 1 September 2004; a letter dated 20 September 2004 period 04/05 informing Procomm that, of the three transactions selected for verification in that period, one had commenced with a defaulting trader resulting in a loss of revenue exceeding £46,000 (this  was re the sale of Sandisks (see above)) and, finally, the warning given in respect of period 08/04 referred to in paragraph 20.  Apart from these four specific warnings Procomm was also in receipt of HMRC Notice 726, by which traders are warned of the  widespread nature of MTIC fraud in the computer and mobile telephone industries, as well as the joint and several liability of traders in those goods.  Traders are advised of the law relating to MTIC fraud and their responsibilities in respect of it.  It deals at length with a trader’s duty and his obligation to take reasonable steps.  Specific checks which a trader might undertake to ensure the integrity of his supply chain are also set out. 

 

22.       In 2006 the Commissioners introduced a programme of extended verification of VAT repayment claims because of continuing losses as a result of MTIC fraud.  Repayment claims of those companies which it was believed represented the greatest risk to the revenue were chosen for extended verification.  Since May 2006 Mr Chambers had worked as part of a specialist team investigating MTIC fraud and he took over from Mrs Elmer as the officer investigating Procomm and started the extended verification process.  Prior to the introduction of this process the Commissioners had been obliged to repay input tax claims within 7 weeks, otherwise they incurred penalties; this did not allow time for them to do a complete check of the deal chains

 

23.       Procomm’s VAT return for the period ended 03/06 was due to be received by the Commissioners by 30 April 2006 but was not received until 1 June 2006.  The extended verification programme would normally have included VAT returns from period 04/06 onwards but, due to the late submission of this return by Procomm, the 03/06 VAT return was included in the extended verification exercise.  Procomm’s return for the period ending 05/06 was received by HMRC on 7 June 2006 and was automatically included in the extended verification exercise as was the 03/06 return which was allocated to Mr Chambers on 14 July 2006.  Procomm’s records in relation to period 03/06 were received by the Commissioners on 24 July 2006.  By 21 August 2006 Mr Chambers had established that, of the six deal chains he was investigating, five traced back to defaulting traders and tax losses but he had not at that time completed his investigations into the first deal in that period.  Procomm was informed of these facts and that the tax loss exceeded £528,000.  Subsequent investigations by Mr Chambers established that all twelve of the deal chains in the period 05/06 which were being investigated traced back to defaulting traders and tax losses.  Mr Jefferson was advised of this fact and on 13 November 2006 Procomm was issued with a Failure to Produce letter in respect of the information which had been requested by Mr Chambers in the course of a visit to Procomm on 19 September 2006, and subsequently by letters of 21 September and 3 November 2006 but had not been received.  Procomm had not submitted VAT returns for the periods 04/06, 07/06, 08/06 and 09/06 and by the letter dated 13 November 2006 Procomm was advised that it would be deregistered for VAT if the missing returns were not rendered within seven days of that date.  All the documents were subsequently hand-delivered to HMRC on 15 November 2006.  On 20 December 2006 Mr Chambers wrote to Procomm advising that the frequency of its VAT returns would be changed from monthly to quarterly as insufficient evidence had been received to justify keeping Procomm on monthly returns.  That decision was not appealed.  The effect of this was that Procomm would not be repaid its input tax by the Commissioners at monthly intervals, as in the past. 

 

24.       In the course of his investigations Mr Chambers became aware of the fact that Procomm had been funded by a series of loans.  He obtained information of the size and nature of these loans on 15 November 2006.  The loans from 25 May 2006 onwards were as follows:

 

 

DATE                          LENDER                                 AMOUNT

 

25/05/2005      Leonidas Voyazides                            £100,000

27/05/2005      Kay Rowham                                       £  50,000

25/07/2005      Leonidas Voyazides                            £200,000

28/09/2005      Roger Green                                        £200,000

28/10/2005      The Barttons P’Ship Ltd#                    £100,000

15/12/2005      James Donovan*                                 £350,000

01/01/2006      Claire Ford#                                       £  20,000

05/01/2006      The Barttons P’Ship Ltd#                    £100,000

27/01/2006      The Barttons P’Ship Ltd#                    £100,000

01/03/2006      Mrs Scarlet Bennett#                           £200,000

01/03/2006      Flynn Prevost#                                    £200,000

27/04/2006      Roger Green                                        £200,000

17/05/2006      Associate Investments Ltd**               £500,000

17/06/2006      Joseph Johnson#                                  £200,000

01/08/2006      The Barttons P’Ship Ltd#                    £100,000

 

Total                                                                         £2,620,000

 

     *  Agreement prepared by Marshall Ross & Prevezer Sols

   **  Agreement prepared by Hassan Khan & Co Sols

     #   Loans with agreed interest rate of 30%

 

The evidence of the 13 loans which were not prepared by solicitors consisted of no more than an acknowledgment by Procomm that monies had been received together with an undertaking to pay interest.  The interest rate in respect of 8 of the loans was 30% per annum.  In respect of the loan to Associate Investments Ltd, the basic rate of interest is 6% per annum.  Additionally, at clause 4.2 of the loan agreement, it is provided that:

 

“Interest in respect of the loan facility will also be payable by the Company to the Lender in an amount equal to 50% of the Company’s Gross Profit.”

 

The loan agreement was drawn up by Hassan Khan & Co, who are acting for Procomm in this appeal, paragraph 4.4 of the agreement provides that if the Commissioners should withhold Procomm’s VAT repayment for more than 30 days beyond the submission date of the relevant VAT Accounting Period Return then, inter alia, Procomm “shall instruct Hassan Khan & Co … to take all steps considered reasonably necessary by Hassan Khan & Co … including the issuing of proceedings, to recover the withheld input tax credit”.

 

25.       The investors were largely either personal friends of Mr Jefferson or of his father, or friends of those friends.   With regard to the loan to Kay Rowham, in his first witness statement at paragraph 133.3 Mr Jefferson stated as follows:

“Kay Rowham was a personal friend.  Her  investment came about because, in 2005, her partner’s travel agency was struggling.  I told them that I would not lend them money but, if they were willing to invest in Procomm, I would try and turn it into a profit for them.  Ms Rowham originally invested £50,000 and made a return of £58,000 in interest.  Nevertheless, Ms Rowham now wants her original £50,000 back with further interest.   Clearly, she did very well from me and I am now saddened that she wants so much back.”

 

26        Additionally, on 27 October 2005, Procomm received a loan of £1m from the Foundation Telona of Lichtenstein.  The loan agreement in that case was simply a letter signed by Mr Jefferson stating that the loan was backed by a personal guarantee from Mr Jefferson or his estate.  The loan was expressed to be repaid within one year of the 27 October 2005.  There is a further loan agreement to the same organisation dated 10 February 2006 in the same amount and under the same terms except that is expressed to be repaid within one year of 10 February 2006.  Whilst neither document refers to the rate of interest, we were told by Mr Jefferson that it was 20% per annum.

 

27.       Mr Jefferson claimed that he could afford to borrow at a rate of 30% interest because he was making 5-8% profit 12 times per annum.  To achieve this model the company would have to file its VAT return very promptly in order to receive the VAT refund in time to reinvest by the end of the month.  We saw that the March 2006 return was not submitted until 31 May, and he only produced the return for 04/06 on 19 November following a ‘Failure to Produce’ letter.  In addition the accounts show gross profit margins after commission of only around 0.9 to 2.2%.  Even if he could make 12 deals a year using the money, he could not cover the 30% interest based on his historic profit margin.  He also needed to pay 50% of the gross profit to Associate Investments ltd.  We see further evidence of the way Mr Jefferson managed the financial aspects of Procomm’s business in the qualification of the audit report for the year ended 30 September 2003 due to “fundamental uncertainty” due to the “effluxion of time and the paucity of records maintained by the company”.  The directors (Mr Jefferson and his wife) were extracting funds from the company over and above the directors’ emoluments and dividends due to them in the form of an overdrawn directors’ loan account.  By 30 September 2006, the directors’ current account was £374,579 overdrawn, a substantial amount for a company making £46,574 profit after tax.

 

28.       The deal chains are set out in full in Annex 1.  We will refer to the deals by the order in which they took place, not by the date on which they took place, thus ‘March 1’ did not take place on 1 March, but is the first deal which took place in March.  The specific dates for each deal are shown in Annex 2. The deals invariably occurred at the end of the month, in order that there would be the smallest possible amount of time between Procomm’s purchase and its receiving its claimed VAT refund.  Neither at the start nor at the end of the deal chains is there either an authorised distributor or an end user.

 

29.       During the course of his extended verification Mr Chambers uncovered evidence that there were seven defaulting traders as follows:

 

1.  CHP Distribution Ltd (“CHP”)   :              March 1

2.  SX Drona Ltd (“Drona”)  :                         March 2,4 and 5

3.  C&B Trading UK Ltd (“C&B”)  :              March 3 and 6

4.  Udeil Solutions Ltd (“Udeil”)  :                 May 1,3,7, 8, 10 and 11

5.  Performance Specifications Ltd

           (“Performance”)  :                               May 2 and 9

6.  3D Animations Ltd (“3D”)  :                      May 4, 5 and 6

7.  First Electrics Ltd (“First Electrics”) :      May 12

 

29.       Procomm purchased from only three suppliers as follows:

            1.  Crotek Ltd (“Crotek”)  :                             March 1-6, May 12

            2.  Broadcast Ltd (“Broadcast”) :                   May 1-3, 7-11

            3.  Communications World Ltd

                        (“Communications”)    :                      May 4-6

 

Procomm only had five customers for these deals as follows:

            1.  France Affaires (“France Affaires”) :        March 1-3

            2.  La Parisienne du Commerce

                    (“Parisienne”)     :                                   March 4, 5,6

            3.  GSM BV (“GSM”)   :                                May 1-3, 7-11

            4.  Sigma (Sixty) BV (“Sigma”)  :                   May4-6

            5.  Comitel International AS

                        (“Comitel”)   :                                     May 12

 

The 18 deals with which we are concerned constitute the totality of Procomm’s trading during March and May 2006.

 

30.       Annex 2 shows the date of the trades and the distribution of profits as between the ‘buffer’ traders and Procomm, the broker. 

 

31.       Every participant in each chain made a profit, there being a small variation between the buffers in the March deal from £0.25 to £1.00 per telephone.  The higher amount being Raptor, the supplier to Procomm’s supplier, Crotek, in deal March 6.  In the first three May deals Broadcast, Procomm’s supplier, achieved a £1 mark-up, as did Communications on its supply to Procomm in deals May 4-6, and as did Crotek on its supply to Procomm on deal May 12.  In deals May 7 and 8 Broadcast achieved a £6 mark-up, and a £2 mark-up on deals May 9-11.  Procomm itself achieved a variable mark-up of between £16 (deal March 6) and £25 (deals March 1 and May 6 and 12).  In the March deals the total gross profit made by all parties was £286,225 of which Procomm took £264,000, that is 92.24%, and in May, from a total profit of £997,380.50, Procomm took £815,100 which equals 81.71%.  The average over the two months is 84.07%.

 

32.       It can be seen from Annex 1 that, where it appears in deal chains March 1, 3 and 6 Hillgrove was always the fourth buffer.  Similarly Raptor was always the second buffer, see  deal chains March 2, 3 and 6.  The chains for deals March 3 and 6 are identical, save for the identity of Procomm’s customer which in deal March 3 is France Affaires and in deal March 6 is Parisienne, and the complete deal chains for May 4, 5 and 6 are identical.  For deals May 1, 2 and 3 and May 7-11 there is the same EU supplier, Macdelta, to the same defaulter, Udeil, then, after various buffers, the same supplier, Broadcast to Procomm who then sells on to the same customer, GSM.  Deal May 12 started with an importation of Nokia 8800 telephones by a defaulter called First  Electric from an EU based company, Comitel, on 31 May and ended with a sale by Procomm to Comitel on the same date.  Broadcast’s immediate supplier was Xcel in deals May 1 and deals May 7-11.  Deals May 7 and 11 are identical save for Xcel’s supplier in deal May 7 being Phoneshop and in deal May 11 it is Atlantic.  Atlantic supplies AW as buffer 5 in deal May 3 and as buffer 4 in deal May 8, and Phoneshop, as buffer 4, supplies AW in deal May 10.

 

33.       It was only on Day 3 of the first trial that the Commissioners were made aware that Procomm never completed deal May 8.  On that day Mr Jefferson submitted his third witness statement in which he included at paragraph 32 the following:  “May deal 8 did not complete.  I recall that the reason it did not complete was because GSM were unable to pay Procomm and so Procomm was unable to pay Broadcast.  I had to tell Broadcast that I could not take the stock and I pulled out of the deal.”  Despite the fact that this deal was never completed, and thus Procomm had not paid over any VAT in respect of it, nonetheless there was never at any stage an application by Procomm to amend the amount of input tax claimed to reflect this fact.  The amount of the VAT loss in question is £230,545.  The deal itself was made on 31 May, it was accepted by Mr Jefferson in cross-examination that he would have been aware by the end of July 2006 at the latest that the deal was not going to be complete.    He nonetheless persisted in claiming that he had acted honestly over the matter, saying:  “I should have corrected it and I always assumed there would be a reconciliation of all this mess and we would sit down and work it out.”  Mr Chambers’ visit report of 19 September 2006 refers to a discussion with Mr Jefferson of the 05/06 return which includes deal May 8 and which was a £2.2 million repayment return.  Despite Mr Jefferson’s claim above, Mr Chambers records that at that visit Mr Jefferson confirmed that he had been paid for all the sales made and had paid all of his suppliers.  The amount unpaid to Procomm by Broadcast was £1,424,500.  There is no record in the deal pack to show that this was a failed deal.  We note that there is evidence that he paid for the inspection and shipping of those items despite not having been paid for them.

 

34.       The gross value of the telephones in all the deals was approximately £18m, giving an average of £1m per deal.  All the deals concerned either different makes of Nokia telephones or Sony Ericssons and were carried out on a back-to-back basis, mainly on the same day, with the requirements of the supplier and customer matching up exactly and no stock being left unsold.  There were no losses incurred by any of the various participants in the chains.  There is no evidence that Procomm ever conducted any product research or made price comparisons by contacting different customers to procure the best deal.  Nor was there ever a written contract between Procomm and either its suppliers or its customers.  We will deal later with Mr Jefferson’s explanations for these matters.  There was no documentary evidence of any insurance cover for deals May 1-11 and in respect of deals March 1 and 3 the insurance applications were not made until after shipment of the consignments.  These shipments were not split, therefore the consignment value exceeded the maximum value of £800,000 per shipment.  It was only in his oral evidence that Mr Jefferson made any mention of having contacted the insurers after the event when they agreed to remedy the situation. The AFI insurance documents expressly provide that insurance cover only commences upon receipt of payment.  Mr Jefferson’s evidence was that Procomm never paid prior to shipment, therefore it would appear that the consignments were not insured; Mr Jefferson claimed that he had understood that the goods would be insured.

 

35.       We were shown deal sheets for each of the different deals which we do not propose to set out in full here.  From the deal sheet in respect of Deal March 3 it can be seen that the cost to Hillgrove, who was buffer 4 (the buffers are numbered in relation to their distance from Procomm, i.e. buffer 4 is four trades earlier than Procomm) of the 2,500 Nokia telephones bought from the defaulter, C&B Trading, was £791,250.  Hillgrove made a profit of 50p per telephone, making a total profit to them of £1,250 on this deal.  The VAT loss on this particular deal chain was £138,359.38.  

 

36.       There is no evidence of anything other than rudimentary terms and conditions of the deals in the various chains, and they are for the most part non-existent.  For example, an invoice from Raptor to Crotek in respect of the Nokia telephones the subject of deal March 3, under the heading ‘Terms’, it simply says ‘As Agreed’.  The description of the goods traded varies between the traders, for example in deal March 3, it appears from Raptor’s invoice to Crotek that the telephones being traded are ‘Nokia 9500 Euro Spec Sim Free’.  Crotek’s invoice to Procomm has the added description of ‘with 128mb memory cards’ and does not refer to ‘Euro Spec’.  In none of the earlier invoices in respect of Deal March 3 does the description ‘128mb memory cards’ appear.  The purchase order from Procomm to Crotek refers to ‘Brand New Sim Free handset’ and beneath Mr Jefferson’s signature at the bottom it says ‘all telephones to be sim-free Euro Spec’.  The invoice from Procomm to France Affaires for the same goods describes them as ‘Central European Spec’ and makes no reference to ‘Sim Free’ or ‘128 MB memory cards’.  Further in relation to deal March 3 there is a letter dated 29 March 2006 faxed by Procomm to AFI Logistics UK Ltd, who are the shipping agents, instructing them to arrange shipment of 2,500 Nokia telephones which Procomm “purchased from Crotek Ltd today”.  The instruction is to ship the goods to France Affaires in France, to arrange insurance cover and to ship on hold.  They are also asked to supply an inspection report.  The invoice from AFI Logistics shows that the goods were shipped on 29 March 2006 and there was a 100% IMEI and inspection, the charges for which were 20p per unit. The invoice total was £3,231.25. 

 

37.       In respect of deal March 1 there is evidence in the form of a Eurotunnel ticket which shows that the relevant lorry checked in at 02.23 on 28 March 2006.  Deal March 1 was alleged to have been carried out on 28 March itself.  We have also seen a Eurotunnel transport ticket in relation to deal March 3 which shows that the lorry carrying the goods from the shipping company, AFI Logistics in Southall in Middlesex, checked in at 04.32 on 29 March 2006.  Mr Jefferson’s response, in his third witness statement, is as follows:

 

“From an analysis of the timing of the Eurotunnel tickets in March Deals 1 and 3, I see that – unusually – the goods were shipped on the same day as the invoice and inspection date.  I note that the check-in time in both cases is the early hours.  I believe the apparent oddity is down to the fact that these deals must have come together the evening before and the documents dated the next day.” 

 

He continues:

 

 “… looking at the documents, I am sure that the deals came together late in the afternoon and, as Crotek and France Affaires were both trusted trading partners … I agreed to provide oral instructions to AFI Logistics …” 

 

It was thus being claimed that the deal was done orally on 27 March. This explanation was not given in Mr Jefferson’s first reply to Mr Chambers, who had produced the evidence in his witness statement, but in his third witness statement, i.e. the one provided 3 days into the first trial.  In cross-examination before us Mr Jefferson described the above procedure as ‘not unusual’, despite it being described as ‘unusual’ in his witness statement.  The documents relating to Destonia, the importer, include a purchase order to CHP the defaulter in deal March 1, which is dated 28 March, as are all the other documents on the deal chains.  Mr Jefferson was unable to comment on this, nor on the fact that his supplier, Crotek, similarly dated all its documents 28 March.   Also on 28 March Crotek issued instructions to AFI Logistics to allow the goods which are the subject of the deal to be inspected by Procomm, and to release them to Procomm.

 

38.       In relation to deal May 9 there is evidence of a third party payment. It can be seem from Annex 1 that Udeil Solutions Ltd imported Nokia telephones from a company called Macdelta Ltd which is a Cyprus based company.  Udeil is the defaulting company who sold the telephones to Novafone.  The net cost to Udeil of the telephones was £1,235,925.  By an invoice dated 31 May 2006 Udeil instructed Novafone to pay, not Udeil itself but Macdelta, the amount of £1,235,925 and to pay Udeil the sum of £3,965.62.  By a further document from Udeil headed ‘deposit stock’, also dated 31 May 2006, Novafone (whose name does not appear on the document) is instructed to pay Macdelta £216,000.  The invoice reference is identical to the invoice reference of the former document instructing Novafone to pay Macdelta, which shows the link to the stock. £216,000 is the VAT on this consignment less what the Commissioners called ‘the balancing figure’. 

 

39.       The evidence as to Mr Jefferson’s acknowledgment of the extent of MTIC trade in the mobile telephone industry was ambiguous. On 12 February 2007 an article appeared in the Mail on Sunday under its financial section by a journalist Dan Atkinson.  That article is headed ‘Tax trap hits innocent bosses’ and it was written as a consequence of Mr Jefferson having contacted Mr Atkinson in order to bring to the public’s attention Procomm’s situation consequent upon the Commissioners not paying its input tax.  In his second witness statement to which he exhibits the article in question Mr Jefferson states inter alia as follows: “Other traders called me to thank me for taking a stand and giving the public the other side of the story.  Much had been made in the Press of how fraud was rife and that the mobile phone trade was at the heart of the problem.  Having been trading mobile phones since 1992 I knew that this was not true.  The truth of the matter was that genuine trade was sometimes being used by individuals to facilitate VAT fraud.”  However, in a document prepared by Mr Jefferson in relation to a proposed voluntary arrangement on behalf of Procomm which bears a fax date of 20 July 2007 Mr Jefferson said at paragraph 4.17 as follows:

 

“Fraud has been rife in the industry since 1995 and the company had to be extremely careful on how it dealt in this market.  The company would only deal with suppliers and customers after an extensive investigation had been carried out into the people behind the business.  An ex-VAT inspector was employed on a part-time basis to carry out investigations into new suppliers and customers, to put in stringent procedures, which meant that every time the company dealt with a customer or supplier, for every transaction, a check was made to ensure that both the supplier and the purchaser were VAT registered and that the registration had not been suspended.  The serial numbers from all phones were kept to ensure that the same phones were not being re-sold.” 

 

“The VAT validation was by at least two of the following three alternatives for each transaction –

 

1.         The company would write to the VAT office at Redhill, asking for a confirmation that the VAT number was correct and that the business was a bona fide business.

2.         A phone check to the Central VAT Office advice line.

3.         On-line enquiries to the VAT office.

 

“This was done on every deal, every time that the company dealt with the supplier or a customer.”

 

40.       It was Procomm’s case that in relation to every deal all its suppliers and all its customers were checked out at Redhill.  The evidence before us shows the following.  In respect of deals March 1-6 Crotek was the supplier. Procomm requested verification from Redhill by a letter dated 28 March 2006 but that letter was not faxed to Redhill until 18.07 on that date.  Procomm had had a positive response from Redhill about Crotek on 3 February 2006, but between then and 28 March it had had negative responses on four occasions.  There appears to have been no response in respect of the fax of 28 March 2006, the next response from Redhill being a negative one on 26 May 2006.  Crotek was also the supplier in deal May 12 which took place on 31 May 2006.  On that occasion a letter dated 31 May was faxed to Redhill at 20.37.  Procomm had received negative responses from Redhill re Crotek on 26 May and 30 May 2006, but again there appears to have been no response to the fax of 31 May 2006. 

 

41.       Procomm did make checks with Europa on the relevant date in respect of its customer, France Affaires, in respect of the three relevant March deals.  All that Europa does is to confirm that the VAT registration number given is a valid number.  It does not confirm that the number relates to the trader in question.  Procomm had also checked with Redhill about France Affaires, faxing its request of 28 March at 17.54 on that date.  It had previously had negative responses in respect of France Affaires on 31 January 2006, 23 February 2006 and 28 February 2006.  Redhill was not contacted about France Affaires in respect of deals March 2-3. 

 

42.       With regard to Parisienne, Procomm’s customer for deals March 4-6, a fax appears to have been sent on 30 March, but there was no Redhill response.  However Redhill had previously given positive responses on 2 February and 28 February 2006 but had given negative ones on 31 January and 23 February 2006.  It also gave a negative response subsequently on 30 May 2006. 

 

43.       With regard to Broadcast, Procomm’s supplier for deals May 1-3, no request was sent by fax to Redhill, but an e-mail was sent on 30 May annexing a letter dated 25 May, the date of deal May 1.  Similarly with regard to deals May 2 and 3, which took place on 26 May, in respect of GSM, Procomm’s customer for both these deals and for deal May 1, a document dated 26 May was e-mailed on 30 May, but no fax was sent to Redhill at this time.  Subsequently, on 13 June 2006, Redhill gave a positive response in respect of both Broadcast and GSM, as had Europa.  Broadcast and GSM were also Procomm’s trading partners for Deals May 7-11.  In respect of these deals Redhill was faxed about Broadcast at 19.49 on 31 May, and about GSM at 19.51, but there was no response until the positive one on 13 June referred to above.  Europa had also been contacted again and had replied affirmatively.

 

44.       In addition to the Redhill and Europa checks, in respect of the deals on May 1, 4-6 and 12, there is some evidence that Procomm sent details of its customers and suppliers to the Commissioners’ contact centre. Redhill was faxed about Comitel at 20.52 on 31 May and a negative response was sent from Redhill on 13 June 2006.  In respect of Comitel (deal May 12) there is a conflict between Procomm’s evidence as to the timing of the relevant fax, which on its records appears at 06.15, and the contact centre who have it recorded as12.50. In respect of Communications, Procomm’s supplier for Deals May 4-6, the Europa check made on 31 May was timed out.  Also in respect of these deals Procomm’s purchase orders are all dated 31 May, and appear to have been faxed on that date, however, the invoices and release notes from Communications are all dated 30 May.  Additionally Procomm faxed its shipping instructions at 15.05 on 31 May, before the Redhill’s letters were faxed.  In respect of Crotek, contact was not made in respect of Deal 12 until 1 June, although the deal was said to have been completed on 31 May and as stated above, there had only been negative responses from Redhill since February 2006 in respect of Crotek.

 

45.       Mr Jefferson’s evidence, given in his second and third witness statements and in his document prepared for the proposed voluntary arrangement, was that on every deal Procomm checked the VAT registration numbers (VRNs) of his supplier and customer with Redhill and Europa, and called the HMRC National Advice line.  Further, he claimed in his second witness statement that: “Procomm also ran these  checks every single time it dealt with a company, not just once a month or so – I did not think that was enough.”  Procomm maintained records of the checks and confirmation details in each deal folder.  It was Mr Jefferson’s evidence that Procomm experienced great difficulty in obtaining a prompt response from Redhill, with replies sometimes taking weeks. 

 

46.       In addition to Mr Holmes of Borders, the VAT adviser employed by Mr Jefferson, Procomm used a credit checking company, the Association of Credit Providers (“ACP”) to provide monthly credit reports in respect of its suppliers and customers.  Procomm’s due diligence file for Crotek, which was not provided to Mr  Chambers, despite several requests for it, until 15 November 2006, contained three credit reports from ACP.  Each report had a date printed on its first page, the dates were as follows: 6 March 2006, 3 April 2006 and 8 May 2006.  The three reports are identical and show the date of the latest accounts for Crotek to be 31 July 2005 with a filing date of 12 June 2006.  Also in the file was a copy of those accounts with a Company House barcode and date of 12 June 2006 attached.  In his witness statement at paragraph 430 Mr Chambers said:  “It is my belief that the credit reports have been fraudulently prepared to satisfy the requirements of HMRC and give the appearance that they were produced before the deals were carried out.  In reality they must have been produced after 12 June 2006, when the 31 July 2005 accounts were filed.”

 

47.       The three reports all give Crotek a credit rating of zero and suggest a credit limit of £0.  Whilst the report states: “Caution – Credit at your discretion”, it also states: “Good Credit Worthiness”, which, according to the document itself would indicate a Credit Worthiness of 51-70, not zero.  The accounts are in abbreviated format but show that during year ended 31 July 2004 Crotek was dormant and in the year ended 31 July 2005 a loss of £469 was made.  The accounts for Crotek for year ended 31 July 2006 show a turnover of nil for the year ended 31 July 2005, but a turnover of £161,470,435 in year ended 31 July 2006 with a net loss of £332,595 which appears to be caused by an item of £966,879 shown as “cost of sales – irrecoverable VAT”. These accounts are qualified and contained an “Adverse Opinion” from the independent auditor.

 

48.       In his second witness statement, commenting on Alan Chambers’ reference to credit checks set out above, Mr Jefferson wrote as follows:

 

“At paragraph 430 (and elsewhere) Mr Chambers suggests that Procomm’s credit checks for Crotek may have been fraudulently prepared. I strongly deny that Procomm may have fraudulently prepared the report and I do not believe ACP would have fraudulently prepared the report.

 

“Mr Chambers also seems to suggest that negative indicators on credit checks should have caused Procomm great concern.  The fact was that Procomm did not grant credit to its customers so this was not a real problem.  The way in which I insisted deals took place meant that Procomm was generally protected from bad debts.”

 

In his third witness statement (provided on day 3 of the first trial) Mr Jefferson stated that he was confident that Procomm had the March, April and May checks in respect of Crotek at the relevant time.  He continued:

 

“I firmly believed they had been provided to HMRC, however, I now think that they had been lost and that copies were requested by me from ACP.  I believe that ACP supplied the copies with the print dates on them and they were given to HMRC on 15 November 2006.  I did not review the copies before giving them to HMRC.  Had I done so I would have ensured that they went with a clear note stating that they were copies.  This is an unfortunate but innocent oversight.

 

“In any event, Procomm does not grant credit so the content of the report is less relevant than might appear.  Credit reports are a layer to Procomm’s due diligence that provide a mechanism to check company details and status (e.g. any winding up petitions, proposals to strike off).”

 

In his evidence in cross-examination Mr Jefferson did not accept that he had provided Mr Marsh of ACP with the dates which were printed on the front of each of the reports and gave no further explanation.

 

49.       In respect of France Affaires, the credit reports supplied by ACP advise a credit limit of €0 and a credit rating of 2, previously 1.  1 indicates high risk on a scale of 1-5.  Deals totalling £3.127m were carried out by Procomm in March 2006 with France Affaires.  The activities of the company are described in the report as ‘sale of men’s, women’s and children’s clothes’ and there is a NACE code which shows them to be wholesalers of other goods including furniture, papers and magazines, leather, sports and fancy goods, jewellery etc.  There is no mention in the report of mobile telephones.  No due diligence checks were carried out in respect of Parisienne.  In respect of Broadcast, ACP provided a credit report dated 12 May 2006 which showed the company’s status as dormant and gave no credit rating or recommended credit limit.  Eight deals totalling £10.237m were carried out with Broadcast during May.  With regards to Communications World three identical reports were obtained which give a credit rating of zero and a recommended credit limit of £0.  The report shows the company has negative Net Capital Resources of £122,726 as at 31 December 2004.  The industry classification is quoted as Retail of Electrical Household Appliances.  There is no mention of mobile phones.  Three deals totalling £4.019m were carried out with this company.  In respect of GSM a ‘Eurogate’ report dated 19 May 2006 was supplied through ACP online.  The report gives a credit rating of 1 and recommended credit of €0.  The industry classification is stated as “Other non-store retail sales made by milkmen, mobile shops, ice-cream vans and vending machines.”  The net worth of the company is €17,948 (approximately £12,000).  Deals totalling £9.237m were carried out with GSM by Procomm.  A similar report with similar ratings was produced in respect of Sigma.  No industry classification is given.  Deals totalling £3.682m were carried out by Procomm with Sigma.  For Comitel there is an International Credit Report dated 26 May 2006 supplied through ACP online.  The report gives a ‘normal’ credit rating and recommended credit of BKK 4M (approximately £363,000).  There is no industry classification.  One deal of £523,000 was carried out with Comitel by Procomm on 31 May (deal May 12).  Comitel was also the EU supplier to the defaulter at the start of that deal,  thus a carousel was created.

 

50.       With regard to both its suppliers and its customers, Mr Jefferson appears mainly to have been approached by the various companies and to have trusted word of mouth recommendations.  Mr Jefferson described Procomm’s method of trading as principally being responding to telephone calls from other traders asking what models and quantities of stock were available on the market and which models customers were looking for.  This, as stated in his second witness statement “… would enable us to have an up to date feel for the market and identify trends such (sic) shortages, over supply, deletion of models by manufacturers, price increases and decreases in the grey market, manufacturers price reductions, update to software, or problems with existing models.”  He described Procomm as being “bombarded every week with a plethora of companies who wished to trade with it.”  When a company previously unknown to Procomm approached it, Mr Jefferson would, he claimed, obtain the relevant VAT documents and make checks with Redhill.  In addition he claimed that ‘reputable’ freight forwarders were willing to provide information as to whether the companies in question paid their bills on time and were easy to trade with.  Mr Jefferson gave one of the most important reasons for trading with a new company as being his own personal judgment as to the integrity of the company and its directors.  Procomm started trading with Crotek in October 2005, contact having initially been made through the IPT website.  Mr Jefferson inspected Crotek’s premises and looked at its due diligence procedures.  He also asked the freight forwarders if they were sound.  In his third witness statement Mr Jefferson states: “As with any new company I checked Crotek’s VAT number before first considering whether or not to trade with them.”  Redhill’s records show that it replied to Procomm for the first time with regard to Crotek on 3 February 2006 when it gave a positive response, all other checks on Crotek received negative responses from Redhill, and therefore Mr Jefferson’s claim that he always carried out Redhill checks is valueless. 

 

51.       With regard to Broadcast, Procomm had been approached by them at some point in 2006, Mr Jefferson in his witness statement said that Broadcast’s due diligence procedures and approach to trading appeared careful and they had a good verbal reference from the freight forwarders.  In his third witness statement Mr Jefferson said that “in light of the positive VAT verification and good trade reference, as well as the seemingly sound company documents and identification, Procomm could trade with Broadcast.”  In fact there is no record of a response from Redhill until 13 June 2006, after the first trade entered into by Procomm with Broadcast. 

 

52.       Mr Jefferson describes Communications as being a particularly strong company within the industry.  He visited their premises in Cardiff and verified their due diligence procedures.  They had a good reference from the freight forwarders.  In his third witness statement Mr Jefferson says: “I verified the VAT registration details with HMRC and although the files do not show it I am confident I would have obtained a Company’s House report as I did with all new suppliers and customers.”  Communications supplied Procomm in 3 deals on 30 May 2006, but Redhill was only contacted on 31 May.  Redhill confirmation came through on 13 June.  A fax was sent to the contact centre on 31 May.

 

53.       With regard to Procomm’s customers, France Affaires has continually been given negative reports by Redhill, there was no communication with the contact centre about them and the credit report was as above.  Parisienne contacted Procomm in January 2006.  Procomm did business with them although they did not visit the premises and appear to have had no direct knowledge of the company.  The company was given negative responses by Redhill and there was no evidence of any due diligence checks on this company.  GSM similarly contacted Procomm.  There appear to have been no specific references given for GSM and Redhill were only contacted about them by e-mail on 30 May after Deal May 1 which took place on 25 May.  No communication was made with the contact centre about this company.  With regard to the subsequent trade with GSM, namely Deals May 7-11, Redhill was faxed at 19.51 on 31 May.  Sigma contacted Procomm in May 2006.  There appeared to have been no references given to Procomm in respect of this company and Redhill were only faxed about Sigma at 18.44 on 31 May, whilst the first deals with Sigma were conducted on 30 May.  The only record HMRC has of contact about Sigma is on 13 September 2006.  Comitel is described by Mr Jefferson as a company that had “an excellent reputation”.  The credit report on Sigma is as set out above. 

 

54.       According to Mr Jefferson Procomm would “try and mix and match stock availability with customers’ needs and requirements until a deal could be struck.”  We note that in all the deals with which we are concerned exact amounts of stock were bought and sold through the entire deal chains and at no point does Procomm appear to have mixed and matched stock.  Mr Jefferson described the subsequent process as follows:

 

“Once we were sure that a deal was going to happen we would engage the services of an inspection company to inspect the goods at their location.  … the inspection company would check and inspect 100% of the stock on Procomm’s behalf. 

 

“The inspection report should confirm the following: that the make and model is as described in the inspection report, that the correct number of phones are present, that the inner packaging, retail carton is original, new and saleable, that the boxes contain one handset, charger, battery, user manual, warranty information, and the phones are not SIM locked in any way, and that the software version, language pack, charger configuration and packaging were all correct …  A particular model of mobile phone manufactured in China for the Asia Pacific Rim market is not the same as the same model manufactured for the Central European market.  Central European package phones have the best resale value and language packs.  They command the most money within Europe.  Procomm predominantly sold this type of package.  It is important to note that Central European specification phones are perfectly suitable for the UK market given that plugs are interchangeable, adaptors easily available, and languages selectable.”

 

55.       The inspections arranged by Procomm were shown in the documents to be 100% and included a 100% check of the IMEI numbers. It was Procomm’s proclaimed methods that once the inspection report had confirmed that the goods were exactly as ordered, and they had been allocated to Procomm, Procomm informed its customers that the goods were ready for shipping in line with the customer’s delivery instructions.  At that stage Mr Jefferson claimed that the goods still remained the property of the supplier although they had been allocated to Procomm and then allocated by Procomm to the customer.  In the absence of any payment, or part payment, to the supplier in advance, once the customer paid Procomm – but before it took possession – Procomm paid the supplier.  Until that point title remained with the supplier.  Procomm’s usual profit margin was between 5% and 8% on the goods that were exported because Procomm had higher overheads to cover shipping costs and insurance.  Goods were invariably, according to Mr Jefferson, shipped on hold.  It was only once Procomm received moneys due that it would instruct the freight forwarder that the goods could be released to the customer.  It was said that it was only at this point that Procomm arranged insurance cover for the stock.  It was claimed that Procomm did not deviate from this practice and only would ship the goods once the inspection report confirmed that the goods were exactly as ordered.  However, the evidence shows that this whole procedure would vary.  In particular in relation to deal March 3 on 29 March Procomm sent shipping instructions to AFI Logistics to arrange shipment of the stock “… that we purchased from Crotek today”.  AFI was also asked to inspect the goods, supply IMEI listing and arrange insurance cover.  It therefore appears to be the case that Procomm had purchased the goods before they were inspected.  This is the deal referred to, together with deal March 1, in paragraph 38 above, and is the second deal in which the goods arrived at Eurostar in the early hours of the day on which the deal was apparently done by Procomm, for which Mr Jefferson’s only explanation was that he completed the deal the day before, but did the paperwork a day later. 

 

56.       In relation to deal May 9, entered into on 31 May GSM agreed to purchase goods from Procomm in the sum of £1,330,875.  The bank statement shows that this sum was paid by GSM on 27 July 2006, whereas the release note to Interken from Mr Jefferson in respect of the goods the subject of deal May 9, which was included in the deal file for May 9, is dated 7 June 2006 and states “we have been paid in full”. Mr Jefferson described this as ‘a mistake’.(Paragraph 79 of witness statement 2.)  With regard to the payment by the customer for deal May 9 on 27 July, several weeks after a release note had been issued in respect of that deal, it was suggested by Mr Cox in re-examination that the documents in the deal files had been misplaced, and that the release note related to deal May 3 which was for the same model number and quantity of telephones.  Mr Jefferson, having been taken to the documents, readily accepted that the release note related to deal May 3.  However, we were not shown any release note which may have related to deal May 9, other than the one in the deal file. In the case of deal May 7, the bank statements show that payment was made to the supplier (Broadcast) four working days before payment was received from the customer (GSM), and in the case of deal May 11, involving the same parties, payment was made and received on the same day, 26 June 2006.

 

57.       Mr Fletcher was asked about the different software languages indicated on the telephones purchased by Procomm.  He did not consider that the languages in one batch of the telephones purchased in deal March 1 could be classified as Central European specification, which had been the description on Procomm’s invoice to France Affaires.  The languages shown on the inspection document for a proportion of the telephones is ‘Auto, English, Oriental, Melaju’.  The warranty details given for the first batch of Nokia  8800 telephones in this deal are given as ‘European & African’.  It was Mr Fletcher’s evidence that Nokia does not issue a warranty for Europe and Africa together, they only issue limited warranties specific to the markets in which the telephone was originally intended for sale.  The warranty for the second batch of telephones was similarly meaningless in that it did not refer to any geographical area, but stated only ‘Limited Warranty’…  The Nokia telephones the subject of deal March 2 were also sold by Procomm as having a ‘Central European spec’, the languages specified on the inspection report are ‘Auto, English, Spanish, French’, none of which is a Central European language. The telephones model Nokia 8801 were manufactured specifically for the American market.  They were sold by Procomm to France Affaires in France, but they would have been supplied with a 2-pin charger which is a different configuration from a European 2-pin charger, a matter not referred to in the inspection report.  Additionally the radios, which are an integral part of the telephone, work on different frequencies from those authorised for use in large parts of Europe.  At that time Nokia manufactured the 8801 for use in the Americas and the 8800s for use in Europe, and although the 8801 could be used in parts of Europe, even where it could in the main be used, there would be parts of that same country where it could not be used.  Fewer than 1,000 Nokia 8801s were retailed in Europe, and yet in one deal, March 2, Procomm purportedly accessed and sold on, 2,000 of that model.

 

58.       In respect of deal March 5 the telephones on Procomm’s invoice to Parisienne are described as Sony Ericsson’s with a Central European spec.  The inspection report shows three different batches of telephones with the languages shown respectively as: (1) English, Indonisian (sic), Malaysia, Tagalog, Tiengvist, Japanese; (2) English, French, Pycckn, Arabic; and (3) German, English, France, Turkey, Isizulu, Sesotho.  Of all those languages Mr Fletcher would only describe German as being able to be considered Central European.  However, Mr Fletcher explained that ‘Central European’ is not a specification which Nokia itself uses, although it is used in the grey market.  Also he affirmed that only code 131 had a limited warranty.  It was not clear how many telephones of each code were present in each pallet and therefore in the consignment as a whole. 

 

59.       Mr Jefferson explained the apparent divergence of language on the telephones purchased by Procomm as being irrelevant as all of the telephones contained English amongst the languages provided and in the grey market ‘Central European spec’ meant simply that the telephones contained English as one of the languages.   He also required an alphanumeric keypad and a 2-pin plug, which the telephones had. He did not give an explanation for the sale of the Nokia 8801s to France when that telephone was made for use in the Americas and could not be used widely in Europe, nor for the large numbers of that model which he was apparently able to access.  It was his evidence on an unrelated matter that long deal chains were intrinsically unlikely in the grey market.

 

60        The filed accounts for Procomm for the years 2002 to 2005 show that profits after tax were modest, ranging from £118,337 in 2002 to £5,216 in 2004.  Dividends of £15,000 were paid in 2002 but no other years.  In the years to 30September 2004 and 2005 the company took advantage of an exemption from having their accounts audited so there are no audit reports.  In the year to 30 September 2003 the audit report is qualified due to “fundamental uncertainty” due to the “effluxion of time and the paucity of records maintained by the company”.  They were therefore unable to provide an audit opinion.  The accounts show gross profit margins in 2003 to 2005 ranging from 2.5% to 4.5%. Included in “Selling and marketing costs” are “commissions paid”.  If this cost is included in the purchase costs, the gross profit margins fall to 0.9 to 2.2%. Mr Jefferson took directors’ emoluments of approximately £50,000 per annum. In addition the directors (being Mr Jefferson and/or his wife) became indebted to the company over that period, in the form of an overdrawn directors’ current account.  By 30 September 2005 the balance on the directors’ current account had risen to £374,579.  This indebtedness exceeded the retained profits in the company at that point.

 

Procomm’s case

 

61.       Procomm’s case in essence was that Mr Jefferson was an experienced trader in mobile telephones and he was an honest man who had no knowledge, and no means of knowledge, of any of the traders behind his immediate suppliers.  Procomm had carried out due diligence on all new and existing customers and suppliers; this included VAT verification, IMEI scans, credit checks and site visits where possible.  The credit checks were said to be not of great importance because Procomm conducted its business in such a way that it did not extend credit.  Trade references were sought, and personal contact was made with the trader.  It was submitted by Mr Cox that there was nothing odd or irregular about the manner of Procomm’s business, and no aspect of the deals had been such as to suggest anything out of the ordinary experience of a trader in mobile telephones. 

 

62.       Procomm relied on professional VAT consultants, Borders VAT Services, to check its paperwork and provided it to the Commissioners.  It had never heard of, or traded with, any of the defaulting traders, nor any of the other members of the chains disclosed.  It did not, and could not have, known of the identity of its supplier’s supplier or its customer’s customer, nor the terms on which they had traded.  There was nothing odd or irregular in the manner of Procomm’s business, nor in the deals.  All its suppliers were subject to due diligence.

 

63.       With regard to the specific matters relied on by the Commissioners as showing dishonesty the following submissions were made.  In respect of the failure to inform the Commissioners that deal May 8 had not been completed, Mr Cox submitted that Mr Jefferson in cross-examination had repeatedly admitted his mistake, and had there been an orchestrated fraud, that deal would not have failed.  Procomm’s case with regard to the ACP reports on Crotek – which bore a filing date for the accounts which was later than the date stamped on the front of the reports which showed that they could not be copies – was that this was not a matter for which Procomm was responsible.  The fact that there was a discrepancy with regard to the timing of deals March 1 and 3, as revealed by the Eurotunnel documents, was also said to be unlikely if the deals were orchestrated and was more redolent of genuine commercial activity.  Because Procomm did not release the goods until it was paid, the deal could have been stopped if anything had been found to be wrong.

 

64.       It was suggested by Mr Jefferson himself that, whilst he accepted there may be some evidence of contrivance in the chains which required an orchestrator, such a person would not let anyone such as Mr Jefferson himself in on the arrangement because that person would want to disappear with all the VAT he had charged on the goods which he had sold on.  He pointed to the fact that the profit margin made by Procomm on the March and May deals was between 5-8%, no different from its earlier profit margins.

 

65.       Having set out the legislation and the various principles to be derived from the various leading authorities on MTIC fraud, principally Kittel, Livewire, Olympia Technology Ltd, and Mobilx, Mr Cox made the following submissions specific to this appeal.  The evidence adduced by the Commissioners fell short of discharging the burden upon it.  There was no evidence that Procomm was a knowing party to an overall conspiracy.  The fact that Procomm received a much larger percentage of the profit than the intermediate sellers did not suggest Procomm was complicit in the alleged fraud, Mr Cox submitted that the lion’s share of the profit went to the offshore supplier.  He gave as an example the fact that Udeil, the importer in deals 1, 3, 7, 8, 10 and 11, habitually retained only 1% of the total VAT inclusive price from its customers.  The customer was ordered to pay the rest to its supplier in Northern Cyprus, Macdelta, who therefore received a larger share of the profit than Procomm.

 

66.       The following were not accepted on behalf of Procomm as being indicia of fraud:  the fact that the deals were back-to-back, in the same quantities of goods, with small and standard mark-ups; that stock was held to order until payments were made; that the deals took place within a short space of time at the end of the month; and that they resulted in a much higher profit to Procomm than to the intermediate sellers.  Nor was it accepted that the above were characteristic of MTIC fraud.  Even if these matters were known to Procomm, they did not afford grounds for saying Procomm knew that the specific deals were connected to fraud.  Mr Cox further submitted that the fact that membership of the 18 deal chains was substantially composed of the same traders in the same or a different order could not be relied on by the Commissioners.  Even if it were accepted as an unequivocal indication of fraud in the chain, there was no reason to believe that Procomm did know, or could have known, the composition of the chain.  The suggestion that Procomm had previous associations with other members of the supply chain was rejected as being without evidential foundation.  Other matters referred to by Mr Cunningham as indicia of fraud were rejected by Mr Cox as having no probative value.  As we share his view with regard to this last, we do not propose to set out those matters.

 

67.       Mr Cox made the following submissions of law :

 

(i)        There is no duty to take reasonable precautions but the taking of all reasonable precautions provides a trader with an impenetrable shield (Livewire).

 

(ii)       There is no legal obligation to verify the entire transaction chain.  Verification with Redhill is unrealistic and impractical because of the time taken in obtaining a reply.

 

(iii)      It is for HMRC to suggest the precautions that the taxable person ought to have taken: Livewire (ChD) para 90.

 

(iv)      The Kittel test, even in its original form, requires that the taxable person “knew or should have known” something.  It is therefore necessary to identify what it is that he knew or should have known: Livewire (ChD) para 90.

 

(v)       It is not sufficient for HMRC to show that a taxable person should have known of some unidentified, unspecified fraud in a series of transactions, the question is, “what is the fact in the real world that the trader should have known?”: Livewire (ChD) para 91-92.

 

(vi)      The question on which the Tribunal is required to focus is the legitimacy of the business actually conducted by the taxable person and not whether it is possible at all to conduct an honest business within the high volume secondary mobile phone market: Calltell para 57.

 

(vii)     Evidence of a general awareness of the risk of MTIC fraud is not relevant: Livewire Telecom para 35(1).

 

(viii)    Suppliers cannot, as a matter of commercial reality, be expected to reveal the identity of their suppliers, as they would risk being cut out of the business: Mobilx (ChD) para 6.

 

(ix)      It is not a cause for suspicion that trades to purchasers based outside the UK carried a higher mark up than sales on UK to UK trades: OCL para 145.

 

(x)       It is not strange that all deals were back to back and took place on the same day.  This was a commercially sensible way of proceeding to minimise risk and reduce financing costs.  It is still the way many markets operate: OCL para 151; Livewire Telecom para 34(3)(4).

 

(xi)      Not every trade in the grey market is fraudulent, but the risk of fraud has to be guarded against: OCL  para 159.

 

(xii)     The tax loss is not the repayment of VAT at the end of the chain, but the VAT for which the defaulter should have accounted but did not: Livewire (ChD) para 96.

 

(xiii)    In the case of a “straight” MTIC fraud a taxable person who is not himself a dishonest co-conspirator will not be deprived of his right to reclaim payment of input tax unless he knew or should have known of a connection between his own transaction and the fraud of the missing trading: Livewire (ChD) para 99.

 

(xiv)    An assertion by HMRC of an “overall scheme to defraud” is an assertion of a factual conclusion that HMRC are required to prove on the facts of each individual case: Livewire (ChD) para 109.

 

(xv)     The burden is on HMRC to prove that the taxable person knew or ought to have known that by its purchases it was participating in transactions connected with the fraudulent evasion of VAT.  It is not for the taxable person to prove that it ought not.  It is not sufficient to demonstrate that the taxable person was involved in transactions which he ought to have known “might” turn out to have undesirable associations.  The relevant knowledge is that the taxpayer could reasonably have known that by its purchase it was participating in a transaction which was connected with the fraudulent evasion of VAT; that such transactions might be so connected is not enough: BSG para 53.

 

(xvi)    If HMRC (despite their greater knowledge, resources and powers) did not have knowledge of particular patterns of trade at the relevant time, it is difficult to see how the taxable person could have been vested with such knowledge: OCL para 137.

 

(xvii)   Cogent evidence is required before a finding of fraud can be made against a non-party that has not had an opportunity to explain its position: Livewire Telecom para 30.31.

 

(xviii)  Suspicions about patterns of trading are only available with the benefit of hindsight: OCL para 451-454.

 

Respondent’s Case

 

68.       It was the Commissioners’ primary case that Procomm knew that it was participating in transactions connected with the fraudulent evasion of VAT.  Its alternative case was that Procomm should have known of this.

 

 69.      The evidential basis for the submission by Mr Cunningham that each of the 18 deals formed part of an overall scheme to defraud the Revenue was that each of them could be traced back, via contrived and pre-arranged chains, to one of the seven defaulters, each of whom had fraudulently failed to account for VAT due.  That Procomm had only five customers at the end of the 18 deal chains was also said to be evidence of contrivance and artificiality.  Whilst all the participants in the chain made a profit, that Procomm both had the biggest profit margin, and took the largest share of the profits, was said to be both evidence of contrivance and of Procomm’s knowing involvement in a scheme to defraud the Commissioners.

 

70.       In their letter of 20 July 2007 notifying Procomm of their decision to deny input tax the Commissioners set out the following matters which it had taken into account in addition to those referred to above:-

 

·       All the deals were carried out on a back to back basis and most on the same day, with the requirements of the supplier and customer apparently matching up exactly, and with no stock left unsold.  It seems highly unlikely that this would occur by chance within such a short timescale under normal commercial conditions.  Rather, it lends support to the view that the transactions were artificially contrived;

·       There are consistent profits made irrespective of the date of the deals, the quantity and model of phone and who the customer was.  No losses ever occurred.  This is not normal commercial practice;

·       Procomm was subject to minimal commercial risk, since it received payment from its customer prior to paying their supplier.  This also meant that Procomm’s supplier was willing to grant credit to the tune of many millions of pounds, which again seems incredible in relation to normal commercial practice;

·       There appears to be no evidence of any written contracts for these deals.  This would again be contrary to normal commercial practice for such high value deals and would clearly make it difficult for Procomm to gain redress in the event of any dispute over payment, transfer of title, faulty goods etc;

·       Although Procomm did not bank with the First Curacao International Bank (FCIB), (saying it was not a trusted bank) it still accepted payments from FCIB account holders – the trader’s own Bank of India account closed because the bank did not want to be associated with MTIC fraud;

·       The company experienced a phenomenal turnover growth in a short period of time, for which there is no apparent commercial rationale (e.g. supply of new or innovative products or services, corresponding growth in consumer demand for the products that it deals in etc); and

·       The goods were mobile phones commonly associated with MTIC fraud.

 

71.       In his closing submissions Mr Cunningham additionally relied, as evidence of Mr Jefferson’s knowledge that his transactions were connected with fraud, upon the nature of Mr Jefferson’s evidence in particular the fact that a number of important issues were only dealt with in his third witness statement, which itself had only been produced after Mr Cunningham’s opening in the first appeal hearing.  He also pointed to the claim for repayment of VAT  in respect of deal May 8 when the deal had not been concluded by Procomm’s customer and, although this fact was known to Mr Jefferson from at least the end of July 2006, it was not disclosed until his third witness statement.

 

72.       The Commissioners did not accept Mr Jefferson’s repeated claim that due diligence was ‘of paramount importance’ to Procomm: Mr Cunningham referred to the ACP credit checks, and in particular the discrepancies in the Crotek credit reports and the fact that Mr Jefferson did not deal with the inconsistency in respect of the deals in them until his third witness statement.  Mr Cunningham also referred us to the Redhill checks on both suppliers and customers, and to a number of documents including a letter to the Commissioners dated 23 November 2006 in which Mr Jefferson stated that Redhill replies were obtained for each deal.  The Commissioners’ evidence shows that Redhill responses were not obtained for all the deals before they were carried out.

 

73.       As further evidence of Mr Jefferson’s unreliability as a witness we were referred to his evidence in his second witness statement that the inspection company “would check and inspect 100% of the stock on Procomm’s behalf”, whereas in cross-examination Mr Jefferson had accepted “… there is no way in the time they could have physically opened each and every box”.  It was submitted that Mr Jefferson’s written evidence and the deal documents were designed to give the (incorrect) impression that, as a mark of the care which Procomm took in its transactions, every phone was inspected.  Additionally the inspection reports did not confirm that Procomm received what it had ordered.  With regard to deal March 5 (see para 59) it was not oclear how those languages could have been thought to be either Euro or Central Euro spec as was required by Procomm and its customers.

 

74.       The Eurotunnel ticket for deals March 1 and March 3 were cited as evidence that the inspection reports for those deals could not be relied on.  We were invited to reject Mr Jefferson’s explanation (which only emerged in his third witness statement) that those deals must have come together the evening before, and that, notwithstanding the dates shown on the inspection reports, the inspections must have taken place on the same evening.  That explanation required not only all Procomm’s deal documentation for the two deals to be wrong, including the shipping instructions, but also the deal documentation for all the preceding parties in the chains.

 

75.       Mr Cunningham submitted that, for Procomm, proper due diligence was unnecessary because all the trades were pre-arranged for the purpose of sustaining the fraud.  Furthermore the various peculiarities of trading could not be the result of innocent co-incidence.  Those peculiarities were identified in the Commissioners’ letter to Procomm of 20 July 2007 set out above.  Additionally there was no authorised distributor or end user in any of the chains and there was no value added at any stage during the chains.  Mr Cunningham pointed to Mr Fletcher’s opinion expressed in his witness statement that; “For traders involved in a long deal chain it is extremely unlikely that they will be involved in a profitable grey market trading opportunity … long deal chains are extremely unlikely to occur let alone be repeated.”  In all 18 deal chains Procomm paid more for the telephones than any other UK trader, which made no commercial sense.

 

76.       The Commissioners’ case was not only that the deal chains were contrived but that there must have been someone who contrived them.  Procomm made 84.07% of the total profit where the buffers made a combined profit of 15.93% of the total; that Procomm was a knowing participant in the fraud was the only rational and logical explanation.

 

77.       The Commissioners pointed to the fact that in respect of deal May 8 nothing had happened as a result of non-completion.  In fact there was a complete absence of any written terms and conditions for any of the deals entered into, this being because they did not matter.  Mr Cunningham invited us to reject Mr Jefferson’s evidence with regard to these matters.

 

78.       With regard to the applicable legal principles, the Commissioners relied principally upon the recent Court of Appeal decision in Mobilx v HMRC which itself was based in part on the decision of the European Court of Justice in the case of Kittel which is the leading case in the field.

 

79.       It was accepted that the burden of proving both fraud and knowledge of fraud, or that Procomm should have known of that fraud, lay on the Commissioners.  The Commissioners relied on the speech of Lord Hoffman in the House of Lords in the case of In re B for the standard of proof being the balance of probabilities.  At paragraph 13 Lord Hoffman said:

 

“… the time has come to say, once and for all, that there is only one civil standard of proof, and that is that the fact in issue more probably occurred than not.”

 

80.       For the meaning of “should have known” we were referred to paragraphs 50-52 of Mobilx  where at paragraph 5 Moses LJ said:

 

“The [European] Court must have intended the phrase “knew or should have known” which it employs in paras 59 and 61 of Kittel to have the same meaning as the phrase “knowing or having any means of knowing” which it used in Optigen (para 55).”

 

And, at para 52:

 

“If a taxpayer has the means at his disposal of knowing that by his purchase he is participating in a transaction connected with fraudulent evasion of VAT he loses his right to deduct, not as a penalty for negligence, but because the objective criteria for the scope of that right are not met.”

 

We are further referred to Mobilx at para 64 where Moses LJ stated:

 

“If it is established that a trader should have known that by his purchase there was no reasonable explanation for the circumstances in which the transaction was undertaken other than it was connected with fraud then such a trader was directly and knowingly involved in fraudulent evasion of VAT.”

 

81.       Mobilx was also authority for the correct approach to the extent of knowledge, it being that there must be evidence that a transaction was connected with fraud.  Also, in relation to a given transaction, the question, as stated by Moses LJ at para 68, was whether:

 

“… there was no reasonable possibility other than that it was connected with fraud.”

 

In addressing that question the tribunal was entitled to have regard to all the surrounding circumstances, as held by Christopher Clarke J in Red 12.

 

Reasons for Decision

 

82.       In deciding this appeal the burden of proof is on the Commissioners to show that Procomm either knew or should have known that the deals in question were connected with fraud.  The standard of proof is the balance of probabilities.  We adopt the approach taken by the Tribunal in Red 12, an approach which was upheld by the High Court, and look at not just the individual transactions but also at all the surrounding circumstances.

 

83.       With regard to the transactions themselves, we do not accept Mr Cox’s submission that it is either disingenuous or irrelevant that there are no end-users in the deal chains.  The relevance of this fact is that in commercial trading there is, in any proper commercial deal, invariably a manufacturer at the outset and an end-user, therefore the deal chains in question would have to be even longer than those set out in Annex 1 if they represented genuine commercial dealings.  We accept the evidence of Mr Fletcher that long deal chains are intrinsically unlikely in the grey market.

 

84.       Whilst Mr Cox was right to submit that in earlier decisions various of the matters relied on by the Commissioners had individually been rejected as being indicia of fraud, nonetheless when all those matters are taken together in our judgment they are capable of being so considered (see Red 12).  In the present case Mr Jefferson himself accepted in his oral evidence that “there does appear to be some evidence of contrivance in the chains.”  It was accepted on his behalf that there was fraud in the earlier part of the deal chains, as stated in para 16 above and therefore we have only to consider whether the various matters relied on by the Commissioners as being indicia of fraud are matters which go to the question of Procomm’s knowledge of the fraud.

 

85.       Mr Jefferson had represented himself as being a competent businessman with a lot of knowledge of, and experience in, the mobile telephone industry.  All the evidence before us points to his being an incompetent businessman.  It is inconceivable that a competent businessman would not have been aware that his company had not been paid for items costing £1,424,500, and would, contrary to his stated policy, have arranged, and paid for, the shipping of those items, as happened in relation to deal May 8. Further, in respect of that same deal, a competent businessman would not have reclaimed VAT on the items the subject of that deal when he has not himself paid either the principal sum or the VAT.  A competent businessman would have drawn this matter to the attention his solicitor at the very latest when setting on foot an appeal against the decision to deny him input tax and would not, as Mr Jefferson did, vaguely hope that at some future date others would sort it out, and there would, as he said, be a “reckoning”.  The fact that there was no come back on Procomm for its failure to pay Broadcast, its suppliers in deal May 8, is a further indication of contrivance in the deal chains, and the fact that there were no terms and conditions of sale also show a lack of commercial competence.

 

86.       We do not accept that a competent businessman would have dealt with companies new to him on the basis of the type of evidence revealed by ACP, the credit checking company, which we have set out above at paragraphs 47-50.  We make no finding on the issue of whether or not the reports in respect of Crotek were fraudulently prepared.  The relevance of those reports is twofold: firstly Mr Jefferson was prepared to produce them in evidence without having noticed that they could not have been prepared on the date which appears on them because they contained information only available at a later date.  Secondly, the reports themselves give Crotek a credit rating of zero (see paragraph 48 above).  If, as claimed, the reports were available to Procomm before it dealt with Crotek, it is remarkable that Mr Jefferson was prepared to deal with such a company given its low credit rating.  He was also prepared to deal with others, referred to in paragraph 47 above, which also had very low or zero credit ratings and which traded in diverse goods such as household appliances and retail sales to milkmen with no reference to mobile phones.  Additionally, Mr Jefferson had a series of negative responses from Redhill with regard to Crotek, but nonetheless dealt with it.  Whilst Redhill was undoubtedly slow to respond, it might be expected that a competent businessman would not continue to trade in deals worth £1m plus, with a company in respect of which there had been so many negative responses in addition to such an unfavourable credit report.  Mr Jefferson’s attitude was that it did not matter as he only paid for goods once he had been paid, an approach which was clearly shown not to have been followed in the case of deal May 9 (see para 53 above).  To claim, as he did, that he always carried out Redhill checks and credit checks was meaningless in the circumstances here.

 

87.       We did not find Mr Jefferson to be a credible witness, not only because of his evidence with regard to Redhill, ACP, and the May 8 deal, but also in part because of the way several of the matters of fundamental importance to his case were only raised in his third witness statement which was not produced until Mr Cunningham had concluded his opening at the start of the first hearing of this appeal.  No good or any reason for this delay was ever advanced.  There is also the fact of his conflicting attitude to whether or not MTIC fraud is prevalent in the mobile phone industry, a matter which we would have thought anyone experienced in that industry would have accepted was beyond dispute, yet in his second witness statement Mr Jefferson claimed otherwise (see para 36 above).  Another feature of his evidence was his repeated claim that he was only bringing this appeal to restore his good name because he would receive no financial benefit, such was his indebtedness.  In fact the terms of the loan to Procomm by Associate Investments Ltd obliged Procomm to instruct Hassan Khan to issue proceedings if Hassan Khan deemed it so necessary.

 

88.       A matter which we also take into account in assessing Mr Jefferson’s credibility and competence is the way he managed the financial aspects of Procomm’s business.  Substantial loans were taken out over a period of years with only the briefest paperwork.  Apart from the two cases where specific loan agreements were drawn up by solicitors, the agreements did not cover inter alia any agreed use for the funds; on which day interest was to be paid; arrangements if interest was not paid on time, or security.  The loan to Associate Investments Ltd of 22 May 2006 was at a rate of 6% per annum plus 50% of the gross profit, terms which are particularly uncommercial.  That Mr Jefferson did not understand a commercial loan was shown by his attitude to Kay Rowham where he expressed surprise that she wanted repayment of the capital despite having received considerable sums by way of interest.  Mr Jefferson claimed that he could afford to borrow at a rate of 30% interest because he was making 5-8% gross profit 12 times per annum.  However the accounts show that this was not the case (see para 60 above).  Even if he could make 12 deals a year using the money, he could not cover the 30% interest based on his historic profit margin, and he also needed to pay 50% of the gross profit to Associate Investments Ltd.

 

89.       Whilst we accept the submissions of law made by Mr Cox at paragraph 68 above, he did not refer us to Red 12, a case which the Court of Appeal considered in extenso in Mobilx.  At paragraph 83 Moses LJ adopts paragraphs 109 to 111 of the judgment of Christopher Clarke J in Red 12 v HMRC [2009] EWHC 2563.  In those paragraphs of Red 12 Christopher Clarke J said the following,

 

“109    Examining individual transactions on their merits does not, however, require them to be regarded in isolation without regard to their attendant circumstances and context.

 

110.     To look only at the purchase in respect of which input tax was sought to be deducted would be wholly artificial.

 

111.     … in determining what it was that the taxpayer knew or ought to have known the tribunal is entitled to look at the totality of the deals effected by the taxpayer (and their characteristics), and at what the taxpayer did or omitted to do, and what it could have done, together with the surrounding circumstances in respect of all of them.”

 

90.       In the present case we were asked by Mr Cox to find that only the original defaulters had occasioned a tax loss to the Commissioners and Procomm was not, and could not have been, aware of them.  Whilst we might accept that proposition if there were only one deal chain in issue here, we cannot ignore the co-incidences here; amongst other things there is the fact that the requirements of the supplier and the customer matched up exactly with no stock left unsold; the consistency of the profits made by all parties; no chains and losses were incurred by anyone in the chains and the length of the deal chains.  There is also the evidence that in deal May 12 Procomm sold telephones to Comitel, who had itself originally exported those same telephones to a UK company, First Electric, who was the defaulter on that same deal.  Mr Jefferson was prepared to ignore all the ACP reports and other indicia such as negative Redhill responses that the companies he was trading with were not sound, in favour of his own impressions.  He was prepared to take out loans at uncommercial and unsustainable rates, he was apparently unaware when a customer did not complete a deal, as in the case of deal May 8, and when he did become aware did not tell either the Commissioners or those advising him until years afterwards.

 

91.       With regard to the telephones themselves, even if Mr Jefferson is right and all the telephones in which he traded did have an English language capability (a matter about which we are sceptical but on which we do not have sufficient reliable evidence to judge), there is still the issue of the unsuitability of the Nokia 8801s for sale in a European market, the fact that there were only 1,000 retailed in Europe at that time yet Procomm apparently traded in 2,000, the fact that there was a limited warranty for only one group of the telephones which comprised deal March 5, but to how many telephones in each pallet this referred was unclear from the inspection report and, as referred to by Mr Cunningham, the number of telephones represented by each of the three language codes present was also unclear.  There is no evidence that any of the telephones traded were ever rejected by Procomm’s customers or that any of the deals ever fell through, apart from May 8.  The inspection reports were said to be relied on by Procomm, however, given the above and the evidence relating to deals March 1 and 3, where the Eurotunnel tickets show the goods left at 02.23 and 04.32 on the days on which the deals were said to have been made and the inspection reports show that a 100% inspection had been carried out on those same dates, the inspections apparently having been carried out in the early hours, we are unable to place any reliance on them.  We do not accept Mr Jefferson’s evidence that the deal was made late on the day before on each occasion and the documents then dated the next day. This evidence conflicts with the dates on all the other documents relating to these deal chains.

 

92.       It was submitted on more than one occasion by Mr Cox that if Procomm were engaged in fraud, more care would have been taken to ensure consistency of the documentation.  This is not a proposition we accept, Mr Jefferson, however amicable, was evidently an inconsistent and careless man who attempted to portray himself as an experienced and competent businessman.  We have given above our reasons for rejecting his claim to competence, and for not finding  him a credible witness.  Mr Jefferson was under great pressure to generate a large amount of income to repay the interest on the uncommercial loans he had taken out, let alone the capital or the 50% of profits due to Associate Investments Ltd, quite apart from the necessity to maintain his own lifestyle, as evidenced by his drawings shown on the accounts.

 

93.       We ask ourselves whether it was possible for an innocent party to have been involved in the way Procomm was. We find that the deal chains must have been contrived as there is no commercial rationale behind such long chains where no modifications or amendments are made and so no value is added.  We look at the volume of the telephones being traded, the inter-connectedness of the companies involved and conclude that it cannot be innocent coincidence that all the parties involved make a profit, no-one makes a loss.  The telephones in deal March 2 are not even suitable for the European market; the telephones in deal May 12 were part of a carousel and there was a third party payment in deal May 9 (see para 39 above).  If the input tax claimed had been paid to Procomm it would have made a substantial profit for doing little more than the others earlier in the chain beyond arranging the shipping.  We ask ourselves why would the organisers of the fraud, which Procomm accepted existed, and the contrivers of the chains, another matter accepted in part by Procomm, allow an innocent party to profit?

 

94.       Taking all the circumstances of this case together we find that Procomm did know that its dealings were connected to fraud.  However, if we are wrong about that, we find that Procomm ought to have known that the only realistic possibility was that its purchases were connected with the fraudulent evasion of VAT.

 

95.       This appeal is dismissed.

 

96.       This document contains full findings of fact and reasons for the decision. Any party dissatisfied with this decision has a right to apply for permission to appeal against it pursuant to Rule 39 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009.   The application must be received by this Tribunal not later than 56 days after this decision is sent to that party.  The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice.

 

 

 

 

MISS J C GORT

TRIBUNAL JUDGE

RELEASE DATE: 10 November 2010