Sarah Donald of law firm Dundas & Wilson outlines the problem of VAT carousel fraud in the carbon credits trading sector and assesses HMRC’s response.
Anyone navigating their way through the carbon credit trading legislation will understand its complexity but must also be aware of their company’s possible exposure to VAT carousel fraud.
Initial scepticism about the magnitude of VAT fraud in the carbon credit trading arena was answered swiftly back in August. HMRC zero rated transactions in the UK after the tax authorities in France and then the Netherlands had taken similar action following suspicious trading on the Bluenext Exchange in Paris. However, whilst HMRC’s actions may protect companies going forward, there is still the matter of the missing VAT.
In its simplest form, the fraud involves the acquisition of a product over a European border by party B from party A (which does not involve the payment of VAT), and then selling on that product for a value plus VAT within the same country to party C. Party B then disappears without accounting to HMRC for the VAT that was charged to C. The product then continues to be traded to parties D and E, and then party E may export it to another European country and claim back the VAT from HMRC. Whilst party E may be completely unaware that there has been a fraud in the supply chain, it may nevertheless find itself the subject of legal proceedings by HMRC if it has not taken sufficient caution in its trading activities.
Zero rating
Zero-rating is different from tax exemption, in that zero-rated goods are still taxable. However, because no VAT is charged, the opportunity for fraud is removed and the seller can reclaim VAT on any purchases that relate to those sales. However, there still exists a risk that carbon credit trades which took place prior to the zero-rating deadline will be investigated by HMRC.
HMRC made several arrests soon after the zero rating, estimating the sum involved to be approximately £38 million. Some of those losses might be recovered from the criminal gangs but an innocent trader could also be investigated if they have inadvertently been involved in a dirty supply chain.
Vigilance
If HMRC comes knocking, it’s best to seek advice to assist with inspections and delivery of documents so that if litigation ensues, the trader is best placed to manage the requirements of HMRC.
Despite HMRC’s actions in zero rating VAT on carbon credit trades, UK companies still need to be very much aware of the risks. It is essential that companies conduct sufficient ‘know-your-client’ checks and are on guard for tell-tale signs of the fraud.
Reverse charging
The severity of the risk was highlighted by the European Commission’s recent proposals to apply reverse charging to carbon credits, allowing the member states to take rapid action against such attacks on the public purse. The reverse charge mechanism allows the supplier of goods or services not to charge VAT to the customer but rather to ‘self-invoice’ and pay the amount over to the relevant tax authority. Recommendation of this system evidences the need for a ‘joined-up’ approach to tackle this fraud on an international basis.
The risks associated with fraudulent carbon credit trading are real, so HMRC should be applauded for taking such prompt action. Companies should be warned that investigations by HMRC to recoup monies lost to date may include innocent players who will need to prove their innocence and demonstrate that due care was and is taken in respect of trades. Companies trading in Europe in countries other than France and the Netherlands are still at risk and should take steps to secure their due diligence. They should also take steps to increase their knowledge and understanding of this latest incarnation of carousel fraud.
Sarah Donald is an associate in the London Dispute Resolution team at UK law firm Dundas & Wilson.