THE rising tide of VAT fraud has recently become another battleground between the Government and civil servants. The Public and Commercial Services Union blames Gordon Brown for job cuts that Customs investigators say have made it impossible to stem the fraud that risks spiralling out of control. The civil servants’ union estimates that organised VAT scams cost the country up to £7 billion a year. A senior official described the position as equivalent to “ two Tonbridge robberies a week”. Close to £50 million was stolen from the Kent security depot in February.

At the heart of the problem are carousel frauds, which began in the Seventies when people in the rag trade diverted VAT payments that should have gone to the Government. In the Nineties criminals moved into the technology sector and typically this fraud now uses mobile phones or computer chips to deprive the Exchequer of large amounts of tax. The fraud was so named because it involves goods that are sold by company A, passing through a number of traders, before being repurchased by company A, frequently at a lower price than it had sold them for. The goods are thus traded in a carousel movement but in the process the Treasury is hit for a double whammy of lost tax.

The fraud works by exploiting VAT loopholes available when trading either with the European Union or places such as Dubai or Hong Kong where VAT does not apply or exemptions can be taken advantage of. For example, a consignment of phones will be sold from another EU country into the UK. Because the trade involves two member states no VAT is payable. The phones will be purchased by a bogus trader often using an off-the-shelf company that may be in existence for only a few weeks. The trader sells the phones to another UK company and charges VAT, before disappearing without paying the VAT to the Treasury. This is the first loss to the Government. The phones then pass through a number of other companies known as “buffers”, to try to create the impression of legitimate trading, and the buffers may account for any VAT that they receive. However, the phones will ultimately end up with a company the authorities refer to as a “broker”. This will pay VAT on the phones that it buys and will sell them back to another EU state VAT-free. The broker does not receive any VAT to pay over to the taxman but is able to reclaim the VAT it paid out when the phones. This reclaim can either reduce the money the broker needs to pay the Treasury on other trades or secure an actual payment to the broker. If the bogus trader had accounted for VAT as required, that payment would match the broker’s reclaim and so there would be no loss to the public purse. Because it is not, the Treasury loses for the second time. The broker will often be the mastermind who funded the initial purchase from the original EU state.

There are believed to be 9,000 people spearheading this crime, known as Missing Trader Intra Community (MTIC) fraud, but Revenue & Customs has only 500 officers to tackle it. However, the issue is not new and investigators have been reporting multibillion-pound annual losses for years. Now, because of the lack of resources, the position risks becoming uncontrollable, and figures released recently suggest that the crime has increased 500 per cent in the past 12 months. There is even a suggestion that fraudsters believe the risk of detection is so low that they no longer trade actual goods but engage in a “virtual” fraud where the trade exists only in the bogus documents used to support fraudulent VAT reclaims.

Faced with the growing enormity of tax losses, alarm bells are finally ringing in Whitehall. Perhaps predictably, an attempt has been made to blame privately paid defence lawyers who, it is claimed, are delaying trials by making lengthy disclosure requests. This may be convenient spin but it is not reality.

First, most defendants in these large-scale frauds have legal aid lawyers whose rates have been increasingly reduced. More significantly, it ignores the fact that Customs prosecutions have an unfortunate history of failing to give the disclosure that the law requires. This has led to a litany of failed prosecutions and a number of government reports, most recently by Mr Justice Butterfield, that have been highly critical of Customs prosecutions.

The newly created Revenue & Customs Prosecutions Office is attempting to restore confidence in the system but there are signs that the scale of losses may assume a greater political dimension. The Liberal Democrats have described the position as “appalling mismanagement” and the buck stops with Gordon Brown. The MTIC problem has mushroomed on the Chancellor’s watch, and as Charles Clarke now knows, the public is increasingly unforgiving of ministers who can not run their departments.

The author is a partner in the fraud and regulatory investigations department at Russell, Jones & Walker

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