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You are here: BAILII >> Databases >> First-tier Tribunal (Tax) >> Tower Bridge GP Ltd v Revenue & Customs (VAT - INPUT TAX : Other) [2019] UKFTT 176 (TC) (05 March 2019)
URL: http://www.bailii.org/uk/cases/UKFTT/TC/2019/TC07026.html
Cite as: [2019] UKFTT 176 (TC)

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TC07026

 

Appeal number:    TC/2013/03349

 

VAT – Value Added Tax – Invalid invoices – Regulations 14 and 29 of VAT Regulations 1995 – conformity with EU law – Principal VAT Directive - discretion to accept alternative evidence – reasonableness of discretion – the decision maker whose discretion is subject to scrutiny – denial of input tax for periods 06/09 & 09/09 – carbon credit trading – missing trader intra community fraud - Kittel – knowledge or means of knowledge of connection to fraudulent evasion of VAT – assessments for periods 06/09 & 09/09 under section 73 Value Added Tax Act 1994 (“VATA”) – whether an assessment was made for period 06/09 as a matter of law – Aria Technology Ltd – whether assessments were made within time pursuant to section 73(6)(b) VATA – appeal allowed in part

 

 

FIRST-TIER TRIBUNAL

TAX CHAMBER

 

 

 

TOWER BRIDGE GP LIMITED

Appellant

 

 

 

 

- and -

 

 

 

 

 

THE COMMISSIONERS FOR HER MAJESTY’S

Respondents

 

REVENUE & CUSTOMS

 

 

 

TRIBUNAL:

JUDGE RUPERT JONES

 

 

Sitting in public at the Rolls Building, London on 6, 7, 8, 9, 12, 16, 19, 20, 21, 22 & 23 March 2018

 

Nicola Shaw QC and Michael Jones of Counsel, instructed by Pinsent Masons solicitors, for the Appellant

 

James Puzey, Howard Watkinson and Joshua Carey of Counsel, instructed by the General Counsel and Solicitor to HM Revenue and Customs, for the Respondents

 

Supplementary written submissions on behalf of the Appellant & HMRC made on 29 March, 9 July, 31 August, 21 November & 19 December 2018

 

 

Index

Paragraph Number

 

 

Introduction

1

The Decisions under appeal

2

The issues in the appeal

25

The Evidence

32

The First Issue – denying input tax on the Stratex invalid VAT invoices when substantive conditions for the charge of VAT under the PVD are met

41

The Facts on the First Issue

42

The Law on the First Issue

45

Appellant’s submissions on the First Issue

84

HMRC’s submissions on the First Issue

160

Discussion and Decision on the First Issue

181

Conclusion on the First Issue

217

The Second Issue – reasonableness of discretion to deny input tax on the invalid Stratex invoices

218

Facts on the Second Issue

223

Law on the Second Issue

235

HMRC’s submissions on the Second Issue

251

Appellant’s submissions on the Second Issue

267

Discussion and Decision on the Second Issue

295

Conclusion on the Second Issue

344

The Third Issue – denial of input tax based on Kittel – knowledge or means of knowledge of MTIC fraud

345

Facts on the Third Issue

354

Law on the Third Issue

1223

HMRC’s submissions on the Third Issue

1288

Appellant’s submissions on the Third Issue

1308

Discussion and Decision on the Third Issue

1332

Conclusion on the Third Issue

1601

The Fourth Issue – whether there was an assessment for period 06/09 as a matter of law

1608

The Law on the Fourth Issue

1610

The Facts on the Fourth Issue

1616

Appellant’s submissions on the Fourth Issue

1648

Discussion and Decision on the Fourth Issue

1667

Conclusion on the Fourth Issue

1692

The Fifth Issue – whether assessments were made within the time limit under section 73(6)(b) VATA

1696

Law on the Fifth Issue

1704

Facts on the Fifth Issue

1715

Appellant’s submissions on the Fifth Issue

1912

HMRC’s submissions on the Fifth Issue

1979

Discussion and Decision on the Fifth Issue

2004

Conclusion on the Fifth Issue

2060

Conclusion on all issues and disposal of the appeal

2062

 

DECISION

 

Introduction

1.               The Tribunal begins by thanking counsel and the representatives for both parties for their assistance before, throughout and after the hearing.  It would not have been possible to decide an appeal such as this without their cooperation and professionalism.  The Tribunal apologises for the length of time it has taken to release this decision, a draft of which was circulated for corrections on 11 February 2019.

The decisions under appeal

2.               The Appellant, Tower Bridge GP Limited (“Tower Bridge”), appeals against the following decisions of Her Majesty’s Revenue and Customs (“HMRC”).

Denial of Input Tax

3.               The first set of decisions under appeal are those of HMRC to deny the Appellant input tax in respect of VAT periods 06/09 and 09/09 in a decision dated 6 December 2012 (‘the Decision’) as varied by HMRC’s review in a decision dated 12 April 2013 (‘the Review Decision’) and by an amendment to the Review Decision on 25 June 2013. 

4.               The Decision of 6 December 2012 was to refuse to grant the Appellant the right to deduct input VAT incurred on purchases of carbon credits in VAT periods 03/09, 06/09 and 09/09.  HMRC denied the Appellant input tax totalling £36,330,792.25 (this included denials of £690,294.29 in respect of 03/09, £34,317,697.80 in respect of 06/09 and £1,322,800.16 in respect of 09/09).

5.               The purchases of carbon credits were made by two members of the VAT group of which Tower Bridge is the representative, Cantor CO2e Limited (“CO2e”) which arranged and undertook the relevant transactions, and Cantor Fitzgerald Europe Ltd (“CFE”) which executed the relevant transactions and received and issued the relevant invoices.

6.               CFE and CO2e will be referred to collectively as “CFE” unless the distinction between the two is of relevance.  CFE may also be referred to as “the Appellant” unless the distinction becomes meaningful.

7.               The first effect of the Review Decision was to uphold part of the Decision denying input tax on the basis that invoices to CFE from Stratex Alliance Ltd (“Stratex”) were invalid.  The second effect was to withdraw that part of the Decision which decided that input tax should be denied on invoices from other suppliers to CFE on the basis they were invalid VAT invoices.

8.               The third effect of the Review Decision was to change the date at which HMRC contended that CFE first knew or should have known that the transactions upon which input tax was claimed were connected with the fraudulent evasion of VAT.  The effective date for CFE’s knowledge / means of knowledge was moved from 18 May 2009 to the later date of 8 June 2009 (with the exception of the decision in relation to Stratex invoices where it remained 18 May 2009). 

9.               The result of the Review Decision was no longer to deny input tax in respect of period 03/09 and reduce the amount of input tax disallowed from £36,330,792.25 to £7,126,810.14 (£5,804,009.98 in respect of 06/09 and £1,322,800.16 in respect of 09/09). 

10.            The transactions now subject to dispute took place between 8 June 2009 and 29 July 2009.  Thus, the appeal against the denial of input tax only concerns the periods 06/09 and 09/09.

11.            The Review Decision was amended in a further correction letter dated 25 June 2013 (‘correction’ or ‘supplementary assessment’) from HMRC notifying the Appellant of a correction increasing the total input tax disallowed to be £7,730,812.34 (£6,408,012.18 in respect of 06/09 and £1,322,800.16 in respect of 09/09).  The letter also raised a consequential supplementary assessment for 06/09 of £604,002.20.

12.            Therefore, the input tax said to have been incurred by CFE but denied by HMRC and remaining in dispute after the Review Decision and correction / supplementary assessment is £7,730,812.34.  This figure is the sum now subject to appeal.

13.            It comprises three elements:

i. £5,605,119.74 claimed on 17 invoices from Stratex in VAT period 06/09 but denied on the bases that (i) the invoices were invalid for VAT purposes and HMRC refused to exercise their discretion in CFE’s favour to accept alternative evidence, and (ii) CFE knew, or should have known, that the transactions were connected with the fraudulent evasion of VAT;

ii. £798,892.24 claimed on invoices from GW Deals Ltd (“GWD”) (1 invoice), AH Marketing and Distribution Ltd (“AHMD”) (7 invoices), and Ayres t/a Mettec Ltd (“Ayres” or “Mettec”) (1 invoice) in VAT period 06/09 but denied on the basis that CFE knew, or should have known, that the transactions were connected with the fraudulent evasion of VAT; and

iii. £1,322,800.16 claimed on 4 invoices from the supplier Westis Ltd (“Westis”) in VAT period 09/09 but denied on the basis that CFE knew, or should have known, that the transactions were connected with the fraudulent evasion of VAT.

14.            The total sum of input tax denied, £7,730,812.34, can be broken down by way of relevant dates and amounts in the following way:

(1)           The Stratex transactions - A total of 17 transactions which took place between 18 May and 3 June 2009 between CO2e and Stratex Alliance Ltd producing input tax of £5,605,119.74.

(2)           The AH Marketing and Distribution transactions - A total of 7 transactions which took place between 8 and 18 June 2009 between CO2e and AH Marketing and Distribution Ltd producing input tax of £675,488.54.

(3)           The G W Deals Limited transactions - One transaction which took place on 8 June 2009 between CO2e and G W Deals Ltd producing input tax of £42,477.62.

(4)           The Ayres Limited t/a Mettec transactions - One transaction which took place on 10 June 2009 between CO2e and Ayres Ltd (trading as Mettec) producing input tax of £84,926.28.

(5)           The Westis transactions - A total of 4 transactions which took place on 28 and 29 July 2009 between CO2e and Westis Ltd producing input tax of £1,322,800.16.

 

VAT Recovery Assessments

15.            The second set of decisions under appeal are HMRC’s assessments against the Appellant to pay tax in respect of periods 06/09 and 09/09 in consequence of the denial of input tax in the Decision, the Review Decision and amendment to the Review Decision.

16.            On 18 January 2013 HMRC notified the Appellant of a VAT recovery assessment in the sum of £2,013,094.00 plus interest in respect of the net VAT owing to HMRC for VAT periods 03/09 and 09/09 after the adjustment of the Appellant’s VAT returns for those periods.  This assessment was consequent upon the earlier decision of HMRC on 6 December 2012. 

17.            By the Review Decision on 12 April 2013, the denial of input tax for the period 03/09 was withdrawn because the Review Officer of HMRC decided that the Appellant had provided satisfactory alternative evidence to support deduction for that part of the input tax denial based on the fact the invoices were invalid. Thus, the assessment for £690,294.29 fell away.

18.            The Review Decision upheld the denial of input tax for the period 09/09 of £1,322,800.16 on the basis of means of knowledge such that, of the assessment of £2,013,094 made on 18 January 2013, the assessment of £1,322,800.16 in respect of 09/09 remained in effect.

19.            In respect of VAT period 06/09, it is in issue between the parties whether as a matter of fact and law HMRC have made any valid assessment and if so, whether it was made within the statutory time limits.  This topic is dealt with below.

20.            If HMRC have made an assessment for period 06/09, this was initially notified to the Appellant by way of a letter dated 3 January 2013.  HMRC notified the Appellant that as a result of their decision of 6 December 2012 denying input tax of £34,317,697.80 for the period 06/09, the Appellant’s VAT return for VAT period 06/09 was adjusted from a repayment claim of £4,742,232.30 to a payment due to HMRC of net tax of £29,575,465.50.

21.            In HMRC’s review letter of 12 April 2013, the total input tax denied for 06/09 was reduced to £5,804,009.98. 

22.            By a letter dated 25 June 2013 the total input tax disallowed for 06/09 was amended and increased to £6,408,012.18.  In this letter HMRC notified the Appellant of a supplementary VAT recovery assessment in the sum of £604,002.20 which corrected two figures in the Review Decision (“the Supplementary Assessment”).

23.            By letter dated 29 July 2013 HMRC notified the Appellant in relation to period 06/09 that the letter dated 3 January 2013 was adjusted so that the Appellant’s VAT return should be further amended so that the net tax due from the Appellant for the period should be reduced to £1,665,779.88.

24.            The net result of this, if there is a valid assessment for 06/09, is that HMRC have made assessments for the recovery of VAT from the Appellant in the sums of £1,665,779.88 for 06/09 (of which £604,002.20 was issued explicitly as a supplementary assessment) and £1,322,800.16 for 09/09. 

The issues in the appeal

25.            The following issues were raised for determination by the Tribunal, not all of which appeared in the grounds of appeal.  The Tribunal decides them in the following order.

26.            The first issue (“First Issue”) is whether HMRC was entitled to deny the Appellant the input VAT claimed on the Stratex invoices on the basis they were not valid VAT invoices in accordance with domestic law.   HMRC decided the Stratex invoices were invalid, principally because they did not contain a VAT registration number (“VRN”) as required by Regulation 14 of the VAT Regulations 1995 (“VATR”).   The question is whether that decision is in conformity with EU law under the Principle VAT Directive (the EU law question).

27.            The second issue (“Second Issue”) is whether HMRC’s decision to refuse to exercise their discretion in favour of the Appellant to allow the input VAT claimed on the Stratex invoices on the basis they were not valid VAT invoices was unreasonable.  HMRC Officers, Mr Ball and Mr Birchfield, declined to exercise the discretion allowed to HMRC by regulation 29(2) of the VATR to accept alternative evidence of the VAT charge [1] , consequently HMRC decided the Appellant was not entitled to recover the input tax.  The question is the reasonableness of HMRC’s exercise of its discretion to refuse to accept alternative evidence (the reasonableness challenge).

28.            There is also a sub issue - the reasonableness of which decision is to be reviewed.  Is it that of the original decision of Officer Ball or the review decision of Officer Birchfield?

29.            The third issue (“Third Issue”) is whether CFE knew, or in the alternative should have known, that its transactions in 06/09 and 09/09 in respect of which input tax has been denied were connected with the fraudulent evasion of VAT.  It is not in dispute that the transactions were connected with the fraudulent evasion of VAT.  The issue in dispute is whether the Appellant knew or should have known of this (knowledge or means of knowledge).

30.            The fourth issue (“Fourth Issue”) in the appeal is whether as a matter of law HMRC have made an assessment under section 73 of the Value Added Tax Act 1994 (“VATA”) against the Appellant in respect of the period 06/09 (the validity of HMRC’s assessment).  HMRC submit that the assessment for this period was made as a consequence of the Decision of 6 December 2012 to deny input tax for the period and was calculated and notified in the VAT return adjustment letter of 3 January 2013.

31.            The fifth issue (“Fifth Issue”) , if there is a valid assessment as a matter of law, is whether each of HMRC’s assessments for 06/09 and 09/09 were made in time or were time barred by virtue of sections 73(6)(b) of the VATA (the time bar issue).  This involves determining whether each assessment was made within one year of HMRC Officer Ball being of the opinion that evidence of facts sufficient to raise the assessment had come to his knowledge.

The Evidence

32.            The Tribunal received 52 lever arch files of evidence including witness statements and exhibits. 

33.            Witness statements were received from the following witnesses on behalf of the Appellant:

 

Witness                       Date of statement(s)               Position

(at the relevant time unless otherwise stated)

 

Laurence Rose             24/2/15                        Chairman of CO2e

Mark Cooper               24/2/15, 19/5/17          General Counsel for Europe and BGC Group

(including CFE and CO2e)

Wayne Buchan            23/2/15                        Chief Risk Officer at the Cantor Fitzgerald

                                                                        Group (“CFG”)

Tracey Ann Mills        24/2/15, 28/4/17          Head of Compliance at Cantor Fitzgerald

(since 2011 only)

Martin Sharratt            24/2/15                        Partner and Head of VAT at Smith &

Williamson LLP, tax advisers and accountants

Steven Adcock           24/2/15                        Operations Manager at CFG

Robert Snelling           28/4/17                        Director of Legal (Europe and Asia) at

Cantor Fitzgerald and BGC Partners

 

34.            All of the witnesses gave oral evidence and were cross examined during the hearing other than Martin Sharratt and Steven Adcock whose statements were read as agreed.

35.            Witness statements on behalf of HMRC were received from the following witnesses (all being employees or Officers of HMRC):

David Ball                   22/12/14 (x3), 24/03/17,20/02/18                                           

Original decision maker

Peter Birchfield           17/12/14                      Review decision maker          

Duncan Smith             26/11/14

Gavin Stock                18/12/14 (x2)

John Lyon                   19/12/14

Stewart McCaskell      19/12/14                     

David McMaster         22/12/14

Jasvinder Bhabra         23/12/14

Steven Kenrick           23/12/14

Roderick Stone           23/12/14

 

36.            The Tribunal only heard oral evidence from HMRC witnesses Officers David Ball and Peter Birchfield who were cross examined during the hearing.  The statements of all other HMRC witnesses were read as agreed.

37.            The Tribunal has considered all the evidence as lodged and served even when it has not been referred to within the body of this decision.  Given the volume of evidence it is impossible to refer to it all, even in a lengthy decision such as this.  That does not mean that the Tribunal has not given it due consideration.

38.            The Tribunal heard oral evidence beginning on the second day of the hearing, on 7 March 2018, concluding on the tenth day, 21 March 2018. 

39.            Where the Tribunal has made no comment upon their evidence, it has found the witnesses’ evidence to be reliable and credible and accepted it on the balance of probabilities.  Where it has found a witness’s evidence to be unreliable or unreasonable the Tribunal makes findings that it rejects that evidence together with reasons in support.

40.            The Tribunal has found all facts on the balance of probabilities, in particular indicating its reasons where there is a conflict in the evidence or where it finds a witness’s evidence to be inconsistent, unbelievable or otherwise unsatisfactory.

The First Issue

41.            The First Issue is whether HMRC’s decision to deny CFE the input VAT claimed on the Stratex invoices on the basis they were not valid VAT invoices conformed with EU law.  The Appellant submits that it has a directly effective right to deduct input tax because the Stratex invoices met the substantive conditions for the right to deduct under article 168 of the Principle VAT Directive even if they did not meet the formal conditions under article 226.

The Facts on the First Issue

42.            For the purposes of deciding this issue it suffices to record that the 17 invoices provided by Stratex Alliance Ltd (“Stratex”) for its supplies to CFE between 18 May 2009 and 3 June 2009 did not contain any VAT Registration Number (VRN), nor was Stratex registered for VAT.  It is not in dispute that these transactions were connected with the fraudulent evasion of VAT.

43.            The following was also not in dispute:

(a)           CFE was at all material times a taxable person;

(b)           the carbon credits were supplied to CFE and used for the purposes of its taxable business. The carbon credits supplied to CFE were to be used by CFE for the purposes of its own onward (taxable) transactions in carbon credits;

(c)           The carbon credits in question were supplied to CFE by Stratex, which was also, given the volume and nature of its trades, a “taxable person” for the purposes of the Directive.  Stratex was a taxable person (by virtue of the size of the transaction in issue); and

(d)          VAT was due in respect of the supply by Stratex to CFE.

44.            For further relevant factual findings bearing on the issue of whether the Stratex invoices were invalid as a matter of domestic or EU law please see paras 223-234 considered as part of the Second Issue below.

The Law on the First Issue

EU Law

45.            The relevant European law is set out in the Principal VAT Directive, Directive 2006/112/EC, (“PVD”).

46.            Article 2 of the PVD provides, so far as material:

The following transactions shall be subject to VAT:

(a) the supply of goods for consideration within the territory of a Member State by a taxable person acting as such…

 

47.            Article 14(1) of the PVD provides:

‘Supply of goods’ shall mean the transfer of the right to dispose of tangible property as owner.”

48.            Article 167 of the PVD provides that:

A right of deduction shall arise at the time the deductible tax becomes chargeable.

 

49.            Article 168(a) in so far as relevant provides:

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;

 

50.            Art.178(a) in so far as relevant provides:

In order to exercise the right of deduction, a taxable person must meet the following conditions:

 

(a) for the purposes of deductions pursuant to Article 168(a), in respect of the supply of goods or services, he must hold an invoice drawn up in accordance with Articles 220 to 236 and Articles 238, 239 and 240;

 

51.            Article 179 of the PVD provides, in as far as is relevant:

The taxable person shall make the deduction by subtracting from the total amount of VAT due for a given tax period the total amount of VAT in respect of which, during the same period, the right of deduction has arisen and is exercised in accordance with Article 178.

 

52.            Article 180 of the PVD provides, in as far as is relevant:

Member States may authorise a taxable person to make a deduction which he has not made in accordance with Articles 178 and 179.

 

53.             Article 182 of the PVD provides:

Member States shall determine the conditions and detailed rules for applying Articles 180 and 181.

 

54.            Article 226 of the PVD provides, in as far as is relevant:

Without prejudice to the particular provisions laid down in this Directive, only the following details are required for VAT purposes on invoices issued pursuant to Articles 220 and 221:

(3) the VAT identification number referred to in Article 214 under which the taxable person supplied the goods or services;

(5) the full name and address of the taxable person and of the customer;

(6) the quantity and nature of the goods supplied or the extent and nature of the services rendered;

(7) the date on which the supply of goods or services was made or completed or the date on which the payment on account referred to in points (4) and (5) of Article 220 was made, in so far as that date can be determined and differs from the date of issue of the invoice;

(9) the VAT rate applied;

(10) the VAT amount payable, except where a special arrangement is applied under which, in accordance with this Directive, such a detail is excluded;

 

55.             Article 228 of the PVD provides, in as far as is relevant:

Member States in whose territory goods or services are supplied may allow some of the compulsory details to be omitted from documents or messages treated as invoices pursuant to Article 219.

UK Domestic Law

56.            The relevant domestic law is set out in the Value Added Tax Act 1994 (“VATA”) and the VAT Regulations 1995 (“VATR”).

57.             Section 4 VATA provides as follows:

(1) VAT shall be charged on any supply of goods or services made in the United Kingdom, where it is a taxable supply made by a taxable person in the course or furtherance of any business carried on by him.

(2) A taxable supply is a supply of goods or services made in the United Kingdom other than an exempt supply.

58.            Section 24(1)(a) VATA, so far as is relevant, defines “input tax” in relation to a taxable person as:

VAT on the supply to him of any goods or services ...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.

59.            Section 24(6)(a) VATA provides that regulations may provide for VAT to be treated as input tax:

...only if and to the extent that the charge to VAT is evidenced and quantified by reference to such documents [or other information] as may be specified in the regulations or the Commissioners may direct either generally or in particular cases or classes of cases;

60.            Section 25(2) VATA provides that a taxable person shall be:

... 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.

61.            Section 26 VATA, so far as is relevant, provides for input tax allowable under Section 25:

(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.

(2) The supplies within this subsection are the following supplies made or to be made by the taxable person in the course or furtherance of his business—

(a) taxable supplies;...

62.            Regulation 29 of the VATR provides:

“(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. 

63.             Regulation 13(2) of the VATR provides that the particulars of the VAT chargeable on a supply of goods shall be provided on a document containing the particulars prescribed in Regulation 14(1).

64.            Regulation 14(1) of the VATR states, in as far as is relevant:

(1) Subject to paragraph (2) below and regulation 16 save as the Commissioners may otherwise allow, a registered person providing a VAT invoice in accordance with regulation 13 shall state thereon the following particulars—

(d) the name, address and registration number of the supplier,

(e) the name and address of the person to whom the goods or services are supplied,

[...]

(g) a description sufficient to identify the goods or services supplied,

(h) for each description, the quantity of the goods or the extent of the services, and the rate of VAT and the amount payable, excluding VAT, expressed in [any currency]

(l) the total amount of VAT chargeable, expressed in sterling,

65.            In summary, the provisions of the PVD set out above are implemented into UK law by sections 24, 25 and 26 of VATA and regulations 14 and 29 of the VATR. More particularly:

(1)           Section 24 VATA defines “input tax” in relation to a taxable person as, inter alia , VAT of the supply to him of any goods or services used or to be used for the purpose of any business carried on or to be carried on by him.

(2)           Section 25 VATA sets out a taxable person’s obligation to account for output tax and provides a right to deduct input tax.

(3)           Section 26 VATA sets out the input tax allowable under s.25.

(4)           Regulation 14 VATR details the particulars that a VAT invoice is to contain.

(5)           Regulation 29 VATR governs claims for input tax. It implements the requirement that the taxable person making the claim hold a VAT invoice. It also provides (in reg.29(2)) that, in the event that the taxable person does not hold a VAT invoice, HMRC have a discretion to accept alternative evidence of the VAT charge.

66.            HMRC’s “Statement of Practice – VAT Strategy: Input Tax deduction without a valid VAT manual” (March 2007 edition) sets out HMRC’s policy at the time of the Decision in relation to invalid VAT invoices.

The relevant case law

67.            As regards HMRC’s discretion under reg.29(2) of VATR, a taxpayer can appeal against a refusal by HMRC to accept alternative evidence but the scope of the appeal is limited to the question of whether the discretion had been properly exercised, for example by examining whether HMRC took into account some irrelevant matter or had disregarded something to which they should have given weight: see CEC v Peachtree Enterprises Ltd [1994] STC 747, at 751b-f; Kohanzad v CEC [1994] STC 967, at 969d-g). The burden is on the taxpayer to show that HMRC’s decision was unreasonable in that sense ( Kohanzad , at 969g).

68.            The right to deduct input tax is an integral part of the VAT scheme and in principle may not be limited: see Kittel v Belgium (Joined cases C-439/04 and C-440/04) [2008] STC 1537, at [47]. The right itself has direct effect: see BP Supergas Anonimos Etairia Geniki Emporiki-Viomichaniki kai Antiprossopeion v Greece (Case C-62/93) [1995] STC 805, at [35]-[36].

Substantive and formal conditions

69.            Further, as regards the requirements of the provisions of the PVD, the Directive governing input tax deduction, the CJEU has drawn a twofold distinction between (1) the “substantive conditions” which must be met in order for the right to arise, and (2) the “formal conditions” for the right of deduction to be exercised: see Senatex GmbH v Finanzamt Hannover-Nord (Case C-518/14) [2017] STC 205 (“ Senatex ”).

70.            The judgment of the CJEU in Senatex can be summarised as follows (see in particular [28] and [29]):

(1)           The substantive conditions are those found in Art.168 of the Directive, and require that the person seeking deduction be a “taxable person” [2] within the meaning of the Directive and, secondly, that the goods or services relied on to give entitlement to the right of deduction have been supplied to that taxable person by another taxable person to be used by the first for the purposes of his own taxed output transactions: see ibid, at [28].

(2)           The formal conditions, on the other hand, include those found in Art.178(a) of the Directive, namely the requirement to hold an invoice drawn up in accordance with Art.226 of the Directive: see ibid, at [29].

(3)           The fundamental principle of the neutrality of VAT requires deduction of input VAT to be allowed if the substantive requirements are satisfied, even if the taxable persons have failed to comply with some formal conditions: see ibid, at [38].

71.            In its judgment the CJEU in Senatex concluded at [43]:

Having regard to the above considerations, the answer to Questions 1 and 2 is that Article 167, Article 178(a), Article 179 and Article 226(3) of Directive 2006/112 must be interpreted as precluding national legislation, such as that at issue in the main proceedings, under which the correction of an invoice in relation to a detail which must be mentioned, namely the VAT identification number, does not have retroactive effect, so that the right to deduct VAT exercised on the basis of the corrected invoice relates not to the year in which the invoice was originally drawn up but to the year in which it was corrected.

72.            At [34] of its judgment in Senatex the CJEU distinguished its earlier decision in Petroma Transport SA v Belgium (Case C-271/12) [2013] STC 1466.  In Petroma the CJEU drew the distinction between the existence of the right to deduct which arises when the substantive requirements have been met and the need for the taxpayer to comply with the formal requirements before exercising that right.  At [33] & [36] of that judgment the Court had stated:

[33] The appellants in the main proceedings argue that the fact that the invoices do not contain certain particulars required by national legislation is not such as to call into question the exercise of the right to deduct VAT when the occurrence, nature and amount of the transactions have been subsequently demonstrated to the tax authority.

…….

[36] Consequently, the answer to the first question is that the provisions of the Sixth Directive must be interpreted as not precluding national legislation, such as that at issue in the main proceedings, under which the right to deduct VAT may be refused to taxable persons who are recipients of services and are in possession of invoices which are incomplete, even if those invoices are supplemented by the provision of information seeking to prove the occurrence, nature and amount of the transactions invoiced after such a refusal decision was adopted .

73.            The Upper Tribunal in Scandico v HMRC [2018] STC 153 held that Senatex , and the other line of CJEU decisions relied on by the taxpayer, had no application to the situation that arose in that case, being where the national tax authority does not have sufficient information before it to decide whether the substantive requirements are satisfied (see Scandico , at [52]).

74.            In Scandico the nature of the goods in issue (mobile phones) were such that the taxpayer could have obtained them from persons who were not “taxable persons” and who would not be “taxable persons” by virtue of supplying them; and, whilst the taxpayer had till receipts for the phones from the Apple store, those till receipts did not indicate that they had been sold by Apple to the taxpayer. Accordingly, HMRC did not consider that the substantive requirements had been met.

Zipvit in the Court of Appeal

75.            In Zipvit Ltd v HMRC [2018] EWCA Civ 1515 , handed down on 29 June 2018, the Court of Appeal considered the law in relation to invalid VAT invoices.

76.            In Zipvit the appellant taxpayer made supplies of vitamins and minerals by mail order. Zipvit used the services of Royal Mail to despatch its mail orders and to distribute advertisements including one branded as Mailmedia. At the time when Royal Mail made the relevant Mailmedia supplies to Zipvit they were considered to be exempt from VAT by Royal Mail, Zipvit and HMRC. The CJEU later confirmed that the supplies were standard rated for VAT and Zipvit made a claim for the input tax that it claimed to have incurred.

77.            The second issue before the Court of Appeal in Zipvit was whether the absence of a valid VAT invoice showing that VAT was charged to Zipvit by Royal Mail, and giving details of the rate of tax and the amount charged, was fatal to Zipvit’s claim to recover input tax. The Royal Mail invoices on which Zipvit sought to deduct the input tax did not comply with Article 226(9) and (10) of the PVD and their domestic equivalents.

78.            At [48] of Henderson LJ’s. leading judgment (with which Asplin, LJ. and Dame Gloster DBE agreed) the Judge recorded the principle deriving from Bonik EOOD that the right to deduct does not depend on showing that the input tax in question has been paid for or accounted for by the supplier as output tax to the revenue authorities. However, at [49] Henderson, LJ said:

“49. Nevertheless, this principle cannot be applied in isolation, and in particular does not in my judgment override the requirement for a person exercising the right of deduction to produce a VAT invoice evidencing payment of the relevant VAT by the supplier. I will return to this point in my consideration of the second main issue on the appeal.”

79.            Henderson, LJ. returned to the invalid invoice issue at [91], noting as he set out the relevant legislation that the language of Article 178(a) of the PVD was mandatory in that the taxable person must hold an invoice drawn up in accordance with the specified Articles in order to exercise the right to deduct.

80.            Zipvit accepted that the Royal Mail invoices were defective because they did not show the details of the charge to VAT but submitted that these defects were later remedied when the necessary further information was later provided to HMRC [100]-[101]. Henderson, LJ. then considered the relevant EU case law on VAT invoices.

81.            Having cited Petroma his Lordship dealt with Zipvit’s reliance on Case C-516/14, Barlis 06 – Investimentos Imobiliários e Turísticos SA v Autoridade Tributária e Aduaneira , EU:C:2016:690 (“Barlis”) in which the Portuguese authorities had refused the right to deduct on invoices that only stated the dates between which various legal services had been provided to and did not condescend to the details of those services. The CJEU held that the tax authorities could not refuse the right to deduct on the sole ground that an invoice did not satisfy the conditions in Article 226(6) and (7) of the PVD if they had available all the information to ascertain whether the substantive conditions for that right were satisfied.

82.            Henderson, LJ. distinguished Barlis at [108] saying:

“108. At first sight, the decision in Barlis may appear to provide some support for Zipvit’s case. But the facts could hardly have been more different. The only defects in the relevant invoices were that they did not provide a proper description of the legal services which had been supplied, and thus did not comply with Article 226(6) and (7) which required details of “the extent and nature of the services rendered” and the date on which the supply had been made or completed. There was no reason to doubt that the corresponding output tax had been paid by the lawyers, nor was there any doubt about its chargeable rate and amount. In the present case, by contrast, the original invoices issued by Royal Mail to Zipvit described the supplies as exempt, and Zipvit has been wholly unable to provide any evidence that tax on the supplies was paid or accounted for by Royal Mail when it became clear that the supplies were in fact standard rated. Zipvit is therefore claiming to be entitled to exercise its right to deduct without being able to produce either a compliant VAT invoice, or supplementary information which shows that the conditions of Article 226(9) and (10) are satisfied, that is to say details of “the VAT rate applied” and “the VAT amount payable”, coupled with evidence of payment of that amount by Royal Mail.”

83.            Henderson, LJ. then cited various parts of Advocate General Kokott’s opinion in Barlis , as endorsed by the CJEU, before concluding at [112-119]:

112. I have referred to these parts of the Advocate General’s opinion because they were expressly endorsed by the Court in paragraph 27 of its judgment. I have already quoted that paragraph, but will repeat the critical sentence:

“As the Advocate General observes in points 30, 32 and 46 of her Opinion, the objective of the details which must be shown in an invoice is to allow the tax authorities to monitor payment of the tax due and, if appropriate, the existence of the right to deduct VAT.”

Properly understood, therefore, the decision of the Court in Barlis appears to me to expose a fatal flaw in Zipvit’s case. One of the main purposes of the mandatory requirement for a VAT invoice is to enable the taxing authorities to monitor payment by the supplier of the tax for which a deduction is sought, or as the Advocate General put it “to enable a check on whether the person issuing the invoice has paid the tax.” Zipvit remains wholly unable to satisfy this condition, because the only invoices which it can supply show the complete opposite, namely that no tax was paid because the supplies were considered to be exempt. Nor can it be said that the position was remedied by the exiguous further information supplied with the letter of claim in September 2009. All this did was to show the VAT component of the original purchase prices, on the assumption that the supplies were taxable. It provided no evidence that a penny of that tax had been paid by Royal Mail to HMRC, and still less did it do so in the form of an invoice issued by Royal Mail.’

113. Mr Thomas argues that none of this matters, because Zipvit was entitled to exercise its right to deduct input tax referable to the supplies which it made to its own customers, on which it accounted for output tax in the usual way. To deny a deduction on the sole basis that Royal Mail cannot be shown to have paid tax on the relevant supplies which it made to Ziptvit is, he submits, to rely on a wholly irrelevant consideration, because it would offend the well-established principle that the right of deduction is unaffected by the question whether VAT due at an earlier stage in the chain of supply has been paid to the public purse. In my view, however, this objection misses the point. Exercise of the right to deduct is subject to a mandatory requirement to produce a VAT invoice, which must contain the specified particulars. Zipvit is unable to produce invoices which satisfy the requirements of Article 226(9) and (10), and it is also unable to produce any supplementary evidence showing payment of the relevant tax by Royal Mail. A necessary precondition for exercise of the right to deduct therefore remains unsatisfied.

114. I also fail to see how Zipvit could hope to circumvent this fundamental difficulty by arguing that the requirement for a compliant VAT invoice is one of form rather than substance, and by invoking the discretion which HMRC have to accept alternative evidence under regulation 29(2) of the 1995 Regulations. It is true that Barlis (at paragraphs 40 and 41), and a number of other cases which we were shown, consistently draw a distinction between the substantive conditions which must be met in order for the right to deduct VAT to arise, and the formal conditions for the exercise of that right. But to describe a requirement as “formal” does not necessarily imply that compliance with it is optional, or that a failure to satisfy it is always capable of being excused. Cases like Barlis show that some of the requirements relating to invoices in Article 226 must be dispensed with, if the tax authorities are supplied with the information necessary to establish that the substantive requirements of the right to deduct are satisfied. But the Court was careful in Barlis to confine its discussion to the requirements in Article 226(6) and (7), and I do not think its reasoning can be extended to cover a failure to comply with the fundamental requirements relating to payment of the relevant tax in Article 226(9) and (10). Provision of an invoice which complies with those requirements is essential to the proper performance by HMRC of their monitoring functions in relation to VAT, and is needed as evidence that the supplier has duly paid or accounted for the tax to HMRC.

115. It needs to be remembered in this context that the amounts for which Zipvit is claiming a deduction have not been paid by Zipvit in response to a request by Royal Mail for payment once the taxable status of the supplies had been established. In that situation, Royal Mail would have rendered an invoice showing the VAT due, and would then have been liable to account for it to HMRC as output tax in the usual way. In those circumstances, there would have been no difficulty about Zipvit deducting the amount shown on the new invoice as input tax. All that has actually happened, however, is that Zipvit now wishes to treat the payments which it originally made to Royal Mail, on the common understanding that the supplies were exempt, as comprising an element of VAT, and to obtain a deduction for that element on the strength of nothing more than the original payment.

116. Even if it is open to Zipvit to recharacterise the original payment in this way (which at this stage of the argument must be assumed in Zipvit’s favour), there would be an obvious detriment to HMRC and the public purse if Zipvit were able to obtain such a deduction without first showing that the tax in question had been paid by Royal Mail. The normal way of fulfilling that obligation is by production of a fully compliant VAT invoice. Since Zipvit is unable to produce such an invoice, I am unable to see any grounds upon which HMRC could properly conclude that Zipvit should nevertheless be allowed the deductions claimed, to the detriment of the general body of taxpayers. In effect, a retrospective recharacterisation of sums originally paid on the footing that the supplies in question were exempt would now yield an uncovenanted bonus to Zipvit, generated by nothing more than Zipvit’s unilateral decision to treat the amounts originally paid as VAT-inclusive. It would, I think, be offensive to most people’s sense of fiscal justice if a mechanical accounting exercise of this nature were permitted to generate a very substantial input tax credit, in circumstances where (for whatever reason) none of the tax in question has been paid by the supplier.

117. Whether the situation is described as one in which HMRC have no discretion, because the requirements of Article 226(9) and (10) cannot be dispensed with, or as one where there is in law a discretion but on the facts of the present case it can only be exercised in one way, does not seem to me to matter. The important point is that the inability of Zipvit to produce a compliant VAT invoice in support of its claim to deduct input tax is in my judgment fatal. This was rightly recognised by the two Tribunals below, although I would (with respect) not adopt their analysis of the position in terms of the absence of an “economic burden” on Zipvit. That way of looking at the matter seems to me misconceived, because Zipvit did bear the economic burden of paying the original purchase price for the supplies. The real issue, as I see it, is whether Zipvit can claim a deduction for VAT by treating the original price as VAT-inclusive, without producing evidence that the tax in question has been duly paid by the supplier.

118. My conclusion also makes it unnecessary to resolve the question, as a matter of EU law, whether the requirements of Article 226(9) and (10) should be treated as both formal and substantive, in the sense that compliance with them is essential to a valid exercise of the right to deduct input tax. There are passages in the interesting discussion by Advocate General Kokott in Biosafe which would lend support to such a conclusion, and it seems to me that the law may well develop in that direction. As Mr Thomas rightly points out, however, this reasoning was not adopted by the CJEU in its judgment, which was able to decide the case on grounds which did not require a re-examination of the existing law on the right to deduct. The same is true of the Court’s decision in Volkswagen, which repeats the now familiar jurisprudence of the Court on the principles which govern the right to deduct: see the judgment at paragraphs 36 to 42. Put negatively, I am satisfied that no support can be found in either case for the proposition that a right to deduct may be recognised and given effect without production of a VAT invoice showing that the tax in question has been paid by the supplier.

119. Finally, I should make it clear that the need for a VAT invoice which complies with Article 226(9) and (10) is in my judgment fatal to Zipvit’s claims, whether or not the new contractual material is admitted, and whether or not the original purchase price was agreed to be inclusive of VAT. It also follows that it is unnecessary to make a reference to the CJEU on the first main issue, because all the claims must anyway fail on the second issue.’

[ Emphasis Added ]

Appellant’s submissions on the First Issue

84.            The Appellant’s submission in relation to the First Issue is that its invoices met the substantive conditions contained in Art.168(a) of the Directive, and therefore it has a directly effective right to deduct the VAT on the supply to it by Stratex of the credits, notwithstanding the formal requirements of regulation 29(2) of the VAT Regulations 1995.  

85.            More particularly Ms Shaw QC submits:

        (1) As regards the substantive requirements:

(a)           The Appellant was at all material times a “taxable person” within the meaning of Art.9 of the Directive;

(b)           The carbon credits in question were supplied to the Appellant by Stratex, which was also, given the volume and nature of its trades, a “taxable person” for the purposes of the Directive; and

(c)           The carbon credits supplied to the Appellant were to be used by the Appellant for the purposes of its own onward (taxable) transactions in carbon credits.

(2)           Accordingly, the substantive requirements of Art.168(a) were met. Indeed, this is, or should be, common ground; [3] it is no part of HMRC’s case that those substantive requirements have not been met.

(3)           Rather, HMRC’s objection in respect of this issue is that the invoices held by the Appellant relating to Stratex did not contain a VRN and therefore did not comply with Art.226 of the Directive (reg.14 of the VAT Regulations 1995).

(4)           But that requirement is part of the formal conditions for the exercise of the right to deduct; indeed, it was expressly identified as such by the CJEU in Senatex (at [29]). It, therefore, cannot lawfully be used to deny the Appellant’s directly effective right.

86.            Ms Shaw QC, on behalf of the Appellant, submitted that where it is shown that the substantive conditions of Art.168 of the PVD are met, the taxable person has a directly effective right to deduct the input tax in question, notwithstanding that he has not met the formal conditions found in Art. 178 and 226 of the Directive.  Therefore, the absence of VRN on the Stratex invoices to CFE did not entitle HMRC to deny it its input tax.  CFE was entitled to deduct.

87.            She submitted that if there is a right to deduct engaged then it must be given effect in domestic law; and insofar as UK domestic law is inconsistent with it, the domestic law must be made to conform with the EU law position. If possible, this should be done by giving the legislation a conforming construction; but such a construction must not “go against the grain” of the legislation: see Vodafone 2 v HMRC (No. 2) [2010] Ch 77, at [37]-[38].  If it is not possible to give the legislation a conforming construction then the offending provision must be disapplied: ibid, at [26].

88.            Ms Shaw QC submitted that regulation 29(2) of the UK’s VAT Regulations 1995 is inconsistent with that right insofar as it requires the person claiming deduction of input tax to hold a VAT invoice containing the particulars listed in reg.14 in circumstances where it can be demonstrated that the substantive conditions for the deduction of input tax are met; and although, as already noted, regulation 29(2) does give HMRC a discretion to adopt an alternative course, it is submitted that a directly effective right, if it is to be effective, must be available as of right and not as a matter of administrative discretion: see the principle stated in Fleming (trading as Bodycraft) v HMRC [2008] 1 WLR 195, at [61]. Accordingly, the requirement in reg.29(2) simply falls to be disapplied. 

89.            She submitted that the Appellant has demonstrated that the substantive conditions for the deduction of tax - that is to say, the requirements of Article 168 of the Directive - are met in respect of the Stratex transactions because it is not in dispute that:

(1) the Appellant was at all material times a taxable person;

(2) the carbon credits were supplied to the Appellant and used for the purposes of its taxable business;

(3) Stratex was a taxable person (by virtue of the size of the transaction in issue); and

(4) VAT was due in respect of the supply by Stratex to the Appellant.

90.            Moreover, HMRC not only had the means of establishing that the substantive conditions for input tax deduction had been met in respect of the Stratex transactions but had in fact concluded that to be the case in advance of Officer Ball’s decision letter being issued on 6 December 2012.

91.            She therefore submitted that the Appellant had a directly effective right to deduct the input tax payable on the Stratex transactions notwithstanding the fact that it did not have a valid invoice by virtue of the fact that the invoices did not contain a VRN.

92.            The position of the Appellant was therefore said to be materially indistinguishable from the position of the taxpayer in Senatex . As the CJEU explained, the fundamental principle of the neutrality of VAT requires deduction of input VAT to be allowed if the substantive requirements are satisfied, even if the taxable person has failed to comply with some formal conditions.

93.            Ms Shaw QC submitted, and as the CJEU has explicitly held, holding an invoice showing the supplier’s VRN is a formal condition, Per art.226(3) of the Directive, not a substantive condition, of the right to deduct VAT: see Senatex , at [38]. It follows that a taxpayer in the position of Senatex has a (directly effective) right to deduction notwithstanding the absence of a VRN from the VAT invoice.

94.            Moreover, she submitted that it was clear from the Court’s judgment that the fact that the supplier subsequently issued a valid VAT invoice to Senatex was not material to the Court's reasoning.

95.            As regards the principles of EU law relied on by the Appellant, and in particular the distinction drawn by the CJEU between (1) the “substantive conditions” which must be met in order for the right to deduct input tax to arise, and (2) the “formal conditions” for the right of deduction to be exercised, she submitted that HMRC had misapplied the law. More particularly Ms Shaw QC submitted:

96.            HMRC relied on the decision of the Upper Tribunal in Scandico v HMRC [2018] STC 153 to rebut the Appellant’s case on that issue, but that reliance was misplaced.

97.            First, the UT in Scandico did not, and could not, suggest that the distinction and principles laid down by the CJEU in Senatex were wrong; rather it held that Senatex , and the other line of CJEU decisions relied on by the taxpayer, had no application to the situation that arose in that case, being where the national tax authority does not have sufficient information before it to decide whether the substantive requirements are satisfied (see Scandico , at [52]).

98.            In Scandico the nature of the goods in issue (mobile phones) were such that the taxpayer could have obtained them from persons who were not “taxable persons” and who would not be “taxable persons” by virtue of supplying them; and, whilst the taxpayer had till receipts for the phones from the Apple store, those till receipts did not indicate that they had been sold by Apple to the taxpayer. Accordingly, HMRC did not consider that the substantive requirements had been met.

99.            In the present appeal, by contrast, those requirements were clearly met for the invoices. Moreover, HMRC had sufficient information to decide that they were met, and indeed they do not dispute that they were.

100.        Further, Ms Shaw QC submitted, that Scandico did not hold anything even approximating a VAT invoice, whereas in Senatex , and in this case, the taxpayer obtained an invoice which was lacking one formality, namely a VRN. The CJEU in Senatex was clear that such a formality could not be used to deny the right to deduct where the substantive conditions are met.

101.        Indeed, Ms Shaw QC submitted that the distinction drawn and the principles set out by the CJEU in Senatex could not be clearer. They can safely be taken to mean what they say and represent the latest word on the point.

102.        Moreover, it is important to be precise about the EU law regarding a tax authority’s discretion.

103.        The relevance of a VAT invoice is that it essentially creates a rebuttable presumption that the taxpayer has satisfied all the substantive requirements for deduction.

104.        She submitted that Article 180 of the Directive is then permissive: it allows member states to authorise a taxable person to make a deduction otherwise than in accordance with the formal requirements, including where the taxpayer does not hold a valid invoice.

105.        What Article 180 does not do, as HMRC seem to suggest, is give tax authorities a discretion as to the taxpayer’s right to deduct, regardless of whether he has satisfied the substantive requirements.

106.        In other words, Ms Shaw QC submitted, Article 180 permits member states to allow deduction notwithstanding a lack of compliance with the formal requirements; it does not give them a discretion to deny deduction where the substantive conditions are met. Cases such as Senatex make this clear.

Appellant’s reply to HMRC’s post hearing submissions

107.        HMRC filed post-hearing submissions on 9 July 2018 relying upon the subsequent judgment of the Court of Appeal in Zipvit Ltd v HMRC as set out above.  The Tribunal gave permission for these to be considered with the Appellant having an opportunity to file submissions in response.

108.        The Appellant filed post hearing submissions on 31 August 2018 in which it observed that HMRC had now argued that there was a further invalidity in that the Stratex invoices failed to name CFE as a customer.

109.        Ms Shaw QC submitted that this point is not one that was taken by HMRC in (1) their original decision (dated 6 December 2012), (2) their statutory review (dated 12 April 2013), (3) their Statement of Case (dated 18 December 2013) or (4) their “Opening Submissions” (dated 19 February 2018); indeed, in closing, HMRC’s counsel accepted in an exchange with the Tribunal that an absence of CFE’s name on the Stratex’s invoices was a matter neither “pleaded [nor] relied upon” by HMRC. It was therefore surprising that HMRC were seeking to run this argument after the trial has finished and without seeking the permission of the Tribunal.

110.        Ms Shaw QC submitted that it was far too late for HMRC to introduce another ground of challenge. Not only had the trial concluded in March 2018, HMRC having had ample time to decide on the challenges they wished to mount, but HMRC expressly disavowed reliance on the point they now seek to raise, as shown by the exchange highlighted in the previous paragraph. Should HMRC seek permission, it was respectfully submitted that it should be refused.

111.        Further, she submitted that HMRC’s point was not a good one, perhaps explaining why it formed no part of HMRC’s decisions, their Statement of Case or their case at trial. Whilst the term “Cantor Fitzgerald Europe” does not appear on the Stratex invoices, the entity is identified on the invoice as “CANT” under the heading “Client ID” . It is therefore identified as the customer, albeit in abbreviated form.

112.        Furthermore, the requirement in question is a formal requirement. As had already been submitted, the body of CJEU cases of which Senatex forms part shows that deduction of input VAT must be allowed if the substantive requirements for deduction are satisfied, even if the taxable person has failed to comply with some formal conditions. Accordingly, even if HMRC were permitted now to raise the argument, and if it is found that the argument has merit in principle, it was submitted that EU law precludes their challenge for the reasons outlined above.

Appellant’s submissions on the application of Zipvit

113.        Ms Shaw QC made submissions on the application of the judgment of the Court of Appeal in Zipvit.   She submitted that the Court of Appeal had acknowledged, as it had to, the line of CJEU authority in which Senatex sits and the consistent distinction drawn in those cases between the substantive and formal conditions to the right to deduct: see [114] of CA judgment.

114.        She submitted that the Court of Appeal did not examine that line of authority, however. Rather it focussed in particular on the CJEU’s decision in Barlis 06-Investimentos Imobiliários e Turísticos SA v Autoridade Tributária e Aduaneira (Case C-516/14) EU:C:2016:690 (“ Barlis ”), on which the appellant in Zipvit placed considerable reliance.

115.        The Court of Appeal recorded the material parts of the CJEU’s judgment in Barlis , including (at [106] of its decision) the following paragraphs:

42. The Court has held that the fundamental principle of the neutrality of VAT requires deduction of input VAT to be allowed if the substantive requirements are satisfied, even if the taxable persons have failed to comply with some formal conditions. Consequently, where the tax authorities have the information necessary to establish that the substantive requirements have been satisfied, they cannot, in relation to the right of the taxable person to deduct that tax, impose additional conditions which may have the effect of rendering that right ineffective for practical purposes …

43. It follows that the tax authorities cannot refuse the right to deduct VAT on the sole ground that an invoice does not satisfy the conditions required by Article 226(6) and (7) of [the Directive] if they have available all the information to ascertain whether the substantive conditions for that right are satisfied.

44. In this respect, the authorities cannot restrict themselves to examining the invoice itself. They must also take account of the additional information provided by the taxable person. That conclusion is confirmed by Article 219 of [the Directive], which treats as an invoice any document or message that amends and refers specifically and unambiguously to the initial invoice.

116.        She submitted that the Court of Appeal did not question what was said by the CJEU in that passage, the contents of which support the submissions already made by the Appellant on this issue. It instead distinguished Barlis from the facts of Zipvit’s case.

117.        More particularly Ms Shaw QC submitted as follows.

118.        The circumstances in Zipvit were highly unusual. The taxpayer had received supplies of “individually negotiated” postal services from Royal Mail. Those services had, pursuant to the relevant provision of the VATA extant at the time of the supplies, been treated by Royal Mail as VAT exempt, and invoiced to Zipvit as such.

119.        After the supplies had been made the CJEU decided in another case that the UK’s exemption for postal services was unlawful to the extent that it exempted supplies of “individually negotiated” postal services. As a result, the supplies of postal services by Royal Mail to Zipvit should properly have been treated as standard rated. However, Royal Mail did not recover any additional amount from Zipvit in respect of VAT on those supplies.

120.        Zipvit thereafter sought to deduct input tax in respect of the supplies that had been made by Royal Mail. Given the circumstances described above, the invoices that had been issued by Royal Mail did not show either (a) the VAT rate applied ( per art.226(9)) or (b) the VAT amount payable ( per art.226(10)), for the simple reason that, at the time of issue, the supply had been treated by everyone as VAT exempt.

121.        The Court of Appeal considered that there was a material difference between an invoice which failed to show the particulars required by art.226(9) and (10) and one which failed to show those required by art.226(6) and (7), those being the elements lacking on the facts of Barlis . Art.226(6) requires “the quantity and nature of the goods supplied or the extent and nature of the services rendered”; and art.226(7) “the date on which the supply of goods or services was made or completed”.

122.        In this regard the Court of Appeal stated (at [114] of its judgment):

‘Cases like Barlis show that some of the requirements relating to invoices in art 226 must be dispensed with, if the tax authorities are supplied with the information necessary to establish that the substantive requirements of the right to deduct are satisfied. But the Court was careful in Barlis to confine its discussion to the requirements in art 6 226(6) and (7), and I do not think its reasoning can be extended to cover a failure to comply with the fundamental requirements relating to payment of the relevant tax in art 226(9) and (10). Provision of an invoice which complies with those requirements is essential to the proper performance by HMRC of their monitoring functions in relation to VAT, and is needed as evidence that the supplier has duly paid or accounted for the tax to HMRC.’

123.        The Court of Appeal thus distinguished Zipvit’s case from “cases like Barlis , where the CJEU had expressly held that the particular requirement that was lacking from the invoice in question could be dispensed with, and held, in the absence of any CJEU authority to the contrary, that the requirements in art.226(9) and (10) could not be treated in the same way.

124.        In so holding, as the extract set out above shows, Ms Shaw QC submitted that the Court of Appeal in Zipvit expressly endorsed the proposition embodied in the line of CJEU authority relied on by the Appellant in the instant case, namely that “ some of the requirements relating to invoices in art 226 must be dispensed with, if the tax authorities are supplied with the information necessary to establish that the substantive requirements of the right to deduct are satisfied ”.

125.        Furthermore, she submitted that, had the invoices held by Zipvit been lacking the particulars required by art.226(6) and (7), the Court of Appeal would have simply applied the principle in Barlis . The difficulty facing Zipvit was that it could not point to any authority to support the contention that the requirements in art.226(9) and (10) could be treated in the same way.

126.        Ms Shaw QC submitted that the position in the instant case is different. Senatex was specifically concerned with the requirement in art.226(3) for an invoice to show the supplier’s VRN. It is clear authority that that requirement, like those in art.226(6) and (7), must be dispensed with if the tax authorities are supplied with the information necessary to establish that the substantive requirements of the right to deduct are satisfied. Likewise, as regards the requirement to identify the customer (art.226(5)), the CJEU has confirmed that this requirement is of a similar nature: see Kopalnia Odkrywkowa Polski Trawertyn P Granatowicz, M Wąsiewicz, spółka jawna v Dyrektor Izby Skarbowej w Poznaniu (Case C-280/10) [2012] STC 1085 (“ Kopalnia ”), at [40]-[43].

127.        Put shortly, therefore, Zipvit was concerned with whether the particulars required by art.226(9) and (10) are of the dispensable type. Save to confirm and endorse the core proposition advanced by the Appellant (as submitted above), it had no relevant application in the present case because it is common ground that the Stratex invoices contained those particulars.

Appellant’s reply to HMRC’s post hearing submissions

128.        The following further points were made on behalf of the Appellant in reply to the post-hearing submissions advanced by HMRC in relation to Zipvit .

129.        First, HMRC contend, in their application, that Zipvit is authority for the proposition that:

“[w]hether a taxable person in possession of an invalid VAT invoice can provide any evidence that the supplier of that invoice has paid any of the VAT on that invoice to HMRC is relevant to the question of whether the conditions for the right to deduct to arise are met”

130.        Ms Shaw QC submitted on behalf of the Appellant that HMRC’s submissions were based on a misreading of the decision. More particularly:

131.        She submitted that paragraphs [112] and [113] of the judgment in Zipvit , to which HMRC refer in support of their contention, were aimed specifically at the particular circumstances of Zipvit’s case, namely that it held invoices which did not show either (a) the VAT rate applied or (b) the VAT amount payable. The question of whether Zipvit could provide any evidence that Royal Mail had paid VAT in respect of its supplies to the former was relevant to the question of whether Zipvit had a right to deduct notwithstanding that it did not hold invoices which contained those particulars.

132.        Importantly, and contrary to the suggestion implicit in HMRC’s contention, the Court of Appeal did not conclude that a taxpayer must demonstrate that its supplier has paid the VAT in question to the authorities before it can deduct it. In fact, the Court of Appeal did not question the principle that the right of deduction is unaffected by the question of whether VAT due at an earlier stage in the chain of supply has been paid to the public purse, describing it as “well-established” : see [113]. The point being made by the Court was instead that that principle did not, in its view, render the requirements in art.226(9) and (10) dispensable on the facts of Zipvit’s case.

133.        Similarly, the observations of the Court of Appeal about the obvious detriment to the public purse if deduction were allowed without first showing that the tax in question has been paid by the supplier were comments aimed, in terms, specifically at Zipvit and the circumstances of its case: see [116]. It was not, and not intended to be, a general statement of the law.

134.        Ms Shaw QC submitted that the same is true of the Court’s comment in [116] about Zipvit’s claim offending “most people’s sense of fiscal justice” . This was clearly also aimed specifically at Zipvit and the particular exercise it was attempting, hence the reference in the passage in question to “a mechanical accounting exercise of this nature” (emphasis added).   The exercise in question being the retrospective re-characterisation by Zipvit of sums originally paid on the footing that the relevant supplies were exempt, with that re-characterisation being based on nothing more than Zipvit’s unilateral decision to treat the amounts originally paid as VAT-inclusive.

135.        In this connection it was material to note the observation of the Court of Appeal at [115] that:

‘It needs to be remembered in this context that the amounts for which Zipvit is claiming a deduction have not been paid by Zipvit in response to a request by Royal Mail for payment once the taxable status of the supplies had been established. In that situation, Royal Mail would have rendered an invoice showing the VAT due, and would then have been liable to account for it to HMRC as output tax in the usual way. In those circumstances, there would have been no difficulty about Zipvit deducting the amount shown on the new invoice as input tax. All that has actually happened, however, is that Zipvit now wishes to treat the payments which it originally made to Royal Mail, on the common understanding that the supplies were exempt, as comprising an element of VAT, and to obtain a deduction for that element on the strength of nothing more than the original payment.’

136.        Ms Shaw QC submitted that it was clear from this that the Court did not consider that there is any separate requirement for the taxpayer to show that its supplier has in fact handed the relevant VAT over to HMRC. The sentence beginning “In that situation…” shows that the Court of Appeal considered it sufficient that the invoice from the supplier shows that VAT is due, with the result that the supplier is liable to pay the same to HMRC (by dint of para.5, Schedule 11, VATA ) .  Paragraph 5 of Schedule 11 of VATA provides that where an invoice shows a supply as taking place with VAT chargeable on it, there shall be recoverable from the person who issued the invoice an amount equal to that which is shown on the invoice as VAT, regardless of whether: (a) the supply shown on the invoice actually took place, (b) the amount shown as VAT was chargeable on the supply, or (c) the person issuing the invoice is a taxable person.

137.        Secondly, HMRC contended that a given particular of a VAT invoice is “fundamental” , and thus indispensable, if it is “necessary for the taxing authority to monitor payment by the supplier of the tax in question” . They then seek to build on that proposition and argue that if that “fundamental” element is missing then a taxpayer can only obtain a deduction of the VAT in question if it can show that the supplier has in fact paid the VAT due on the invoice.

138.        Ms Shaw QC submitted that both parts of HMRC’s submission were incorrect.

139.        The flaw in the second part has already been addressed in her submissions above.

140.        As to the first part, she submitted that HMRC offered no authority to support their submission, and indeed there is none. In fact, it is contradicted by the jurisprudence of the CJEU.

141.        Ms Shaw QC submitted that as the CJEU observed in Barlis (at [27]), the objective of the details which, under Article 226 of the Directive, must be shown in an invoice is to allow the tax authorities to monitor payment of the tax due and, if appropriate, the existence of the right to deduct VAT. Nevertheless, it is also clear from cases like Barlis that a right to deduct will arise notwithstanding that the taxpayer holds an invoice which lacks some of those details.

142.        She submitted that the case law of the CJEU therefore shows that a requirement of a VAT invoice may be indispensable notwithstanding that the particular is necessary to enable the tax authority to monitor payment by the supplier.

143.        She therefore submitted that the foundation of HMRC’s submission was unsound.

144.        Thirdly, so far as concerns HMRC’s discretion under regulation 29(2) VATR, the existence of a directly effective right to deduct means that the issue of that discretion does not arise.

145.        Where the issue does arise, the position is not as stated by HMRC where they submitted:

‘In terms of the exercise of HMRC’s discretion to allow an input tax deduction in the absence of a valid VAT invoice and where there is no evidence that the supplier has paid the output VAT charged, it is now tolerably clear from Zipvit at [116] that there will no grounds upon which HMRC could properly conclude that the such deduction could be permitted.’

146.        Ms Shaw QC, for the Appellant, submitted this was unsupportable.  She maintained all the submissions made on this issue which will be considered as the Second Issue about the nature and scope of HMRC’s discretion. As will be addressed, HMRC’s discretion is to accept alternative evidence that the substantive requirements, or at least that part related to the input VAT charge, are met.

147.        She submitted that nothing in Zipvit calls those submissions into question. The “ real issue” as regards discretion in that case, according to the Court of Appeal (at [117]), was that Zipvit was seeking to obtain an “uncovenanted bonus” by unilaterally treating the original price it paid to Royal Mail as VAT-inclusive in circumstances where (a) this was done by Zipvit years after the supplies had been made; (b) everyone, including Zipvit, had originally considered the supplies to be VAT exempt at the time they were made and invoiced, and (c) there was no evidence that Royal Mail had also sought to treat the supplies as taxable or that it was accountable to HMRC for the VAT in question.

148.        She submitted that what Zipvit was seeking to deduct was an entirely notional amount of VAT that would never be due or paid because the supplies in question had been treated as exempt and there was no intention or possibility that that treatment would be reversed. This is emphasised by the Court of Appeal in [115] and [116], where the Court refers to the “obvious detriment” to HMRC of a mismatch in the treatment of the supplies for the purposes of input tax and output tax.

149.         It was in those circumstances that the Court of Appeal considered that there were no grounds upon which HMRC could properly conclude that Zipvit should be allowed the deductions claimed. But those circumstances were highly unusual, if not unique. They have no parallel in the present case.

150.        Moreover, Ms Shaw QC submitted that as regards HMRC’s argument that a taxpayer must “ evidence that the supplier has paid the output VAT charged ”, it is important to pay close attention to what the Court of Appeal actually said about that. Specifically, at [115], the Court said:

‘Even if it is open to Zipvit to recharacterise the original payment in this way (which at this stage of the argument must be assumed in Zipvit's favour), there would be an obvious detriment to HMRC and the public purse if Zipvit were able to obtain such a deduction without first showing that the tax in question had been paid by Royal Mail. The normal way of fulfilling that obligation is by production of a fully compliant VAT invoice. Since Zipvit is unable to produce such an invoice, I am unable to see any grounds upon which HMRC could properly conclude that Zipvit should nevertheless be allowed the deductions claimed, to the detriment of the general body of taxpayers.’

151.        She submitted that this extract demonstrated that the “obligation” to show that the tax in question has been paid by the supplier does not have the literal meaning for which HMRC contend. That obligation can be fulfilled by production of a VAT invoice, and yet neither the production of such an invoice, nor the fact that VAT is shown as having been charged at a given rate and in a given sum on it evidences, in any way, that the supplier has actually paid the VAT over to HMRC.

152.        Ms Shaw QC submitted that it is clear, therefore, that the “obligation” referred to by the Court of Appeal does not extend to proving that the tax has in fact been paid. Rather, it will suffice to show that the supplier was at least liable to account for the VAT to HMRC by virtue of having shown VAT as due on an invoice (see para.5, Schedule 11, VATA, referred to above).

153.        Whilst Zipvit could not show that, because the invoices from the Royal Mail did not show any VAT chargeable, the Appellant indisputably can. Stratex rendered invoices showing the VAT due, and was then liable to account for it to HMRC as output tax in the usual way.

154.        Ms Shaw QC submitted that the question of whether it can be shown that the supplier has paid the VAT in question is an irrelevant factor given that the discretion given to HMRC is expressly confined to considering the adequacy of alternative documentary evidence of the charge to VAT in respect of which deduction is claimed. But if and insofar as the Appellant needs to “evidence that the supplier has paid the output VAT charged” , it has done so according to Zipvit .

Conclusion

155.        For all those reasons, she submitted on behalf of the Appellant in summary that:

156.        Zipvit contains an endorsement of the principles already advanced by the Appellant as having been established at CJEU level.

157.        Zipvit also shows that where the CJEU has specifically held that a given invoice requirement must be dispensed with if the substantive conditions have been shown to have been met then that guidance is to be respected and applied. Senatex is one such case, as is Kopalnia .

158.        Contrary to HMRC’s latest contentions (many of which are without foundation), Zipvit , therefore, provides further support to the Appellant’s case, rather than HMRC’s.

159.        Besides that, the Zipvit decision does not take the issues in the present appeal much further. That is because the ratio of the case is actually a fairly narrow one, namely that the requirements in art.226(9) and (10) are not dispensable. That is nothing to the point in the present appeal, however, since it is common ground that the Stratex invoices met those requirements.

HMRC’s submissions on the First Issue

160.        Mr Puzey of counsel, on behalf of HMRC, submitted that HMRC could, as a matter of law, deny the Appellant its right to deduct input tax when it has met the substantive conditions to exercise that right but not all of the formal conditions.  He originally relied heavily upon the Upper Tribunal’s decision in Scandico .

161.        He submitted that the taxpayer in Scandico sought to persuade the Upper Tribunal of the same argument at [45]. The Upper Tribunal concluded that:

i. In EU and domestic law where a taxpayer cannot produce a VAT invoice to support its claim to deduct input tax, the tax authority has a discretion whether to accept alternative evidence as satisfying it that a taxable supply has taken place entitling the taxpayer to the credit [52];

ii. That discretion is clearly contemplated by the PVD and Invoicing Directive [53];

iii. The case of Petroma Transport SA and others v Belgium (C-271/12) confirms the distinction that the CJEU has always drawn between the existence of the right to deduct which arises when the substantive requirements have been met and the need for the taxpayer to comply with the formal requirements before exercising that right; and

iv. The case of Senatex , was not relevant to the issue.

162.        Mr Puzey submitted on behalf of HMRC that Article 180 of the PVD affords Member States a discretion as to authorising a taxable person to make a deduction when he does not hold a valid VAT invoice.

163.        Mr Puzey submitted that it should be recalled that the Stratex invoices did not even name CFE as the customer, did not bear any VRN and that Stratex was unregistered for VAT and only entered into the transactions for the purposes of fraud.

164.         He submitted that the effect of the Appellant’s arguments is that HMRC’s Statement of Practice on the deduction of input tax without a valid VAT invoice is completely wrong; that even absent a valid VAT invoice, where the invoice did not name the customer, where the supplier has never been registered for VAT, where the invoice charged VAT nonetheless and did not bear a VRN and the supply has been made for the purposes of fraud, HMRC has no discretion to refuse the Appellant the right to deduct input VAT.

165.        Mr Puzey submitted that there is no such principle. The CJEU case law does not provide such a principle. The closest one gets is to a case not put forward by the Appellant: Mahageben v Nemzeti (Taxation) [2012] EUECJ C-80/11 (“ Mahageben ”). In Mahageben , the CJEU dealt with two similar cases: Mahageben and David .

166.        In Mahageben’s case the company was in receipt of sixteen invoices from a supplier, none of which contained any defect that would render them invalid. The tax authority concluded that the supplier did not have the capacity to supply the acacia logs said to have been supplied on the invoices.

167.        In David’s case, the taxpayer was in receipt of invoices from a supplier, again, none of which contained any defect that would render them invalid. The tax authority concluded that the sub-contractor who had invoiced David did not take place.

168.        The CJEU set out at [36], that the essential question referred to it was:

“…whether Articles 167, 168(a), 178(a), 220(1) and 226 of Directive 2006/112 must be interpreted as precluding a national practice whereby the tax authority refuses a taxable person the right to deduct from the VAT which he is liable to pay the VAT due or paid in respect of services supplied to him on the ground that the issuer of the invoice relating to those services, or one of his suppliers, acted improperly, without that authority establishing that the taxable person concerned was aware of that improper conduct or colluded in that conduct himself.”

 

169.        At [44] the CJEU specifically set out that the invoicing requirements had been complied with:

“44 Moreover, it is apparent from the order for reference that the questions referred are based on the premises, first, that the transaction relied on as a basis for the right to deduct was carried out, as is to be inferred from the corresponding invoice, and, second, that that invoice includes all the information required by Directive 2006/112, with the result that the substantive and formal conditions provided for by that directive for the creation and exercise of the right to deduct are fulfilled. It is necessary to point out, in particular, that the order for reference does not indicate that the applicant in the main proceedings himself acted unlawfully by, for instance, filing false returns or issuing improper invoices.”

 

170.        The CJEU then said of such circumstances:

“45. In those circumstances, a taxable person can be refused the benefit of the right to deduct only on the basis of the case-law resulting from paragraphs 56 to 61 of Kittel and Recolta Recycling, according to which it must be established, on the basis of objective factors, that the taxable person to whom were supplied the goods or services which served as the basis on which to substantiate the right to deduct, knew, or ought to have known, that that transaction was connected with fraud previously committed by the supplier or another trader at an earlier stage in the transaction.”

 

171.         Mr Puzey submitted that what the CJEU was astute not to rule out, was a circumstance where the supplier was not registered for VAT, charged VAT on an invoice without a VRN and did so as part of a fraud. That, he submitted, is the position as regards the Stratex invoices.

172.        The CJEU picked up the distinction at [51-52], again, saying at [52]:

“52 In that regard, it is apparent from the order for reference and, in particular, the first question, that the questions referred in Case C-80/11 are, like those referred in Case C-142/11, based on the premise that the substantive and formal conditions provided for by Directive 2006/112 for the exercise of the right to deduct are fulfilled, in particular the condition which requires the taxable person to be in possession of an invoice which confirms that the goods were actually supplied and which complies with the requirements of that directive. Accordingly, in the light of the response given in paragraph 50 of the present judgment, which also applies in the case of the supply of goods, the right to deduct can be refused only where it is established, on the basis of objective evidence, that the taxable person concerned knew, or ought to have known, that the transaction relied on as a basis for the right to deduct was connected with fraud committed by the issuer of the invoice or by another trader acting earlier in the chain of supply.”

 

173.        At [60-61] the CJEU said:

“60. It is true that, when there are indications pointing to an infringement or fraud, a reasonable trader could, depending on the circumstances of the case, be obliged to make enquiries about another trader from whom he intends to purchase goods or services in order to ascertain the latter's trustworthiness.

 

61. However, the tax authority cannot, as a general rule, require the taxable person wishing to exercise the right to deduct VAT, first, to ensure that the issuer of the invoice relating to the goods and services in respect of which the exercise of that right to deduct is sought has the capacity of a taxable person, that he was in possession of the goods at issue and was in a position to supply them and that he has satisfied his obligations as regards declaration and payment of VAT, in order to be satisfied that there are no irregularities or fraud at the level of the traders operating at an earlier stage of the transaction or, second, to be in possession of documents in that regard.”

 

174.         Again, the CJEU did not rule out a national taxing authority having a discretion to refuse the right to deduct in the circumstances of this case. Indeed, [60-61] show that the discretion is preserved.

175.        At [66] the CJEU said:

“66. In the light of the foregoing considerations, the answer to the questions referred in Case C-80/11 is that Articles 167, 168(a), 178(a) and 273 of Directive 2006/112 must be interpreted as precluding a national practice whereby the tax authority refuses the right to deduct on the ground that the taxable person did not satisfy himself that the issuer of the invoice relating to the goods in respect of which the exercise of the right to deduct is sought had the status of a taxable person, that he was in possession of the goods in question and was in a position to supply them, and that he had satisfied his obligations as regards declaration and payment of VAT, or on the ground that, in addition to that invoice, that taxable person is not in possession of other documents capable of demonstrating that those conditions were fulfilled, although the substantive and formal conditions laid down by Directive 2006/112 for exercising the right to deduct were fulfilled and the taxable person is not in possession of any material justifying the suspicion that irregularities or fraud have been committed within that invoice issuer's sphere of activity.”

 

176.        Mr Puzey submitted that, again, the discretion is preserved here, since what the CJEU was dealing with were valid VAT invoices, meaning that both the substantive and formal conditions to exercise the right to deduct were satisfied.

177.         He submitted that Senatex does not assist the Appellant in the circumstances of this case.  In Senatex the VRN on the supplier’s invoices was missing, but Senatex later provided it. The issue before the CJEU was whether the right to deduct exercised on the corrected invoices related to the year in which the invoice was originally drawn up, or the year of correction. The CJEU did not consider the discretion afforded to Member States by the PVD in the absence of valid VAT invoices, where there were no corrected VAT invoices, where the invoices did not name the customer, where the supplier was not registered for VAT and where the purpose of the transaction from the supplier’s point of view, was VAT fraud.

178.        Mr Puzey relied upon the decision in The Commissioners for Her Majesty’s Revenue & Customs v Boyce [2017] UKUT 177 (TCC) where Mr Justice Arnold in the Upper Tribunal, accepted that a real and obvious risk of fraud was a relevant factor when HMRC exercises its discretion in the absence of a valid VAT invoice (at [17] and [23]), and that (at [22-23]):

“..(i) the rule, as a matter of both EU and UK VAT law, is that without a valid VAT invoice there can be no input tax deduction; (ii) the use of the discretion in regulation  29(2) involves creating an exception to that rule; and (iii) it is therefore entirely reasonable for the Commissioners to insist on strict adherence to that rule unless and until the taxpayer can demonstrate that why an exception to it should be made.”

 

179.        Accordingly, Mr Puzey submitted that the Appellant’s submissions that fraud is irrelevant to the exercise of HMRCs’ discretion are, on binding authority, wrong.  Accordingly, HMRC invited the Tribunal to dismiss the Appellant’s appeal on the invalid invoice ground.

180.        Following the conclusion of the hearing HMRC were granted permission by the Tribunal to rely upon written submissions as to the consequence of the Court of Appeal’s decision in Zipvit Ltd v HMRC handed down on 26 June 2018.  The Tribunal considers these submissions below.

Discussion and Decision on the First Issue

181.        Deciding the First Issue may not be straightforward, as the length of the competing arguments suggests.

182.        None of the authorities to which the Tribunal was referred consider similar, let alone identical, facts.  All of the authorities are distinguishable.

183.        It is common ground between the parties that the invoices from Stratex upon which the Appellant claims input tax are not valid VAT invoices.  

184.        The Stratex invoices neither named CFE as the customer [4] , nor, more importantly, did they bear any VRN. They did not comply with all the formal conditions or requirements of Article 226 of the PVD and Regulation 14 of the VATR.

185.        The invalid Stratex invoices have never been corrected.

186.        It is also common ground that Stratex was unregistered for VAT and fraudulently defaulted on its obligations to account for and pay over the sums charged as VAT on the invalid invoices.   

187.        Therefore, the absence of VRN on the Stratex invoices was not simply the absence of a technical formality on a document but evidence of a lack of VAT registration on the part of Stratex.  There was a tax loss occasioned by these invoices and it was fraudulently occasioned when Stratex failed to account for and pay over the sums charged as VAT on the invalid invoices.

188.        For the purposes of this issue it is unnecessary and not relevant for the Tribunal to take account its finding, made for the reasons set out in the Second and Third Issues, that CFE failed to take reasonable care and check that Stratex were VAT registered before making payments to them.

189.        Article 226 PVD sets out the requirements for VAT invoices, in as far as is relevant, as follows:

“Without prejudice to the particular provisions laid down in this Directive, only the following details are required for VAT purposes on invoices issued pursuant to Articles 220 and 221:

… (3) the VAT identification number referred to in Article 214 under which the taxable person supplied the goods or services; …

(5) the full name and address of the taxable person and of the customer; …”

190.        The Stratex invoices therefore failed to comply with Article 226(3) and (5) PVD.

191.        Domestically, Regulation 14(1) of the Value Added Tax Regulations 1995 sets out the contents of VAT invoices, in as far as is relevant, as follows:

“(1) Subject to paragraph (2) below and regulation 16 and save as the Commissioners may otherwise allow, a registered person providing a VAT invoice in accordance with regulation 13 shall state thereon the following particulars –

… (d) the name, address and registration number of the supplier,

(e) the name and address of the person to whom the goods or services are supplied, ….”

192.        The Stratex invoices therefore also failed to comply with Regulation 14(1)(d) and (e) of VATR.

193.        The Appellant’s position is that once the “substantive” conditions are met for the right to deduct to arise, then it has a directly effective right to deduct regardless of whether the “formal” conditions governing the exercise of that right have been complied with.  The Appellant asserts that the presence of the supplier’s VRN on a VAT invoice is only a “formal” requirement by reference to the CJEU case of Senatex [49].

194.         In Senatex the VRN on the supplier’s invoices was missing, but Senatex later provided it. The issue before the CJEU was whether the right to deduct exercised on the corrected invoices related to the year in which the invoice was originally drawn up, or the year of correction. The CJEU did not consider the discretion afforded to Member States by the PVD in the absence of valid VAT invoices, where there were no corrected VAT invoices, where the invoices did not name the customer, where the supplier was not registered for VAT, where the purpose of the transaction from the supplier’s point of view, was VAT fraud and where the VAT charged on the invoice was never paid by the supplier. 

195.        The Tribunal accepts HMRC’s submission that Senatex does not assist the Appellant in the circumstances of this appeal.  What is more, the CJEU explicitly avoided stating that the particular requirement for a supplier’s VRN to appear on a VAT invoice was merely a “formal” condition.

196.        On that basis alone, the Tribunal would be satisfied that HMRC was entitled to apply the domestic law under Reg 14 VATR, as it implements Art 226 of the PVD, and to deny input tax on the Stratex invoices. 

197.        The absence of information meeting some of the formal conditions on the invoices betrayed a much greater deficiency with the invoices as is set out above ie. that they were connected to a fraudulent loss of VAT.  For example, it is not that the absence of VRN was oversight – there was no VRN to record on the invoices because Stratex was not registered for VAT.  There was no payment by Stratex (the supplier) of the tax for which a deduction is sought by the Appellant.

198.        There is no binding authority that HMRC, or the Tribunal, must disapply the domestic law under Reg 14 VATR, as it implements Art 226 of PVD, and give direct effect only to the substantive requirements of Art 168 in the circumstances of a case such as this.  HMRC were lawfully entitled to deny input tax upon the Stratex invoices in conformity with EU law.

199.        To the extent further required, the Tribunal adopts the arguments relied upon by HMRC derived from the judgment of the Court of Appeal in Zipvit Ltd v HMRC [2018].  The following principles emerge from Zipvit .

200.        One of the main purposes of the mandatory requirement for a VAT invoice is to enable the taxing authorities to monitor payment by the supplier of the tax for which a deduction is sought - [112] of Zipvit .

201.        Whether a taxable person in possession of an invalid VAT invoice can provide any evidence that the supplier of that invoice has paid any of the VAT on that invoice to HMRC is relevant to the question of whether the conditions for the right to deduct to arise are met - [112-113] of Zipvit .

202.        The exercise of the right to deduct is subject to a mandatory requirement to produce a VAT invoice which must contain the specified particulars. Where a person seeking deduction cannot produce invoices that satisfy the requirements of Article 226 (9) and (10) of the PVD and is also unable to produce any supplementary evidence showing payment by its supplier of the relevant VAT, a necessary precondition for the exercise of the right to deduct remains unsatisfied - [113] of Zipvit .

203.        The distinction between a “substantive” and “formal” requirement does not necessarily imply that compliance with it is optional, or that a failure to satisfy it is always capable of being excused and Barlis was confined to failure to comply with Articles 226(6) and (7) of the PVD.

204.        Some of the requirements in Article 226 of the PVD must be dispensed with if the tax authorities are provided with the information necessary to establish that the substantive conditions of the right to deduct are satisfied, but that cannot extend to a failure to comply with a fundamental requirement relating to the payment of the relevant tax.  Provision of an invoice that complies with those fundamental requirements is essential to the proper performance by HMRC of their monitoring functions in relation to VAT, and is needed as evidence that the supplier has duly paid or accounted for the tax to HMRC - [114] of Zipvit .

205.        There is an obvious detriment to the public purse where the taxpayer can obtain a deduction without first showing that the tax in question has been paid by its supplier; the ordinary way of doing that is by the production of a fully compliant VAT invoice.

206.        Where a person seeking a deduction does not have a fully compliant VAT invoice and cannot show that the VAT in question was paid by the supplier there will be no grounds upon which HMRC could properly conclude in the exercise of their discretion that the taxpayer in question should be allowed a deduction to the detriment of the general body of taxpayers. It would be offensive to fiscal justice if a mechanical accounting exercise can generate a very substantial input tax credit where, for whatever reason, none of the tax in question has been paid by the supplier.

207.        The principles extracted above are of application to the instant appeal.

208.        Firstly, the Appellant’s general proposition that once the “substantive” requirements are met the right to deduct can be exercised regardless of failures to comply with the invoicing requirements is inconsistent with Henderson, LJ’s judgment in Zipvit .  The Tribunal does not consider the Appellant’s broad proposition to be correct.

209.        Secondly, the particular deficiencies in the Stratex invoices are such that the “fundamental” requirements of VAT invoices, viz. those necessary for the taxing authority to monitor payment by the supplier of the tax in question, have not been met. Where those requirements have not been met, and the person seeking to reclaim the input tax cannot provide other evidence that the supplier has paid the VAT due on the invoices, it is apparent that a necessary precondition for the right to deduct remains unsatisfied.

210.         In this case, Stratex’s invoices bore neither the name of its customer, nor, more importantly, its own VRN. These are fundamental requirements, since they are necessary for HMRC to monitor whether the supplier has paid the tax due. Moreover, there is authority that the requirement imposed by Article 226(10) is a fundamental condition of the right to deduct, it makes no sense to speak of a sum of VAT being payable by virtue of an invoice if that invoice fails to identify the person required to pay the sum in question.

211.        The VRN identifies the particular taxable person who has made the supply and is due to account for the output tax and the customer name identifies the counterparty with sufficient particularity that the invoice could not, for example, be issued multiple times. These symmetrical requirements cumulatively mirror the operation of the principle of fiscal neutrality. Together, therefore, these requirements amount to a fundamental requirement of a VAT invoice that has not been met by the Appellant.

212.        At the second stage of the analysis, the Appellant cannot show that the VAT charged on the Stratex invoices has been paid, since it is common ground that Stratex fraudulently failed to account for it. Therefore, since the invoices relied upon by the Appellant fail to satisfy a fundamental requirement of a VAT invoice, and the Appellant cannot provide any evidence that Stratex paid the VAT charged on the invoices, in the language of Zipvit at [113] a necessary precondition for the exercise of the right to deduct therefore remains unsatisfied.

213.        Henderson, LJ made plain the importance of establishing the payment of the output tax where an invoice is invalid for VAT purposes by iterating the point that Zipvit could not do so on no less than five occasions at: [112, 113, 115, 116 and 117].

214.        What is more, the Judge’s analysis of the importance of either the invoice, or alternative evidence where the invoice is invalid, establishing that the tax has been paid by the supplier must have been explicitly intended to go beyond the facts of Zipvit , since otherwise the parenthesis in [116] is inexplicable:

“…It would, I think, be offensive to most people’s sense of fiscal justice if a mechanical accounting exercise of this nature were permitted to generate a very substantial input tax credit, in circumstances where (for whatever reason) none of the tax in question has been paid by the supplier.”

215.        In terms of the exercise of HMRC’s discretion to allow the Appellant’s input tax deduction in the absence of a valid VAT invoice and where there is no evidence that the supplier has paid the output VAT charged, it is now to be inferred from Zipvit at [116] that there will no grounds upon which HMRC could properly conclude that such a deduction could be permitted.

216.        This also disposes of the Appellant’s assertion, which will be considered as part of the Second Issue, that the decision-making officer’s reliance in making his decision upon the fact that Stratex had fraudulently failed to account for the output tax was somehow an irrelevant factor. To the contrary, in the light of Henderson, LJ’s. analysis in Zipvit , the fact of non-payment by the supplier (for whatever reason) is of real importance to a decision not to exercise HMRC’s discretion in such circumstances.

Conclusion on the First Issue

217.        This ground of appeal is dismissed.  The Tribunal is satisfied that HMRC were lawfully entitled to deny the Appellant the right to deduct input tax upon the Stratex invoices in conformity with domestic and EU law.  The Stratex invoices were invalid as a matter of domestic and EU law in that they did not meet all of the requirements of Article 226 PVD and Regulation 14 VATR and on the facts of this case, HMRC were entitled to refuse the deduction of input tax.

 

 

The Second Issue

218.        Seventeen invoices for the supply of carbon credits by Stratex to the Appellant between 18 May 2009 and 3 June 2009 charged £5,605,119.74 in VAT which the Appellant duly paid and claimed as input tax in period 06/09. 

219.        It is not in dispute that Stratex’s invoices were invalid because they did not contain a VAT registration number (“VRN”), indeed Stratex was not VAT registered. HMRC decided the Appellant was not entitled to recover the input tax on these invoices.   

220.        On 6 December 2012 Officer David Ball declined to exercise the discretion provided to HMRC by regulation 29(2) of the VAT Regulations 1995 (“VATR”) to accept alternative evidence of the VAT charge [5] and denied the Appellant input tax claimed on the Stratex invoices.  Officer Peter Birchfield upheld this decision on review in a letter dated 12 April 2013.

221.        The Second Issue is whether HMRC’s decision to refuse to exercise their discretion in favour of CFE in respect of the invalid Stratex invoices and accept alternative evidence to allow the input VAT claimed on the invoices was unreasonable (the reasonableness of the discretion to refuse).

222.        There is a sub issue: which is the relevant decision for which the discretion is to be reviewed? Was it the decision of Officer David Ball, the original decision maker, or that of Peter Birchfield who reviewed and upheld Officer Ball’s decision?

The Facts on the Second Issue

223.        The Tribunal finds the following facts on the balance of probabilities having heard oral evidence from Officers David Ball and Peter Birchfield, each of whom was cross examined.

224.        As is set out above, it is not in dispute that seventeen invoices for the supply of carbon credits by Stratex Ltd (“Stratex”) to CFE between 18 May 2009 and 3 June 2009 charged over £5 million in VAT which the Appellant duly paid and claimed as input tax in period 06/09. 

225.        It is not in dispute that Stratex’s invoices were invalid because they did not contain a VAT registration number (“VRN”), indeed Stratex was not VAT registered. HMRC decided the Appellant was not entitled to recover the input tax on these invoices.   

226.        It is not in dispute that input tax upon other invalid invoices from other suppliers to CFE which HMRC initially denied, they later allowed following Officer Birchfield’s Review. 

227.        Neither is it in dispute that CFE had its own internal invoicing, tax, legal and credit departments in house.  The Tribunal finds, in the absence of any evidence being put forward for why these invoices were processed and paid out upon without query, that there was no effective checking by CFE of the validity of the invoices nor VRN nor VAT registration of Stratex.

228.        In his decision letter dated 6 December 2012 Officer David Ball stated the following:

“3. Regulations 13(1) of the VAT Act 1994 requires taxable persons to have a valid VAT invoice in order to reclaim input tax on taxable supplies.  The contents of a VAT Invoice are set out in Regulation 14(1).  You do not have a valid VAT invoice for a number of transactions on which you seeking to claim input tax as detailed below.

4……..

As you can see above Regulation 14(1)(d) requires the VAT invoices to have a valid VAT number.

5. On 18 th May 2009, CO2e received an invoice for Stratex Ltd.  The invoice from Stratex bore no VAT Registration Number, however Stratex Ltd charged CO2e VAT, which CO2e paid to Stratex on or about 19 th May 2009.  Payment would have been processed by the accounting department and the input tax posted to the VAT account.  As Stratex was not registered for VAT none of their invoices could have had a valid VAT registration number.

6. Under regulation 14(1)(d) CO2e did not have a valid VAT Invoice on which to recover VAT and therefore it has no right to claim input tax on these particular transactions.

7.Any recovery of input tax in these circumstances is subject to HMRC’s discretion under VAT regulation 29(2).  However, given the low level of commercial checks, particularly in light of what FSA, FATF & JMLSG guidelines recommend, undertaken by CO2e in relation to these transactions (see para14(ii) below) I have decided to deny CO2e’s claim to input tax.  This is on the basis that it does not have a valid VAT invoice, Stratex was not registered for VAT at the time of the transactions, the transactions were connected with VAT fraud and CO2e did not carry out a reasonable level of due diligence and therefore we would decline to apply our discretion to allow the input tax.”

229.        Officer Ball gave evidence about this in his first witness statement in the following terms:

“416. The copy of Stratex’s invoice sent to us by CFE shows that Stratex’s banker was Marfin Popolare Bank Cyprus.  The invoice does not show a UK VAT number although VAT is included on the invoice.

417. On the basis of the information received CFE has made very few third-party checks such as financial checks from Dunn & Bradstreet or similar organisations.

418. CFE has not provided any: annual accounts, independent references, banking references, checks on Stratex’s director and his background and experience.

419. Despite having no financial information about the company between 18 th May – 3 rd June 2009 CFE did 17 trades totalling €48,882,969.  There is no evidence that CFE sought to check with HMRC whether Stratex was registered for VAT.

420. Stratex had only been incorporated on 6 th October 2008 and therefore had no or very little track record.  CFE state the business was “no risk” as they did not pay Stratex Limited until they had received the EUAs.  On this basis Stratex would have received credit facilities from the trader who sold the EUAs to them.  In the case of the trades mentioned above on 28 th May 2009 Stratex would have needed credit of about €13,139,440.

421. Had CFE applies its KYC checks and risk management systems properly and taken notice of the available information it would have been able to identify the fact that Stratex had no financial or trading history, that the director Avi Alkobi was unknown in the field of environmental trading and that Stratex had no permanent premises in the UK, instead relying upon a third party to provide office services.  In addition, Stratex were not registered for VAT in the UK, but were charging VAT.  CFE also failed to take into account that Stratex could purchase large volumes of carbon EUAs at a price less than CFE could purchase and the payments made by CFE, including the amounts due as VAT to HMRC were to an account at Marfin Popular bank in Cyprus.

422.The 17 invoices that CFE provided from Stratex were invalid because they did not show any VAT registration number on them and could not, because Stratex were not registered for VAT and had never been registered for VAT.  Despite the fact that the invoices were invalid under Regulation 14 of the Value Added Tax Regulations 1995 for the reason set out above I nonetheless had the discretion to accept other evidence of the charge to VAT as evidence of the supplies in question having been made and to permit an input tax deduction on that basis.

423. The only documentation that CFE provided me with in relation to the Stratex transactions were the invalid invoices themselves and the due diligence documents listed above.  No proof of payment to Stratex was provided by CFE.  As set out in my letter of 6 th December 2012 to CFE I declined to exercise my discretion in favour of allowing the input tax deduction because: CFE’s due diligence checks into Stratex were inadequate especially in the light of what the FSA, FATF and JMLSG guidelines recommend.  The transactions were also connected with fraud.”

230.        When cross examined on whether he had exercised his own independent judgment and come to his own decision on exercising the discretion to deny input tax Officer Ball was clear that it was his own decision.  For the reasons set out in the Tribunal’s decision on the Fifth Issue, it is satisfied that Officer Ball did receive guidance and input from Officer Jarvis but the discretion Officer Ball exercised was his own.

231.        In his Review Decision of 12 April 2013, upholding Officer Ball’s decision on the denial of input tax on the Stratex invoices, Officer Birchfield stated the following at page 2:

“I have examined a sample of the invoices for all the suppliers in question and (……) the invoices are invalid in that they are deficient in one of the requirements for a Tax Invoice detailed in Regulation 14(1)(d).

…………

Officer Ball was then required to exercise his discretion as to whether to allow deduction of input tax based on alternative evidence.  Officer Ball has considered allowing deduction based on alternative evidence and decided to refuse deduction (his reasoning is given in paragraphs 7 and 9 of his letter to Tower Bridge GB Ltd of the 6 th December 2012).

The invalid invoices issued by Stratex Alliance Ltd are in a different category to the other invalid invoices for which input tax has been denied in that the trader was not registered for VAT.  Officer Ball has decided that in this case discretion does not apply and he therefore has not exercised it.  Following Policy advice I agree with this approach (but see under the section on MOK as the fact that the Stratex Invoices are Invalid will form part of the evidence available to determine the appellant’s knowledge of the connection to fraud under the section on MOK).

In relation to the remaining invalid invoices I have considered the alternative evidence available to Officer Ball and some additional evidence of payment supplied by Tower Bridge following my meeting with representatives of the company and their legal advisors of the 14 th March 2013 and I have concluded that:

…………………

 

 

Conclusion

Officer Ball has correctly denied the input tax in relation to the Stratex Alliance invoices and has correctly exercised his discretion to refuse deduction based on alternative evidence.  This element of the invalid invoice assessment will be upheld.  The input tax denied is:

Period 06/09 £5,605,117.74

Towerbridge has satisfactory alternative evidence to support deduction for that part of the input tax denial based on the fact the invoices are invalid solely on their technical deficiencies (even where they can be shown to be connected to a fraud) and that part of the decision will be withdrawn.  The input tax denied solely on invalid invoices was:

……………..”

232.        As is set out in the footnote above, Officer Ball had previously denied input tax on invoices from Adduco Consulting Ltd, ADE International Ltd, Carbondesk Ltd, Northumberland Consultants Ltd and SVS Securities on the basis their invoices did not contain the total VAT chargeable in sterling.  It is to be noted that Officer Birchfield, in his review, overturned Officer Ball’s decision to deny input tax in relation to invalid invoices from other suppliers and exercised his discretion to accept alternative evidence and allowed the deduction of input tax in respect of the other invalid invoices supplied. 

233.        Officer Birchfield dealt with the invalid Stratex invoices in his witness statement in the following terms:

21. I categorised the transactions into two groups, those where Towerbridge bought from Stratex and then all those dated after the 9 th June 2009.

22. In the Stratex deals the supplier was not registered for VAT at the time of the transactions and in fact was never registered for VAT.  The invoices issued by Stratex to Towerbridge had no VAT number on the face of the invoices.  There were 17 transactions including VAT of £5,605,119.74 million pounds and no VAT Registration number was shown on any of these invoices.  A VAT Number is a mandatory entry on a VAT Invoice so these 17 invoices were all invalid.

23.Officer Ball considered allowing the deduction of Input tax on an Invalid invoices using alternative evidence in line with the Statement of Practice on deduction of VAT without a valid invoice and so did I but this was not a business error or administrative oversight by Stratex; it was a deliberate fraud, VAT was charged, collected and not paid by Stratex.

24. With that being the context it was then relevant to note that there was a direct connection to a fraud between Stratex and Towerbridge and Towerbridge knew or should have known of that connection primarily because the most obvious reason a supplier doesn’t show a VAT number on their invoices is that they don’t have one and can’t therefore account for the VAT to HMRC.  It is a fundamental requirement of a VAT invoice that it shows a VAT number.

25. Therefore, Towerbridge had no or no sufficient grounds on which to suggest that the discretion to allow alternative evidence of the charge to VAT should be exercised and, moreover the Kittel test outlined above was met.

26. In relation to the remaining transactions denied by Officer Ball I have drawn a distinction between “could have known” and “should have known”.  There are a number of indicators of fraud in the supply chains prior to the 9 th June 2009 (which are identified in the original decision letter by Officer Ball) but prior that date the indicators when viewed in isolation and without a well-publicised context of fraud in the market against which to judge them, did not convince me that Towerbridge should have known that they were connected to fraud.”

234.        The Tribunal is satisfied that the evidence of both Officer’s witness statements and decision letters and the facts contained with them were accurate and that their oral evidence regarding them was reliable.  The Tribunal has made some further factual findings regarding their evidence as to the exercise of their discretion as part of its decision on the Fifth Issue.  However, those findings do not impact upon the outcome of this issue.  The questions are which decision should be reviewed and whether the relevant decision was reasonable.

The Law on the Second Issue

The proper decision maker whose decision is to be challenged

235.        The relevant parts of sections 83, 83C, 83F and 83G Value Added Tax Act 1994 (“VATA”) provide as follows:

83    Appeals

(1)     Subject to [sections 83G and 84], an appeal shall lie to [the tribunal] with respect to any of the following matters—………………..

(c)     the amount of any input tax which may be credited to a person;……………………

(p)     an assessment—

(i)     under section 73(1) or (2) in respect of a period for which the appellant has made a return under this Act;  ………………………

83C    Review by HMRC

(1)     (1) HMRC must review a decision if—

(a)     they have offered a review of the decision under section 83A, and

(b)     P notifies HMRC accepting the offer within 30 days from the date of the document containing the notification of the offer.

(2)     But P may not notify acceptance of the offer if P has already appealed to the tribunal under section 83G.

(3)     HMRC must review a decision if a person other than P notifies them under section 83B.

(4)     HMRC shall not review a decision if P, or another person, has appealed to the tribunal under section 83G in respect of the decision.

83F    Nature of review etc

(1)     This section applies if HMRC are required to undertake a review under section 83C or 83E.

(2)     The nature and extent of the review are to be such as appear appropriate to HMRC in the circumstances.

(3)     For the purpose of subsection (2), HMRC must, in particular, have regard to steps taken before the beginning of the review—

(a)     by HMRC in reaching the decision, and

(b)     by any person in seeking to resolve disagreement about the decision.

(4)     The review must take account of any representations made by P, or the other person, at a stage which gives HMRC a reasonable opportunity to consider them.

(5)     The review may conclude that the decision is to be—

(a)     upheld,

(b)     varied, or

(c)     cancelled.

(6)     HMRC must give P, or the other person, notice of the conclusions of the review and their reasoning within—

(a)     a period of 45 days beginning with the relevant date, or

(b)     such other period as HMRC and P, or the other person, may agree.

(7)     In subsection (6) “relevant date” means—

(a)     the date HMRC received P's notification accepting the offer of a review (in a case falling within section 83A), or

(b)     the date HMRC received notification from another person requiring review (in a case falling within section 83B), or

(c)     the date on which HMRC decided to undertake the review (in a case falling within section 83E).

(8)     Where HMRC are required to undertake a review but do not give notice of the conclusions within the time period specified in subsection (6), the review is to be treated as having concluded that the decision is upheld.

(9)     If subsection (8) applies, HMRC must notify P or the other person of the conclusion which the review is treated as having reached.

83G    Bringing of appeals

(1)     An appeal under section 83 is to be made to the tribunal before—

(a)     the end of the period of 30 days beginning with—

(i)     in a case where P is the appellant, the date of the document notifying the decision to which the appeal relates, or

(ii)     in a case where a person other than P is the appellant, the date that person becomes aware of the decision, or

(b)     if later, the end of the relevant period (within the meaning of section 83D).

(2)     But that is subject to subsections (3) to (5).

(3)     In a case where HMRC are required to undertake a review under section 83C—

(a)     an appeal may not be made until the conclusion date, and

(b)     any appeal is to be made within the period of 30 days beginning with the conclusion date.

(4)     In a case where HMRC are requested to undertake a review in accordance with section 83E—

(a)     an appeal may not be made—

(i)     unless HMRC have notified P, or the other person, as to whether or not a review will be undertaken, and

(ii)     if HMRC have notified P, or the other person, that a review will be undertaken, until the conclusion date;

(b)     any appeal where paragraph (a)(ii) applies is to be made within the period of 30 days beginning with the conclusion date;

(c)     if HMRC have notified P, or the other person, that a review will not be undertaken, an appeal may be made only if the tribunal gives permission to do so.]

(5)     In a case where section 83F(8) applies, an appeal may be made at any time from the end of the period specified in section 83F(6) to the date 30 days after the conclusion date.

(6)     An appeal may be made after the end of the period specified in subsection (1), (3)(b), (4)(b) or (5) if the tribunal gives permission to do so.

(7)     In this section “conclusion date” means the date of the document notifying the conclusions of the review.

Invalid invoices and the discretion to allow input tax

236.        The domestic law on this issue has already been touched upon as part of the decision on the First Issue.

237.        Regulation 13(2) of the VAT Regulations 1995 (“VATR”) provides that the particulars of the VAT chargeable on a supply of goods shall be provided on a document containing the particulars prescribed in Regulation 14(1).

238.        Regulation 14(1) VATR states, in as far as is relevant:

(1) Subject to paragraph (2) below and regulation 16 save as the Commissioners may otherwise allow, a registered person providing a VAT invoice in accordance with regulation 13 shall state thereon the following particulars— …

(d) the name, address and registration number of the supplier, …

239.        Regulation 29 of the VATR, in so far as relevant, provides:

(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. 

240.        HMRC issued a Statement of Practice, effective from 16 April 2003 and dated 10 April 2007, updated in March 2007, setting out their policy as to the circumstances in which input tax recovery will be allowed in the absence of a valid VAT invoice.

241.        HMRC’s policy is titled “Statement of Practice – VAT Strategy: Input Tax deduction without a valid VAT manual”.  It sets out HMRC’s policy at the time of the decision and the review decision in relation to the invalid VAT invoices.

242.        The Statement of Practice contains the following relevant paragraphs:

“VAT Strategy – Input tax deduction without a Valid VAT invoice

1.This statement of Practice explains and clarifies HMRC’s policy in respect of claims for input tax supported by invalid VAT invoices.  It also explains why amendments were made to ….regulation 29(2) of the Value Added Tax Regulations 1995 to introduce new measures……This guidance does not apply to situations where HMRC may deny recovery of input tax for other reasons such as “abuse” of the right to deduct.

…………………………

How do I know I have an invalid VAT invoice?

12.The first step is to ensure that you hold an invoice that contains all the right information.  It is difficult to spot an invalid invoice where a false name, address or VAT number has been used.  HMRC have established a team who can confirm that supplied VAT registration details are current, valid and match information held by HMRC…….

Invalid Invoice and HMRC’s discretion

13. A proper exercise of HMRC’s discretion can only be undertaken when there is sufficient evidence to satisfy the Commissioners that a supply has taken place.  Where a supply has taken place, but the invoice to support this is invalid, the Commissioners may exercise their discretion and allow a claim for input tax credit.  For supplies/transactions involving goods stated in Appendix 3 [6]   HMRC will need to be satisfied that:

- The supply as stated on the invoice did take place.

- There is other evidence to show that the supply /transaction occurred.

- The supply made is in furtherance of the trader’s business.

- The trader has undertaken normal commercial checks to establish the bona fides of the supply and supplier.

- Normal commercial arrangements are in place – this can include payment arrangements and how the relationship between the supplier / buyer was established.

 

What do I do if my checks indicate that a fraud exists?

15. If your checks indicate that there may be a fraud should consider whether you wish to continue with the transaction…….

 

I have an invalid VAT invoice; Can I still recover input tax?

16. Not automatically.  However, HMRC may apply their discretion and still allow recovery.

 

How will HMRC apply their discretion?

 

17. For supplies of goods not listed at Appendix 3, claimants will need to be able to answer most of the questions at Appendix 2 satisfactorily. In most cases, this will be little more than providing alternative evidence to show that the supply of goods or services has been made (this has always been HMRC's policy).

 

18. For supplies of goods listed at Appendix 3, claimants will be expected to be able to answer questions relating to the supply in question including all or nearly all of the questions at Appendix 2. In addition, they are likely to be asked further questions by HMRC in order to test whether they took reasonable care in respect of transactions to ensure that their supplier and the supply were 'bona fide'.

 

19. As long as the claimant can provide satisfactory answers to the questions at Appendix 2 and to any additional questions that may be asked, input tax deduction will be permitted.”  

 

243.        The Appellant’s case does not concern any of the goods listed in Appendix 3, and so paragraph 17 applies. Appendix 2 provides:

“Appendix 2 Questions* to determine whether there is a right to deduct in the absence of a valid VAT invoice

 

1. Do you have alternative documentary evidence other than an invoice (e.g. supplier statement)?

 

2. Do you have evidence of receipt of a taxable supply on which VAT has been charged?

 

3. Do you have evidence of payment?

 

4. Do you have evidence of how the goods/services have been consumed within your business or their onward supply?

 

5. How did you know that the supplier existed?

 

6. How was your relationship with the supplier established? For example:

     

    • How was contact made?     

    • Do you know where the supplier operates from (have you been there)?     

    • How do you contact them?     

    • How do you know they can supply the goods or services?     

    • If goods, how do you know the goods are not stolen?     

    • How do you return faulty supplies?

 

  *This list is not exhaustive and additional questions may be asked in individual circumstances”  

 

The relevant case law on invalid invoices

244.        The effect of Regulation 29(2) VATR is that HMRC has a discretion to allow a credit for input tax notwithstanding that the taxable person does not have a valid VAT invoice ( Kohanzad v Customs & Excise Commissioners [1994] STC 967 at 969 per Schiemann, J.).

245.        The Upper Tribunal has recently confirmed that in invalid invoice cases the Tribunal should focus on the reasonableness of the exercise of that discretion and deprecated the practice that had sprung up of Tribunals firstly determining whether a supply had in fact been made in relation to the invoice (see Scandico Ltd v The Commissioners for Her Majesty’s Revenue & Customs [2017] UKUT 467 (TCC) (“ Scandico” ) per Rose, J. and Judge Hellier at [39-43] concluding:

“43. In appeals of this kind, the First-tier tribunal should address only the decision which is before it, namely HMRC's decision that, in the absence of the VAT receipts, they were not prepared to exercise their discretion to accept the alternative evidence provided by the taxpayer as to whether there had been a taxable supply. The test that the First-tier tribunal applies in reviewing that decision is the test set out in Kohanzad.”

246.        The Tribunal exercises a supervisory jurisdiction when hearing an appeal against the exercise of HMRC’s discretion. Thus, the Tribunal’s jurisdiction is to consider whether HMRC have acted in a way in which no reasonable panel of Commissioners could have acted or whether they have taken into account some irrelevant matter or disregarded something to which they should have given weight. The Tribunal should also consider whether HMRC have erred as a matter of law (see e.g. Revenue & Customs v GB Housley Ltd [2014] UKUT 320 (“ GB Housley ”) per Warren, J. at [10]).

247.        If HMRC have failed to exercise their discretion properly (including by not exercising it at all) the exercise of that discretion must be revisited; the Tribunal cannot exercise the discretion itself.  However, there is an exception to this where HMRC are able to show that had the discretion been properly exercised the decision would inevitably have been the same again (see e.g. GB Housley at [11]).

248.        In McAndrew Utilities Ltd v Revenue & Customs [2012] UKFTT 749 (TC) the Tribunal considered the relevance of the fact that the transactions for which there were invalid invoices took place in a market known to be vitiated by fraud. The Tribunal concluded at [120-122]:

“120. The respondents say that the appellant’s failure to carry out any meaningful due diligence or commercial checks in a market affected by fraud is a factor in the exercise of its discretion to accept alternative evidence of the charge to VAT. We accept that submission. In such a market we would expect the appellant to have made considerably more effort than it did to satisfy itself as to the identity and legitimacy of persons it was dealing with. The absence of reliable evidence as to the identity and status of the suppliers arises because of the appellant’s failure to carry out any meaningful checks.

121. We bear in mind that the alternative evidence referred to in regulation 29(2) is of the charge to VAT. The questions in Appendix 2 of the statement of practice must therefore be read in the context that they are seeking to establish that there has been a taxable supply to the appellant by a taxable person for which payment has been made. It is evidence to establish the following matters which will be particularly relevant:

(1) The identity of the supplier,

(2) The nature and extent of the goods and services being supplied,

(3) The use to which the goods and services were put in the appellant’s business,

(4) Payment for the goods and services.

122. We also consider that the alternative evidence required is evidence to the same level of detail as that which would be contained in a valid invoice, the absence of which gives rise to the discretion.”

249.        The Tribunal’s jurisdiction is strictly supervisory; not appellate nor “substitutionary.” Thus, the Tribunal must focus not on whether it agrees with the decision nor whether it would have come to a different decision; but whether the decision falls within the ambit of one that a reasonable body of Commissioners could have reached.

250.        The burden of proof is upon the Appellant, both to establish the facts that it relies upon in challenging the decision, and to show that the decision was unreasonable.

HMRC’s submissions on the Second Issue

251.        Mr Puzey on behalf of HMRC submits that the Appellant’s grounds of appeal did not particularise its complaint in respect of the exercise of the discretion beyond suggesting that it was “wrong” and should have been exercised the other way.

252.        Mr Puzey submitted that this was an impermissible attack on the merits of the decision, not its reasonableness, and such a challenge cannot lead to the appeal being allowed. He submitted that the Tribunal can only interfere with HMRC’s refusal to exercise its discretion in the Appellant’s favour if: it was perverse or irrational, if some relevant factor was not taken into account, if some irrelevant factor was taken into account or if the decision was otherwise vitiated by some error of law. Since the Appellant had made no such allegation in its grounds of appeal, its appeal in respect of the denial input tax based on the invalid invoice aspect of the case should fail.

253.        He submitted that the Tribunal may only allow the appeal on this issue if the decision of HMRC was unreasonable and that requires the Tribunal to interfere with a question of substance that has built in latitudes for such matters as judgment, discretion and policy. This is a high hurdle for the Appellant to surmount. As Lord Russell said in Secretary of State for Education and Science v Tameside Metropolitan Borough Council [1977] AC 1014, 1074H-1075C:

“….it is quite unacceptable …to proceed from ‘wrong’ to ‘unreasonable’…History is replete with genuine accusations of unreasonableness when all that is involved is disagreement, perhaps passionate, between reasonable people:”; “’unreasonably’ is a very strong word indeed, the strength of which may easily fail to be recognized.”

254.        He relied on In re W (An Infant) [1971] AC 682, 700D-3 where Lord Hailsham said:

“Two reasonable [persons] can perfectly reasonably come to opposite conclusions on the same set of facts without forfeiting their title to be regarded as reasonable…Not every reasonable exercise of judgment is right, and not every mistaken exercise of judgment is unreasonable.”

255.         Mr Puzey also relied on Huang v Secretary of State for the Home Department [2005] EWCA Civ 105 at [28] where Laws, LJ. said of the unreasonableness test:

“We are sure we need take little time describing the conventional Wednesbury test of public law error. Very shortly, the court would ask itself whether the decision in question was so unreasonable that no reasonable public decision maker could have arrived at it. As is well known the test was re-stated by Lord Diplock in the GCHQ case [19] as condemning "irrational" decisions. However precisely stated, the test imposed on the decision maker a duty to make his decision in good faith, to have regard to all and only relevant considerations, and to bring a rational mind to bear on whatever was the issue. This approach informed a judicial review jurisdiction which was largely remote from the merits of the decision under review. The judge might violently disagree with the merits decision; but applying the Wednesbury test he could only strike it down if he were satisfied that it failed to meet the test's relatively undemanding standards.”

256.        He submitted that there can be little doubt, from the authorities, that the Tribunal should not intervene on the general grounds of unreasonableness save in a strong case.  Therefore, the Appellant had a high threshold to overcome. The Courts have described unreasonable decisions in the following terms: perverse, outrageous in its defiance of logic or of accepted moral standards, so absurd that the decision maker must have taken leave of his senses, so devoid of any plausible justification that no reasonable body of persons could have reached them, and defying comprehension. “Unreasonableness” is thus a high threshold, but not an unattainable one (see Judicial Review Handbook, 6th Edn., Fordham at [57.1.12-57.4.1]).

257.         Mr Puzey submitted that even if the Appellant were, at the eleventh hour, to apply to change its grounds of appeal to claim that the decision failed to take into account some particularised relevant factor (which would be resisted), the burden would be on the Appellant to prove not only that there was a failure to take into account a relevant factor, but also that this factor was material to the decision i.e. that had the decision-making officer taken into account that factor it might have caused him to reach a different decision. The test set out in R v Parliamentary Commissioner for Administration, ex p Balchin [1998] 1 PLR 1, 25C was “whether a consideration has been omitted which, had account been taken of it, might have caused the decision maker to reach a difference conclusion.”

258.        He relied upon R v Chief Registrar of Friendly Societies, Ex parte New Cross Building Society [1984] QB 227 at 260, where Griffiths, LJ. said:

“The court must not allow the tests proposed in Associated Provincial Picture Houses Ltd. v. Wednesbury Corporation [1948] 1 KB 223 to be erected into immutable propositions of law. Take as an example the proposition that the decision must take into account relevant considerations and leave out of account irrelevant considerations. In a decision involving the weighing of many complex factors it will always be possible to point to some factors which should arguably have been taken into account or left out of account; even if they should have been, the court should not intervene unless it is convinced that this would have resulted in the decision going the other way. The same applies to an error of law on the face of the record; if the error is fundamental to the decision the court should intervene: but certiorari is a discretionary remedy and not every error of law will justify quashing the decision.”

259.        Mr Puzey submitted that the question arises as to in whose judgment a factor is relevant. There are normally held to be two categories of factors:

i. Those which the legislation expressly or impliedly identifies as relevant or which are obviously relevant; and

ii. Those which the decision maker may take into account if they see fit to.

260.        He relied on the judgment in London Borough of Newham v Khatun & Ors [2004] EWCA Civ 55 where Laws, LJ. said at [35]:

‘In my judgment CREEDNZ (via the decision in Findlay) does not only support the proposition that where a statute conferring discretionary power provides no lexicon of the matters to be treated as relevant by the decision-maker, then it is for the decision-maker and not the court to conclude what is relevant subject only to Wednesbury review. By extension it gives authority also for a different but closely related proposition, namely that it is for the decision-maker and not the court, subject again to Wednesbury review, to decide upon the manner and intensity of enquiry to be undertaken into any relevant factor accepted or demonstrated as such. This view is I think supported by the judgment of Schiemann J as he then was in Ex p. Costello, to which Mr Luba referred us. That case concerned the degree of inquiry which an authority was obliged to undertake into issues of priority need and intentional homelessness. At p.309 Schiemann J said:

          "In my view the court should establish what material was before the authority and should only strike down a decision by the authority not to make further enquiries if no reasonable council possessed of that material could suppose that the inquiries they had made were sufficient."

This approach is lent authoritative support by the decision of this court in R v Royal Borough of Kensington and Chelsea ex p. Bayani [9], which was concerned with the authority's duty of inquiry in a homelessness case. Neill LJ said at 415:

" The court should not intervene merely because it considers that further inquiries would have been sensible or desirable. It should intervene only if no reasonable housing authority could have been satisfied on the basis of the inquiries made."’

261.        Mr Puzey relied on the judgment in Jones & Anor, R (on the application of) v North Warwickshire Borough Council [2001] EWCA Civ 315, at [20], where Laws, LJ. said:

“The general law as regards the duty of a public decision-maker to take relevant considerations into account is well-known.

(1) If the operative statute provides a lexicon of relevant considerations to which attention is to be paid, then obviously the decision-maker must follow the lexicon.

(2) If however the statute provides no such lexicon, or at least no exhaustive lexicon, then the decision-maker must decide for himself what he will take into account. In doing so he must obviously be guided by the policy and objects of the governing statute, but his decision as to what he will consider and what he will not consider is itself only to be reviewed on the conventional Wednesbury principle…”

262.        Mr Puzey submitted that in this case there is no statutory lexicon of matters to be treated as relevant by the decision-making officer. HMRC’s officer was at liberty to decide what he was going to take into account as relevant. In doing so he was to be guided by the policy and objects of the governing legislation. The Tribunal can only intervene on this ground if the reviewing officer failed to take into account something of “obvious” relevance.

263.        He submitted that the legislative and policy background to the invalid invoice decision is obvious: it is to minimise the risk of VAT fraud and to ensure that those who are properly entitled to VAT credits receive them.

264.        Mr Puzey noted that the Appellant accepted that the invoices from Stratex upon which it claims input tax are not valid VAT invoices.

265.        The Appellant’s ground of appeal in relation to the invalid invoice issue is:

“HMRC were wrong to refuse to allow the input tax in respect of the invoices which were invalid because they did not include a VAT registration number and discretion should have been exercised in accordance with the Statement of Practice so as to allow recovery.”

 

266.        Mr Puzey therefore submitted that the Tribunal had no jurisdiction to allow the Appellant’s appeal on the invalid invoice ground of appeal as pleaded. There was no claim therein that the decision to refuse to exercise the discretion in the Appellant’s favour was unreasonable or vitiated by an error of law. The merits of the decision are irrelevant to the Tribunal’s task. HMRC therefore submitted that the Appellant’s Ground of Appeal in relation to the invalid invoice issue must be dismissed.

Appellant’s submissions on the Second Issue

267.        Ms Shaw QC submitted that before deciding whether the decision was unreasonable, the Tribunal had to identify who was the relevant decision maker.

The correct decision maker

268.        Ms Shaw QC submitted on behalf of the Appellant that it was the reasonableness of the exercise of the discretion by the review decision maker, Officer Peter Birchfield, that was the subject of the appeal.  Therefore, she submitted that the Tribunal should consider the decision of 12 April 2013 rather than Officer Ball’s original decision of 6 December 2012.

269.        She submitted as follows.

270.        The law relating to the review of decisions made on or after 1 April 2009 in respect of which an appeal lies to the tribunal under s.83, VATA 1994 is laid down in sections 83A to 83G of VATA 1994.

271.        She submitted that it was clear from those sections, and in particular s.83F(5), that the review entails an assessment of the original decision. On review, the reviewer can conclude (pursuant to s.83F(5)) that the original decision is to be (a) upheld; (b) varied; or (c) cancelled.

272.        Section 83F(5) provides that:

(5) The review may conclude that the decision is to be—

(a) upheld,

(b) varied, or

(c) cancelled.

 

273.        She submitted that the power of the reviewing officer to vary the original decision indicates that, in a case involving the exercise by HMRC of their discretion under regulation 29(2) of the VAT Regulations 1995, the reviewer has more than the supervisory role that a Tribunal has on appeal, i.e. the reviewing officer has powers which extend beyond merely deciding whether the original exercise of discretion was unreasonable, irrational etc. The power of the reviewer to vary also suggests that the reviewing officer’s decision on discretion supersedes the original exercise of discretion.

274.        Ms Shaw QC submitted that in terms of the discretion bestowed upon HMRC by regulation 29(2), it is possible for them to re-exercise their discretion subsequently. As was suggested by Dyson J (as he then was) in CEC v Peachtree Enterprises Ltd [1994] STC 747, at 752g-j, such a re-exercise of the discretion can be the subject of a fresh appeal pursuant to ss.83 to 83G, VATA 1994.

275.        She submitted that such a course (i.e. a re-exercise of the discretion outside the statutory review process generating a discrete appealable matter) is to be distinguished from a reconsideration of the discretion during a statutory review under ss.83A to 83G, VATA 1994. This is for the following reasons:

(1) First, sections 83A to 83G, VATA 1994 do not provide for a distinct right of appeal against a review conclusion itself; rather, there is one relevant decision, being the original one as either upheld, varied or cancelled on review.

 

(2) If one were to treat a reviewing officer’s decision on discretion as a discrete appealable matter (as opposed to something which supersedes the original exercise of discretion) then, in principle, it would itself be subject to its own statutory review under ss.83A to 83G, VATA 1994. If the officer reviewing that decision re-exercised the discretion on review then that would generate yet another appealable matter which itself would be capable of being subjected to a statutory review, and so on ad infinitum . That would plainly be an absurd state of affairs.

 

(3) Further, if one were to adopt HMRC’s approach of focussing on the original exercise of discretion rather than the reviewing officer’s decision then in a case where, as happened to some extent in the present case, the original officer refuses to accept the alternative evidence but the reviewing officer disagrees and does accept it, the taxpayer nonetheless has to challenge the original decision by way of appeal. Again, that would be a surprising consequence.

 

276.        It follows, she submitted, that (1) the Tribunal’s supervisory role in a Reg.29(2) case where an original decision has been through a statutory review process involves considering the re-exercise of the discretion by the review officer in light of the material before him or her at that time and (2) the re-exercise of discretion by the reviewing officer supersedes the original decision.

The reasonableness of HMRC’s decision not to accept alternative evidence and deny input tax based upon the invalid invoices

 

277.        Ms Shaw QC, on behalf of the Appellant, submitted that the decision of Officer Birchfield in particular, and HMRC in general, not to accept alternative evidence but to deny input tax upon the invalid Stratex invoices was unreasonable.

278.        She submitted as follows.

279.        The provisions of the Principal VAT Directive are implemented into UK law by sections 24, 25 and 26 of VATA and regulations 14 and 29 of the VATR. More particularly:

(1)           Section 24 VATA defines “input tax” in relation to a taxable person as, inter alia , VAT of the supply to him of any goods or services used or to be used for the purpose of any business carried on or to be carried on by him.

(2)           Section 25 VATA sets out a taxable person’s obligation to account for output tax and provides a right to deduct input tax.

(3)           Section 26 VATA sets out the input tax allowable under section 25.

(4)           Regulation 14 of the VATR details the particulars that a VAT invoice is to contain.

(5)           Regulation 29 of the VATR governs claims for input tax. It implements the requirement that the taxable person making the claim hold a VAT invoice. It also provides (in reg.29(2)) that, in the event that the taxable person does not hold a VAT invoice, HMRC have a discretion to accept alternative evidence of the VAT charge.

280.        As regards HMRC’s discretion under regulation 29(2), a taxpayer can appeal against a refusal by HMRC to accept alternative evidence but the scope of the appeal is limited to the question of whether the discretion had been properly exercised, for example by examining whether HMRC took into account some irrelevant matter or had disregarded something to which they should have given weight: see CEC v Peachtree Enterprises Ltd [1994] STC 747, at 751b-f; Kohanzad v CEC [1994] STC 967, at 969d-g). The burden is on the taxpayer to show that HMRC’s decision was unreasonable in that sense ( Kohanzad , at 969g).

281.        Alternatively, the Appellant’s secondary submission was that, in exercising their discretion under regulation 29(2) HMRC, and specifically Officer Birchfield, took into account irrelevant matters and/or acted irrationally or otherwise failed properly to exercise their discretion.

282.        Further, and more particularly she submitted:

283.        The Appellant can, and has, answered all of the questions set out in Appendix 2 to HMRC’s Statement of Practice satisfactorily. Accordingly, HMRC should have exercised their discretion to permit the Appellant to claim the input tax relating to the Stratex transactions under regulation 29(2) in line with their stated policy.   

284.        As a consequence, Ms Shaw QC submitted that HMRC’s decision was flawed and should be quashed.

285.        As far as HMRC’s case on UK domestic law and the discretion contained in regulation 29(2) of the VAT Regulations 1995 was concerned, she submitted there appears to be a broad measure of agreement between the parties as to the nature of the Tribunal’s jurisdiction when it comes to challenges to the exercise of the discretion. For the avoidance of doubt, the reference in the Appellant’s Grounds of Appeal to HMRC’s refusal to allow the input tax in issue being wrong includes a reference to a wrongful exercise of their discretion.

286.        That this was, and always has been, clear to HMRC is demonstrated by paragraph 7 of HMRC’s skeleton argument for the hearing of the parties’ disclosure applications on 18 December 2015, which included the following description of the Appellant’s appeal: “Lastly, it is maintained that the Commissioners, in failing to accept alternative evidence of the charge to VAT for the Stratex invoices, exercised their discretion under Regulation 29(2) of the VAT Regulations 1995 unreasonably”.

287.         However, she submitted that the Appellant does not accept the contention made by HMRC that, because the regulation does not prescribe a “statutory lexicon of matters to be treated as relevant by the decision-making officer” , “the officer was at liberty to decide what he was going to take into account as relevant” subject only to being “guided” by the policy and objects of the legislation.

288.        More particularly Ms Shaw QC submitted:

(a) Regulation 29(2) is actually quite prescriptive as to the nature and extent of the discretion: it is a discretion to accept “other documentary evidence of the charge to VAT” .

(b) So whilst it is true that the legislation does not list factors which are to be taken into account, it does specify the matter to which the discretion relates, namely the adequacy of alternative documentary evidence of the charge to VAT in respect of which deduction is claimed.

(c) To be relevant, therefore, a given factor must go to whether the evidence in question is adequate to demonstrate that charge to VAT. Indeed, that is the very premise of HMRC’s published Statement of Practice on the exercise of their discretion.

289.        Further, and on a related note, the Appellant also takes issue with what is said by HMRC where they submit: “The legislative and policy background to the invalid invoice decision is obvious: it is to minimise the risk of VAT fraud and to ensure that those who are properly entitled to VAT credits receive them”.

290.         Insofar as HMRC’s submission is effectively that the discretion in regulation 29(2) can be used by HMRC as a means of policing or reducing the effect of VAT fraud, she submitted it is wrong.

291.        As both sides have identified, the discretion stems from Article 180 of the Directive and, as noted above, Article 180 is a permissive provision. It does not give member states a means of policing the VAT system or put the right of deduction within the gift of HMRC.

292.        Rather Ms Shaw QC submitted it is a discretion to accept alternative evidence that the substantive requirements, or at least that part related to the input VAT charge, are met.

293.        The risk of fraud might go to the level of evidence required to show that those requirements are met, and could be relevant in that sense, but once the officer is satisfied that they are met, as Officer Birchfield was in this case, there is no further relevant role for that factor to play. As the CJEU has stated, the question whether the VAT payable on prior or subsequent sales of the goods concerned has or has not been paid to the Treasury is irrelevant to the right of the taxable person to deduct input VAT: see Kittel , at [49].

294.        Finally, Ms Shaw QC submitted that it is irrational for HMRC to use their discretion to deny deduction on the basis of their conclusion on the Kittel test. The issue of their discretion to allow the deduction of input tax only arises if the Kittel test is not satisfied because if it applies then there is no question of the Appellant recovering the input tax.

Discussion and Decision on the Second Issue

 

Who is the decision maker whose decision is being appealed?

295.        The sub-issue before the Tribunal was the identity of the relevant decision maker whose discretion must be considered in deciding the reasonableness of HMRC’s refusal to accept alternative evidence for the invalid Stratex invoices for the purposes of Regulation 29(2) of the VAT Regulations 1995.  Was it the discretion exercised by Officer David Ball notified in the original decision letter of 6 December 2012 or that exercised by Officer Peter Birchfield in his review decision letter of 12 April 2013? 

296.        The Tribunal is satisfied that Officer David Ball was the relevant decision maker, the reasonableness of whose decision is to be considered in this appeal.  It adopts most of HMRC’s reasoning in coming to that conclusion.

297.        The review undertaken by Officer Peter Birchfield (pursuant to section 83C of VATA), as notified on 12 April 2013, was a review of Officer Ball’s decision.  So far as the issues before the Tribunal are concerned (namely the disallowance of input tax claimed on the Stratex invoices) Officer Birchfield stated expressly in oral evidence that he agreed with the decision of Officer Ball.  

298.        Further, in his decision letter of 12 April 2013, Officer Birchfield stated:

“Officer Ball has decided that in this case discretion does not apply and he therefore has not exercised it.  Following Policy advice I agree with this approach (but see under the section on MOK as the fact that the Stratex Invoices are Invalid will form part of the evidence available to determine the appellant’s knowledge of the connection to fraud under the section on MOK).

…………………

Conclusion

Officer Ball has correctly denied the input tax in relation to the Stratex Alliance invoices and has correctly exercised his discretion to refuse deduction based on alternative evidence.” 

299.        Officer Birchfield did not vary this aspect of Officer Ball’s decision or substitute it with another decision or overrule it. There was no new exercise of discretion in relation to the Stratex invoices.

300.        Section 83 of the Valued Added Tax Act 1994 (“VATA”) gives a right of appeal at s.83(1)(c) to “the amount of VAT which may be credited to a person” and s.83(1)(p) provides for a right of appeal against an assessment under s.73 of VATA.

301.        It is important to pay careful attention to the statutory language.  Section 83 does not provide for a right of appeal against a review decision. This is notwithstanding the fact that amendments were introduced by the Transfer of Tribunal Functions and Revenue and Customs Appeals Order SI 2009/56 to introduce a statutory right to review under sections 83A-G. No right of appeal against a review decision is provided under sections 83A-G either.

302.        In light of the fact that sections 83A to 83G, VATA do not provide for a distinct right of appeal against a review conclusion, even where there has been a review conducted there can only be one relevant decision that can be appealed, namely the original decision as either upheld, varied or cancelled on review.  

303.        Nonetheless, had the specific facts necessitated it, the Tribunal would have been entitled to have regard to the way in which the review decision was reached, particularly if the reasons relied upon for upholding the decision were substantially different.  For the reasons set out above, the Tribunal finds they are not substantially different.

304.        Some support for the Tribunal’s decision is by analogy to the decision of Judge Jonathan Richards who came to a consistent conclusion in respect of similar provisions within the Finance Act 1994 in Atom Supplies Ltd (t/a Masters of Malt) v Revenue & Customs (EXCISE WAREHOUSE : Approval ) [2015] UKFTT 388 (TC) at paragraphs 51 to 53:

“51. We have been able to decide this appeal by reference primarily to evidence dealing with the background to Officer Ames’s original decision. However, it does seem to us that, by virtue of s16(1A) of FA 1994, the right of appeal is against a  relevant decision , not against a particular  decision letter .  Moreover, the effect of s15F(5) of FA 1994 is that, following a review, there is not a fresh “decision”, but rather the original “decision” is upheld, varied or cancelled. Therefore, we consider that in principle, where an HMRC decision is upheld following a review under sections 15A to F of FA 1994, the Tribunal is entitled to have regard to the way in which the review decision is reached as the appellant’s appeal is against the “decision” as it stands following completion of the review process.

52. Support for this view can be found in s16(1C) of FA 1994. As we have noted at [43], this provides that where HMRC are required to undertake a review in accordance with s15C of FA 1994, a taxpayer is not able to appeal to the Tribunal until the outcome of that review has been communicated. This can only be because Parliament regards the outcome of the review as being relevant to the Tribunal’s assessment of the “reasonableness” of the “relevant decision” as a whole. That, moreover, is consistent with common sense since if, following a review, a decision to refuse approval is varied so as to become a decision to grant approval but subject to conditions, a taxpayer should be entitled to challenge the “reasonableness” of the decision to impose conditions.

53. Of course, common-sense will have to prevail. If it is clear in all the circumstances that the review has simply resulted in the original decision being upheld for precisely the same reasons, it may well be that detailed evidence on the review is not necessary. However, there will be cases in which the process by which the review decision is reached is relevant.”

305.        The Appellant recognises the narrow wording of the appeal provisions in its submissions on the issue but takes the view that there must somehow be a re-exercise of discretion on review “ outside the statutory review process generating a discrete appealable matter ” despite there being no statutory provision for such a procedure. It is not apparent that if there was a right of appeal against a non-statutory review decision prior to 1 April 2009 that it survived the introduction of the statutory review process.

306.        The Appellant relies upon the judgment of Dyson J (as he then was) in CEC v Peachtree Enterprises Ltd [1994] STC 747 at 752g-j. However, in that case, His Lordship was addressing a quite different situation where the Commissioners had imposed a security on the basis of certain facts. The taxpayer then supplied new information which resulted in a new decision being made that imposed a security in a different amount. Both decisions were appealed. It was held that the Tribunal should consider both decisions on the basis of the information available at the time of each decision.

307.        This authority does not support the Appellant’s present argument because there was no new information before Officer Birchfield and he upheld Officer Ball’s decision because he agreed with Officer Ball’s reasoning.  In these circumstances there is only one relevant decision, namely that of Officer Ball.  Contrary to the Appellant’s submissions Officer Ball’s decision has not been superseded.

308.        Even were the Appellant correct and there is a non-statutory review process which gives rise to a distinct appealable decision there was no new exercise of discretion in the present case, simply the affirmation of an existing decision.  In those circumstances the relevant decision-maker for the purpose of the discretion under Regulation 29(2) is Officer Ball.

The reasonableness of Officer Ball’s decision not to accept alternative evidence for the invalid invoices

309.        Officer Ball exercised a discretion not to accept the Appellant’s alternative evidence of taxable supplies for the purpose of its claim to deduct input tax on the Stratex invoices, which were accepted to be invalid.  His reasons for denying input tax on the invalid Stratex invoices were encapsulated at paragraph 7 of his decision letter of 6 December 2012 and his witness statement at paragraph 423 as set out above. 

310.        In essence, these were that: a) Stratex was not registered for VAT; b) the transactions were connected to fraud and c) that the Appellant failed to conduct reasonable due diligence in relation to the transactions.

311.        The Appellant argues that HMRC took into account irrelevant matters and / or acted irrationally or otherwise failed to properly exercise their discretion because Regulation 29(2) circumscribes their discretion.

312.        The Tribunal does not accept that these were irrelevant factors which he should not have taken into account nor that it was unreasonable for HMRC, and Officer Ball in particular, to rely on the matters he did in refusing to exercise his discretion.

313.        The Appellant’s argument amounts to a submission that Regulation 29(2) of the VAT Regulations 1995 and HMRC’s Statement of Practice is a document that wholly fetters HMRC’s discretion in relation to the allowance of credit for input tax in the absence of a valid VAT invoice. The Tribunal is not satisfied that this is right.

314.        The Appellant is right to submit Regulation 29(2) is actually quite prescriptive as to the nature and extent of HMRC’s discretion: it is a discretion to accept “other documentary evidence of the charge to VAT” .   Nonetheless, the Regulation is not prescriptive as to the factors which must be taken into account in order for the claim to input tax to be accepted or that the documentary evidence supplied must be considered in isolation.

315.        Further, HMRC’s Statement of Practice is a policy document, not binding law, drafted in 2007 and before MTIC fraud became evident in carbon credit trading as it did in 2009.  

316.        In Appendix 3 to the Statement of Practice, the trade in goods which then posed a higher risk of VAT fraud is specified (including telephone and computer products).  Paragraph 18 mandates that claimants ‘are likely to be asked further questions by HMRC in order to test whether they took reasonable care in respect of transactions to ensure that their supplier and the supply were 'bona fide'.  It is reasonably apparent therefore that the Statement of Practice directs HMRC to exercise its discretion to accept alternative evidence of the charge to VAT with regard to the risk of fraud in the relevant supplies and the level of due diligence that a claimant has undertaken.

317.        An implication of the Appellant’s argument is that if a taxpayer trades in a product not yet specified to be one at high risk of fraud in 2007 (those products specified in Appendix 3), the Statement of Practice effectively bars HMRC from taking into account that as a matter of fact (and uncontested fact in this case) the transaction was part of such a fraud.  The Tribunal does not accept this argument.

318.        Even accepting that carbon credits were not listed in Appendix 3, paragraphs 17 and 19 of the Statement of Practice provide as follows:

“17. For supplies of goods not listed at Appendix 3, claimants will need to be able to answer most of the questions at Appendix 2 satisfactorily. In most cases, this will be little more than providing alternative evidence to show that the supply of goods or services has been made (this has always been HMRC's policy).

……….

19. As long as the claimant can provide satisfactory answers to the questions at Appendix 2 and to any additional questions that may be asked, input tax deduction will be permitted.”  

319.        First, the questions posed at Appendix 2 of the Statement of Practice require a person seeking to deduct input tax without a valid invoice to explain how the relationship with his supplier was established. The extent to which the taxpayer seeking deduction establishes that his supplier was a bona fide VAT registered trader is relevant to the exercise of HMRC’s discretion.

320.        In this case it was evident to the decision-making officer that the Appellant had failed to carry out the most basic of checks on Stratex.  The primary facts have been established on the balance of probabilities which Officer Ball relied upon.  The conclusion he came to was reasonable. This was therefore a relevant matter for the Officer to take into account because it bears directly on how the tax loss has come about.

321.        Second, the questions listed in Appendix 2 are not stated to be exhaustive – “ This list is not exhaustive and additional questions may be asked in individual circumstances”.  If there are relevant questions which flow from the answers to the stipulated questions then these must be relevant.  For example, question 6 in Appendix 2 focuses on whether goods have been stolen – it too is directed to the bona fides of the transaction.

322.        In The Commissioners for Her Majesty’s Revenue & Customs v Boyce [2017] UKUT 177 (TCC) Mr Justice Arnold, sitting in the Upper Tribunal, accepted that a real and obvious risk of fraud was a relevant factor when HMRC exercises its discretion in the absence of a valid VAT invoice (see [19], and [22-23]):

19. Furthermore, counsel submitted….The FTT had failed to take into account the fact that there was a real and obvious risk of fraud in that the VAT invoices made out to the Named Purchasers could be used in order to make duplicate claims for the recovery of the VAT shown on them.  That risk distinguished this case from one where no VAT invoice had been issued at all.

………………

22. Finally counsel submitted that, in addition to the real and obvious risk of fraud mentioned above, the FTT had failed to keep in mind when assessing the Commissioners’ decision that: (i) the rule, as a matter of both EU and UK VAT law, is that without a valid VAT invoice there can be no input tax deduction; (ii) the use of the discretion in regulation 29(2) involves creating an exception to that rule; and (iii) it is therefore entirely reasonable for the Commissioners to insist on strict adherence to that rule unless and until the taxpayer can demonstrate that why an exception to it should be made……

 

23. In my judgment the FTT erred in law in reaching its conclusion for all of the reasons given by counsel for HMRC……

 

323.        There is earlier non-binding support for the authority of Boyce in the First-tier decision of McAndrew Utilities Ltd v Revenue & Customs [2012] UKFTT 749 (TC).  There the Tribunal considered the relevance of the fact that the transactions for which invalid invoices had been supplied took place in a market known to be vitiated by fraud. The Tribunal concluded at [120]:

“120. The respondents say that the appellant’s failure to carry out any meaningful due diligence or commercial checks in a market affected by fraud is a factor in the exercise of its discretion to accept alternative evidence of the charge to VAT. We accept that submission.”

324.        Accordingly, the Tribunal is satisfied that the Appellant’s submissions that fraud is irrelevant to the exercise of HMRC’s discretion is not correct.  The Tribunal accepts that the application of the Kittel test is quite separate and independent of the discretion to accept alternative evidence but Officer Ball only relied on the connection to fraud and the poor commercial checks (due diligence) carried out by CFE.  He did not rely on an allegation of knowledge or means of knowledge in the exercise of his discretion, simply the connection to fraud.

325.        That the transactions were connected to fraud was a material factor for HMRC to take into account in exercising their discretion for the reasons set out above.  This is independent of the separate grounds for denial of input tax on the Kittel basis.  The connection of these transactions to fraud is undisputed.  Denial on the basis of Kittel requires HMRC to prove knowledge or means of knowledge of such connection to fraud which is in dispute and considered later on within this decision within the Third Issue.

326.        Likewise, Officer Ball properly took into account that Stratex was not VAT registered and that the Appellant failed to perform reasonable commercial checks in exercising his discretion to refuse to accept alternative evidence for the invalid invoices and to deny input tax upon them.

327.        The absence of a VRN from the Stratex invoices did not simply render them invalid for the purposes of Regulations 13 and 14 of VATR on a technical deficiency or oversight.  This was no simple failure to meet a procedural requirement but was an indicator of a substantive absence – that Stratex was not VAT registered at the time of the supplies.  This was a relevant factor for the exercise of HMRC’s discretion.

328.        The lack of reasonable commercial checks or due diligence carried out by the Appellant on Stratex was also a relevant factor for HMRC to take into account in exercising the discretion.  The most obvious failure by the Appellant was to check that Stratex had a valid VAT Registration number at the time of the transactions.  This failure to perform reasonable due diligence and commercial checks was an example of a real and substantial failure to take reasonable care.  A simple check would have revealed that Stratex was not VAT registered.

329.        The context in which this failure occurred is striking.  The Appellant was a leading multinational and profitable company.  In addition to the traders conducting the transactions it had its own internal credit department and tax departments together with in-house legal advisers.  It also had access to external expertise.  All of this was in addition to the published HMRC, JMLSG and FATF guidance available to the Appellant.

330.        Yet despite all of the above, the Appellant conducted 17 transactions between 18 May and 3 June 2009 to a value totalling around €40 million attracting over £5 million in VAT on which it paid out this very large sum in VAT.  These transactions were connected to a fraudulent loss of VAT to the exchequer.  The absence of VRN on the part of Stratex was a material indicator of fraud.  It must have been reasonable for HMRC to take account of, what can be considered to be a failure to take reasonable care on the part of the Appellant, in failing to conduct the most basic of checks upon its supplier.

331.        To the extent that Officer Ball relied on other failures by the Appellant to conduct further commercial checks, as set out in his witness statement at paragraphs 416 to 421, the Tribunal is satisfied that these failures have been proved as a matter of fact and that it was reasonable to take them into account.  The Tribunal considers in greater detail the Appellant’s failures to perform reasonable and proportionate due diligence within its findings on the Third Issue (denial of input tax based upon the Kittel test).

The reasonableness of HMRC’s policy when denying input tax and not accepting alternative evidence for invalid invoices

332.        To the extent that it is necessary to look at the reasonableness of the exercise of discretion by Officer Birchfield rather than Officer Ball the Tribunal observes the following.

333.        There would be no point in having a formal system of requirements for a VAT invoice if the only question was whether the substantive requirements for the charge of VAT were met.  A taxpayer could simply assert that it had received a taxable supply without any invoice at all and providing its evidence met the required standard of proof it would be able to deduct -- it would have an unimpeded right to deduct.

334.        However, the reason there are formal requirements is in part to make it harder to commit fraud.  It is no answer to say one can leave those requirements out of account because HMRC have the ability to deduct input tax based upon Kittel Kittel requires proof of means of knowledge, not simply the connection of the invoice to the fraudulent evasion of VAT.  The formal requirements for the validity of invoices are meaningful.  They make it easier to carry out oversight of the system on the part of the national authority.  They make it harder to undertake a fraud and get away with.

335.        The manner in which the EU and UK legislation is drafted is such that the holder of an invalid invoice does not have the right to deduct.  They may be permitted that right but the starting point is that they do not.  The discretion under regulation 29(2) VATR is not simply a technocratic provision whereby the existence of a taxable supply answers all questions.

336.        What regulation 29(2) demands is alternative evidence.  Simply asking whether the supply has taken place does not give a complete answer (see the decision in Scandico at [43]).

337.        So in line with both Officer Ball and Birchfield's evidence, HMRC can look at all objective and relevant factors when considering whether to accept alternative evidence, not simply limited to the Statement of Practice, such as whether the invoice issuer holds a VRN.  It might be thought that this is such a basic requirement that it would not need to be included in a list of factors when considering whether to accept alternative evidence for an invalid invoice.  It certainly cannnot be dismissed as irrelevant or an erroneous consideration, it is absolutely fundamental.

338.        The introduction to HMRC’s Statement of Practice in paragraph 1 states it has been revised to provide clearer guidance on the updated legal position.  Then it goes on to say: "The guidance does not apply to situations where HMRC may deny recovery of input tax for other reasons such as abuse of the right to deduct."  It does not purport to be an exhaustive statement.  The existence of the policy obviously acknowledges the existence of a discretion but the application of the policy will always depend on the individual circumstances.

339.        Stratex is accepted to have issued many invoices connected to the fraudulent evasion of VAT.  The failure to observe the lack of VRN contained in the invoices, because Stratex did not hold one, was an obvious failure by the Cantor Group.  In this situation it is not like CFE have been deceived by there being somebody else's VRN put on an invoice.  The invoices simply contained no numbers.

340.        Officer Birchfield asked a rhetorical question in evidence.  There were 17 invoices, over 5 million pounds' worth of VAT paid out by an investment bank with its own tax department.  How could that happen?

341.        CFG had a tax department, a legal department, a compliance department and an invoice processing department.  No evidence was given to explain the failures which allowed the Stratex invoices to be processed.  The Tribunal did not hear from any witness from the invoice department.  Mr Adcock said that payments would be made but there was nothing about this subject at all in his witness statement.  The Appellant did not purport to explain how the situation came to be.  The Tribunal did not hear from Mr Treanor, CFG’s indirect tax manager. It is simply unexplained. 

342.        It was therefore reasonable for HMRC, and Officer Ball in particular, to take into account that Stratex were not VAT registered, that the transactions were connected to fraud and the Appellant had failed to conduct reasonable due diligence on Stratex.  He took into account relevant factors and did not take into account irrelevant factors.

343.        To the extent it is necessary to examine Officer Birchfield’s exercise of discretion, it too was reasonable.  In refusing to accept alternative evidence he explicitly agreed with Officer Ball.  To the extent he gave any different reasons he relied upon the fact that Stratex were not VAT registered and the fact that the transactions were connected to fraud (within his application of the Kittel test).  Both of these are relevant factors which he was entitled to rely upon.

Conclusion on the Second Issue

 

344.        HMRC, and Officer Ball in particular, reasonably exercised the discretion to refuse to accept alternative evidence and to deny input tax in period 06/09 of over £5.6 million on the Stratex invoices which were invalid in law.  This ground of appeal is dismissed.

The Third Issue

345.        The third issue is whether CFE, hence the Appellant, knew or should have known that its transactions in 06/09 and 09/09 in respect of which input tax has been denied were connected with the fraudulent evasion of VAT.  

346.        Attribution of knowledge or means of knowledge to the Appellant is through its officers, employees or agents and those at its associated companies Cantor Fitzgerald Europe Ltd (“CFE”) and Cantor CO2e Ltd (“CO2e”), part of the Cantor Fitzgerald group (“CFG”) of which the Appellant is the group VAT representative.

347.        It is not in dispute that the transactions were connected with the fraudulent evasion of VAT, the issue is whether CFE knew or should have known of this (had means of knowledge).  HMRC denied input tax claimed by the Appellant on these transactions alleging CFE had knowledge or means of knowledge but the Appellant disputes this.  The burden is upon HMRC to prove it.

348.        The transactions in which knowledge and means of knowledge are in dispute consist of very large quantities of carbon credits supplied to CFE by five suppliers:

Stratex Alliance Ltd (17 transactions between 18 May – 3 June 2009);

AH Marketing and Distribution Limited (7 transactions between 8 – 18 June 2009);

GW Deals Limited (1 transaction on 8 June 2009);

Mettec trading as Ayres Limited (1 transaction on 10 June 2009); and

Westis Limited (4 transactions between 28-29 July 2009). 

349.        The amount of VAT denied in respect of the disputed transactions is £7,730,812.34. 

350.        The transactions with CFE’s five suppliers and the amount of VAT denied are set out in the table below:

VAT period, Supplier & Transaction Date

06/09

Stratex

 

Subject       Matter - EUAs

VAT (£)

 

 

 

18 May 2009

66,000 units

120,789.99

18 May 2009

20,000 units

179,723.50

18 May 2009

100,000 units

178,933.51

20 May 2009

103,000 units

198,134.30

22 May 2009

214,000 units

419,828.83

22 May 2009

43,000 units

84,385.13

27 May 2009

220,000 units

427,254.77

28 May 2009

263,000 units

457,084.92

28 May 2009

304,000 units

590,388.41

28 May 2009

238,000 units

456,884.79

2 June 2009

200,000 units

395,807.64

2 June 2009

300,000 units

594,107.80

2 June 2009

100,000 units

196,450.59

3 June 2009

180,000 units

341,245.38

3 June 2009

200,000 units

379,161.53

3 June 2009

210,000 units

396,177.56

3 June 2009

100,000 units

188,788.09

 

 

 

AH Marketing

 

 

 

 

 

8 June 2009

70,000 units

118,487.04

15 June 2009

50,000 units

80,126.23

16 June 2009

80,000 units

133,176.96

16 June 2009

35,000 units

58,185.65

18 June 2009

85,000 units

142,623.55

18 June 2009

50,000 units

82,911.91

18 June 2009

36,000 units

59,977.20

 

GW Deals

 

 

8 June 2009

25,000 units

42,477.62

 

 

 

Mettec

 

 

10 June 2009

50,000 units

84,926.28


 

 

09/09

Westis

 

 

28 July 2009

151,000 units

262,427.27

28 July 2009

65,000 units

112,799.38

29 July 2009

250,000 units

426,182.06

29 July 2009

307,000 units

521,391.45

 

351.        As a result of the review conducted by Officer Peter Birchfield, HMRC decided that CFE knew or should have known that its purchase and supply of carbon credits were connected to the fraudulent evasion of VAT in respect of the Stratex transactions between 18 May 2009 and 3 June 2009 and in respect of all four other suppliers from 8 June 2009 onwards until 29 July 2009. 

352.        HMRC rely on the specific features of the supplies where Stratex was not registered for VAT and supplied no VRN on its invoices as additional features which should have put CFE on notice at the time of these earlier transactions.

353.        As is set out above, it is undisputed that all of the transactions in dispute were connected to a fraudulent VAT tax loss.  The issue is knowledge or means of knowledge upon which HMRC is required to prove on the balance of probabilities.

The Facts on the Third Issue

Constitution of the Appellant and related companies

 

354.        Tower Bridge GP Ltd (“the Appellant”) is the VAT Group Representative for Cantor Fitzgerald Group (“CFG”).   The Appellant’s relevant directors at the time of the relevant transactions were: Mr Howard Lutnick, Mr Wayne Buchan and Mr Mark Cooper.

355.        The Appellant was incorporated under the laws of England and Wales on 15 December 2006 and provides back office support to entities including CFG.

356.        As confirmed on http://www.cantor.com/, CFG serves more than 7,000 institutional clients around the world and is recognised for its strengths in equity and fixed income capital markets, investment banking, prime brokerage, commercial real estate finance and for its global distribution platform. Cantor Fitzgerald is also a leader in new businesses and marketplaces including e-commerce and other ventures. One of the leading middle market investment banks, Cantor Fitzgerald & Co. is one of 22 primary dealers authorised to trade U.S. government securities with The Federal Reserve Bank of New York.

357.        Cantor Fitzgerald Europe Ltd (“CFE”) is a limited company incorporated under the laws of England and Wales with company number 02505767 and is also a member of the Appellant's VAT group.

358.        CFE is part of CFG and owned by Cantor Fitzgerald Inc., an investment bank and brokerage business. CFE is a full service multi-national securities and derivatives broker of whom Messrs. Lutnick and Cooper were also directors at the time of the relevant transactions.  

359.        CFE's principal business was that of broker in equities, equity derivatives, foreign exchange markets and contracts for differences for Eligible Counterparties and Professional Clients (as those terms were defined in the FSA Handbook during the relevant period).  It was authorised and regulated in the UK by the UK Financial Services Authority (the “FSA”).  CFE's registered office is at 1 Churchill Place, Canary Wharf, London, E14 5RB.

360.        During the Relevant Period, CFE employed about 125 staff including brokers, sales people and administrative support personnel in London and another 50 personnel in the rest of Europe and Israel.

361.        CFE executed the relevant transactions under appeal and it received and issued the relevant invoices. 

362.        Cantor CO2e Limited (“CO2e”) arranged and undertook the relevant transactions.  CO2e is a company incorporated under the laws of England and Wales with company number 04191186 and is a member of the Appellant's VAT group.  It is a UK subsidiary of CantorCO2e LLC.   At all material times it was regulated by the Financial Services Authority.

363.        The relevant directors of CO2e at the time of the relevant transactions were: Mr Steven Drummond (who was suspended on 8 January 2009 and dismissed on 31 March 2009 according to Laurence Rose), Mr Lutnick, Mr Rose and Mr Cooper.  Mr Rose was appointed Chairman of CO2e in 2007.

364.        CO2e’s principal activities as at the end of 2009 were the provision of brokerage, information and consulting services for products related to environmental markets. CO2e principally operated as a broker of carbon credits on the EU Trading Scheme (“ETS”) (through CFE) on both a name give-up basis (connecting buyers and sellers and revealing their identities to one another at the point a transaction is agreed) and matched principal basis (serving as the counterparty to both the buyer and seller).

365.        CFE’s carbon credit broking service consisted of selling them “Over the Counter” (“OTC”), also known as “spot” trading.

Relationship between CO2e and CFE

366.        During the relevant period, both CFE and CO2e were owned and controlled by Cantor Fitzgerald, LP. Cantor Fitzgerald, LP also owned and/or controlled four other FSA regulated entities in the UK at this time. During the relevant period they, and the Appellant, also had several directors in common.

367.        CO2e was permitted by CFE to execute transactions in emission reduction credits in CFE's name. It was understood between the entities that such transactions would be carried out on a “matched principal” basis and that CO2e was responsible for any losses incurred by CFE as a result of such trades. This relationship was not formally documented.

368.        For simplicity, references in the remainder of this decision to CFE should be read as including references to CO2e, save where the context otherwise requires.

369.        CO2e did not have the regulatory permissions to act as a principal to trades or to hold client money. Even if it had these permissions, it was anticipated that CO2e would have required a more substantive balance sheet or be supported by guarantees in order that clients would have been prepared to deal with it. For these reasons it used CFE which had the necessary permissions and a more substantial balance sheet. This arrangement was put in place, even though Over the Counter (“OTC”) spot trading in emission reduction credits (European Union Allowances (“EUAs”), Certified Emissions Reductions (“CERs”) and Verified Emissions Reductions (“VERs”)) was not in itself a regulated activity, provided that delivery was made within seven days or less of the trade date (even if trading was carried out for investment rather than compliance purposes).

370.        Trading in carbon credits formed only a small part of the overall business of CFE. The revenue from the trades was allocated to CO2e as a matter of internal bookings.

Relevant officers and employees

 

371.        Mr Mark Cooper was the Director and General Counsel of the Appellant, CFE and CO2e at the time of the relevant transactions. He left CFG in 2016.

372.        Mr Laurence Rose was the chairman of CO2e at the relevant times.  He left CFG in 2016.

373.        Mr Wayne Buchan was a director of the Appellant at the relevant times and is Chief Risk Officer for CFG. 

374.        These three individuals gave evidence on behalf of the Appellant.

375.        Mr Steven Drummond was the CEO of CO2e between January – March 2009. 

376.        Mr James Emanuel was an employee of CO2e and joined in or about October 2005. Mr Emanuel was the Commercial Director and Head of Operations for CO2e. Mr Emanuel was experienced in the carbon credits market, having been involved in it since 2002, and viewed himself as “ something of an authority ” in the field.  Mr Rose was not involved in his recruitment but believes that he was hired by Mr Drummond.   According to Mr Rose, Mr Emanuel was very experienced in the carbon market and had a lot of knowledge and information about it.

377.        Mr Emanuel was hired with his colleague (Mr Benedikt Von Butler). Mr Rose recalls that this was seen as a significant step for CO2e, as Mr Emanuel had been a successful broker at his previous firms and had long established relationships with counterparties. According to Mr Rose, he was good on the phone and knowledgeable about pricing and trends. He was often sought after by the media (both TV and press).

378.         Mr Emanuel reported directly to Mr Drummond prior to Mr Drummond's dismissal in January 2009.  From January 2009 onwards, Mr Rose worked more closely with Mr Emanuel. The leadership structure at that point relied on Mr Emanuel running the business in London on a day to day basis and then raising more significant issues with Mr Rose, who was based in Toronto and had other responsibilities with Cantor Fitzgerald.

379.        Mr Emanuel left CO2e in October 2010, having been made redundant.  Around this time the North American part of the business was sold to BGC Partners and the remaining parts of the international division were unwound. The latter was done because it was felt that Cantor had invested significantly and had not achieved a return.  Mr Cooper also remarked that, after the event, the view was formed that Mr Emanuel had not performed well in his role because the net position was that, through Mr Emanuel’s clients, the Appellant was exposed to a dispute with HMRC.

380.        Mr Emanuel headed up the EU Carbon Desk which comprised Benedikt von Butler, Hugh Lynch, John Bush and Emilio Weldon. The desk traded various types of environmental instruments (not just EUAs). Certain personnel on the EU Carbon Desk also had roles in relation to supporting other CO2e business units (as described above). Mr Emanuel in particular tended to get involved in the work of all the CO2e business units.

381.        The main traders under Mr Emanuel were therefore: Mr Hugh Lynch, Mr John Bush, Mr Benedikt Von Butler and Mr Emilio Weldon. Each was said to be experienced in the carbon credits market.  They all left CO2e in 2010.

382.        Mr Steven Treanor was the indirect tax manager at CFE during the relevant period.  He left CFG in 2010. Ms. Susie Luard was Senior Tax Manager during the relevant period.  She left CFG in 2013.

383.        Mr Kevin Taylor was Head of Compliance for Europe & Asia.  He left CFG in 2010.  Ms Tracey Ann Mills has been Head of Compliance for Europe & Asia since 2012.  Mr Ross Tanton was CFE’s compliance manager.  He left CFG in 2010.

384.        None of Mr Emmanuel, the traders, Mr Treanor, Mr Tanton or Mr Taylor gave evidence on behalf of the Appellant in support of the appeal.  The significance of this will be considered below.

Background to CO2e

385.        Mr Stephen Drummond founded a business called CarbonWeb (and later CO2e.com) with the assistance of PricewaterhouseCoopers Global (“PwC Global”). PwC Global's interest was sold to Cantor Fitzgerald LP in or about 2000. Cantor Fitzgerald's Environmental Brokerage (an existing North American based business) combined its business with CO2e.com in or about March 2007 to operate as one global group under the brand CantorCO2e.

386.        CO2e was a leading global provider of financial services to the world's environmental and energy markets, offering finance, consultancy, advice, technology, and transaction services to clients engaged in using energy and managing emissions across the world.  CO2e helped people and corporations across the world to manage the financial aspects of their energy and environmental choices. In North America and Europe, this meant providing brokerage services to the energy and environmental commodity markets. Elsewhere, this meant bringing expertise, finance and technology to projects that reduce emissions.

387.        CO2e served the carbon market and helped entities transact via electronic trading screens, recorded telephone lines, auctions and negotiated contracts. As well as carbon credits, CO2e brokered renewable energy, such as ethanol and Biodiesel. CO2e advised equity investment funds on carbon finance, introduced investors to projects, and structured forward sales to enable project developers to fund their investments. CO2e also helped 'clean-tech' technology developers to manage their intellectual property, to develop their licensing strategies, and to roll out their technologies through its global network.

388.        CO2e was headquartered in London and San Francisco and at one point had fourteen offices across five continents.

Leadership within CO2e

389.        Mr Rose was appointed Chairman of CO2e in or about 2007. He was primarily responsible for launching the Canadian investment banking business in June 2009 but had responsibilities for a number of other businesses, one of which was CO2e.

390.        CO2e had a North American and international division. Each division had a CEO and both CEOs reported to Mr Rose. Mr Steve Drummond was the CEO of the International division and Mr Josh Margolis was the CEO of the North American division. At the relevant times Mr Rose reported to Mr Howard Lutnick, the Chairman and CEO of the Cantor Fitzgerald Group (“CFG”).

391.        Mr Christopher Craib was (and continues to be) the Chief Financial Officer of Cantor Fitzgerald Canada Corporation. Mr Craib worked closely with Mr Rose, providing accounting, tax and other financial advice in relation to the businesses in respect of which Mr Rose had responsibility. During the time Mr Rose served as Chairman of CO2e Mr Craib became involved on a peripheral level with CO2e and assisted Mr Rose in that capacity, including interacting with the London team of CO2e.

392.        Mr Drummond was suspended on 8 January 2009 and dismissed with effect from 31 March 2009 for allegedly failing to tell the company he was in talks with a competitor (EcoSecurities) about a job. The business subsequently sued Mr Drummond, for the return of $2 million it lent him while he was with CO2e. Mr Drummond countersued, claiming he was wrongfully dismissed in 2009.

393.        A Bloomberg article dated 21 July 2010 was issued regarding these proceedings entitled “ Howard Lutnick, chairman of Cantor Fitzgerald LP, said that its U.K. carbon credits brokerage was a money-losing failure, with business projections based on dreams” . The part of the CO2e business Mr Lutnick was in fact referring to was the Clean Development Mechanism (“CDM”) business, namely the project-based carbon credit generation side. Mr Drummond's projection of the pipeline of carbon credits that would be generated from CO2e projects had failed to materialise by the time of Mr Drummond's dismissal.

394.        From January 2009, following Mr Drummond’s dismissal, Mr James Emanuel ran the International Division.

395.        The sale of the generated carbon credits did not prove to be profitable and therefore, (as will be explained more fully below) there was a change in focus away from carbon credit generation from CDM projects in late 2008 and the first part of 2009 with a new concentration on brokerage.  This might be described as a move from originating something to assisting in the transaction of something.

The background to carbon credits and their use in VAT and MTIC fraud

 

396.        Carbon credits come in two forms, EU Allowances (“EUAs”) and Certified Emission Reduction certificates (“CERs”). These carbon credits are issued by the European Community as part of a cap-and-trade system. Each emitter, e.g. an electricity generator or a factory, is provided with a certain amount of carbon credits each year. Where the emitter produces more greenhouse gases than it has certificates to cover it must purchase more, and where it produces less it may sell the surplus. Trading of carbon credits takes place on the ETS (Emission Trading Scheme).

397.        Carbon credits are traded on both future and “spot” markets (OTC – over the counter). Carbon credits have unique numbers and are kept in emissions registries maintained by each state that is a member of the ETS. The European Commission Directorate General of Environment (“DG Environment”) maintains a log of carbon credits transactions, parts of which were made available to HMRC at various points during the investigations into VAT fraud in the market. To trade in carbon credits a trader must have a registry account to hold carbon credits. Spot trading in carbon credits is for immediate delivery with settlement taking place up to three days later.

398.        Whilst there were exchanges for the trading of carbon credits (e.g. the BlueNext SA exchange in Paris (“BlueNext”)) they could also be traded business-to-business. Whilst the majority of financial services products are exempt from VAT, at the material time in March to July 2009 carbon credits traded OTC attracted a standard rate of VAT in the UK.

399.        CFE and other members of CFG were, at the material time, regulated by the Financial Services Authority (“FSA”) in respect of the Money Laundering Regulations 2007 and the Financial Markets Act 2000. CFE et al were also subject to statutory duties under the Proceeds of Crime Act 2002 to report suspicions concerning criminal property, money laundering and terrorist financing. While spot trading in carbon credits itself was not regulated by the FSA, the FSA saw itself as having some responsibility relating to the emissions derivatives market (e.g. the futures market). The FSA published a document entitled “ The emissions trading market: risks and challenges ” in March 2008.

400.        Prior to the reverse charge being introduced on 1 June 2007, Missing Trader Intra Community (MTIC) fraud caused very large losses to the UK treasury predominantly involving computer chips and mobile telephones. During 2009 carbon credits became a commodity for perpetrating significant MTIC fraud. 

401.        There is no need to explain in this decision how MTIC fraud (a variant of which is known as ‘carousel fraud’ as it relies on the circularity of movement of supplies) operates as it is set out at length elsewhere.  Suffice to say that it is a type of VAT fraud that relies upon the fraudulent non-accounting for and non-payment of VAT by defaulting companies who receive output tax on their supplies without thereafter accounting for and paying it to HMRC [7]

402.        The fraudulent default is often achieved by such defaulting companies going missing (hence another name ‘missing trader fraud’).  Thereafter the VAT loss to the revenue is crystallised when traders further down the transaction chains claim deductions or repayments of input tax from HMRC in respect of their VAT inclusive purchases from defaulting traders coupled with sales to other EC member states where no output tax is charged.  The fraud exploits the zero rating of trading between companies in different EC Member states and often involves a conspiracy between many members of supply chain to involve themselves in and profit from contrived transactions.

403.        Carbon credits were particularly attractive to MTIC fraudsters, since they could be traded with no physical movement of product, traded quickly and in large volumes and traded between EC Member States without any customs authority having immediate sight of the transactions.

404.        The first awareness that there was serious VAT fraud afoot in the carbon credits market came in suspicious transaction reports provided to the French authorities by the Caisse des Depots et Consignations (“CDC”), the French national investment authority, in November 2008 (Cour Des Comptes Annual Public Report 2012 Executive Summaries). The reports concerned activity on the BlueNext exchange in France. BlueNext was a VAT registered exchange that matched orders and cleared trades and was the primary exchange for OTC carbon credit trading between October 2008 and July 2009.

405.        CFE was a member of BlueNext from 2 May 2007. BlueNext had experienced unprecedented volumes of spot trading in EUAs in late October 2008 as set out in its press releases.

406.        The director of the French anti-monetary laundering unit TRACFIN sent a memo to the Ministers of Finance and the Economy on 16 February 2009 in which he set out that he suspected that fraud was taking place on an extremely large scale.

407.        On 31 July 2009 and then in 2010 the UK obtained a derogation from the EU to enable the introduction of the reverse charge on trading in zero-rated carbon credits.

408.        Europol estimated that at its peak in 2009 VAT carousel fraud had cost EU Member State treasuries around £5 billion and that up to 90% of all carbon trading in some European countries was as result of fraudulent activities.  HMRC has estimated UK VAT losses from carbon credit trading as between £250-300 million.

409.        BlueNext was assessed for VAT due of €355 million arising from a tax audit for the period between January 2006 and May 2009. This was ultimately settled for $42 million.

410.        The World Bank report “State and Trends of the Carbon Market 2010” states at 2.3.1:

“EUA transactions in 2009 reached US$118.5 billion (€88.7 billion), making the EU ETS the largest existing carbon credit market. Over 6.3 billion tons of CO2e changed hands in 2009 through spot, futures and options contracts. A substantial portion of the growth came from the spot market, which totalled 1.4 billion tons, an increase of 450% over 2008. Over 70% of spot transactions occurred during the first half of the year… Spot volumes in the first half of 2009 increased 75-fold over the year-earlier period…”

 

411.        A report by the Danish National Audit Office from March 2012 states:

“72. The European VAT authorities first became aware of the fact that VAT carousel fraud was being committed in relation to CO2 allowances in May 2009. VAT carousel fraud was particularly pronounced in France and the UK during the summer and both countries therefore chose in different ways to abolish VAT on allowance trading without prior approval by the EU.

 

73. On 30 August 2009 SKAT recommended to the Minister for Taxation that Denmark requested the EU to approve an amendment of the Danish VAT rules to eliminate the risk of VAT carousel fraud in Denmark.”

 

412.        The French Court of Audit stated in its 2012 Annual Report:

“4 VAT fraud in carbon trading

Extremely large scale fraud

Between the third quarter of 2008 and June 2009, VAT fraud in the carbon trading market developed in France, undoubtedly involving the highest amounts ever detected by tax authorities. The Cour des Comptes estimates the tax loss to the state from this fraud as €1.6 billion. The scam was halted only after the administration issued a tax instruction on 11 June 2009 exempting carbon quotas from VAT.”

Risk and Due Diligence at CO2e - The regulatory and legislative context

 

413.        The regulation of the financial services industry is set out principally in the Financial Services and Markets Act 2000 (“FSMA 2000”). FSMA 2000 provides that a person may only carry out “regulated activities” (which are typically activities relating to dealing in financial products) if they are authorised or exempt. A person can become an authorised person either by being given permission by the FSA or by qualifying for authorisation under FSMA 2000.

414.        Spot trading of EUAs is not a regulated activity for the purposes of FSMA 2000 and the FSA did not regulate the spot trading of EUAs.  The FSA's involvement in the emissions trading market was only in relation to the trading of derivatives in respect of EUAs.   Spot trading of EUAs was not a regulated activity.

The Joint Money Laundering Steering Group (“JMLSG”) Guidance

415.        The legislative framework governing the Anti Money Laundering (“AML”) / Counter Terrorist Financing Regime (“CTF”) regime is set out in the JMLSG Guidance for the financial sector. The version of the Guidance in force at the time of the relevant transactions is dated December 2007. The JMLSG is comprised of 17 trade associations in the financial services industry. Its aim is to promulgate good practice in countering money laundering and to give practical assistance in interpreting the Money Laundering Regulations.  At the relevant time the 2007 version of the Regulations applied. The JMLSG Guidance indicates good industry practice in AML/CTF procedures through a proportionate, risk-based approach: see para.2 of the Guidance.

416.        Under the terms of the JMLSG Guidance, firms are required to have implemented systems and procedures which are “appropriate, and proportionate to the risks identified” : see para.18 of the Guidance. These systems and controls, and the level of resource, should “reflect the size, complexity and geographical spread of the firm's customer and product base” : see para.1.32 of the Guidance.

417.        The JMLSG Guidance expressly allows firms discretion as to how they apply the requirements of the AML regime: see para.3 of the Guidance; and accepts that the appropriate approach is ultimately a question of judgement by senior management, in the context of the risks they consider the firm faces: see para.4.5 of the Guidance. The JMLSG Guidance is not a checklist of steps to take and should be applied in a thoughtful and considered way: see para.18 of the Guidance. The JMLSG Guidance states that, “under a risk-based approach, firms start from the premise that most customers are not money launderers or terrorist financers” : see para.1.3 of the Guidance.

418.        The broad objective of the JMLSG Guidance is that “the firm should know who their customers are, what they do, and whether or not they are likely to be engaged in criminal activity” . It accepts that the profile of customers' financial behaviour “will build up over time, allowing the firm to identify transactions or activity that may be suspicious” : see para.4.10 of the Guidance.

419.        A risk-based approach “starts with the identification and assessment of the risk which has to be managed” : see para.4.14 of the Guidance.

Customer Due Diligence

 

420.        Chapter 5 of the JMLSG Guidance sets out the standard Customer Due Diligence (“CDD”) measures which financial firms are required to undertake. The CDD measures that must be carried out involve (see para.5.1.5 of the Guidance):

 

“( 1) identifying the customer and verifying his identity;

(2) identifying the beneficial owner, where relevant, and verifying his identity; and

(3) obtaining information on the purpose and intended nature of the business relationship. The JMLSG Guidance recognised that in some situations this may be self-evident: see para.5.3.21 of the Guidance .”

 

421.        For corporate entities this involves understanding the ownership and control structure of the customer.  The standard evidence required for a corporate entity is (para.5.3.127 of the Guidance):

 

“(1) full name;

(2) registered number;

(3) registered office in country of incorporation; and

(4) business address.

For private or unlisted companies the following additional evidence is required:

(5) names of all directors (and equivalent); and

(6) names of individuals who own or control over 25% of the company's share capital or voting rights .”

 

422.        Firms also need to verify the company's existence by reference to either its listing on a regulated market or a search of the relevant company registry or a copy of the company's Certificate of Incorporation: see para.5.3.128 of the Guidance.

 

423.        The JMLSG guidance is clear that “Once the identity of a customer has been satisfactorily verified, there is no obligation to re-verify identity (unless doubts arise about the veracity or adequacy of the evidence previously obtained for the purposes of customer identification)” : see para.5.2.23.14 of the Guidance.

 

424.        The Tribunal accepts the evidence on behalf of the Appellant, primarily given by Ms Mills, that at the time of the trading in question, information about the source of funds would only have been obtained in a situation which was considered to be high risk. If the customer was a UK-incorporated company then, absent other indicators, such information would not normally be sought. If a customer was blatantly lying about something then that would be something which would call for further enquiry.  Nonetheless, the Tribunal is also satisfied that the JMLSG requires a proportionate and responsive approach to due diligence that must adapt to any ongoing indicators of risk which occur during trading.

 

425.        Checking a VAT registration number (“VRN”) was not required by the JMLSG Guidance.  The Tribunal accepts Ms Mills’ evidence that VAT was not something that CO2e’s compliance department got involved with. Any risk assessment would have been undertaken by the credit, tax or the finance department in that respect. Nor is it part of compliance checks to examine VAT risk. However, it was accepted that there were money laundering aspects to be considered in relation to tax fraud.

 

426.        Thus, checking a VAT registration number might be required as part of enhanced due diligence responding to a perceived heightened risk.  The Tribunal is satisfied it would be proportionate response to an indicator of potential risk such as the absence of a VRN on a VAT invoice.  Likewise, aside from AML requirements, the Tribunal is satisfied that checking VAT numbers might form part of reasonable tax, finance or credit functions of an organisation when paying out large sums upon VAT invoices.  As will be set out below, CFE did indeed check the VRNs of a number of its suppliers but the manner and circumstances in which it did so require careful scrutiny.

 

427.        The JMLSG guidance was in force from 2007 and did not highlight the EUAs market as one which should be treated as high risk. The regulator regularly issued advisory notices for businesses or areas that were considered high risk for money laundering and it did not identify any reasons why the regulated community should have considered the carbon trading business to be high risk.  Nonetheless the Tribunal places little weight on this because the guidance was bound to follow events and be revised only after risk was apparent across a sector (ie. it would involve an element of hindsight).  The absence of such guidance could not absolve a business of its need to assess its own risks in real time and respond accordingly rather than adopt a tick box approach.

 

428.        Evidence on behalf of the Appellant was given in relation to its due diligence, primarily by Ms Annie Mills in relation to AML and Mr Wayne Buchan in relation to credit.  It was said that site visits were generally undertaken by CO2e when the client that they were considering was, say, a manufacturing customer or a customer that had a factory or a customer involved with natural resources, so that they could see that they did in fact possess the necessary facilities.

 

429.        When a company’s capital and property was intellectual it was not a normal process for CO2e to undertake a site visit. Such a company could legitimately operate from a serviced office.  The Tribunal accepts this evidence but it again would not absolve the Appellant of the need to adapt its due diligence and respond to the risk it encountered in its trading.  A site visit might not be appropriate for low risk transactions but might become proportionate in response to moderate or high-risk trading.

 

Monitoring customer activity

430.        The 2007 Money Laundering Regulations required firms to monitor their customers’ activities by scrutinising transactions undertaken throughout the course of the relationship (including, where necessary, the source of the funds) to ensure that the transactions are consistent with the firm's knowledge of the customer, its business and risk profile and that the documents, data and information held by the firm are kept up to date. This can either by done in real time or after the transactions/activities have taken place: see paras 5.7.1 and 5.7.4 of the Guidance.  In particular, the JMLSG Guidance specifies that monitoring is “not a mechanical process” and “does not necessarily require sophisticated electronic systems” : see para.5.7.8 of the Guidance.

Cantor's compliance function

431.        The Money Laundering Reporting Officer's (“MLRO”) Report dated 10 February 2010 in respect of the period 1 January 2009 to 31 December 2009 records that during 2009 CFE took on 451 new clients which represented an increase from 2008 of 56.1%.

 

432.        The Compliance Team had systems and controls in place for client take-on, staff training and monitoring. These are set out in the MLRO's Report.

 

433.        It was the CFG Group's policy that all employees have a responsibility to report anything suspicious and staff were trained to be aware of the risks to the firm of money laundering and understand the procedures to be followed if alerted to suspicious activity: see page 7 of the MLRO report.

 

434.        An earlier Money Laundering Report from 2007 stated that the risk weighting for the matched principal business (discussed further in paragraph 101 below) in the wholesale markets for unregulated clients carried a risk weighting of 3 (where 0 indicated no risk and 5 indicated higher risk). This was a moderate to high risk.  It was recommended that enhanced monitoring be undertaken on the business with unregulated clients.

 

 

Enhanced due diligence

435.        According to para.5.7.12 of the JMLSG guidance, higher risk accounts and customer relationships require enhanced ongoing monitoring.

 

436.        Enhanced monitoring involves including more CDD documentation than was required at the outset of the relationship. This may involve doing a screening of the client, which might reveal anything from the fact that they were subject to UN sanctions through to negative press coverage. It might also involve obtaining information that was independently confirmed by a lawyer of the clients in relation to the source of wealth or origin of funds or might also involve a site visit if it was appropriate in the circumstances.  CO2e did obtain additional documents over and above the basic requirement of the JMLSG guidance in respect of some suppliers but that does not answer the question of whether it always acted proportionately and appropriately to the risk it encountered by implementing enhanced due diligence.

 

437.        There are many different types of enhanced monitoring that can be undertaken and the person who is responsible for the business and the risk management at the time has to take a view based on the information that they have as to what is appropriate. It is important to note that the JMLSG Guidance does not set out a complete checklist because there are so many variations; rather it provides the foundation for the information that needs to be obtained.

 

438.        Similarly, it should be noted that “simplified” due diligence is not a defined term in the Guidance in the sense that there are no prescribed steps – it is up to individual firms to decide what their lower level of due diligence is taking a risk-based approach.

 

439.        Ms Mills made clear, and the Tribunal accepts, that views of risk can evolve over time. There is no good reason why a risk view taken at one point in time cannot change. The risk terminology that is used can also vary depending on who has written a report and is voicing an opinion as to risk. It can also vary in terms of the processes that it gives rise to. 

 

440.        One example is the draft suspicious event report from Mr Kevin Taylor (Head of Compliance for Europe and Asia) from 12 June 2009 which stated that the business of trading in EUAs was considered as low risk (having been classified as medium-high risk in 2007).  Whether such consideration was objectively reasonable as at 12 June 2009 will be considered by the Tribunal below.   Indeed, the draft report recommended that enhanced customer due diligence be implemented and the trade was categorised as high risk from 15 June 2009.

 

441.         A sample CDD for AML Form for corporates (other than regulated firms), dated 14 May 2009, concerning Stratex Alliance Ltd (“Stratex”) showed that when carrying out a standard CDD check, CO2e’s Compliance Team looked to establish:

 

(1) the name of the company and its registered number;

(2) the registered office and business address;

(3) the names of all directors;

(4) the names of shareholders owning more than 25% of the company; and

(5) whether the company or its directors or shareholders were Politically Exposed Persons (“PEPs”) or whether they appeared on any sanctions lists (a World Compliance check). This was carried out using the World Compliance or the Accuity System, which is powered by World Compliance.

442.        The Tribunal will examine the due diligence specifically performed on its relevant suppliers below.

Responsive Due Diligence

443.        It was accepted that there is a need for responsive due diligence.  Ordinarily the desk head of CO2e would review matters at the end of each week and bring any matters to the attention of the compliance function.

 

444.        As stated by Ms Mills in her second witness statement, when the perceived level of risk within a particular market changes, then it is appropriate, under a risk-based approach, to conduct a higher level of due diligence in respect of counterparties within that market. Accordingly, when CO2e's compliance department upgraded the perceived level of risk attached to carbon credit trading, then it was appropriate to implement more thorough due diligence procedures in respect of counterparties within this market.

 

445.        This does not mean that the previous due diligence procedures in respect of this market were necessarily inadequate. Rather, it might indicate that the compliance department was monitoring the level of risk within particular markets and was taking action it believed to be appropriate to deal with these risks. As Mr Rose stated, the changes reflected what CFE learned about the market they were in.  However, as set out below, the Tribunal finds that the due diligence procedures operated by CFE from 3 June 2009 were inadequate, they failed to respond proportionately to the objective indicators of the risk of fraud.

 

Background to CFE’s trading in carbon credits

446.        Prior to mid-2008 while CO2e’s business had brokered by way of the “matched principal” model this was done infrequently as the focus had been on building up a Clean Development Mechanism business line. In addition, the various CO2e business units were underperforming in that each carbon credit generation project was not:

 

(1) generating credits at all; or

(2) generating as many carbon credits as expected; and/or

(3) generating carbon credits at a sufficiently low cost to be sold at a profit.

 

447.        Mr Emanuel therefore presented a new business plan for the EU Carbon Desk in mid-2008 (“the Business Plan”).

448.        On 5 June 2008 Mr Emanuel sent Messrs. Rose and Drummond his Business Plan, a working document for the new “Cantor CO2e Platform”. The document addressed CFE’s project to develop itself, encapsulating the new business model as follows:

“Until now CantorCO2e has operated as an execution only broker. As such it has only been able to match buyers and sellers that have a pre-existing legal relationship with each other. This has limited the scope of CantorCO2e to expand its client base as it has been unable to offer a service to the many infrequent users of the market (non-professional compliance traders). These infrequent users of the market currently have very limited access to the market. Their only route to market presently is either via their bank or their energy provider, and they are being offered very uncompetitive prices but have no choice because of the compliance nature of the market.

Cantor CO2e will seek to capture this untapped potential of the market by evolving its business model from execution only to a matched principal business. The matched principal business will be channelled through Cantor Fitzgerald Europe (primarily because of their FSA status that allows them to hold client money and assets but also because of their superior balance sheet which provides comfort to clients….

By virtue of Cantor Fitzgerald operating as a matched principal in future, the parties to any trade will all be matched with Cantor Fitzgerald rather than with each other. This removes the requirement for the buyer and seller to be contractually related with anyone other than Cantor Fitzgerald. By deploying this methodology CantorCO2e will be opening the doors of the market to all those companies that were unable to access in directly in the past. This ought to provide CantorCO2e with liquidity that is not being seen by any of its competitors.”

 

449.        “Schedule 2 – Financial Targets for the new business” set out that CFE currently brokered an average of 100,000 – 150,000 carbon credits per day and that the aim was to increase daily volumes to 1 million per day by the end of the first year (December 2009) and 1.5 million per day by the end of the second year.

450.        “Schedule 3 – Tax Issues” set out that Mr Treanor had identified that exchange traded transactions were zero-rated under the Terminal Markets Order but that OTC deals with VAT paid by CFE with subsequent exchange sales would result in VAT reclaims by CFE and OTC – OTC deals would attract VAT.

451.        In summary therefore, Mr Emanuel’s Business Plan focussed on growing the business by targeting compliance counterparties who did not have direct access to market and operating a matched principal model (i.e. parties to a trade would be matched to CO2e / CFE rather than each other).

452.        Matched principal broking is a process whereby seller and buyer are matched via an intermediary (the matched principal) but never know each other's identity and never deal directly with each other. This allows the seller to sell and the buyer to buy instantly by virtue of their respective relationship with the intermediary without having to enter into a contractual relationship with each other.

453.        For each matched pair of transactions, CFE would buy the assets from the seller and simultaneously sell those same assets to the buyer. The proceeds of sale would flow via CFE less transaction costs. As a matched principal broker, CFE had genuine credit and settlement risk. If one counterparty to a transaction were to fail for any reason, CFE was still obliged to fulfil its commitments to the other counterparty to the same transaction.

454.        Mr Emanuel stated in the Business Plan that “This ought to provide CantorCO2e with liquidity that is not being seen by any of its competitors.” The implication was that engaging in “execution only business” (where the buyer and seller are contractually related rather than matched through Cantor) was holding CO2e back.

455.        With the new business model Mr Emanuel had suggested that CantorCO2e could target trading 1,000,000 certificates per day by end of 2009 and 1,500,000 certificates per day by end of 2010. The Business Plan refers to shifting focus to trying to secure the trade of “compliance-driven business” , i.e. those who actually emit carbon, who had no other viable route to market.

456.        Mr Emanuel also sent the Business Plan to Mr Wayne Buchan, Chief Risk Officer at the Cantor Fitzgerald Group and its affiliate BGC Partners, on 21 July 2008 in order to consider the risk issues associated with the plan. It is important to note that Mr Buchan’s role focussed on credit risk and market risk. Risk of fraud however was within the remit of the compliance team.

457.        According to Mr Buchan, provided that those rules on pre-delivery and pre-payment were adhered to, the creditworthiness of the counterparties was not particularly material. Mr Rose recalled that this was also Mr Emanuel’s view . Further, the fact that a counterparty might not be particularly creditworthy was not inconsistent with the understanding CO2e claims it had at the time as to who the counterparties were and why they were in the market.

458.        According to Mr Buchan, CFE’s counterparties were understood to be akin to brokers and aggregators who sold excess allowances which had been provided as payment for consultancy services or on trust (i.e. to the counterparty as agent) by emitters who would not have otherwise been able to access the market directly. The emitters would have got the allowances for free and would allow them to be transferred with a view to monetising them without pre-payment. Most commercial businesses are used to receiving funds after they have delivered a product or service.

459.        Therefore, based on this assessment of the counterparties, the nature of the transactions was such that counterparty credit risk was considered to be low.

460.        However, the Tribunal finds that Mr Buchan and Mr Rose’s knowledge or assessment of the nature of CFE’s counterparties (brokers or aggregators) was based upon the word of Mr Emanuel that this was the case. 

461.        There was no detailed scrutiny of whether Mr Emanuel’s word would be unreliable, either because he might be mistaken or otherwise.  There was a high level of trust placed on his word without sufficient or adequate documentation to evidence that this was the case.  The Tribunal will return to this topic in due course concentrating on the explanation for the trade provided by Mr Emanuel which was that the ‘counterparties were largely local consultants who were sourcing EUAs from local emitters’ (see para 5.39 of the Pinsent Masons report).

462.        Mr Emanuel’s business model had CO2e acting as a broker. It was not in the business of “beating” market prices; it was in the business of putting together buyers and sellers. Not all of the sums which would be received by such parties would be remuneration, rather they would be entitled only to a fraction of the sums by way of fee or commission.

463.        It was stated in the Business Plan that:

“The primary opportunities that exist in the market centre on the enormous number of companies that do not have direct market access but for whom the trading of emission certificates is an intrinsic part of their business, Cantor CO2e is re-designing its business model in order to specifically target this segment of the market”.

 

464.        Based on Mr Emanuel’s explanation it was thus anticipated that the emitters would be the source of the credits but not necessarily the direct counterparties. Based upon this understanding, CFE saw no commercial need to undertake checks to verify it because the nature of the business did not require it.  Again, the Tribunal will return to whether this was a reasonable approach from 3 June 2009.

Counterparties encountered following initiation of the Business Plan

465.        Mr Emanuel gave Mr Rose several reasons for the way in which some of the clients, in particular the newly established ones, were originated and for the increase in business.

466.        Mr Emmanuel explained that the counterparties were businesses set up as environmental consultants acting for small and medium-sized emitters in various different European countries. The consultants would give advice to the emitters on matters such as their carbon footprint projections, use of green energy and compliance requirements. The consultants may have been paid by the emitters in EUAs.

467.        Mr Emanuel explained the consultants would also provide a liquidity service selling excess allowances on behalf of these small and medium size emitters who would not otherwise have necessarily been able to access the market easily. It is to be noted that CO2e did not implement the web-based platform as envisaged in the Business Plan.

468.        Mr Emanuel suggested to Mr Rose that these consultants were coming to CO2e because of the excellent service it provided and this reputation had spread by word of mouth. CO2e was an early entrant into the carbon market and its brand was becoming more and more known. People were searching for brokers (e.g. on Google) and coming to CO2e because of this brand recognition.

469.        This was described to Mr Rose by Mr Emanuel on more than one occasion. Mr Rose felt that Mr Emanuel knew the business and knew the market.  In effect Mr Rose was relying on Mr Emanuel’s word.

470.        Mr Rose did not think it unusual or suspicious that many of the new counterparties were operating through a UK entity even though the directors and features of the counterparty may have been linked to other countries. He understood the carbon market to be a global one. In addition, Mr Rose regarded London as the financial centre of Europe and assumed therefore that many businesses linked to a number of European countries might choose to use a UK entity.

471.         The Tribunal accepts Mr Rose’s evidence.  However, it finds he was far too trusting of the explanations given by Mr Emanuel at least from June 2009.  Although he might have asked more questions and asked for more evidence before June 2009, Mr Rose’s approach might have been understandable at the time of the initiation of trading and up until June 2009.  Thereafter however, Mr Rose failed to ask sufficient questions of Mr Emanuel about the nature of the trade and CFE’s counterparties from June 2009 once the picture developed and warning signs about the transactions emerged.  This is set out in more detail below.

472.        Mr Rose cannot recall specifically whether he was aware at the time of the counterparties using foreign bank accounts, but he believed this again would not have been a cause for suspicion as Cantor Fitzgerald dealt with plenty of legitimate businesses who used offshore bank accounts. It would only be a cause for concern if the bank account was in the name of another entity or was based in a jurisdiction which was subject to international sanctions. 

473.        Mr Rose recalls Mr Emanuel remarking at the time that it was not market practice to ask a seller where they acquired title in the allowances. Mr Rose’s understanding was that the seller's EUA position was equivalent to the holder of a bearer bond and held through an official government registry. Further Mr Emanuel's suggestion that there were a huge number of EUAs in the market which the counterparties were aggregating seemed credible to Mr Rose. Mr Rose also took comfort from the fact that the credits were held in a government registry.

474.        Again, the Tribunal accepts Mr Rose’s explanations as being honest and reasonable when operating in a low risk environment.  However, they fail to take account of the warning indicators before Mr Rose and CFE collectively as of early June 2009 that there was something untoward in their carbon credit trading.  The Tribunal will return to this below.

Subsequent appraisal of the business

475.        In July 2010 Reuters reported that Mr Lutnick had described CFE’s carbon credits brokerage as “a money-losing failure, with business projections based on dreams ” and that Cantor was suing Mr Drummond for the return of $2 million lent to him whilst running the unit.

476.        Mr Lutnick later said in a witness statement in the High Court proceedings between CFE and Mr Drummond, dated 20 May 2010, of Mr Drummond’s wish to purchase a property in March 2008:

 “7. Mr Drummond had equity in CantorCO2e, LLC and he wanted to use this to raise money to fund the purchase of the house, but there was little value in the equity because the company had sustained significant losses over a number of years and it was envisaged that this would continue over the short to medium term.”

“19. …I did not expect CantorCo2e, LLC to do well in the short term…”

“28. I recall that I did have some high level discussions with Mr Rose about a potential new compensation structure for the CantorCO2e group business. I believe this was in the early part of 2008. The business had been suffering from significant losses and was not covering its costs. Mr Rose came to me to discuss possible options for restructuring compensation in a way that would help motivate the employees to produce revenue….”

 

477.        The ‘discussions’ included bonuses for spot trading.

478.        CO2e’s Annual Report and Financial Statements 2009 shows that it made a loss of US$2.4 million in the year ending 31 December 2008.

479.        The background to CFE’s success in Fiscal Year End (FYE) 2009, when it almost exclusively traded carbon credits on a matched principal basis that were connected with the fraudulent evasion of VAT was, previously one of failure.

480.        CFE converted that loss-making failure into a profit of US$0.9 million for FYE 2009. CO2e’s turnover more than doubled between the 2008 and 2009 financial years, from £2.7 to £5.8 million. The only factor that drove that success, was, as a matter of indisputable fact, widespread VAT fraud in the carbon credits market.

481.        All but two of the Appellant’s quarterly VAT returns have been payment returns or comparatively modest repayment returns. From period 03/06 the Appellant’s reclaims did not exceed £660,000. In VAT period 06/09 alone, during which the majority of the transactions that are the subject of this appeal took place, the Appellant’s reclaim increased to more than £4.7 million.

Performance of the market from July 2008 onwards

482.        In terms of trading patterns within the market during the relevant period, Mr Rose’s understanding, based on the contemporaneous articles exhibited, was as follows.

483.        In October 2008, Point Carbon reported that many industrial players were heavily selling carbon credits during this period due to the economic downturn and lower output predictions. The World Bank's annual report entitled “ State and trends of the Carbon Market ” noted that industrial companies were being constrained from their usual sources of finance and needed to raise cash quickly through the sale of carbon credits (i.e. by monetising those assets). The same report also noted: “Spot transactions accounted for only 1% of all transactions in the first half of 2008, rising to 7% in the third quarter and 19% in the fourth quarter (and accounting for 36% of all transactions in December 2008 alone)” .

484.        A growing / more active market for 2008/2009 was therefore in line with expectation and market commentary.

485.        A Deutsche Bank report dated 12 January 2009 stated “as the impact of the credit crunch and recession really began to bite in the early autumn it became clear the free allocation of EUAs gave cash strapped installations a monitizable asset that could be used to raise much needed liquidity”. This strategy might involve emitters selling carbon credits not immediately required to get cash. In the event the carbon credits proved necessary for compliance, the emitter could buy carbon credits at a later date (indeed it is possible that the price could have dropped by this time).

486.        The expectation of accelerated growth in the market continued throughout early 2009. On 13 February 2009 BlueNext announced it would be extending its trading hours. This measure also implied that BlueNext expected trading to continue to remain high.

487.        At the beginning of April 2009, the European Commission released preliminary estimates for 2008 emissions which suggested an overall decrease in total EU emissions for that year. On 15 May 2009, the European Commission released 2008 emissions data which confirmed that emissions had fallen by 3% from 2007 levels as a consequence of the ongoing economic crisis. This further reinforced the predictions made in various market reports about a surplus of 2008 allowances that would be available in the market. For example Bloomberg noted on 27 May 2009 that the UK recession was creating an oversupply of emissions credits.

488.        The Tribunal accepts Mr Rose’s explanation that there were therefore rational reasons for believing CFE’s rapid growth before June 2009 to be based on legitimate market performance rather than the reality, that it was overdriven by VAT fraud. 

489.        However, for the reasons set out below that understanding should reasonably have changed by early June 2009.  Further, the Tribunal is not simply assessing whether that was Mr Rose’s understanding, he was the senior most leader based in Toronto geographically and temporally removed from the day to day transactions carried out by the London team for which he was responsible.   The Tribunal must examine whether Mr Emanuel and his traders knew or had means of knowing that there was a legitimate or illegitimate explanation for the growth in CFE’s business.

Performance of CO2e’s EU Carbon Desk in accordance with the Business Plan

490.        CO2e saw an increase in trading in the January 2009 to May 2009 period.  Mr Rose states he believes this was in line with this market commentary.  For the reasons set out below, the Tribunal accepts Mr Rose believed this but as a matter of fact the growth was massively in excess of market commentary.

491.        Throughout the period, Mr Rose was pleased that the EU Carbon Desk was showing signs of growth but he wanted to see if the growth continued in future months. Trading volumes on an exchange could be very volatile especially in this market where the commodity traded may be issued, as EUAs can be, and therefore may reach the market at different times. Volatility in commodity markets is common, with the gold and oil markets being other examples.

492.        Mr Rose monitored CO2e’s performance by way of review of the Combined Daily Management Report (“CDMR”) received by him on a daily basis. This tracked daily, monthly and yearly revenue for each unit/desk within CO2e. This did not however name specific counterparties. This was because the purpose of the CDMR was to monitor the financial performance of the CO2e business as a whole.

493.        The EU desk had made approximately $355,000 in revenue in the month to date by 25 March 2009. According to Mr Rose, that figure would normally have been a significant entire month for the desk and so he considered it had started to turn things around by focussing on using the matched principal model. Mr Rose was also aware that the market as a whole was growing and that commentators within the market were speculating as to reasons for the increase, none of which included fraud at that time.

494.        Mr Rose understood that part of the March 2009 revenue was derived from trades with a counterparty called Adduco Consulting Limited (“Adduco”). Mr Rose does not recall being particularly curious about them. At the time he had no reason to be suspicious of them, or any counterparty of the EU Carbon Desk.

495.        By April and May Mr Rose was coming to the conclusion that the EU Carbon Desk had found a way of becoming profitable as a result of the change in focus away from project origination towards matched principal trading. He hoped that the business had found a way to survive because if it had continued to make losses then it would have been wound down, as had happened with other units within CO2e.

496.        On 22 May 2009, CO2e published a press release entitled “CantorCO2e claims volume surge in Q1” . This linked the surge in volumes in the first quarter of 2009 to a refocusing of the business to broking. Mr Rose notes that the business had started from a “very low base” and so high percentage increases month over month did not cause him to change his opinion that the company was participating in a growing market. Moreover, other brokers could have seen their business increase by an even greater factor than that experienced by CO2e.

497.        Officer Ball in cross examination accepted that there were other, commercial, explanations behind the expansion of the market besides fraud and that surplus credits and liquidity requirements were legitimate explanations.  The Tribunal finds that based upon the chronology below, that there were legitimate explanations, albeit that these were mistaken, for the market growth and CFE’s business growth the considered at the time to the end of May 2009.

498.        However, the reasonableness and credibility for these explanations for the market generally and CFE’s business growth rapidly diminished in the first two weeks of June 2009.

Chronology of CFE’s trading in the carbon credits market from March to July 2009

 

March 2009

499.        In March 2009 CFE began trading in transactions that were connected to VAT fraud when it began buying very large quantities of carbon credits from Adduco, a UK registered company.  This came about in a way which is not entirely apparent but it is not suggested CFE knew or should have known of the connection to fraud at this time.

500.        On 9 March 2009 Mr Agnard of Adduco e-mailed Mr Bush, one of the traders of CFE saying:

“As agreed on the phone we confirm our interest to buy or sell EUA allowances on the spot market so please can you give me the procedure to trade with you and also your delivery your commissions…”

 

501.        The record of the telephone call referred to was not before the Tribunal. Mr Bush has not provided a witness statement.

502.        Having completed a test trade on 11 March 2009 with a UK domestic bank, for the next transaction Adduco requested that payment be made to its account at Eurobank EFG Cyprus Ltd. This meant that UK VAT was being paid away outside the jurisdiction.  This would make it harder for the UK authorities to trace and recover it from Adduco.

503.        On 20 March 2009 Mr Christopher Craib (Chief Financial Officer of Cantor Fitzgerald Canada Corporation), queried the volume of the transactions in an email saying:

“I understand that March ties into some sort of EUA higher volume month. So although this is great it’s not necessarily a permanent thing?”

 

504.        On 25 March 2009, Mr Emanuel e-mailed Mr Rose attaching brokerage figures for the day of $105,191 saying:

“Nice, huh?

I have never run a non-profitable desk… Problem for the last 3 years at Cantor, I wasn’t really running the desk or allowed to use my initiative.

I hope Howard does the right thing. It’s in his interest to keep us motivated

…”

 

505.        By 26 March 2009, Adduco was requesting that payment be made to its account at Marfin bank in Cyprus. It was to become a theme of CFE’s trading that its counterparties requested payment to this particular bank in Cyprus, and also accounts in Hong Kong.

506.        CFE’s sudden success in March 2009 appears to have been achieved with little effort. All that was required was for was Adduco, a company with no prior relationship with CFE and neither experience nor repute in trading carbon credits, telephoning Mr Bush and thereafter offering massive volumes of credits to CFE. CFE traded 525,097 carbon credits in March 2009, of which 479,000 (91%) came from Adduco.

507.        It was not in dispute that, Adduco fraudulently failed to account to HMRC for the VAT paid to it by CFE.

CFE’s transactions connected to fraudulent evasion of VAT in April 2009

508.        In April 2009 CFE began trading with further suppliers that had neither experience nor repute in trading carbon credits, Duntai Ltd (“Duntai”) and Business Management Consulting Ltd (“BMC”).

509.        In April 2009 CFE traded 2,693,000 carbon credits, a 5-fold increase on March 2009, of which 1,253,000 (47%) came from Adduco, 476,000 (18%) came from Duntai and 683,000 came from BMC (25%). It is not in dispute that Duntai and BMC were also defaulting companies who fraudulently failed to account to HMRC for the VAT paid to them by CFE.

510.        CFE also purchased 10,000 units from Carbondesk Ltd (“CD”). CD purchased the carbon credits that it sold to CFE from V&A Corporation Ltd (“V&A”) who, as is not in dispute, fraudulently failed to account to HMRC for the VAT paid to it.

May 2009

511.        In May 2009 CFE traded 12,960,808 carbon credits, another 5-fold increase on the previous month.

512.        In May 2009 CFE traded with yet more suppliers that had little if any experience or repute in trading carbon credits, Westis Ltd (“Westis”), Mettec (trading name of Ayres Ltd (“Ayres”)), ADE International Ltd (“ADE”), Stratex Alliance Ltd (“Stratex”), GW Deals Ltd (“GWD”), AH Marketing and Distribution Limited (“AHMD”) and Northumberland Consultants Ltd (“NCL”).

513.        Of the 12,960,808 carbon credits traded by CFE in May 2009, 1,146,000 (8%) came from Adduco, 934,000 (7%) from ADE, 315,000 (2%) from AHMD, 5,410,000 (42%) from BMC, 724,000 (6%) from Duntai, 28,000 (0.2%) from, 732,000 (6%) from NCL, 1,624,000 (13%) from Stratex, and 1,232,000 (9.5%) from Westis.

514.        It is not in dispute that in addition to Adduco and Duntai, ADE, NCL and Westis all fraudulently failed to account to HMRC for the VAT paid to them by CFE.  As is set out above, Stratex was never registered for VAT but charged VAT on its invoices to CFE and fraudulently failed to account to HMRC for the VAT paid to it.

515.        Mettec / Ayres purchased the carbon credits that it sold to CFE from Acme Direct Ltd (“Acme”) who itself purchased from Japek (UK) Ltd (“Japek”) who fraudulently failed to account for the VAT paid to it by Acme.

516.        GWD purchased the carbon credits that it sold to CFE from Bilta (UK) Ltd (“Bilta”).   It is accepted for the purposes of deciding this appeal that Bilta fraudulently failed to account for the VAT paid to it.

517.        AHMD purchased the carbon credits that it sold to CFE from Bilta and Pan 1 Ltd (“Pan 1”) who itself purchased from Bilta. Again, it is not in dispute for the purposes of this appeal that Bilta fraudulently failed to account for the VAT paid to it.

518.        CFE was aware of the huge spike in its carbon credits trading in May and early June 2009, announcing in a press release on 22 May 2009 that its volumes and revenues were up 500% on the same five-month period a year earlier saying: “ Since we refocused our business on core brokerage, our volumes and liquidity have soared” .

519.        Putting its knowledge or means of knowledge to one side, what CFE had in fact done was changed to purchasing carbon credits almost exclusively from recently formed or taken-over companies who had little if any track record in trading carbon credits, little or no financial wherewithal, and who, it is now clear, were engaged in VAT fraud or the facilitation thereof.

520.        Mr Rose stated in his witness statement that CFE’s increase in trading from January to May 2009 was “in line with …market commentary” . The material relied upon by Mr Rose did not support such a broad statement.  Market commentary estimated growth over the previous year at around 75% rather than 500% (see below).

521.        Between 27-29 May 2009 there was a trade fair and conference called ‘Carbon Expo’ held in Barcelona. Named on the delegate list were representatives from inter alia CD, KO Brokers Ltd, Citibank (Garth Edward) and Mr Emanuel and Mr Von Butler from CFE.

522.        Also in attendance at Carbon Expo were representatives of Innovative Energy Group and Innovative Energy France SAS, whose previous companies participated in transaction chains that were part of MTIC frauds. Innovative Energy Group, through its group company, Jetivia, transferred carbon credits to Bilta (agreed to be a fraudulent defaulting trader in CFE’s transaction chains for the purposes of this appeal). Bilta sold on these units but Jetivia, a Swiss company, received the payments due to Bilta, inclusive of UK VAT as a third-party payment.

CFE’s transactions with Stratex Alliance Ltd in May 2009

 

Stratex - No VRN – supplier to CFE, fraudulent defaulter and provider of invalid VAT invoices

 

523.        Between 18 May – 3 June 2009 Stratex made 17 sales of carbon credits to CFE totalling 2,914,000 units with a gross purchase value of €48.9 million. The details of the Stratex transactions are set out in Officer Ball’s witness statement.  Based on information from the DG Environment, Stratex received the carbon credits that it sold to CFE from the fraudulent defaulters BMC, Duntai and Mostcity Ltd.

524.        Stratex was a direct supplier to CFE, a fraudulent defaulter (since it charged VAT but was never registered for VAT and did not account to HMRC for it) and it supplied CFE with invalid VAT invoices which did not show any VRN.

525.         Stratex was incorporated on 6 October 2008, it provided an address of Suite 2, 23-24 Great James St., London, WC1N 3ES (an address also used by Aristo, a further fraudulent trader whom CFE traded with), it has never filed accounts with Companies House and was dissolved on 18 May 2010.

526.        On 8 May 2009 Mr Avi Kolkobi (resident in Ashdod, Israel) was appointed director and Ms. Nantia Efstathiou (resident in Limassol, Cyprus) company secretary of Stratex. Ms. Efstathiou was also company secretary of Westis and Aristo.

527.        On 2 September 2009 CFE first confirmed to HMRC that it had not been provided with Stratex’s VRN.

528.        HMRC Officers visited Stratex on 9 September 2009, finding that its Companies House registered address was the premises of Apollo International (“Apollo”), a corporate service provider. A representative of Apollo informed the Officers that Apollo was purely an agent for Stratex who had come to Apollo via a representative in Russia called Worldwide Consulting Services Ltd. Despite HMRC’s attempts, no contact was made with Stratex.

529.         Stratex requested to CFE that payments to it be made to its account at Marfin. None of Stratex’s invoices bore a VRN and were therefore invalid VAT invoices.   The Tribunal has already dealt with this as part of its decision on the First and Second issues. 

530.        Importantly, the Tribunal has found CFE failed to act with reasonable care in carrying out these transactions.  The Appellant failed to identify and act upon the absence of a VRN on 17 invoices over a period of 15 days in sales worth over £40 million with VAT charged of over £5.6 million. 

531.        CFE was part of a multinational company with internal legal, compliance, tax, invoicing and credit departments together with the option to pay for external expertise in each.  None of the internal knowledge or expertise was brought to bear to ensure that CFE was paying out such large sums on valid VAT invoices.  

532.        Had the Appellant required a VRN from its customer Stratex, or checked to see if Stratex were VAT registered, it would have discovered that it was not VAT registered.  This objective fact was readily and reasonable discoverable.  CFE should have discovered it.  Once on notice of this fact, it would have put the reasonable party on notice there was something untoward occurring.  CFE should have been on notice that this irregularity needed exploring. 

533.        At that time one reasonable explanation for the absence of a VRN would be that Stratex was not VAT registered and there was VAT fraud occurring.  This was indeed the case.  The Appellant should have been put on notice that there were at least reasonable grounds to suspect such fraud and conducted further and enhanced due diligence as of 17 May 2009.  This is all the more so by 3 June 2009 when the seventeenth invalid invoice was accepted and CFE paid out significant VAT upon it.

Due Diligence

534.        CFE performed standard Customer Due Diligence (“CDD”) upon Stratex. 

535.        A sample ‘CDD for AML Form for Corporates (other than regulated firms)’ dated 14 May 2009 concerning Stratex demonstrates that when carrying out a standard CDD check, CFE’s Compliance Team looked to establish:

(1) the name of the company and its registered number;

(2) the registered office and business address;

(3) the names of all directors;

(4) the names of shareholders owning more than 25% of the company; and

(5) whether the company or its directors or shareholders were Politically Exposed Persons (“PEPs”) or whether they appeared on any sanctions lists (a World Compliance check). This was carried out using the World Compliance or the Accuity System, which is powered by World Compliance.

536.        CFE’s due diligence documentation in relation to Stratex was as follows:

(1)           Mr Avi Alkobi of Stratex emailed the Appellant’s EU Desk on 13 May 2009 requesting that they commence work with CO2e and attaching Know Your Client (“KYC”) information. Stratex was approved as a new client by the Compliance Department on 14 May 2009.

(2)             In an email on 1 May 2009 Mr Simon Chatterton, a Central Compliance Analyst, asked John Bush, an Emissions Broker, whether Stratex had a prospectus or website as he could not find a public description of the business activity of the company.

(3)             Mr Alkobi stated in an email to John Bush on 14 May 2009 that the company was new and the website was under construction. Mr Bush forwarded this response to Mr Chatterton on 14 May 2009. Mr Chatterton approved Stratex for compliance/AML on 14 May 2009.

537.        CFE’s Compliance Team acquired the following documents to verify Stratex's identity:

(a) a Certificate of Incorporation dated 6 October 2008;

(b) the Memorandum and Articles of Association;  

(c) minutes of first board meeting held on 6 October 2008;

(d) a resolution of the Directors dated 6 October 2008 signed by Alfred Brewster executing the share certificate for 1000 Shares to Rea Ketty Yolande Barreau;

(e) a letter of resignation as a director dated 6 October 2008 signed by Alfred Brewster;

(f) a shareholders' resolution appointing Mr Avi Alkobi as director and terminating the appointment of Ms Rea Ketty Yolande Barreau dated 13 April 2009;

(g) a directors' resolution dated 14 April 2009 in respect of transfer of 1000 shares from Ms Rea Ketty Yolande Barreau to Mr Avi Alkobi along with a stock transfer form;

(h) a share certificate dated 14 April 2009 for 100 shares held by Mr Avi Alkobi;

(i) a letter of resignation dated 14 April 2009 signed by Ms Elisana Marie-Antoinette Labonte for and on behalf of ABS Secretary Services Ltd;

(j) an undated director's resolution signed by Ms Barreau in respect of the appointment of Mr Alkobi as a director; and

(k) a certificate of non-trading dated 6 October 2008 showing that the company had not traded up until that date (the company was only incorporated on that date).

538.        CFE’s Compliance Team also obtained on 13 May 2009:

(a) a Companies House WebCheck webpage displaying basic company details;

(b) a Companies House Current Appointments Report showing Nantia Efstathiou and Avi Alkobi as company secretary and director of the company respectively and the registered address as Suite 2, 23-24 Great James Street, London, WC1N 3ES According to Ms Mills, the fact that the address was that of a corporate service provider was not necessarily something that would be taken into consideration if other indicators did not show that it needed to be investigated; and

(c) a World Compliance search on 13 May 2009. World Compliance is a provider of customer and vendor screening content used for AML purposes. It hosts a database of PEPs across 240 countries with more than 420,000 profiles. The screening process shows up other adverse news or information in the public domain about an individual or a company. This would include adverse press coverage, which might show, for example, that a person has been accused of something or has been fined or is under investigation. The World Compliance search of the company name and the names of the two directors returned no results. This went above and beyond the requirements of the JMLSG Guidance.

539.        CFE therefore acquired all of the information about Stratex which was required by the JMLSG Guidance for standard CDD and went beyond these requirements based on the assumption that the business was low risk.

540.        It also verified this information by reference to Companies House documents and ran a World Compliance search to check whether the directors and beneficial owners of Stratex were PEPs and if the company or its directors were subject to sanctions.

541.        CFE’s assumption that Stratex was low or medium risk may have been justified as at the time the checks were carried out on 13 and 14 May 2009 but it was not from 18 May 2009 once it started receiving invalid VAT invoices charging VAT without the production of a VRN. 

542.        While the CDD documents obtained on 13 and 14 May 2009 may not have given rise to any suspicion of fraudulent activity or otherwise given rise to any suggestion that further due diligence was needed, the invoices received from 18 May 2009 should reasonably have changed that assessment. The first and obvious check would have been to ask Stratex to supply its VRN and/or for CFE to independently verify this.

543.        If CFE had acted reasonably by requesting a VRN from Stratex before paying out upon the invoices or checking that VRN with HMRC or Europa it would have discovered that Stratex was not VAT registered.  This should have started a chain of enquiry and investigation akin to enhanced monitoring / due diligence as the risk profile of Stratex should reasonably have been considered high.

544.        Enhanced due diligence would have required significant further enquiries to have been undertaken into Stratex to establish its finances, trading pattern, business model etc.

545.        Stratex had neither experience in nor repute for dealing in carbon credits, its ability to sell such volumes of them to CFE was commercially incredible and its lack of financial worth made it a poor candidate to enter into such transactions.

546.        The Tribunal is satisfied that had CFE “applied its KYC checks and risk management systems properly and taken notice of the available information it would have been able to identify” a number of negative indicators about Stratex.

547.        These facts were relevant for AML and VAT purposes and would have put CFE on notice that the transactions might have been connected with VAT fraud.

548.        As above, the most obvious negative indicator was that Stratex was not registered for VAT in the UK, but was charging VAT.  

549.        The JMLSG Guidance does not require that firms check that a client company is VAT registered.  Nevertheless, CFE had available ample legal, tax, invoicing, compliance and credit advice internally which could have confirmed that the invoices were invalid without a VRN.

550.        Any reasonable business even of comparatively small size should have known that a first step would be not to pay any VAT upon an invoice without requesting a VRN from the invoice provider and an explanation for its omission.  In the absence of any reasonable explanation for the lack of VRN or a later provided VRN, thereafter the CFE should then have checked any VRN that was provided was valid.  CFE took none of these steps and paid out over £5.6 million in VAT on seventeen invalid invoices.

551.        While the invoices would not have been sent to CFE at the time Stratex was being checked on 13 and 14 May 2009, as it had not traded with Stratex at that time, CFE should have reacted to their contents upon receipt.  Officer Ball accepted in evidence that a possible explanation for a lack of VRN might be that an application for registration was pending , however CFE did not ask for any explanation let alone test the reasonableness of the explanation provided.

552.        Stratex had no financial or trading history, and the director Avi Alkobi was unknown in the field of environmental trading While this was not required as part of standard CDD, and while one explanation was that it was a very new market so it would not be unusual for companies not to have a track record, CFE should have weighed this up against the lack of VAT registration which pointed towards a nefarious reason for its trading.

553.        Stratex had no permanent premises in the UK, instead relying on a third party to provide postal and office services The Companies House Current Appointments Report shows that Stratex's business address was Suite 2, 23-24 Great James Street, London WC1N 3ES.  Ms Mills’ evidence was that the fact that the address was that of a corporate service provider was not necessarily something that would be taken into consideration if other indicators did not show that it needed to be investigated. Officer Ball agreed in oral evidence that there was nothing inherently wrong about relying on an incorporation agent to provide third party postal and office services.  However other indicators, apart from the lack of VRN, did show this needed to be investigated.  This chain of enquiry should reasonably have been followed once the lack of VRN had been established.

554.        Stratex could purchase large volumes of EUAs at a price less than CO2e would purchase.  While this would not have formed part of a standard CDD check, it should reasonably have formed part of enhanced due diligence in questioning Stratex once ascertained that it was a high-risk trader.

555.        The documents listed as having been considered for the standard CDD check did not include details of the bank account for Stratex. The payments made by CantorCO2e (including VAT) were being paid to an account at Marfin Popular Bank in Cyprus.   There is no reason in itself to be suspicious of a bank account being located in an EU Member State.  EU Member States are regulated by the EU Money Laundering Directives. Marfin Popular Bank is a listed bank , and Officer Ball accepted that there was nothing inherently wrong with making payments to Cyprus or with using a foreign bank account (provided there were no third party payments).

556.        However, when combined with all the other negative indicators set out above, Stratex’s direction for payment to be received in a foreign bank account when Stratex was a UK incorporated company and the transactions were taking place in the UK should have presented CFE with serious cause for concern.

557.        CFE made very few third-party checks such as independent financial credit checks from Dunn and Bradstreet or similar providers Mr Buchan stated in his evidence that there were no external agencies or companies that could have provided a relevant independent report on the counterparties in question but it does not appear CFE ever investigated or confirmed this assertion.  There is no good reason that a third-party independent report may not have come in useful in performing due diligence on Stratex.

558.        CFE did not obtain any annual accounts, independent references or banking references on Stratex.  Annual accounts, independent references or banking references are not required by the JMLSG Guidance as part of a standard CDD check.  Stratex was accepted as a client by CantorCO2e in May 2009 and so the first set of accounts would not have been due to be filed at that stage as Stratex was incorporated on 6 October 2008.  However, given that the Companies House Current Appointments Report accessed on 13 May 2009 shows that no accounts had been filed for Stratex and CFE should have assessed Stratex as high risk and completed enhanced due diligence, obtaining financial references would have been of value.

559.        CFE did not provide any checks on Stratex's director, his background or experience.  As noted above, the JMLSG Guidance requires the names and addresses of the directors as part of a standard CDD check which were obtained from the Companies House Current Appointments Report. There was no requirement for a firm to check the “background and experience” of a director.  However, as above, all of the objective indicators available should reasonably have driven CFE to seek these types of checks as part of enhanced due diligence.

560.        CFE did little more than confirm the existence of Stratex and carry out basic AML checks – standard CDD.  There was no enhanced due diligence. CFE did not question how Stratex could supply such large volumes of carbon credits, at a price that CFE could not beat despite its experience in the market, when it had filed no accounts, had no net worth to speak of and had recently been taken over.

561.        The only documentation that CFE provided in relation to the Stratex transactions themselves were the invalid invoices and the due diligence documents listed above.  For the reasons discussed in the First and Second Issues, HMRC reasonably refused to exercise their discretion to allow the input tax claimed by CFE on the invalid invoices.

562.        CFE’s e-mail correspondence and records of calls with Stratex were disclosed. There are no discussions in the e-mails about the carbon credits market or Stratex’s background. CFE had no concerns about trading with Stratex despite being told that it was a new company whose website was under construction. Stratex appeared willing to supply CFE with carbon credits without any reference to what the market for them was doing.

563.        On 3 June 2009, following the provision of the seventeen invalid invoices, Mr Bush of CFE finally requested Stratex’s VRN.  Despite this request, CFE continued to trade with Stratex, allowing it to issue further invoices on 3 and 6 June 2009 without a VRN being supplied.

564.        The Tribunal finds that CFE should have had reasonable grounds to suspect the transactions with Stratex (for which invalid VAT invoices were provided) were connected to VAT fraud.  CFE failed to conduct reasonable and proportionate (ie. enhanced) due diligence in response to the heightened threat presented by an absence of VRN and Stratex’s lack of VAT registration. 

565.        However, the Tribunal stops short of finding that the Appellant knew or should have known that the transactions between 18 May and 3 June 2009 were connected with VAT fraud. 

566.        By 3 June 2009, when CFE and Stratex completed their final transaction and before it requested the VRN, CFE did not have objective material available to it to make it aware that there was a general risk of fraud in the market.  The train of events beginning on 3 June 2009 with the blog containing rumours of fraud in the market (see below) had not yet occurred.  CFE had no good reason by this time to discover all the other indicators of fraud in respect of its other suppliers – eg. Westis etc. (see below) which would have heightened its awareness. 

567.        HMRC has conceded that 8 June 2009 is the date by which CFE knew or should have known its transactions with all other counterparties were connected with fraud.  Despite the absence of VRN and the multiple invalid invoices, the Tribunals is not satisfied CFE should have known that its transactions with Stratex between 18 May and 3 June 2009 were connected with fraud and that the only reasonable explanation for its transactions was fraud.

June 2009

568.        In June 2009 CFE traded 8,418,000 carbon credits of which: 186,000 (2.2%) came from Adduco, 720,000 (9%) came from ADE, 514,000 (6%) came from AHMD, 433,000 (5%) came from Aristo Partners Ltd (“Aristo”), 260,000 (3%) came from Axle Ltd (“Axle”), 1,628,000 (19%) came from BMC, 839,000 (10%) came from Duntai, 50,000 (0.6%) came from Ayres, 832,000 (10%) came from NCL, 1,290,000 (15%) came from Stratex, 126,000 (1.5%) came from SVS Securities Plc (“SVS”) and 332,000 (4%) came from Westis.

569.         Aristo, Axle and SVS were new suppliers to CFE in June 2009.

570.        Aristo and Axle were not registered for VAT (although they should have been) and yet they charged VAT to CFE. CFE did not pay the VAT to Aristo and Axle and therefore has made no input tax reclaim on the purchases. Aristo’s and Axle’s intentions in charging VAT whilst not registered are accepted to be fraudulent.

571.        SVS received the carbon credits that it sold to CFE from V&A, who fraudulently failed to account for the VAT paid to it.

1-2 June 2009

572.        On 1 June 2009 Mr Rose received an email from Mr Emanuel asking him to consider an extension to the new €5m funding facility which had been implemented that day for the EU Carbon Desk.  Mr Emanuel was reporting to Mr Rose how he had spent the $5 million funding facility for CFE’s carbon credit trading “…pretty early and had to take our foot off the pedal” .

573.        The new funding facility was intended to enable CO2e to pay counterparties on the day they delivered carbon credits. Mr Emanuel suggested that counterparties might be taking business elsewhere if CO2e could not promise payment on the day the counterparty delivered the carbon credits and that the €5m funding facility had been quickly exhausted that day. Mr Rose therefore needed to consider whether to support an increase to the funding facility so as to enable the EU Carbon Desk to meet demand within the market. He had been supportive of seeking approval for the €5m funding facility.

574.        On 2 June 2009 the BlueNext Carbon Credits exchange in Paris reported handling a record daily volume of carbon credits. CFE also had a record day, dealing with some €40 million pounds worth of carbon credits. That led Mr Emanuel to suggest a $50 million funding facility to Mr Rose.

575.        On 2 June 2009 Mr Rose received a Bloomberg article entitled “BlueNext's EU Carbon Permit Trading Volumes Rise to Record”. On the same day Mr Craib emailed Mr Rose speculating as to whether this was a temporary peak. Mr Rose linked the record trading that CO2e was experiencing with the Bloomberg report.

576.        On 2 June 2009 Mr Von Butler emailed a contact at Statkraft (a Norwegian Electricity company) regarding engaging in matched principal trading of EUAs. In the email Mr Von Butler referred to the fact that CO2e had embarked on a marketing campaign across Europe and was now reaping the rewards by seeing good numbers of matched principal trades. Mr Von Butler also cited a benefit in the matched principal model namely that CO2e was giving small and medium sized enterprises (“SME”s) access to the market by purchasing from them and then onward selling to other market participants who would prefer to deal only with CO2e / CFE (rather than directly with the SME).

577.        There is no evidence from Mr Butler, Mr Emanuel or any of the traders involved as to whether this email was a fair reflection of the general thinking within the business at the time regarding the reasons for the increase in trading. There is a section in Mr Von Butler's email in which he refers to managing risk and there is no mention of risk of VAT fraud. As of 2 June 2009, the Tribunal finds there is insufficient evidence to prove that there was any contemplation within CO2e / CFE’s business of the possibility of VAT fraud having infiltrated the carbon credit market.

578.        On 2 June 2009 Mr Rose received two further emails from Mr Emanuel on the subject of extending the funding facility which had been implemented for the EU Carbon Desk.  Mr Rose was willing to work with the EU Carbon Desk, the finance department and the risk/credit team to discuss an appropriate level of increase beyond the level which had already been implemented.

3 June 2009 – Rumours of VAT fraud

579.        The following took place on 3 June 2009.

580.        On 3 June 2009 Mr Emanuel read and forwarded a blog page to Mr Ross Tanton, CFE’s compliance officer saying “ Something interesting has been circulating in the carbon market today. It is only a blog and not sure how much credence to give it… ”. The blog was entitled “ BlueNext: VAT Scams or Simple Money Laundering? ” and said:

“’BlueNext and the Vat Scammers’

It IS a title for a discussion on the recent flurry of trading activity that has many suspicious elements, but no one can quite put their finger on it.

And the only ones that seem to be interested in it are a bunch of financial regulatory   Frenchmen with the investigative power of Inspector Clouseau from the Pink Panther Movies.  However, I do not expect the ending will be amusingly happy as in the Pink Panther movies, with culprits behind bars and the imbecile/hero getting the lovely girl at the end.

 

Rather, I am worried that the integrity of the EUA market in the whole of the EU will decline suddenly and become a market full of money laundering menaces, devoid of even the most basic controls: a breeding-den for corruption that will cost the European union billions of Euros.

 

So what am I referring to?

 

First let’s look at the EUA…

And nowadays, in France, this seems to make it ripe for a further level of abuse: VAT scams.

VAT scams work like this: if an invoice is issued in one EU? Country, the payer in the same country has to pay the invoice with the additional 10 to 20 percent for VAT. But if the paying party is in a different country, there is a double taxation clause which means they are exempt from paying VAT.

And if you are able to do false invoices from country to country, in some connected ring, then there is a chance that one link will fall away and the 10 to 20% will never be seen again by the collective states of the EU ever again. A few years ago this was used for real factory orders. Now, it is believed that the transactions will be used with EUA movements.

But are all these transactions originated by real purchases of EUAs?...I think not.

It could also be a function of money laundering. The movement of the EUA is actually done within minutes by a simple internet website transaction… 

But what is the proof you ask?

All I have seen thus far is anecdotal evidence and I am hoping to provoke the real investigators into action after they read these:

1. Recent volume on Bluenext has increased significantly, and it was thought that it was the reaction of selling compliance companies looking to cash in on surplus sales as the market decreased in value since December 2008 (a valid argument) or even perhaps the tightened credit lines that have affected all areas of finances have also constrained forward trading lines and even cash deposits for futures trading, making more transactions move to the spot market (also a valid point).

2. And a recent drop in fees for BlueNext to draw in more business (very, very low costs). This isn’t a factor that is suspicious, but shows that the procedural costs to scams also dropped a lot. But these don’t answer all the curiosities.

3. Recently a spate of Frenchmen have been opening new and newer accounts, seemingly replicating themselves. This is similar to some poorly regulated IPO market seekers that wanted better allocations. But why would a large bunch of Frenchmen open accounts with an inept Dutch trading house with no regulatory control, or with starved-for-business English brokers, only to trade BACK into the French exchange?

4. A few investigations have arisen lately regarding some specific deals in the market, asking the brokers if they had the correct KYC (Know Your Client) Documents. KYC is basically due diligence that hopefully avoids money laundering and perhaps even terrorist money, as well as making it more difficult for tax avoidance.

5. The administrators of BlueNext have been unusually tight lipped lately, when asked about volumes and procedures. As a trader with 20 years of experience in a wide range of securities, my instinct says they are hiding something: the response claiming confidentiality and ‘anonymity’ rang hollow in my opinion. I believe that they are undergoing some sort of internal and external investigation and are well scared of the result.

A final thought, should efforts be made to delve further into the origin of this surge in activity, I suspect we could see precipitous drop in volume on the BlueNext.

Note to self: Look further into compliance activities and oversight of the exchange and trades of carbon credits.”

581.        Mr Rose understands that this blog article was the first report speculating that VAT fraud may have infiltrated parts of the EUA market. Mr Emanuel stated in the accompanying email to Mr Tanton that “It is only a blog and so not sure how much credence to give it” .

582.        Mr Von Butler of CFE had received a copy of the blog from a contact at Nomura. Mr Von Butler responded shortly after commenting “what do you think” .

583.        The contact at Nomura had received it from the Head of Emissions Trading at Citibank – Garth Edward. Later, on 24 July 2009, Mr Edward was minuted at a meeting of the UK Emissions Trading Group, as commenting that most traders would say that the spot trading market was driven by VAT fraud – the issue was already in play in the market and affecting companies like his.

584.        Bloomberg circulated a press release from the London Energy Brokers Association announcing that emissions trading handled by brokers had increased 82% in the first 5 months of 2009, with trade in EUAs (the type of carbon credit traded by CFE in the majority of its transactions) increasing 75% for the period January to May 2009 compared to the same period in 2008. Mr Rose was not aware of the blog article on 3 June 2009; he was not made aware of this until 5 June 2009. But he did receive the Bloomberg article. 

585.        CO2e contributed to the content of the London Energy Brokers' Association announcement, and the statistics included in it provided further confirmation that the vast increase in trading volumes experienced by the EU Carbon Desk was well above that provided by the wider market.

586.        CFE’s press release on 22 May 2009 announcing that its volumes and revenues were up 500% on that same five-month period a year earlier meant that CFE had been outperforming the 75% market increase by a very large factor. Despite this, Mr Rose stated in his witness statement:

“…it provided further confirmation to me that the increase in trading volumes experienced by the EU Carbon Desk was consistent with the wider market .”

587.        Mr Rose was expecting some improvement from the EU Carbon Desk simply due to the change in focus to matched principal trading; if the performance of the desk had been dramatically inconsistent with the market this would perhaps have given Mr Rose cause for investigation.  However, the Tribunal finds he honestly but wrongly believed the reports about the performance of the wider market were entirely consistent with the performance of the EU Carbon Desk.  Mr Rose’s mistake appears to have been motivated by a wish to see a growth in profits.

588.        Mr Rose messaged Mr Craib saying:

Spot euas is a great business...easy and huge mkt .” 

589.        It is noteworthy that Mr Rose himself was commenting on how easy the business was.

590.        As referred to above, at 11:29 on 3 June 2009 Mr Bush of CFE finally requested Stratex’s VAT registration number (“VRN”). Despite this request CFE continued to attempt to trade with Stratex, allowing it to issue further invoices on 3 and 6 June 2009.

591.        At 16:03 Agnes Lasceaux (“AL”) of a different supplier, Axle, spoke with Mr Emilio Weldon (“EW”), one of the traders of CFE in a conversation which included the following:

“AL: I just wanted to tell you that about the VAT number I don’t have it yet but promise to you I will send it to you as soon as possible.

EW: Yes, no problem at all.

AL: And I wanted to tell you that as you are a UK company we are too a UK company I think it’s not a problem if I don’t have it just now, but I promise you I will send it as soon as I have it, okay?

EW: Okay that’s absolutely fine…”

592.        At 16:23 Mr Weldon e-mailed Agnes Lasceaux of Axle saying:

“It is very important that you provide us with your VAT number, otherwise we won’t be able to pay you tomorrow. This is because CantorCO2e includes 15% tax in the payment and then CantorCO2e reclaims this tax from the U.K Government. Please try to get hold of the number as soon as possible.

It was good to do the first trade with you!”

593.        Thus, by 3 June 2009 at the latest there was a widely circulated rumour of VAT fraud in the market.  Mr Wheldon had queried the absence of Axle’s VRN and Mr Bush had finally requested Stratex’s VRN.  It is likely that these requests regarding VRNs were connected to the rumour connected to the circulation of the blog.

4 June 2009

594.        The following took place on 4 June 2009.

595.        At 10:38 Mr Weldon of CFE sent Agnes Lasceaux of Axle revised payment figures for the first deal with Axle saying:

“…This is because we do not have your VAT number and so CantorCO2e cannot send out the 15% of VAT without any guarantee of being repaid. This is in fact not a problem for two reasons:

- If you have a VAT number, you would need to send that 15% VAT to the U.K. government in any case. Therefore Axle Ltd is not losing anything if we send you the above sum of money.

- When you do provide CantorCO2e with a VAT number we will be able to pay you the accrued VAT…”

596.        At 11:38 Mr Agnard of another supplier, Adduco, told Mr Bush of CFE that the French registry had been blocked. Mr Bush said that business had been very quiet today.

597.        At 12:24 Mr Stork of another supplier, Westis, e-mailed Mr Bush of CFE in relation to Westis’ VRN saying:

“As requested our vat number is 915 7270 21, please proceed with paiement now and send me copy of the swift so I can send you more allowance for trade today.

Also I ask my back office to go ahead with adding the vat number in all the invoices did to you.

Finally for your information my back office confirm to me that sales within the same country do no need vat number for invoicing and collecting the taxes…Anyway were following your policy.”

598.        At 12:40 Mr Emanuel verified Adduco’s VRN with HMRC and the VRN provided by Westis (which belonged in fact to Epicure Business Solutions Ltd). The record of the contact states:

“Caller wished to verify a VRN –

915 7270 21 [Epicure] – valid number – name and address incorrect

893 9840 57 [Adduco] – valid number – name correct – address not provided.

Also advised called on invoicing prior to receiving VRN but after EDR.

Caller also wished to verify a further 12 VRNs. Spoke to Tech who advised to pass as a call-back. Caller said he will ring back to verify numbers later today.”

599.        From 4 to 16 June 2009 there were numerous e-mails and telephone conversations between Agnes Lasceaux of Axle, Mr Weldon and others at CFE in relation to whether CFE could pay Axle inclusive of VAT if proof of application for a VRN was provided.

600.        The calls between CFE and Axle show CFE changing its position between potentially paying the VAT over (5 June 2009) and not (12 June 2009).

601.        Mr Emanuel of CFE replied to the e-mail of Mr Stork of Westis at 12:52 saying:

“Thank you for the VAT number that you sent. However it appears to be incomplete. A VAT number has two letters at the beginning…Please send me a complete VAT number for Westis Ltd. Also, may I correct your back office who seem to have misadvised you. As a matter of law, if you are invoicing for VAT then the invoice must also contain a VAT number.

If there is no VAT number on the invoice then we cannot pay you VAT and you will need to send us a new invoice without the VAT element included.

Since the invoices that you have sent us to date do not have a VAT number on them, we should not have paid you VAT on those invoices. As a result, the current situation is that we have overpaid you on past invoices and will need to make an adjustment in relation to the amount that is outstanding today.

If however, you are able to amend and resend all of the past invoices to include your complete VAT number then no adjustment will be made.

Please confirm how you would like us to proceed.”

602.        Mr Stork replied at 12:58 saying:

“Sorry GB 915 7270 21

Ok I will send you all the invoices again but please in the mean time process with paiement due. I try to send all invoices corrected with the vat number within 3 hours.”

603.        The invoices then sent by Westis contained the VRN of Epicure. At 14:05 Mr Emanuel of CFE e-mailed Mr Stork of Westis saying:

“There is a problem with these invoices.

The VAT number that they contain is not registered to Westis Limited.

Either the VAT number is wrong or else the invoice needs to be made in the name of the company that has that registration number.

Please amend and resend accordingly.”

604.        Mr Stork replied at 15:33 saying:

“Dear james,

As discuss please find all set of document of Epicure business solutions limited owner of the vat number GB 915727021.

I will send you all amend invoices in the next 30 mns, please start proceeding in order for us to have the paiement made today.”

605.        At 15:59 Mr Stork then provided replacement invoices in Epicure’s name rather than Westis’.

606.        Thus, by this point on 4 June 2009 Mr Emanuel of CFE was aware there were serious issues with Westis’ VRN, which was said to be that of another company Epicure.  As a result of his questioning Westis’ invoices were re-cast as deriving from Epicure.  This is in itself should have set alarm bells ringing as to the regularity and the legitimacy of the trade Mr Emanuel was entering into.

607.        An undated internal CFE note states:

“It has been claimed by Westis that the VAT number they supplied was a group number for Epicure Business Solutions Limited with themselves being part of the group. There is no available evidence to link Westis with Epicure, as Franck Stork is sole shareholder of Westis.

Also there is no mention of Franck Stork or Westis in the available company information.”

608.        A further note of CFE states:

“On 3/6/2009, James Emanuel, a CantorCo2e Limited manager, forwarded an internet blog concerning spot EUA trading on the Bluenext market and a VAT fraud. Further investigation by the Legal and Tax department raised suspicions about a number of CantorCo2e clients, Westis Limited being one of them.

It was found that Westis Limited had supplied a UK VAT number for another entity (Epicure) claiming that this was their parent company. No evidence could be found for this. AT 8/6/09, €2,781,133 VAT had been paid to Westis, although €3,987,165 was still being held on account by Cantor leaving Westis owed €1,206,031 by Cantor.

The account has been frozen pending further legal and regulatory reports.”

609.        CFE’s own notes evidence there being reasonable grounds to suspect irregularity concerning the VAT claimed by Westis.  Coupled with the blog report, the Tribunal is satisfied that at this early point there were reasonable grounds to suspect these Westis transactions were connected to VAT fraud.

610.        There is an explicit link in the above note between the risk of VAT fraud and the enquiries that were being made.  By the end of 4 June 2009 CFE was on notice of potential fraud in the market and how that could affect its own business. Pursuant to that it had checked the VRN provided by Westis, which was not verified.

611.        On 4 June 2009 Mr Rose remained based in Toronto remote from and unaware of these trades.  He liaised with Mr Craib further regarding the performance of the EU Carbon Desk . Mr Rose expected that volumes within the EUA market would continue to grow and that the change of focus for CO2e from carbon credit generating projects to brokering EUAs had been a success.

612.        Mr Rose also anticipated the possibility of a similar carbon credit growth when emissions trading commenced in the United States; and the Blackberry messenger conversation between Mr Rose and Mr Craib refers to there being an estimate that the US market would be five times the size of EU ETS. Mr Rose’s intention at the time was for CO2e to be a success in the US market in the same way as had been the case with the EU ETS.

613.        By 4 June 2009 CFE had begun to make the link between the rumours of VAT fraud in the carbon credits market and the position in relation to the CFE suppliers that it had looked into. By the end of 4 June 2009 CFE, at least through its compliance officer, its traders and their head Mr Emanuel, was on notice of potential fraud in the market and how that could affect its own business. Pursuant to this it had checked the VRNs of two of its suppliers, one of whom, Westis, had been using another person’s VRN. CFE had also been told that Axle, a further supplier, had no current VRN.

5 June 2009

614.        The following took place on 5 June 2009.

615.        At 06:56 Mr Emanuel e-mailed the CFE operations team stating:

“IMPORTANT please make NO payments today from our blotter until we give you the green light to do so.”

616.        Thus, early on 5 June 2009 Mr Emanuel had emailed the operations team asking that they make no payments to counterparties unless given the green light to do so.

617.         At 07:11 Mr Emanuel e-mailed Mr Stork of Westis in relation to the Epicure documents saying:

“There is no documentation in this information pack that states that Westis Ltd is part of a group owned by Epicure as you told me earlier. Please provide me with evidence of the group if my understanding is correct.

If not, due to money laundering legislation, we cannot retrospectively change past trades into the name of Epicure Ltd when payment has been made to a bank account of Westis Ltd when there is no evidence of a relationship between the two companies.

One possible solution is that we approve Epicure as a client (subject to due diligence, etc) and then book these trades in the name of Epicure then we will need to make payment on those trades direct to Epicure. As such, Westis will have to return all money that we have paid to it to date, we will cancel the trade booked to Westis and we will then pay that same money to Epicure. Please confirm that this is agreeable to you and I will seek the necessary internal approvals for this to happen.”

618.        The Tribunal is satisfied that the indicators of serious irregularities with Westis’ VRN together with lack of objective evidence to link Westis to Epicure, would have given CFE reasonable grounds to suspect fraud in relation to Westis at this time. 

619.        This conclusion is supported by the context of the rumour of VAT fraud in the market generally, problems with other suppliers such as a lack of VRN for Axle and large increase in trade in EUAs. These factors, at the very least, should have driven CFE to perform enhanced due diligence and not to trade further with Westis unless they had obtained satisfactory answers.  Mr Emanuel had already indicated that there should be a temporary suspension of payments from the blotter.  In contrast, Mr Emanuel was content to seek approval of Epicure as a CFE client and enterntain an alternative process or ‘solution’ to complete the trade instigated by Westis.

CFE’s internal investigations into the potential for fraud in its trading

620.        At 10:22 Mr Emanuel forwarded the blog post of 3 June 2009 regarding potential fraud in the market to Mr Craib and Mr Rose. As noted above, the 3 June 2009 blog article referred to above was brought to Mr Rose’s attention by Mr Emanuel on the morning of Friday 5 June 2009.

621.        Mr Rose asked Mr Emanuel to send the blog to him, and Mr Emanuel emailed the blog article to Mr Rose and Mr Craib early on the 5 June 2009 . Mr Rose’s recollection is that Mr Emanuel asked him to call him, which he did, whereupon Mr Emanuel relayed the message from the blog to him.

622.        Mr Rose’s recollection was that Mr Emanuel was sceptical about the blog article. The Tribunal has not heard from Mr Emanuel but Mr Rose’s recollection as to scepticism appears inconsistent with Mr Emanuel’s actions in raising the issue with Mr Rose, putting a temporary stop on payments to counterparties and Mr Rose’s reaction to get on a flight to London.

623.        Also, despite Mr Rose’s claim as to Mr Emanuel's scepticism, Mr Emanuel had also chosen to forward a link to the blog article to Mr Tanton on 3 June 2009.

624.        Having learnt about the blog article and having had conversations with Mr Emanuel, Mr Rose escalated the matter with the senior executives in New York. Mr Lutnick instructed Mr Rose to travel to London.  Mr Rose was instructed to fly to London from Toronto to deal with the matter.

625.        Mr Rose’s evidence was that on Friday 5 June 2009 he decided to fly to the UK and he boarded a flight that weekend. Notwithstanding the fact that the blog could have been unreliable, Mr Rose took the view that it was something that needed to be investigated further. Given that Mr Drummond was no longer in charge in the UK, Mr Rose believed that it was prudent to fly over to assist and look into the matter further. Mr Craib also flew to London over that weekend to assist him.

626.        The Tribunal is satisfied that Mr Rose’s trip to London was significant – it was made to pursue an investigation in response to the objective indicators of fraud in the market and CFE’s experience with its own suppliers.  The Tribunal is satisfied that Mr Rose sought to downplay or minimise the significance of his visit .  Mr Rose, holding a senior position within CFE, would not have flown all the way to London based only upon a rumour in the market unless there were those in CFE who believed that the blog should be given some credence and their trade in the market be investigated.  The direction from Mr Lutnick came from the highest authority within CFE.  Mr Emanuel had already put a temporary halt to payments based on active suspicion regarding at least one trader. 

627.        This was not simply a flight to London to verify an internet blog but the beginning of an internal investigation into CFE’s carbon credit trading business.  The blog post was the spark which started that internal investigation. The Tribunal is satisfied that CFE / CO2e’s management above Mr Emanuel and his traders, ie Mr Rose, Mr Cooper and Mr Buchan knew nothing of the issue before this time and had no grounds for suspecting that there was any VAT fraud in the market.

628.        On 5 June 2009 Mr Emanuel alerted Mr Cooper, as General Counsel, and Steve Treanor, the Head of Tax in the London office of Cantor Fitzgerald, about his concerns that CO2e might have been exposed to risks of VAT fraud in EUA spot trading.

629.        Mr Cooper, CFE’s General Counsel, became aware of concerns that CFE might have been exposed to risks of VAT fraud on 5 June 2009.

630.        At 11:56 Mr Emanuel sent Mr Cooper’s PA a spreadsheet setting out CFE’s potential exposures where it had paid VAT out and did not currently hold sums to cover those payments.

631.        Five counterparties were noted as creating potential exposures exceeding £3 million each: Adduco, BMC, Duntai, NCL and Stratex. It was clear to Mr Cooper “…that the matter needed urgent further investigation in the light of the blog article which James Emanuel had discovered and the possible irregularities on some of the VAT invoices for these counterparties.”

632.        Mr Cooper recalls that, at this stage, that there was no assumption by him that any of these counterparties were necessarily engaged in VAT fraud. However, it was clear to him that the matter needed urgent further investigation in light of the blog article which Mr Emanuel had discovered and the possible irregularities on some of the VAT invoices for these counterparties. Mr Cooper and his colleagues in the legal department gave consideration on how to request third parties to provide evidence of their VAT registration, due to concerns that, in the event that any of the counterparties did in fact turn out to be engaged in VAT fraud (which was not clear), it could have the effect of causing them to disappear.

633.        At 12:40 Mr Emanuel again verified Adduco’s VRN and was told that it was no longer a valid VRN.

634.        Despite knowing that Adduco’s VRN was invalid, Stratex not having supplied any VRN, having had reasons to suspect Westis (based on the lack of VRN and attempt to transfer invoices to Epicure) and knowing of the rumours of fraud, CFE continued to attempt to trade with Adduco.

635.        Mr Bush, one of CFE’s traders, telephoned Mr Agnard at 14:22 trying to get Adduco to sell carbon credits to CFE. Mr Agnard said that Adduco would not trade that day, despite the fact that it could be paid the same day (something that Mr Agnard had repeatedly asked for).

636.        At 14:40 Mr Stork of Westis replied to Mr Emanuel’s e-mail of the previous day saying:

“please find attached the share certificate that is evidence that Westis belongs to Epicure Business Solutions, you will also find attached minutes and form j30. Also my agent would like to speak to you in order to arrange agreement with the 3 parties for resolving right now the problem and for you to be able to pay those 2 invoices immediately in a legal way.”

637.        Mr Emanuel should have treated this reply far more cautiously and asked further questions of and sought further documentation from Mr Stork than he did by way of enhanced due diligence.  Mr Emanuel did not investigate the Westis / Epicure relationship and how the original invoices came to be presented to him by Westis.  As is set out in his later emails to Mr Stork, below, his only focus was on the commercial imperative to complete transactions.

638.        Mr Emanuel wrote back to Mr Stork of Westis at 16:00 saying:

“I am seeking approval to make payment of money without VAT as you suggested.

This issue has taken up my whole day so far and as a result of having paid you VAT when I shouldn’t have paid you VAT I am also fighting to keep my job.  I am sorry if this is not happening quickly enough for you, but honestly this problem was created by you claiming VAT when you were not registered to do so. As a result you will have to allow us to sort out the mess that has been caused and that will take as long as it takes. Hopefully it will be resolved on Monday.”

639.        Mr Stork replied at 16:03 attaching a draft agreement for CFE to pay Epicure using its Marfin bank account and saying:

“Find attached draft made by my agent, apparently you didn’t find the time to call me. I sent you the evidence that you asked me and I tried to reach you all day, I will appreciate that you call me ASAP, also our lawyer ask me how you clear companies that don’t have vat number and paid them the vat, so apparently we are not the only one that made mistakes, hopefully I believe that we can find a solution together with the help of the holding so take a quick decision on my paiement, without answer from you we will understand that you don’t wanna pay and that you are trying to keep money that on one side is states money and on the other side is our client money and we will proceed and react on it.”

640.        And:

“…I think that you want easily put the fault on our side, cantor is one of the biggest finance company and is not my fault if your clearance department never asked us vat information, as you can notice, as soon as you realise YOUR mistake we immediately react and sent to you required information. You are the one hiding from the phone and the responsibility, I would like you to phone me to know the position of cantor before us to take any decision, we are not worry about scandal as we are not publicly known but we are worry about not paying our client for 3 days. The draft agreement sent to you before is a legal way for you to be covered and to pay us our due.”

641.        At 15:22 Mr Emanuel had e-mailed inter alia Mr Cooper, Mr Kevin Taylor (CFE Head of Compliance) and Mr Rose updating them on the “VAT situation” attaching a spreadsheet showing CFE’s net exposure in relation to VAT on previous trading.

642.        Mr Emanuel had sent the revised spreadsheet containing updates of the VAT situation to Mr Rose, Mr Cooper, Mr Craib, Graham Sadler (Chief Financial Officer), Mr Taylor and Mark Morris (Head of Operations for Europea and Asia). This revealed that a significant trade had taken place with BMC, so that CO2e was no longer potentially exposed in respect of trades with that client. The potential exposure on trades with BMC earlier in the day had been €8.6m.

643.        The revised spreadsheet also appears to contain the rationale for identifying those counterparties who required further checking. In particular the list included all those counterparties who had engaged in spot EUA trading with CO2e. However, three groups were excluded from the 12 counterparties identified. These were:

(1) those to whom CO2e had only sold EUAs and from whom it had not acquired EUAs;

(2) those who were based outside the UK and to whom CO2e had not accounted for VAT on purchases; and

(3) those who were “known entities”, for example Barclays Capital. These appear largely to be entities who were regulated.

 

644.        Errors in the VAT invoices of the remaining 12 counterparties were also discovered. It appears that checks had begun to be made by CO2e on 4 June 2009.

645.        At 18:58 Mr Cooper forwarded the blog post to Mr Stephen Merkel, Global General Counsel to Cantor and of the BGC Group . Therefore, Mr Cooper decided to alert Cantor Fitzgerald’s headquarters in New York. He also forwarded the latest spreadsheet to Stephen Merkel, the Global General Counsel.  This demonstrates that Mr Cooper recognised these were issues that required a very senior level of attention and management.

646.        Mr Cooper recalls that he was unsure of what to make of the discussion in the article, it being based on anecdotal evidence and essentially inviting further investigation.  Mr Cooper was of course divorced from the day to day trading of CFE’s traders and their communications.

647.        During that day it is said that, Steve Treanor, head of Tax, had also been checking whether the VAT numbers shown on the counterparties' invoices were valid. Mr Cooper believes that Mr Treanor and his team were checking invoice numbers through a combination of the HMRC telephone line and the Europa Validation website.  The Tribunal did not hear from Mr Treanor or his team but accepts this explanation.

648.         An email from Steve Treanor provides an example of these checks which were made on 10 June 2009, five days later, using the Europa Validation website (for GW Deals, AH Marketing and Northumberland Consultants) and using the HMRC telephone line for some other counterparties (BMC, Duntai and Mettec).

649.        On 5 June 2009 itself CFE purchased hundreds of thousands of carbon credits from: BMC, GWD, AHMD, ADE and Duntai. In three of the BMC deals, CFE made a loss on the margin between its purchase and its sale.

650.        The Tribunal is satisfied that CFE already knew that it had been paying VAT to either unregistered traders (Adduco) or traders using others’ VRNs (Westis / Epicure) and had reasonable grounds to suspect some fraud but nonetheless CFE decided to keep trading with other traders to build up money on account to cover the VAT liability that might accrue to it.

651.        A strategy was decided within CFE that, where money was held on account in respect of a counterparty, those sums would be offset against VAT paid on prior transactions unless a counterparty could meet the requirements for the release of funds (which was the provision of valid VAT invoices) .

652.        Although payments to counterparties were frozen, the EU Carbon Desk continued during the day to buy credits from some counterparties. The strategy was to buy further credits from those counterparties (without making payment for them at that point in time), sell those credits on, and then hold the sales proceeds on account until the VAT invoicing issues had been resolved. The money on account could then, if necessary, be used to offset any money that CFE had paid out to these counterparties by way of VAT if it transpired that CFE was otherwise unable to resolve the VAT invoicing issues with them. CFE had determined that it would continue trading so as to avoid a VAT liability.  The commercial imperative was primary.

653.        Mr Cooper stated this strategy was designed to limit CFE's potential VAT liabilities, but it also protected HMRC by effectively reducing the amount of money that had been paid out to these counterparties by way of VAT.  The Tribunal is not satisfied that it was any part of CFE’s strategy to protect the Revenue but only a by-product. 

654.        This was the strategy for all 12 of the counterparties identified on the list which developed as some anomalies in their invoicing were discovered.

655.        Mr Emanuel referred in a later email on 5 June 2009 to waiting for Stratex to come to market. Attempts were also made to contact Stratex to obtain a corrected invoice.  Stratex had not supplied a VRN in any of its 17 invoices from 18 May to 3 June 2009 which charged over £5 million in VAT.  This in light of the difficulties with Adduco and Westis and the blogspot should now have put CFE on further notice that any suspected fraud might be widespread.

656.        The idea was to put the company in a stronger position to ask the relevant counterparties to rectify their invoicing errors. At that time, Mr Cooper’s evidence was that they did not know whether the counterparties were simply badly organised and had poor administration, which was typical for smaller counterparties, or whether something more sinister was afoot.  Again, this evidence came from Mr Cooper and Mr Rose and, while the Tribunal accepts their explanations, it ignores the material before the traders and the accumulating grounds for suspicion collectively available to CFE as set out above.

657.        According to Mr Rose, the understanding within the company at this time was that there was an obligation merely to ensure that the counterparty had a valid VAT registration and the correct paperwork was in place for each transaction. There was an acknowledgement of a VAT invoice compliance issue and the steps taken at this time were primarily to address this. However, as far as the company’s personnel were aware, he stated there was nothing known to them at the time which led them to think that these matters were connected to any VAT fraud. 

658.        The Tribunal accepts Mr Rose’s explanation in so far as it relates to his own state of knowledge and that of Mr Cooper at this date, but does not accept it in so far as it relates to state of knowledge of Mr Emanuel and the traders at this time.  The Tribunal has not received any evidence from those traders, first amongst them Mr Emanuel.  The information that was available to CFE collectively by this time should have led them to suspect a connection to VAT fraud for the reasons set out above.

659.        The Tribunal is satisfied that the commercial motive for trading resulted in CFE, through its officers, agents, employees including managers and traders, failing to explore fully at this time whether these transactions were connected with the fraudulent evasion of VAT.

660.        By trading with BMC on 5 June 2009, CFE converted a potential VAT liability of €8.6 million, to net monies held on account of more than €0.5 million.

661.         Late on 5 June 2009 Mr Treanor of CFE contacted Mr Martin Sharratt, the Head of Tax at Smith and Williamson (“S&W”), CFE’s external tax advisors, to say that CFE had identified a problem whereby some of the counterparties with whom CFE had been trading carbon credits had provided VRNs which did not appear to be valid and other counterparties might not be registered for VAT at all.

662.        Mr Treanor also told Mr Sharratt that CFE had become aware of rumours of MTIC VAT fraud in the carbon credits market and that this had prompted them to check, or recheck, the VAT invoices of some of their counterparties. Mr Treanor asked Mr Sharratt to provide an advice on the requirement for CFE to obtain valid VAT invoices.

663.        At 19:05 Mr Sharratt e-mailed Mr Treanor saying:

“Where a company has purchased any goods or services in good faith from an unconnected business, and holds a tax invoice from the supplier showing a valid UK VAT registration number, there should in principle be no problem in covering the VAT on your return, even if it is subsequently discovered that the supplier did not pay the VAT over to HMRC. If you checked that the VAT number on the invoice is genuine I can confirm that you would not normally be expected to carry out further checks in order to prove (for example) that the VAT number quoted on the invoice belongs to the person or organisation to which the payment was made; indeed, there is no easy way for any taxpayer to do so.

Optigen – Case C-354/03) considered the position of an innocent party in a supply chain where MTIC fraud took place. In Optigen the court ruled that “the right to deduct input VAT of a taxable person who carries out such transactions cannot be affected by the fact that in the chain of supply of which those transactions form part another prior or subsequent transaction is vitiated by value added tax fraud, without that taxable person knowing or having any means of knowing.” HMRC confirmed their acceptance of this principle in Business Brief 01/06 (copy attached).”

664.        Mr Sharratt states in his witness statement:

“I had several conversations with CantorCO2e during the following weeks and my primary contacts were Steve Treanor and Mark Cooper, the General Counsel for Europe and Asia. My recollection of these conversations is that the business was aware that they were dealing with new entrants to the EUA market. However, they were unable to tell whether the anomalies on VAT invoices which they had discovered had arisen from a lack of business sophistication and back office functions or whether their counterparties might be in fact involved in VAT fraud. The suppliers were saying that their main concern and driver for their threats of legal action was the effect on their cash flow - if CFE withheld the VAT they would be unable to pay their own suppliers and would be placed in financial difficulty, for which they would blame CFE. Until there was clearer evidence of fraud, there was no assumption that CantorCO2e’s supply chains might be tainted by VAT fraud. As a result, the principal focus of my advice was on the requirement to obtain a valid VAT invoice in order for CantorCO2e to recover its input VAT and, subsequently, on the question of whether HMRC might exercise their discretion in favour of CantorCO2e’s claim for recovery if the suppliers were unable to rectify their invoices.”

665.        Mr Sharratt’s evidence was read as agreed.  The Tribunal accepts that this was what Mr Sharratt was told at the time.  This does not mean that it was that it was reasonable for CFE to take the position that it was too early to suspect fraud in their trade.  It was in CFE’s commercial interest to take the most cautious approach possible to concluding there was fraud before taking determinative action, rather than the approach it should have taken – taking action as soon as there were reasonable grounds to suspect fraud.  The Tribunal is satisfied that CFE set the bar too high for taking determinative action (implementing enhanced due diligence or ceasing trade). 

666.        At 20:05 Mr Craib found a twitter message saying “French BlueNext exchange ‘desynchronized’ preventing EUA carbon credits being delivered. Odd, especially on the day that correction is starting.”  Mr Craib forwarded the message to Mr Rose.

667.        Ms Tracey Anne Mills, Head of Compliance at CFG since 2011, confirms that the broad objective of the JMLSG guidance for the financial sector, that CFE purported to apply, was that CFE “…‘should know who their customers are, what they do, and whether or not they are likely to be engaged in criminal activity.’ It accepts that the profile of customers’ financial behaviour will build up over time, allowing the firm to identify transactions or activity that may be suspicious.”

668.         Mr Sharratt’s evidence reveals that CFE did not comply with this broad objective. Ms. Mills is unable to speak to events that actually occurred in 2009 having only joined the company in 2011.

669.        Mr Cooper says in his first witness statement:

“28. Following checks carried out by CO2e by the end of Friday 5 June 2009, the counterparties appeared to break down into a number of separate groups at this stage:

(a) There were those who appeared to be validly VAT registered, whose VAT registration numbers had been checked. These were:

- GW Deals;

- AH Marketing;

- Northumberland Consultants;

- ADE International Limited (“ADE”);

- Mettec; and

- Duntai.

(b) There were four businesses who had not supplied any VAT information on their invoices, meaning that it was not possible to confirm whether they were validly VAT registered. These were: 

- Stratex;

- Axle Limited (“Axle”);

- BMC; and

- Aristo Partners Limited (“Aristo”).

Of these four, Cantor CO2e was potentially financially exposed to Stratex and Axle. However CantorCO2e held sufficient funds on account to cover any potential liabilities in respect of trades with BMC and Aristo.

Of the remaining counterparties, Adduco had provided an invalid VAT number on their invoice. Westis Limited (“Westis”) had provided a VAT number which belonged to another entity, Epicure Business Solutions Limited, which Westis had stated was its parent company…”

670.        At this stage, Mr Cooper records that they were therefore most concerned about potential exposures to Adduco, Axle and Stratex due to their possible VAT irregularities and the fact that CO2e did not hold sufficient funds on account to cover such exposures. There was also concern that Westis had provided a VAT number belonging to another company. 

671.        If, by 5 June 2009, CFE was unsure as to whether its counterparties were engaged in VAT fraud or the facilitation thereof, the proportionate response was that CFE should reasonably have ceased trading with them or suspended trade and taken other steps, such as enhanced due diligence, until it was satisfied that they were not.  CFE erred on the side of continued trade rather than caution.

672.        CFE did not do so but actively traded with counterparties on 5 June 2009 with whom there were now grounds to suspect fraud, in order to cover its potential liabilities to pay VAT in the event that that VAT was subsequently denied.

673.        In doing so CFE failed to undertake further reasonable and proportionate investigation and action, such as suspending trading until it implemented enhanced due diligence.  If CFE had conducted enhanced due diligence at this stage, such investigations may have reduced their claimed state of ignorance and increased any suspicion it held regarding suppliers.  It may have increased CFE’s state of mind to one of belief or knowledge as to their suppliers’ connection to fraud. 

674.        For all the same reasons set out above, the Tribunal must also conclude that CFE failed to take reasonable care in dealing with a number of its EUA suppliers by 5 June 2009.  Its prime motive was that commercial position was covered and secured.  It is unknown if CFE also feared that in taking reasonable steps, it would affix itself with knowledge that would render it unable to recover VAT it had paid out so delayed doing so until its VAT position was secured.

6 June 2009 – Board meeting and suspension of trading

675.        The following occurred on Saturday 6 June 2009.

676.        At 1:08am Mr Emanuel had circulated a further version of his spreadsheet.  At 01:08 Mr Emanuel reported that CFE’s trades on 5 June 2009 had additionally: reduced the liability for AHMD’s trades to €21,590.00, converted the Duntai liability of €3 million to monies held on account of €5.8 million and converted the GWD liability of €716,054.50 to monies held on account of €352,535.50.  This indicated that sufficient funds were held to offset any potential risk of irrecoverable VAT in respect of trades with these counterparties.

677.        The directors of CFE held a board meeting to discuss the findings of the previous day.  Therefore, the board met at 13:00 on a Saturday. An unsigned copy of the board minutes state it was noted that, as a result of the blog article, CO2e had investigated recent EUA transactions and VAT payments made by CFE and that it appeared that CFE had paid VAT to some counterparties without being in receipt of invoices which properly complied with the relevant VAT legislation. It was further noted that in respect of some counterparties, CFE appeared to be holding a balance on account which exceeded the amounts already paid to those counterparties in VAT.

678.        CFE’s board resolved that no further payments would be made to any seller of carbon credits whilst CFE investigated further and CFE would set off the balances held against the VAT paid to sellers with potentially invalid VAT invoices. It was resolved not to make any further payments to any client until the matter had been investigated further and to set off the balances held by CFE against the VAT previously paid to those counterparties pending further investigations.

679.        As concluded above, this suspension was only effected after the commercial position was protected.

680.        The board also resolved to apply the same approach to any other client who traded further EUAs with CFE. At this stage the Tribunal accepts that none of the Board, the senior management or traders of CFE knew that the counterparties were committing VAT fraud.

681.        Mr Cooper also obtained further external legal advice.  He was concerned to ensure that CFE would not be committing any offence under the Proceeds of Crime Act 2002 (“POCA”) by retaining sums due to counterparties. He was also concerned to ensure that CFE was compliant in respect of CFE's reporting obligations to the UK's Serious Organised Crime Agency (“SOCA”) in accordance with the obligation to report suspicions of money laundering pursuant to section 330 of POCA.  The decision whether or not to make a Suspicious Activity Report rested with Mr Taylor, who was the group’s Compliance Officer and who reported to Mr Cooper.

682.        Mr Cooper had several conversations with Mr Taylor over the following days. They were aware that they had a duty to report to SOCA where they knew or had reasonable grounds for suspecting that one of CFE's counterparties had engaged in VAT fraud. They were also aware that suspicion needed to amount to more than speculation as to whether an event had occurred.

683.        Mr Cooper relied on the suggestion that most of the counterparties who had been approached about VAT anomalies on their invoices had indicated that this was something they were in the process of resolving. Mr Cooper also believes from his conversations with him at the time that Mr Taylor shared this view. Mr Cooper believes that Mr Taylor was extremely conscientious in his role and liked to be prepared and that he was a pro-active compliance officer who would have gathered information from all relevant sources within the group.

684.        Mr Cooper’s view at the time, and throughout the relevant period, was that it was not clear that the test of reasonable grounds for suspicion was satisfied and hence the need to make a report was not made out.  The Tribunal accepts Mr Cooper’s subjective view that he did not believe there to be reasonable grounds to suspect that one of more of CFE’s counterparties had engaged in VAT fraud. 

685.        Nonetheless, the Tribunal is satisfied for the reasons set out above that there were objectively reasonable grounds to suspect that the counterparties were engaged in VAT Fraud.  This conclusion is made without applying hindsight and in light of all the material available to CFE at the time which should have been available to Mr Cooper.

686.        Further, the Tribunal must consider the state of knowledge or means of knowledge attributable to CFE as a whole and not simply to Mr Cooper or Mr Taylor.

687.        The Tribunal places little weight on what Mr Cooper believed Mr Taylor’s view was in the absence of evidence from Mr Taylor himself and in light of the contemporaneous written emails and documents produced by Mr Taylor as considered below in relation to 12 June 2009.  The Tribunal does not need to make any finding of Mr Taylor’s view as to fraud prior to 8 June 2009. 

7 June 2009

688.        On Sunday 7 June Mr Cooper also sought external legal advice as to whether it might be possible to obtain a worldwide freezing order against Stratex and Adduco along with their shareholders. These were the two counterparties in respect of whom the business appeared to be most financially exposed at that stage and Mr Cooper wanted to explore all possibilities to protect the group. Although some preparatory work was carried out with external advisers, the companies did not in the end apply for an injunction.

689.        One reason for this was a concern that it might be difficult to prove loss at that stage, since it was not clear whether the input VAT incurred on trades with Stratex and Adduco was indeed at risk.

690.        Mr Cooper records that, as a result of looking more closely at the counterparties, those within the business did notice certain similarities between some of them. In particular, they had established that many counterparties operated with a sole non-UK national as a director. They had also noticed that several counterparties banked with the Marfin Popular Bank in Cyprus, which was not a well-known bank in the market and was located outside the counterparties' jurisdiction.

691.        In addition, they had become aware that the counterparties were all new to the market and had a limited corporate history, although CFE did not consider this to be particularly surprising. It is material to note, however, that none of the negative features listed in the preceding paragraph appear to have applied to Mettec, GW Deals or AH Marketing, who were the only three of the twelve identified counterparties with whom CO2e traded between 8 June 2009 and 18 June 2009.

692.        The shareholders and directors of these companies were all resident in the UK. However, as noted at below, CO2e did identify some errors in the invoices of these counterparties and requested that these be corrected in the week commencing 8 June 2009.

8 June 2009 – suspension of BlueNext exchange and date from HMRC allege knowledge or means of knowledge of VAT fraud

693.        This is the date from which HMRC alleges CFE knew or should have known that its transactions with Mettec, GW Deals, AH Marketing and Westis were connected to the fraudulent evasion of VAT.

694.        The following occurred on 8 June 2009.

695.        At 07:36 Bloomberg reported:

“BlueNext – the biggest exchange for spot carbon transactions, said it halted European Union emissions permit trading in Paris today. The exchange plans to make a statement to members shortly,…”

696.        Mr Rose forwarded the announcement to CFE employees including Messrs. Craib and Cooper.

697.        Mr Rose attended Cantor Fitzgerald's main London office (where the EU Carbon Desk was based). That morning he had received the Bloomberg report by email entitled “BlueNext Exchange Halts Emissions Permit Trading in Paris” . The Bloomberg report stated that BlueNext had announced it had halted the trading of carbon credits in Paris and that it would be making a statement shortly.

698.        At 07:40 Mr James Bitton of ADE e-mailed Mr Bush of CFE stating:

“Dear John,

Find attach the 5 invoices that haven’t been paid, please provide copy of the swift this morning so I can send you 300k that we will have to sell today.

Also my accounting department asked me to re-do all the past invoices with our vat number on it, so I will send them to you in 5 minutes, please replace the old ones with them in your files.”

699.        On 8 June 2009 at 09:02 Mr Stork of Westis e-mailed Mr Emanuel saying:

“I am glad that I had spoken with you, this morning and that you found the solution of the problem, please confirm to me per return if the 2 unpaid invoices will finally be paid on westis or epicure business solutions for to forward your mail to my back office.

Also don’t hesitate to contact me if you need any help from our agent to make agreement or paperwork for your accounting, and please let us know which will be the 26 invoices that you will keep in files for us to keep the same in our declaration of taxes.”

700.        CFE has not provided a call on 8 June 2009 between Mr Emanuel and Mr Stork which may have contained Mr Emanuel’s explanation of how he ‘found the solution of the problem’.

701.        At 09:30 “Dimitri” from Duntai raised an identical issue in an e-mail to Mr Bush stating:

“Dear john,

find attached all the invoices where we ad vat number on it, please replace with existing one, also please send me copy of the swift of Friday deals. …”

702.        At 10:21 Mr Emanuel asked Mr Treanor to check that BMC’s, ADE’s and Duntai’s VRNs corresponded to the companies using them. Mr Treanor replied at 10:37 saying that he had checked BMC and that he had checked ADE and Duntai on the previous Friday (5 June 2009).

703.        Later Mr Emanuel emailed to Mr Rose a BlueNext Front Office announcement. This announcement confirmed BlueNext had started delivering delayed trades executed on 4 and 5 June 2009. The announcement also stated that new orders were forbidden and that BlueNext would keep members informed as to when trading would resume.

704.        A further BlueNext announcement followed later that same day. It stated that the French authorities had made EUAs and CERs exempt from VAT and that the decision would only affect French members. The announcement also stated that the exchange would be closed for two days to allow members to make changes to their systems and inform customers. The announcement stated that the exchange would re-open on Wednesday 10 June at 8am and that all other market rules for the exchange would remain the same.

705.        BlueNext therefore closed for two days on 8 June 2009 in the wake of the French authorities making carbon credits exempt from VAT. As above, Bluenext issued a statement to its members concerning the same. Reuters reported the move by the French authorities on 8 June 2009 at 15:53 citing French government sources as saying:

“There is a risk of VAT carousel fraud so as a preventative measure, we are changing the VAT regime on (emissions exchange) BlueNext’s transactions… There has been no evidence of VAT fraud. It is only a rumour…but it could have potentially hurt BlueNext’s ability to compete, so we had to react.”

706.        The Reuters article continued:

“Through carousel fraud, also called missing trader fraud, fraudsters import goods VAT-free from other countries, then sell the goods to domestic buyers, charging them VAT. The sellers then disappear without paying the collected tax to the government collection agency.

Emissions traders said rumours were circulating that a recent surge in volumes in European Union emissions permits traded over BlueNext, Europe’s main exchange for spot permit trading, were suspicious.

“Part of this volume was sound, coming from the market expanding and new players entering, but a share of it might be hard to explain,” said one emissions analyst.

…”

707.        Those at CFE and other companies trading EUAs were quickly aware of the move by the French Authorities and the Reuters article.

708.        Messages between traders from CarbonDesk Ltd (“CD”) and Standard Bank showed their reactions to the move by the French authorities, with a CD trader saying: “We’ll find out who was doing the VAT round trip now…;)” .

709.        At 16:34 Mr Lynch, one of CFE’s traders, e-mailed Mr Rose in relation to Westis, providing a contact number of 01887 858 110 and an e-mail address of westisltd@gmail.com.

710.         At 16:35 Mr Emanuel e-mailed Mr Necov of ADE saying:

“I have been investigating the issue of your payment today.

It seems that the delay has been caused today because we have surprisingly received a new set of invoices from you today in respect of prior deals.

We now need to compare details of all invoices with all records on our files in order to ensure that we have reconciliation with prior invoices and with out [sic] systems…”

711.        At 20:03 on 8 June 2009 Messrs. Emanuel and Taylor of CFE received an e-mail containing a copy of a further blog from the same source entitled “VAT Problem on Bluenext: What kind of gaping hole did it make in the French budget?” which stated:

“As hinted at in my earlier post, there seems to be a real VAT problem in France.

I did not claim to have all the details, but it seems that VAT is a factor. And if I am correct, the main victim was the Le Ministere du Budget.

But to what extent are they victims?

It is thought that the last leg of the VAT scam would be when the last player in the chain claims the money back from the government. And going by the amounts traded over the last few months (daily 4 to 8 million, and one day over 19 m) it can be assumed that there is now a very big snafu in the Budget Ministry.

But as I say, I am not sure of these details and would APPRECIATE any emails with theories. I must add that my peers simply have a contemptuous view of Bluenext on normal days, and this would only compound the contempt.

Also, it seems that reporting on this has been taboo. Methinks I must be more prudent before levelling accusations.

In the end, however, it is hoped by many that the carbon trading will rise above these manipulations and become a bit more transparent.”

The disputed transactions with AH Marketing & Distribution and GW Deals

712.        On 8 June 2009 CFE purchased 70,000 carbon credits from AH Marketing and Distribution (“AHMD”) at a net cost of €903,000.00. On 8 June 2009 CFE also purchased 25,000 carbon credits from GW Deals (“GWD”) at a net cost of €326,250. CFE engaged in only these two trades, the purchases from GWD and AHMD, on 8 June 2009.

713.        HMRC have subsequently linked them to a fraudulent tax loss which is not in dispute.  HMRC denied input tax in relation to them on the basis they allege CFE had knowledge or means of knowledge that the transactions were connected to the fraudulent evasion of VAT.  These deals are in dispute as the Appellant denies it had knowledge or means of knowledge as to their connection to VAT fraud. 

714.        Both companies had valid VAT numbers. Mr Rose recalls that the understanding within CFE continued to be that it was only obliged to ensure that the counterparty had a valid VAT registration and that the correct paperwork was in place for each transaction.

715.        In advance of doing these two trades CFE had identified that certain VAT invoices these counterparties had previously provided for trades which had occurred prior to 8 June 2009 had contained errors.

716.        In line with the previous approach, CFE decided in such circumstances that it would do these additional trades and then hold the amounts payable to GWD and AHMD until it had received corrected invoices for all prior transactions.  If these counterparties did not correct the errors then CFE would have the option of setting off the payment due to GWD and AHMD for the two latest trades, against VAT previously paid to these counterparties on prior transactions.

717.        At this point it is necessary to consider the background to GWD, its involvement in fraud and HMRC’s subsequent investigations into it.

GW Deals Ltd – VRN 884 9920 60 – supplier to CFE

 

718.        GW Deals Ltd (“GWD”) was incorporated on 2 March 2006 in the name Crestdawn Solutions Ltd, provided dormant company accounts to Companies House for the year ending 31 March 2009 and was dissolved on 19 October 2010.  On 12 March 2009, Mr Gary Fuge was appointed a director and Anees Ahmed, the company secretary of GWD.  Mr Fuge had no apparent background in trading commodities.  Saleh Hamid was appointed a director of GWD on 1 July 2009.

719.         Siva Reddy applied for GWD (in the name Crestdawn Solutions Ltd) to be registered for VAT with effect from 24 July 2006 declaring a main business activity of “ software consultancy and supply ” and an estimated turnover in the next 12 months of £250,000.00 . GWD was registered for VAT between 24 July 2006 – 14 January 2010 and declared little trading until 2009.

720.        On 25 March 2009 Mr Fuge advised HMRC that GWD had moved address to 268 Bath Rd., Slough, Berks., SL 4DX. On 1 June 2009 Mr Fuge advised HMRC that GWD’s bank details had changed to National Westminster Bank on Whitechapel Road, London and that GWD was now trading in carbon emissions.

721.         This notification was only provided to HMRC after GWD had already started trading carbon credits with CFE.

722.         On 14 July 2009 HMRC Officers visited GWD at 268 Bath Rd. where they were advised by Ms. Amreen Haroon that both Messrs. Fuge and Hamid were out of the country. The Officers asked Ms. Haroon what her role was and she said that it was to call traders about emissions and ask them how GWD could engage with them to sell emissions. When the Officers returned to the office they received a call from an accountant, Menzies, who advised that they were in possession of a Regulation 25 letter foreshortening GWD’s VAT period (which had been left on the visit) and indicated that they had some records for collection. The following day, all of the invoices were collected.

723.        The invoices showed that GWD was purchasing from: Bilta, SVS Securities PLC, Pan 1 and Ambron Ltd and selling to: Caron Capital Markets Ltd, SVS Securities PLC, CFE, Pan 1 and Royal Bank of Scotland.

724.        On 20 July 2009 Mr Hamid completed two VAT returns for April 2009 to June 2009 and 1 July 2009 to 14 July 2009. On 3 August 2009 a further visit was carried out by HMRC Officers who were told by Mr Hamid that no deals were being undertaken with either the Royal Bank of Scotland or CFE because GWD was not FSA registered. Following the introduction of the reverse charge in the carbon industry GWD ceased trading in carbon credits.

725.        On 4 November 2009 HMRC Officers again spoke with Mr Hamid who said that GWD had not traded in carbon credits since the introduction of the reverse charge on 31 July 2009 and confirmed that GWD had always been paid by its customer before it was required to pay its supplier. Mr Hamid claimed not to be aware of any problems with fraud in the carbon credits market. This appears incredible given the level of information that was published about fraud in the carbon market, particularly following the BlueNext closure (an exchange which GWD was in fact using at the time).

726.         Between 19 May and 8 June 2009 GWD made 17 sales of carbon credits to CFE totalling 734,000 units with a gross purchase value of €12.1 million. The transaction on 8 June 2009 (25,000 units at a gross price of €372,312.50) remains subject to input tax denial.  The documentation in relation to the deal was provided by Officer Ball.

727.        GWD received the carbon credits that it sold to CFE from Bilta, accepted to be a fraudulent defaulting trader. GWD requested that payments to it be made to its account at HSBC Hong Kong. Bilta requested that payments be made to it at another branch of HSBC in Hong Kong.

728.        GWD had neither experience in nor repute for dealing in carbon credits, its ability to sell such volumes of them to CFE was commercially incredible and its lack of financial worth made it a poor candidate to enter into such transactions. GWD’s turnover went from a standing start to £54 million for the three month period from 1 April to 30 June 2009 alone. All of GWD’s transactions traced to tax losses.

CFE’s due diligence on GWD

729.        CFE’s due diligence documentation in relation to GWD was provided to the Tribunal. CFE did little more than confirm the existence of GWD and carry out standard AML checks. CFE’s due diligence in relation to GWD was standard CDD.  It applied no enhanced due diligence.

730.         The documents which CFE obtained from GWD showed that: GWD was dormant to its 31 March 2008 accounts, it had an overdue return at Companies House, it had a declared Standard Industrial Classification of “other wholesale” and capitalisation of £2. GWD failed the “glove test” which CFE later applied on 12 June 2009. As Mr Buchan accepted, CFE should have been satisfying itself that the counterparty could have legitimately obtained what it was providing. CFE did nothing in relation to GWD. Instead, CFE entered a further, and final deal with GWD on 8 June 2009.

731.        CFE did not question how GWD could supply such large volumes of carbon credits, at a price that CFE could not beat despite its experience in the market, when it had been dormant, no net worth to speak of and had recently been taken over. CFE did not verify GWD’s VRN until 12 June 2009, after the deals had been completed.

732.        CFE’s disclosed e-mail correspondence and records of calls with GWD was provided. There are few discussions in the e-mails about the carbon credits market or GWD’s background. GWD appeared willing to send carbon credits to CFE regardless of market conditions.

733.         None of the e-mails after 8 June 2009 show CFE making enquiries with GWD about their trading until 8 July 2009 when CFE sent revised KYC and supporting documentation requests to GWD. There are minimal disclosed records of telephone call between CFE and GWD.

734.        Between 18 May – 8 June 2009 GWD supplied CFE with 734,000 carbon credits at a net cost of €10,561,880.00. The largest deal was on 26 May 2009 with a net purchase cost of €1,189,080.00. It should have been apparent that GWD could not have paid for these credits up front. The Tribunal is satisfied that no reasonable business would have granted in excess of €1 million of credit to a company such as GWD.

735.        CFE also had available its collective knowledge of the following matters which gave it reasonable grounds to suspect VAT fraud in the EUA fraud as a whole: the very large increase in the EUA market; the recognition of the risk of VAT fraud in the market from the blog and suspension of the Bluenext exchange; the irregularities of invoices or lack of VRN provided by Stratex, Adduco, Axle and Westis; the suspicious explanation given by Westis about its VRN and links to Epicure; the advice CFE had sought and received from Smith and Williamson on VAT fraud; its own decision to make no payments on 5 June 2009; the ongoing internal investigation being conducted by Mr Rose; and an internal decision on 6 June 2009 only to trade on to avoid VAT losses.

736.        In essence, the information available to CFE from which it should reasonably have drawn inferences emanated from the market, the executive action in France, its own internal investigations, the irregularities in its dealing with other suppliers in this market and its lack of enhanced due diligence on suppliers.

737.        These generic factors about the market should have been considered alongside the specific indicators regarding GWD such as the information that enhanced due diligence (which should have been performed by 8 June 2009 given the risk apparent by then) would have revealed.  Therefore, the Tribunal is satisfied that there were (and CFE should have had) more than reasonable grounds to suspect that CFE’s transaction with GWD on 8 June 2009 was connected to the fraudulent evasion of VAT.  Further, objectively there were reasonable grounds to believe the same. 

738.        The Tribunal is also satisfied that CFE should have known that its transaction with GWD on 8 June 2009 was more likely than not connected to the fraudulent evasion of VAT. 

739.         Nonetheless, and despite HMRC’s decision to deny input tax from this date, the Tribunal is not satisfied that these were factors were so compelling as of 8 June 2009 that CFE knew or should have known this transaction with GWD was connected with the fraudulent evasion of VAT.  It is not satisfied that CFE knew or should have known that the only reasonable explanation on this date was that the transaction was connected to the fraudulent evasion of VAT.    While there was a significant amount of material available to CFE by 8 June 2009 which should have informed its means of knowledge as to its transaction with GWD, the picture was still developing.  While it should have been aware of a risk of fraud based on the generic features of the trade in carbon credits and the specific features of its trade with GWD, HMRC have not proved CFE should have known that the only reasonable explanation for this trade at this time was the fraudulent evasion of VAT.

740.        This in contrast to the cumulative material that CFE was in possession of by 15 June 2009 which became overwhelming as is set out below, for example: the glove test applied to counterparties; the draft suspicious event report prepared; further press reports of VAT fraud in the market; further suspicious contacts with various counterparties; the categorisation of the trading as high risk etc.

741.        For the same reasons, the Tribunal is not satisfied that CFE knew or should have known that its transaction with AHMD on 8 June 2009 was connected to the fraudulent evasion of VAT.  This conclusion is addressed in further detail below. 

742.        The Tribunal is satisfied that by 15 June 2009 there were further factors that provided a compelling and overwhelming picture such that it should have known its transactions from 15 June 2009 with AHMD were connected with the fraudulent evasion of VAT.   These factors include: the further contact with suppliers indicating irregularity in their VAT status between 9 and 15 June; AHMD failing CFE’s own ‘Glove test’ and AHMD’s position being queried in a draft Suspicious Event Report (which also collated the concerns with many suppliers on 12 June 2009); CFE’s decision to treat its carbon credit trading as high risk on 15 June 2009; yet not applying enhanced due diligence to AHMD or any other counterparty by that date which would have revealed further negative indicators as to the high risk of fraud in trading with them.

743.        The Tribunal is satisfied that by 8 June 2009, and throughout all the periods under examination, CFE sought to rely on the most innocent explanations for their trade.  CFE’s management and traders approached the matter from a skewed perspective. Rather than trading and applying reasonable and proportionate safeguards which would have protected the Revenue from risk, they were driven by profit motive and failed to take reasonable care.

9 June 2009

744.        The following occurred on 9 June 2009.

745.        At 05:50, Mr Graham Sadler, Cantor’s Chief Financial Officer (CFO), e-mailed Mr Treanor, head of the tax department saying:

“I understand we may pay out BMC today (14mUSD). Howard [Lutnick] has asked for us to confirm directly to him that there is no risk in doing so. Please can you double check VAT registrations with HMRC, invoices etc. Also I would like written advice that paying out to someone who checks out ok but subsequently does not pay HMRC does not expose us to a claim from HMRC. We are on notice that there may be an issue in the market and these are big numbers.”

746.        At 08:52, despite CFE knowing that Adduco’s VRN was invalid, there was the following conversation between Mr Bush (JB) of CFE and Mr Agnard (EA) of Adduco:

“JB: Yes, I’m alright. So how’s things, are you looking to do some trading with us today? Are you going to send me loads of allowances?

EA: I don’t think to be honest with you (Inaudible) I don’t think.

JB: Why’s that?

EA: No problem to do this because the new law, because of the new – I have to search everything with my (inaudible). So for one month we don’t send.

JB: Okay

…”

747.        By 9 June 2009 there was an implied link between the executive action taken in France and whether or not Adduco would trade.  CFE knew that one of its suppliers was hesitating or suspending before continuing trading.  This matched CFE’s own decision made at the board meeting on 6 June 2009 not to continue trading without further investigation.

748.        On the morning of 9 June 2009 Mr Emanuel had sent Mr Rose a link to a further blog article that had appeared on 8 June (and had been sent to Mr Emanuel at 20.03 on 8 June 2009). This blog article suggested that there was a VAT problem on BlueNext. It is worth noting that the author of the blog stated he/she was not sure of the details of the potential fraud and welcomed emails with theories.

749.          That same morning Mr Rose emailed various senior Cantor Fitzgerald individuals a Reuters report entitled “France makes CO2 credits VAT-exempt to avoid VAT scam” . The Reuters report stated that the French authorities had made carbon credits exempt from VAT in order to prevent a potential tax scam linked to a French emissions exchange, although the report included a comment from a source at the French authorities who expressly stated that “There has been no evidence of VAT fraud. It is only a rumour...” and comment from a BlueNext spokesman who stated that any rumours that VAT fraud was occurring on the exchange were unsubstantiated.

750.        At 11:14 Mr Taylor of CFE compliance asked Mr Emanuel for examples of invoices provided by inter alia Adduco, bank account details of where Adduco payments were to be sent, an explanation of CFE’s involvement in the spot trading flows and to be kept posted of any potential movement in the Adduco account including CFE being approached for pricing information.

751.        At 12:24 Mr Emanuel replied to Mr Taylor’s e-mail of 6 June 2009 stating “ no substantive communication with clients so far. ” 

752.        Mr Emmanuel’s reply was inaccurate.  Adduco’s decision to stop trading with CFE for a month as communicated to Mr Bush earlier that morning, having sold some 3 million carbon credits to CFE at a gross cost of more than €45 million between 11 March – 3 June 2009, qualified as a “ substantive communication .”

753.        CFE has not provided a witness statement from Mr Emanuel, Mr Bush nor Mr Taylor nor any evidence as to why they are not available to give evidence. The Tribunal has not been provided with an explanation for why Mr Emanuel replied to Mr Taylor in this way.  The innocent explanation is that Mr Bush did not pass on the nature of his conversation with Mr Agnard to Mr Emanuel.  The alternative is that Mr Emanuel was aware of the conversation but failed to share it to Mr Taylor. 

754.        The Tribunal draws an adverse inference and finds that Mr Emanuel was aware of the position but failed to disclose it to Mr Taylor. It is unlikely that Mr Bush would not convey to Mr Emanuel, his head of desk, that a supplier of such a significant proportion of their business was no longer willing to trade for a significant period of time. 

755.        The fact is that Adduco’s reluctance to continue trading from 9 June 2009 was yet one further matter that should have indicated to CFE that trading in this market carried a real risk of participating in transactions connected to the fraudulent evasion of VAT.

756.        At 12:28 Bloomberg reported that the French authorities had found evidence of carousel fraud relating to VAT in trades of carbon credits. Mr Emanuel e-mailed the report to Messrs. Rose and Cooper at 12:35.

757.        Mr Rose circulated to various senior Cantor Fitzgerald individuals the Bloomberg report entitled “France Finds 'Carousel' Tax Fraud in Carbon Emissions” . The content of this article differed from the above Reuters report in that it suggested the French government had found evidence of carousel fraud.

758.        At 12:51 Mr Tanton of CFE compliance department e-mailed Mr Taylor saying:

“… On 3/6/2009, James Emmanuel, a CantorCo2e Limited manager, forwarded an internet blog concerning spot EUA trading on the Bluenext market and a VAT fraud. Further investigation by the Legal and Tax department raised suspicions about a number of CantorC02e clients, Adduco Consulting being one of them.

It was found that Adduco Consulting had supplied an invalid UK VAT number after trading. At 8/6/09, €6,075,931 VAT had been paid to Adduco exposing Cantor group as this could not be claimed back.

The account has been frozen pending further legal and regulatory reports.”

759.        There was no mention that one of CFE’s own traders had that very morning attempted to extract further trade from Adduco.  It appears that the trading department was not sharing with its compliance department exactly what action it was taking in respect of suspected suppliers.

760.        At 16:12 Mr Emanuel wrote to Mr Necov of ADE in relation to the reissued invoices saying:

“Please see the attached invoices that you have sent to us.

Please would you explain what they relate to.

We did not execute these deals for ADE International Ltd.”

761.        Mr Necov replied at 16:31 saying:

“Dear Emmanuel, sorry this was a mistaken invoice that we sent you with all invoices but that was not trade, please disregard them. …”

762.        In light of the previous mistakes and irregularities that CFE was aware of in relation to its suppliers, and the absence of any evidence from Mr Emanuel, the Tribunal infers that Mr Emanuel would be unlikely to accept the innocent explanation provided for the mistaken ADE invoices.  He should not reasonably have accepted the innocent explanation if he did.

763.        At 16:38 Bloomberg updated its report to state that the French authorities found a risk of carousel fraud.  There was a correction to the report later that day to clarify that France had found a risk of fraud rather than evidence of fraud.  Mr Rose circulated this correction to various senior Cantor Fitzgerald individuals (including Mr Cooper) commenting that it was an interesting correction. Mr Cooper noted in his evidence that this article, together with the Bloomberg article and the BlueNext announcement received the previous day, were further indications of rumour in the market, but that there was no confirmation of any VAT fraud.

764.        At 16:38 Mr Rose also e-mailed Mr Wayne Buchan, Chief Risk Officer for CFE. The subject of the e-mail was: “FW: Business Management Consulting Ltd” and simply states “I will call you to discuss. ” Neither Mr Rose nor Mr Buchan provided any material evidence as to the content of that later conversation.

765.        At 17:48 Mr Emanuel wrote to Mr Necov of ADE:

“Will you please re-issue these invoices with the words CANCELLED across them.

They appear to be Westis trades.

Could you please explain how ADE International are related to Westis Ltd?

Would you please disclose any other companies in the carbon market to whom you are affiliated?”

766.        ADE replied at 18:09 saying:

“These invoices have nothing to do with westis, they are just an error that we made doing invoices on past trades that was saved on the computer and that was resend to you per mistakes. We are not affiliate with any other companies working with you.

767.        Mr Emanuel replied at 18:29 saying:

“It is curious that you say you are not affiliated to any other company working with us because your invoices are exactly the same, with the same spelling errors as four other companies. The only difference is the company logo at the top. How would you explain this?”

768.        ADE’s response at 18:38 was evasive:

“Dear james, what do you mean by affiliates companies, we have no lien with those companies, I am ADE international limited and that s’it, I am worry just about ADE and my paiements in order to be able to pay my clients and maybe be able to keep working with you if you assure me that this kind of problem will not happen any more.”

769.        From ADE’s submission to CFE of the duplicate invoices for Westis deals on 8 June 2009, it was obvious that there was something seriously amiss with ADE’s, and Westis’ trade with CFE. CFE never raised the issue of ADE’s invoices with Westis. ADE’s responses effectively confirmed James Emanuel’s evident distrust yet CFE never raised the issue of ADE’s invoices with Westis or took positive action.

770.        Instead of cutting all ties with both ADE and Westis, Mr Emanuel sought to carry on business as usual with ADE and with Westis once the latter was registered for VAT.

771.        Mr Rose recalls that he had various conversations with Mr Emanuel regarding the market commentary at the time and Mr Emanuel reassured him. According to Mr Rose, Mr Emanuel stood very strongly behind the business model which had been introduced and was of the view that the rumours of fraud which were then circulating did not mean the EU Carbon Desk was dealing with fraudsters. Mr Rose also recalls Mr Emanuel commenting on the lack of any notice or warning coming from HMRC. 

772.        The Tribunal accepts Mr Rose’s evidence but finds that Mr Emanuel was not being candid and open with Mr Rose about the extent of his knowledge of the trade.  The examples of the communications regarding ADE and Westis, in light of all the other evidence such as that concerning Epicure, support a finding that Mr Emanuel actually suspected there was VAT fraud being committed by CFE’s supplier Westis.

10 June 2009

773.        The following occurred on 10 June 2009.

774.        At 09:53 Mr Bush of CFE again telephoned Mr Agnard seeking to trade with Adduco. Mr Bush also asked Mr Agnard to confirm Adduco’s VRN, saying that the one CFE had been given did not tally with Adduco.

775.        In light of the rebuff just the previous morning this demonstrates that CFE’s traders were determined to carry out transactions regardless of the regulatory risks.

776.         At 14:12 Mr Emanuel circulated within CFE an example to clients of what a VAT invoice needed to contain with a covering letter. This was then sent to CFE’s suppliers.

777.        On 10 June 2009 Mr Emanuel emailed Mr Cooper, Mr Treanor and Mr Sadler suggesting new VAT invoice requirements to prescribe to counterparties.  These were discussed within CO2e and sent by the settlements team to the counterparties on 10 and 11 June 2009.

778.        On 10 June 2009 Mr Rose also received an email regarding the release of the official announcement (in French) from the French government report relating to the VAT change for carbon credits.

The Mettec (Ayres) transactions

779.        CFE engaged in one trade on 10 June 2009 namely a purchase of carbon credits from Ayres Ltd, trading as Mettec.  HMRC have subsequently proved this was linked to tax loss and have denied input tax alleging that CFE had knowledge or means of knowledge of VAT fraud.

780.        The Mettec trade was again apparently undertaken to offset VAT already wrongly paid out to Mettec.  As part of the approach already described above Mr Rose recalls that it was thought prudent to do this additional trade with Mettec on 10 June so that CFE could hold sufficient money on account pending Mettec providing a corrected invoice in case the VAT on the previous trade needed to be clawed back. Mettec had provided invoices for prior trades with which there were some issues.

781.        In the morning of 10 June 2009 CFE purchased 50,000 units from Mettec at a net cost of €645,000.00.

782.         The Tribunal finds that the purchase was made despite CFE knowing of the risk of fraud in the market, the problems with Mettec’s invoices and without making proper checks into Mettec.

783.        Had CFE looked at the data available to it in its registry account it might have been able to discover that previous transactions with Mettec had involved carouselled credits.

784.        CFE’s due diligence documentation in relation to Mettec was standard CDD similar to that obtained for Stratex and GWD as set out above. CFE did little more than confirm the existence of Ayres Ltd and carry out basic AML checks. The documents included: a letter of introduction saying that Ayres was developing its carbon credits business, a certificate of incorporation dated 26 November 2008, a status report showing nominal capital of £1 and a Companies House report showing that no nature of business had been provided, no accounts had been filed, and Mr Ayres had been appointed to the company on incorporation.

785.        The positive indicators were that the counterparty had a valid VAT number; it had also provided a letter of introduction when completing the due diligence process at the outset of CO2e's trading relationship with it.

786.        Nonetheless, no enhanced monitoring or due diligence had been undertaken on Mettec in response to all the negative indicators apparent to CFE about the market by 10 June 2009. CFE did not carry out any check to satisfy itself that Mettec could have legitimately obtained what it was providing to CFE. CFE did not question how Mettec could supply such large volumes of carbon credits, at a price that CFE could not beat despite its experience in the market, when it had no net worth and had just been taken over.

Background Ayres Ltd t/a Mettec VRN 943 9490 85 – supplier to CFE

 

787.        Ayres Ltd t/a Mettec (“Mettec”) was incorporated on 26 November 2008 and provided Companies House with the SIC code for “ other business activities .” Ayres’s address registered with Companies House was Winton House, Winton Square, Basingstoke, Hants., RG21 8EN.

788.        Mr Mark Ayres applied for Mettec to be registered for VAT from 19 January 2009 declaring a main business activity of “commodities trading and associated services” , an address of 3 Alderney Avenue, Basingstoke, RG22 4UA and an estimated turnover in the next 12 months of £500,000.00.

789.        HMRC Officers visited Metttec on 13 August 2009 but Mr Ayres was not present.

790.        On 18 August 2009 HMRC Officers visited Mettec at Winton House.  Mr Ayres was asked how he came to trade in carbon credits and said that an acquaintance of his (Mr Steve Sands of Acme Direct Ltd (“Acme”)) had approached him as he had contacts in Manchester who had a client in London.  Mr Ayres stated he had attended a meeting in Warwick on 10 June 2009, after his first two deals, with three males where he was told to set up an account with CFE and K O Brokers to sell carbon credits to and that a lot of money would be put through both Acme and Mettec. Mr Ayres was told that he would be given a target price by CFE and would then be told the price at which he would purchase from Acme by another man. Mr Ayres said that CFE had sent him due diligence forms after the first deal which he had completed. Mr Ayres said that ethnicity and bank problems prevented his counterparties dealing directly with one another and that he had received threats to his family should he not carry out further deals. Mr Ayres further said that he paid Acme via a global escrow service in the Seychelles. Mettec’s VAT registration was cancelled with effect from 11 June 2009. 

791.        Even though it is hearsay and the Tribunal has not had an opportunity to hear from Mr Ayres, this evidence has been agreed and the Tribunal accepts what Mr Ayres said about his meeting on 10 June 2009 and being told to deal with CFE.  The Tribunal will return to this significance of this.

792.        Ayres’ e-mail address info@ mettecltd.co.uk was registered to Adworks at Unit 16, Chestergate, Stockport, SK3 0AL, the address of an MTIC trader called Saladuk.com whose VRN was applied for by Nadim Lodhi and which was denied the right to deduct input tax in VAT period 06/06. Mr Ayres had said that one of the men he met in Warwick was called Nadim.

793.        Between 12 May and 10 June 2009 Mettec made 3 sales of carbon credits to CFE totalling 78,000 units with a gross purchase value of €1.2 million. The details of the Mettec transactions were set out in Officer Ball’s witness statement.  Mettec received the carbon credits that it sold to CFE from Acme who in turn purchased them from Japek (UK) Ltd (“Japek”). Japek is accepted to be a fraudulent defaulting trader. On two of Acme’s invoices the payment instruction was to pay Global Escrow in the Seychelles and the remaining invoice carries an instruction to pay Alliance Universal in the Seychelles.

794.        Mettec had neither experience in nor repute for dealing in carbon credits, its ability to sell such volumes of them to CFE was commercially incredible and its lack of financial worth made it a poor candidate to enter into such transactions.

795.        HMRC also appear to place some reliance on the fact that the address provided by Mettec turned out to be a residential address. This was not known to CFE at the time, but in any event, given the nature of the business (which did not necessarily require any particular type or size of premises), this on its own may not be cause for suspicion. Mr Rose recalls examples of hedge fund managers who manage billions of dollars of assets from their living rooms.  However, this is likely to be the exception rather than the norm and CFE should have examined all the relevant factors – it is not possible to view them in isolation.  Even if, when viewed in isolation, the residential premises may have an innocent explanation, the total picture when considered may be overwhelming.

796.        CFE’s due diligence documentation in relation to Mettec was again standard CDD. CFE did little more than confirm the existence of Mettec and carry out basic AML checks. CFE did not question how it could supply such large volumes of carbon credits, at a price that CFE could not beat despite its experience in the market, when it had no net worth to speak of and had just been taken over. CFE only verified Mettec’s VRN on 5, 6 and 10 June 2009.   By 10 June 2009 CFE had failed to respond proportionately to the high risk the trade in EUAs now presented by conducting enhanced due diligence.  Had it done so, the material it would have gleaned would have revealed further negative indicators as to the legitimacy of its trade.

797.        CFE’s disclosed e-mail correspondence and records of calls with Mettec were provided. There are no discussions in the e-mails either about the carbon credits market or Mettec’s background, aside from Mr Ayres’ statements in his initial correspondence. Mettec appeared willing to send carbon credits to CFE regardless of market conditions and persisted in trying to sell carbon credits to CFE.

798.        The focus of many of the conversations is moving the carbon credits through CFE regardless of market price so that the money could be re-used to fund further transactions in what must have appeared to be an incredible never-ending stream of carbon credits available to Mr Ayres.

799.        None of the e-mails after 8 June 2009 evidence CFE making enquiries with Mettec about their trading until 17 June 2009 when a meeting was arranged between Messrs Emanuel and Mettec and 8 July 2009 when CFE sent revised KYC and supporting documentation requests to Mettec.  

800.        In the meantime, on 10 June 2009 CFE made a further purchase of 50,000 carbon credits from Ayres at a gross cost of €645,000.00, shortly before CFE told Mettec that they were not taking any further orders.

801.        It should have been apparent that Mettec could not have paid for these credits up front. It should have been apparent that no reasonable business would have granted credit of €645,000 to Mettec.

802.        Mr Bush of CFE has provided no evidence nor has CFE provided a reasonable explanation justifying an innocent explanation for its purchase from Mettec on 10 June 2009.  Having completed one deal for 50,000 units on 10 June 2009 Mr Bush of CFE telephoned Mr Mark Ayres of Mettec at 14:16 saying of the next deal for 50,000 units:

“JB:…Don’t send those allowances at the moment, I’ll call you back. Something’s going on at the moment, I’ll call you straight back, all right?

ME: Problems?

JB: Yes, there’s problems, okay. I’ll call you back in a short while but don’t send me allowances at the moment okay?

…”

803.        Once CFE knew of the risk of fraud in the market its conduct in continuing to deal with Mettec demonstrates that it should have known, that any trade with Mettec on 10 June 2009 was more likely than not to be connected with the fraudulent evasion of VAT.  CFE pursued its “strategy” of trading with those that on its own case, at the very least, it suspected prior to carrying out proportionate risk assessments and checks.

804.        Nonetheless, the Tribunal is not satisfied that at the time of its trade with Mettec on 10 June 2009, CFE knew or should have known this transaction was connected with fraudulent evasion of VAT.  

805.        When looked at in total, the generic evidence of fraud in the market and indicators available specifically in relation to Mettec were so compelling that CFE should have known that the only reasonable explanation for any trade with Mettec from 15 June 2009 would be connected to the fraudulent evasion of VAT.  This is for the same reasons as set out above in relation to GWD.  However, the trade on 10 June 2009 was CFE’s final transaction with Mettec.

806.        The Tribunal also takes into account that the material available from the later conversation on 11 June 2009 between Mr Emanuel and Mr Ayres (see below) which gives an insight as to CFE’s state of mind after 10 June 2009, but it avoids applying hindsight as to CFE’s knowledge on 10 June 2009. 

Other events on 10 June 2009

807.        At 17:29 Mr Bush requested from CFE’s Help Desk a voice recording of a call said to have been made by CFE to Stratex between 16:00 – 16:20 that day. The calls were then sent. No records of telephone calls between CFE and Stratex have been disclosed.

808.        At 18:22 Mr Treanor circulated the results of VAT checks that he had undertaken on: GWD, AHMD, NCL, BMC, Duntai, Ayres and ADE.  Mr Treanor had checked GWD, AHMD and NCL’s details on the Europa website for validating VAT numbers as opposed to with HMRC, with whom Mr Treanor had checked the other traders.

809.        The rationale for this difference in treatment of the three companies is set out in the draft Suspicious Event Report completed by Mr Taylor of CFE compliance and bearing a manuscript date of 12 June 2009, these words appear as underlined and capitalised in the text:

We have not chosen to determine whether the VAT number is valid to Northumberland Consulting Ltd as the concern is that if it isn’t then we are on notice and would have to account for the overpayment .

WHAT IF ANYTHING ARE WE DOING WITH GW DEALS LTD AH MARKETING?”

810.        The likely person this ‘we’ can be referring to is Mr Treanor, of his own compliance department.

811.        This is an example of CFE’s deliberate attempt to refrain from making proper enquiries into its counterparties, lest what it found confounded its attempts to continue trading with those it had wrongly paid VAT to until it had traded sufficiently with them to build up money on account covering the liability.

812.        At 23:27 on 10 June 2009 Mr Tom Anzalone (Global Head of Operations) of CFE e-mailed Mr Rose and Mr Emanuel requesting that he should be called before any further matched principal trades were done.

813.        On 10 June 2009, CFE had also purchased 226,000 carbon credits from Axle but there was no VAT loss associated with this transaction.

11 June 2009 – CFE’s suspension of matched principal trading

814.        The following occurred on 11 June 2009.

815.        There was a further conversation between Mr Emanuel (JE) of CFE and Mr Ayres (MA) of Mettec on 11 June 2009 at 07:34 which included the following:

“JE:…I mean, the issue for our guys is this, we’re obviously paying out VAT to you.

MA: Of course, and we’re paying it out as well, yeah I know.

JE: You’re paying it out the other side and you’ve got to account for it to HMRC. Now if for whatever reason that chain breaks down then there’s a chance that HMRC come to us and say, “Right, you know, you’ve got the VAT liability.”

MA: This is because of the French (Inaudible) isn’t it?

JE: Exactly, they would say to us, “You’ve got to pay the liability because you should never have paid it out to x, y, z company?” So the only defence we’ve got to that is to say, “Well, they gave us a valid VAT invoice.”

MA: That’s right.

JE: That is a full and complete defence but of course, we don’t have any valid VAT invoices because the invoices haven’t been prepared properly. So at the moment, we’re on the hook, potentially, for a liability of all the VAT that we’ve ever paid out, which is tens and tens of millions.”

816.        The issues with the Mettec invoices concerned: (i) the rate used to convert the VAT amount into sterling; (ii) the lack of a net unit price on the invoices; and (iii) a balancing item for bank charges that did not show any VRN.  These issues were raised on 11 June 2009 (see the emails from Mr Emanuel and from "#CO2e – Settlements".  An internal email from Mr Treanor   also suggests that the Mettec invoices lacked a VRN. In fact, only the very first invoice that Mettec had issued (on 12 May 2009) had lacked a VRN, and that invoice had been reissued with a VRN the same day.

817.        At 08:54 Mr Emanuel replied to Mr Anzalone’s e-mail of 10 June 2009 stating:

“Following this email we are not doing any matched principal trades until we receive explicit instructions to do so. My feeling is we get comfortable with our process first and settle all outstanding trades before entering into new ones. We have already refused to accept allowances to sell from two clients: GW Deals and Mettec.”

818.        Mr Emanuel thus stated that following this the EU Carbon Desk would not be doing any matched principal trades until they received explicit instructions to do so.

819.        Mr Rose stated in evidence that it is evident from the email that Mr Emanuel's feeling was that the business needed to get comfortable with the new processes before entering into new trades.  Mr Cooper considered that this might be a response to the potential credit risk of the counterparties, although trading with smaller companies of the nature of these counterparties was not uncommon.

820.        The Tribunal accepts that Mr Rose and Mr Cooper were honestly trying to assist with explaining Mr Emanuel’s state of mind but finds that the real reason for the suspension of trade is that Mr Emanuel was well aware of the risk of VAT fraud concerning any further transactions at this time.

821.        On 11 June 2009 at 09:32 Mr Bush e-mailed Mr Rose stating:

“Laurence, I spoke to Avi at Stratex at approximately 09.25 this morning. He assured me he would be sending me his VAT application today, and also that he was very happy as he had signed contracts for three million tonnes of spot EUA’s which he would be bringing to the market in a week to ten days”

822.        CFE has not disclosed any records of telephone calls between CFE and Stratex.

823.        Contact was also made with Stratex. The email correspondence from 11-12 June 2009 indicates that Mr Bush had spoken to Mr Avi Alkobi at Stratex and that Stratex had assured him they would be sending over details of their application for VAT registration.

824.        It appears from this correspondence that similar promises were repeated in a further discussion. In the event, no such documentation was ever received from Stratex and their invoices were not rectified. 

825.        Again, this failure by Stratex to comply and provide to CFE the VRN requested in respect of the previous 17 invoices from 18 May to 3 June 2009 worth over £40 million with over £5 million in VAT should have put CFE on notice that there was something seriously amiss with this trading.

826.        On 11 June 2009 Mr Adcock emailed the Risk team attaching a list of CO2e's clients and requesting "LE ids". This is an abbreviation for Legal Entity Identifier.

827.        These are codes which are normally given to each counterparty that Cantor Fitzgerald trade with. The codes are used in the trading and settlement systems for the purpose of identifying the correct entity.

828.        Mr Buchan subsequently emailed Tom Anzalone (Global Head of Operations), Mark Morris (Head of Operations for Europe and Asia) and Mr Rose attaching the list provided by Mr Adcock and stating that the Risk team would be verifying full legal entity names. This was on the basis there appeared to be a few abbreviated names in the list.

829.        At 10:32 Mr Bush telephoned Mr Agnard of Adduco again to “get an update on the market”. Mr Agnard said “…when we start on our VAT number and I manage – I work on it today.” 

830.        At 16:38 Bloomberg had updated its report to state that the French authorities found a risk of carousel fraud. 

831.        At 18:30 Mr Treanor e-mailed Mr Cooper saying:

“For the record I took the liberty of checking the ADE situation with our external adviser Martin Sharratt.

Considering all the circumstances, as discussed concerning the company address and so on, he agreed that there was no technical tax reason why the company should not be paid.”

832.        At 19:43 Mr Buchan of CFE emailed Messrs. Anzalone, Morris and Rose stating that he wanted his team to verify the names on the CFE client list.

833.        Reuters reported that the Paris prosecutor’s office had confirmed that a probe was underway into a suspected multi-million Euro VAT fraud in the French carbon credits market.  By 11 June 2009 therefore, there could be no doubt that there was an active investigation into VAT fraud in France.  This was a state intervention and apparent escalation from the rumour of fraud as had been circulated on 3 June 2009 or suspension of the BlueNext exchange between 8 and 10 June 2009.

834.        Mr Emanuel forwarded the report to Messrs. Cooper, Rose and Taylor on 12 June 2009 at 17:14.

835.        Kingsley Napley solicitors sent a pre-action warning to CFE in respect of the €6 million then outstanding to ADE.  On 11 June 2009, Mr Emanuel sent Mr Cooper an email he had received from Kingsley Napley, sent on behalf of a partner, Gerard Cukier, which stated that they acted on behalf of ADE and were demanding an outstanding payment of €6,770,370.50. The email stated that, unless full payment of the outstanding sum was made by close of business that day, they would be instructed to take appropriate steps, including service of a statutory demand, as a prelude to winding up proceedings. Mr Rose asked Mr Cooper, Mr Emanuel and others whether it would be possible to mitigate this issue by sending over payment that evening.

12 June 2009

The implementation of new procedures

836.        On 12 June 2009 at 07:02 Mr Emanuel e-mailed inter alia Mr Morris with the subject line: “Please don’t make any payments to Aristo Partners or Axel or Westis before speaking to me” saying:

“I don’t believe that we have the green light to pay any of these yet anyway. However, if the green light is given, we need first to offset past overpayments against money currently owed. The blotter doesn’t reflect that so we need to speak before payment is made to any of these companies.”

837.        At 08:39 Mr Emanuel wrote to ADE saying:

“I apologise for the inconvenience of the last few days, but from a legal and regulatory perspective it was unavoidable.

We are now back to business as usual and as a gesture of goodwill we would like to offer you the ability to use CantorCO2e today FREE of brokerage charges.”

838.        Despite the obvious unresolved issues in relation to ADE, and his suggestion of suspended trading the previous day, for Mr Emanuel it appeared to be business as usual.

839.        At 08:57 Mr Morris e-mailed Messrs Emanuel, Adcock and Buchan saying:

“James you do not have authority to approve any release of payments or emissions units to external clients, the procedure, which should have been made crystal clear over the last 48 hours is thus:

1) Outstanding settlements/Obligations

Customer Wire transfers must be approved by:-

Finance and reconciled by Financial Control, Blotter vs Client invoice and sign off

Tax – Check all data vs HMRC web site or phone call and validate format and authenticity of invoice from client and sign off

Legal – Double check all of the above and sign off

Operations – check all data and approve wire or registry release and sign off

All authentication data to be held by Mark Morris

2) New Trades

1 – Laurence Rose must approve Client and Trade

2 – Wayne Buchan or delegate must approve any free of payment or Emission transfer instruction

3 – Tax validate invoice

4 – Operations release Cash or Units

We must have a meeting today to close out these procedures I have a draft Operations check point which I will distribute we need a new AML/KYC/Onboarding procedure from Compliance/Credit/Tax before any new customers can trade.

Operations Management I must sign all CO2e payments do not release anything without my approval respond to this mail as confirmation of this.”

840.        The email stated that any outstanding settlement (where CO2e was effectively holding funds owed to the counterparties) could only be made where the customer wire transfers were approved by:

(1) the Finance Team having reconciled the numbers on the trade blotter against the client's invoice;

(2) the Tax team having checked the data against HMRC's website or through a phone call to HMRC and also having validated the VAT invoice from the client;

(3) the Legal team having double checked this data and approved it; and

(4) the Operations Team having then checked all the above data and approved the wire or registry release with all authentication data to be held by Mark Morris.

 

841.        This email also indicated that, for any new trades, Mr Rose would have to approve the client and the proposed trade; Mr Buchan or one of his team would have to approve any free of payment or emission transfer instruction; the Tax team would have to validate any invoice; and the Operations team would then approve the release of the cash. The email also stated that a meeting was needed that day to formalise these procedures and that new written procedures were needed from the Compliance, Credit and Tax teams before any new customers could trade.

842.        Mr Treanor had confirmed the VAT registration numbers for AH Marketing and GW Deals on 12 June 2009. Their registered names, numbers and addresses were as per their invoices.

843.        CFE was not however successful in obtaining funds on account for all counterparties. Attempts were made to contact Adduco to carry out further trades in order to obtain money on account so that CFE would then be in a stronger position to require it to obtain a valid VAT registration and rectify its invoices. Adduco had responded that they were in the process of investigating VAT matters with their accountant and would not be trading again until the matter was resolved.

844.        Contact was also made with Stratex. The email correspondence from 11-12 June 2009 indicates that Mr Bush had spoken to Mr Avi Alkobi at Stratex and that Stratex had assured him they would be sending over details of their application for VAT registration. It appears from this correspondence that similar promises were repeated in a further discussion. In the event, no such documentation was ever received from Stratex and their invoices were not rectified.

845.        On 12 June 2009 Mr Emanuel sent an email to the CO2e settlements team regarding the release of payment to Mettec. Mr Morris emailed Mr Emanuel in response to emphasise that Mr Emanuel did not have authority to release payments or emissions. This exchange demonstrated the heightened sensitivities within the company at the time and that different employees were taking different approaches – the traders being prepared to take risks that their senior management either did not authorise or prevaricated upon. There were now various units and individuals who needed to undertake checks prior to the release of payment to counterparties.

The Glove Test

846.        On 12 June 2009, Mr George Dixon, one of the credit analysts in the Risk team, undertook a credit review of CFE’s counterparties. None of the impugned parties passed what was referred to in the document reporting the credit review as the “Glove Test”.

847.        The reference to “Glove Test” (a metaphor referring to a white glove which might be used to detect dust) in the spreadsheet appears to refer to whether the counterparty passed Mr Dixon's initial review (in which case “OK” was noted on the spreadsheet). Those marked “OK” were recognisable names: Derby NHS Trust, the Natural History Museum and Uskmouth power station.

848.        If a counterparty did not pass this initial test then the account was re-reviewed and other factors examined. Unlike the initial checks conducted when “on boarding” clients, this process involved seeking to establish a positive picture of the counterparty.

849.        CFE thus belatedly began to attempt to conduct further due diligence and react to the rumours of a risk of fraud in the market. However, the nature of the checks and the steps taken were still not proportionate or reasonable in the context of the activity.  The response was inadequate to what should have already been categorised as high-risk trading where either enhanced due diligence should have been applied or the decision made to put an immediate stop on trading with the counterparties concerned.

850.        The Appellant’s witnesses, such as Mr Buchan, stated there were no external agencies or companies that could have provided a relevant independent report on the type of retail counterparties with which the review was concerned.  The Tribunal does not accept this.  Further, CFE never even considered using or contacted any external agency to assess whether they could investigate their clients or conduct enhanced due diligence.  The Tribunal has already examined above the type of enhanced due diligence that would have been appropriate for high risk clients.  If CFE was not to use an external agency, then it should have made the enquiries directly of and about its clients.

851.        At 09:45 Mr Bush e-mailed Mr Lynch saying:

“Things looking fairly positive mate we’ve paid out to bmc/duntai/ade stratex claim they are sending VAT application docs today, and we have hmrc on tape telling us adducos VAT number was ok. Stratex also claim to have 3 mio tonnes to do in the next 10 days, so fingers crossed….”

852.        Mr Lynch replied:

“We could get through this after all, if we do lets go pound some beers. If we sign off on all these guys, will we be paid out?”

853.        Mr Bush replied:

“Haven’t thought it appropriate to ask about bonio at the moment !!! but I absolutely believe we should be if we get through this with money intact, and then lets go pound some beers.”

854.        These emails reveal that the traders were well aware they were dealing in high risk transactions which may not be permitted but that their personal concern was their bonuses (‘bonio’).

855.        At 10:29, despite the fact that NCL’s VRN had not been properly verified, Mr Bush telephoned NCL to see if NCL was looking to get back into the market.

856.        At 11:23 Mr Weldon (EW) of CFE told Agnes Lasceaux (AL) of Axle during a telephone conversation:

“EW: Right, okay, that’s one thing. So were you aware that – do you remember, like, the discussion we had last week about the VAT number and whether we can invoice you? Okay, so what’s happened us in the last week – I don’t know if you are aware that with Blue Next – and there’d been these VAT issues in France and all this stuff and Blue Next closed for a few days.

AL: Yes.

EW: What’s happened is that our back office has – well, we obviously spoke to the back office to let them know about it and they’ve just been looking through, well people’s VAT status and things and they’ve become a bit more strict. What happened last week is they said, “Well, if you promise that you’re going to give us the VAT number in the future we can then invoice you with the full amounts”, but because there are now these issues they’ve become very strict. So what we have to do, I’m afraid – and we can’t change our position on this – is to do what we originally agreed which is that we can now only charge you less VAT until you provide us with a VAT number.

AL: Oh. So it means that you cannot send me the totality but just less the VAT because you don’t have the VAT number?

EW: Yes, because this is such a new market the spot market and, you know, traditionally we’ve dealt with let’s say bigger, bigger companies that I guess the whole procedure has been a bit more relaxed but in the last week because – and therefore historically we might have been able to, I guess, give some sort of leeway, some sort of benefit of the doubt, you know as we did last week. Because of this whole thing has changed, you know, with Blue Next closing down for a few days this week …”

857.        There is a recognition within this conversation that CFE had previously operated a procedure that had been ‘a bit more relaxed’ including paying out on VAT invoices on the promise that a ‘VAT number’ (a VRN) would be supplied by the counterparty in due course.

858.        Such a procedure failed to take reasonable care in that it involved paying out very large sums of VAT on invalid or unverified VAT invoices and failed reasonably to respond to the level of risk of fraud, which was apparent at least from 8 June 2009 when the Bluenext exchange had been suspended. 

859.        The new procedure now operated from 12 June 2009, and even if it had been employed in full, it was still not proportionate to the risk of fraud apparent.

860.        Mr Treanor had also confirmed the VRNs for AH Marketing and GW Deals on 12 June 2009. Their registered names, numbers and addresses were as per their invoices.

861.        Having paid out over £5 million in VAT to Stratex between 18 May and 3 June 2009 it should have caused CFE serious alarm that no VRN had been provided even at this stage.  However, it appears that the obvious alarm bells were not ringing loudly in the draft Suspicious Event Report dealing with Stratex as set out below.

862.        At 12:38 Mr Treanor e-mailed the results of further VAT checks, saying:

“To confirm HMRC checks today

AH Marketing and GW Deals checked exactly the name, number and address per their invoices.

Northumberland – VAT number checks against the company name but not against the address on the invoice nor the address on Companies House

I suggest that we therefore need to validate further who/where they are.

…”

863.        At 16:51 Mr Stork of Westis e-mailed Mr Emanuel saying that Kingsley Napley LLP solicitors would be contacting CFE about the unpaid sums.

864.        Kingsley Napley proposed re-rendering the invoices without VAT pending the group VAT registration for Epicure being processed, after which invoices for the VAT element would be separately rendered.

865.        At 19:08 Mr Emanuel e-mailed Messrs. Rose, Cooper and Taylor stating:

“ADE International already told us voluntarily that they are in the same offices as Westis when they wanted their money and asserted that they knew that we were holding the money of others too. They used the same incorporation agent and share an office infrastructure apparently in the same way that many UK trading houses provide a trading environment for individual proprietary traders. This explains the common invoice style.”

866.        As set out at above , this was not what ADE had told Mr Emanuel, which was that its invoices had nothing to do with Westis and ADE was not affiliated with any other company working with CFE.

867.        It was noted that Mr Cukier was also engaged by ADE. Mr Rose commented on this; and Mr Emanuel had replied that this was not surprising as ADE had already told CFE voluntarily that it used the same offices as Westis, it used the same incorporation agent and appeared to share office infrastructure in the same way that many UK trading houses provide a trading environment for individual proprietary traders. It may be that if viewed in isolation this could be an innocent connection, but this view failed to take account of the negative indicators. 

868.        Mr Rose appears to have actively focused on positive indicators which would justify continued trade rather than balancing these against the evidence of potentially fraudulent trade.

869.        There had been previous connections between Westis and ADE made by Mr Emanuel when he had noted on 9 June 2009 that some of ADE's invoices appeared to relate to Westis trades which he had then raised with ADE. CFE tried to undermine the inconsistency in the statement made by Mr Emanuel in his email about what ADE had said, and the contradictory statement of what ADE had said to Mr Emanuel on 9 June about not being affiliated with any company.

870.        The Appellant submits that there was no contradiction – persons can share office infrastructure and support services without being affiliated. The Tribunal does not accept this explanation – it was not supported by any evidence.  The inconsistency is obvious – there is no explanation for the contradictory evidence about the common invoicing style.

871.        The Tribunal was not given any material that supports Mr Emanuel’s claim in any of the disclosed correspondence in relation to ADE.  No explanation has been provided for Mr Emanuel’s claim.  The Tribunal has seen no evidential basis for it. Mr Emanuel was not called as a witness on behalf of CFE so HMRC could not cross examine him. 

872.        The Tribunal regretfully reaches the conclusion that Mr Emanuel was lying to Mr Rose, Mr Cooper and Taylor so as not to disclose to them his awareness of the real risk of fraud in the transactions with ADE / Westis.   Mr Rose, in turn was naïve not to further question the explanations given by Mr Emanuel and prevaricated as to the extent of the action he was prepared to take given the profitable nature of the trade.

873.        Around close of business on Friday 12 June 2009 Mr Emanuel sent Mr Rose and Mr Cooper a Reuters report entitled “French probe into VAT fraud” . The report stated that a French Budget Ministry Source had said there had been no evidence of a VAT fraud despite rumours circulating. Mr Rose recalls feeling that matters had become more uncertain as time went on. 

874.        The Tribunal does not accept that Mr Rose’s recollection is a fair reflection of the material emanating from France.  The rumours and reports had been escalating over days and executive action had been taken by first the suspension of trading and then through the criminal investigation. 

875.        The Tribunal finds that Mr Rose’s evidence minimised or sought to downplay the evident awareness of real risk of VAT fraud in the market.  The flurry of activity around 12 June 2009 in laying down (if not implementing) a new procedure and checking existing counterparties’ VRNs demonstrates a belated acknowledgement of the seriousness of the problem.

876.        Mr Emanuel also sent Mr Cooper an email from Franck Stork of Westis, which was copied to Gerard Cukier of Kingsley Napley. The email stated that Westis had instructed Mr Cukier to pursue payment and that he would look to start proceedings the following Monday (15 June 2009). Mr Cooper was aware that Westis were one of the counterparties who did not yet appear to be validly registered for VAT and had provided the VAT number of another company, Epicure Business Solutions Ltd.

877.        Mr Cooper suggested that Kingsley Napley were a reputable law firm and that ADE appeared to have a valid VAT registration number, based upon the checks which had been carried out and that Westis were now threatening legal action and had appointed “well known legal firm” , Kingsley Napley LLP who were also being used by ADE, a company which was validly registered for VAT.

878.        The Tribunal is satisfied that by 8 June 2009 in light of all that it had seen collectively through its traders and management, CFE should have categorised its carbon credit trading as high risk for AML and CDD purposes.  It should reasonably have begun to operate the most advanced form of enhanced due diligence that it could follow.  In any event, the procedure CFE itself belatedly laid down on 12 June 2009 was not followed as is evident below .

879.        For all the reasons set out above, CFE had actively collated evidence available to it by 12 June 2009 that meant that objectively it had reasonable grounds to believe the majority of its trading in EUAs was connected to the fraudulent evasion of VAT.  Further there is evidence that various employees, in addition to Mr Emanuel and the traders, actively suspected, with good reason, that this was the case.  These other employees include Mr Kevin Taylor, Head of Compliance for Europe and Asia.

The Draft Suspicious Event Report – the draft report

880.        An important document was created on behalf of CFE on 12 June 2009.  Mr Kevin Taylor of CFE compliance completed “ Draft 1 ” of a document titled ‘Suspicious Event Report’ (otherwise known as the ‘draft report’).  Mr Taylor’s handwriting at the bottom of the first page reads ‘Draft 1. 12/6/09’ and each page is watermarked as a ‘DRAFT’.  No second or final version of the document, if it exists, has been disclosed.

881.        The reporting obligations in Proceeds of Crime Act 2002 (“POCA”) are applicable to anyone in the UK that may interact with an individual or business, whereby they may commit a money laundering offence.  Those working in the ‘regulated sector’ (such as CFE) commit an offence if they do not submit a ‘Suspicious Activity Report’ or ‘SAR’ to the appropriate authority (in 2009 it was the Serious Organised Crime Agency “SOCA”) if they know or suspect, or have reasonable grounds to know or suspect, that another individual or person is engaged in money laundering; and the information came to them in the course of their business in the regulated sector.

882.        Mr Taylor’s draft report was six pages of densely typed written script.  The draft provided to the Tribunal contained his handwritten comments upon it.  The most significant of these was the handwritten comment at the top of the first page ‘Offense (sic): Ought to have known’.  Thus, it is clear that the author was aware of the means of knowledge test on the denial of input tax as had been previously advised by Mr Sharratt.

883.        The draft report began by reciting Mr Emanuel’s reading of the blog, the previous checks by CFE into its counterparties, the basic mechanism of MTIC VAT fraud and the need “ to consider whether CFE has been the victim of a VAT fraud and if so what other implications follow including SOCA reporting obligations.”

884.        The draft report noted in its considerations section on the third page:

“If a SAR is made no further action should be taken on the account including the receiving of additional credits without informed consent. This would extend to accepting further credits for the affected accounts as we may be caught by s329 of POCA.”

885.        Such a procedure (making a SAR report to SOCA and awaiting their consent to complete transactions) would have conflicted with CFE’s plan to continue to trade with the counterparties until it held sufficient monies on account to meet the potential VAT liability.

886.        The draft report went on to state on the third page:

Findings

All the UK accounts have only recently been opened with CFE. Most of companies comprising one individual who is the shareholder of the company and in many cases the individuals are resident in France. Westis Ltd, Stratex Alliance Ltd and Aristo Partners Ltd are operating from the same premises. Separately Adduco Consulting Ltd, Business Management Consulting Ltd and Northumberland Consultants Ltd also operate out of the same premises.

Several clients have bank accounts in Marfin Popular Bank Co Ltd, a listed registered bank in Cyprus (Westis and Adduco).

Volumes traded are on context albeit at the upper end. These firms are often set up by sole traders and therefore the trading activity being undertaken which of itself is not suspicious.”

887.        The Tribunal does not accept the reasonableness of the conclusion that the trading ‘of itself is not suspicious’ given the factors that Mr Taylor has outlined.  This early conclusion does not follow from the facts he has highlighted and the specific problems he goes on to describe which CFE had encountered with its clients’ VRNs and VAT invoices.  The type of trade cannot only be considered in isolation from the specific trades which had occurred.

888.        The report went on to consider specific suppliers in turn.

889.         The draft report noted in relation to Adduco:

INVALID VAT NUMBER SUPPLIED

Adduco Consulting Limited

Became invalid around time of trading was dormant company [written in Mr Taylor’s handwriting next to the name of the company].

….

Sole director and beneficial owner is a French national, Mr Eric Agnard…The company is registered to the same address as Axle Ltd and Northumberland Consultants Ltd.

Company filed dormant accounts: 31/10/2007…

….The client is insistent that the VAT number provided was valid and expressed surprise when told that HMRC had indicated otherwise.  On the 11 June client stated he was going look into the matter and respond.

When we first spoke to HMRC about the validity of the VAT number on 3 June they confirmed that it was a valid number assigned to Adduco Consulting Ltd.  However, when HMRC was again contact(ed) on 4 June they stated it was invalid.  It would appear that there is a delay with the HMRC computer records being updated and accordingly it was possible that the VAT number was valid on 3 June but not on 4 June.  We understand that if quarterly returns are not filed with HMRC the VAT number becomes automatically invalid.  We are aware that Adduco was dormant for a while and this might be a logical explanation for the confusion.”

890.        The Tribunal finds that the last paragraph is an illogical and self-serving attempt to explain away a VAT irregularity that is apparent.  VAT numbers do not automatically become invalid only on a quarterly return not being filed and the explanation assumed of dormancy (without reference to the information upon which it is based) does not explain why a number would be invalid on 4 June when it was valid on 3 June.  Indeed, dormancy was not the explanation that CFE had been given, whether it had sought one, from Adduco.

891.        The author of the report appears directed to providing only innocent explanation for those matters which were difficult for CFE to explain rather than a balanced view of what a less innocent explanation may be.  The wealth of material available to CFE by this time is not reflected in the conclusions.

892.        CFE had access to internal and external expert VAT advice which would not have supported the dormancy explanation.  The author of the report, like others in CFE, sought to concentrate on the most innocent explanation (dormancy) rather than accepting that there may be a fraudulent explanation.

893.        The draft report noted in relation to Westis:

VALID VAT NO. SUPPLIED BUT FOR PARENT COMPANY

Westis Ltd

Sole director and beneficial owner was a French national, Mr Franck Stork. Westis. The company is registered to the same address as Stratex Alliance Ltd and Aristo Partners Ltd.

We received invoices including the VAT consideration but without any VAT number. On speaking to the client he stated that he had a valid VAT number and come back with the details. We investigated the details and HMRC confirmed it was valid but not against Westis Ltd.

We consulted the client who stated that it was the number of his parent company Epicure Solutions Limited which had bout Westis Ltd on the 9 May 2009. Client submitted Tax certificate of Epicure Solutions and resubmitted the invoices in that name…

JE is uneasy about this client.”

894.        The fact that it is acknowledged that JE (Mr Emanuel) was uneasy about Westis is obvious from all the evidence that the Tribunal has examined.  Here Mr Taylor has recorded Mr Emanuel’s unease in black and white. 

895.        The draft report noted in relation to Stratex:

NOT (sic) VAT INFORMATION SUPPLIED

Stratex Alliance Ltd

…Registered to the same address as Aristo Partners Ltd and Westis Ltd. Owner of the company is Frank Stork resident in France. We have paid VAT to the amount of €6,376,039 but the client is not VAT registered. We called the client on 10 June asking for his VAT number and the client said he would call back which he didn’t. We again called the client and he stated that the VAT application was currently with HMRC. Client seemed nervous when discussing his VAT status. We phoned the client again to discuss business and the client volunteered a discussion on his VAT status reminding himself that he still owed us a document. Client stated that he was in the process of concluding several deals in Romania implying that there would be a number of credits for us to sell on his behalf.”

896.        As noted above, there is no sense that there was a serious problem with the Stratex transactions.  There should have been real alarm expressed that CFE had paid out over £5 million in VAT to a company for whom there had been no VRN supplied and who seemed ‘nervous when discussing his VAT status’.  The Tribunal is satisfied that the obvious is underplayed because of the commercial damage that might be incurred by taking an objective view of the seriousness of the VAT irregularities.

897.        Under the same heading of ‘Not VAT Information Supplied’ the draft report went on to address Axle Limited and noted in relation to Axle:

“…Registered to the same office as Adduco Consulting Ltd and Northumberland Consultants Ltd. Company owner Maxime Arlani, a French national…Company has only being trading with us since 3 June. …

As the first day of trading was also the day we received the blog the invoices were scrutinised in more detail and it appeared that the invoices contained no VAT number despite including the VAT consideration.

The client stated that he was registered but subsequently came back to the broking desk and confirmed that he had made a mistake and that the VAT application had been made. However we had already paid the invoices. …”

898.        Again, the explanation provided by CFE’s client, Axle, is suspicious on its own terms but when read together with all the other evidence from other clients CFE should have known there was widespread fraud in the trade.

899.        Under the same heading the draft report considered Aristo Partners Ltd.  The draft report noted in relation to Aristo:

“…Registered to the same address as Stratex Alliance Ltd and Westis Ltd. Owner of the company is Anthoiny Muthot resident in France….Business consider client incompetent. 

The invoices received contained no VAT number and we became more conscious of the VAT situation once the blog was issued on 3 June 2009. The client indicated that they had a VAT number and would look into it which they did stating that a VAT application had been made…”

900.        This is another example of the cumulative evidence available to CFE regarding their clients’ VAT problems.

901.        The draft report noted in relation to Northumberland Consultants Ltd (“NCL”):

VALID VAT NUMBER BUT NOT CONFIRMED WHETHER IT IS ASSIGNED TO CLIENT

Northumberland Consultants Ltd

We haven’t confirmed [in Mr Taylor’s handwriting next to the company name]

…The company is registered to the same address as Adduco Consulting Ltd and Business Management Consulting Ltd. Owner is a French national Yamina Berrehill. We have paid a total VAT consideration €3,431,994. Client has a valid VAT number but we are unable to confirm whether it belongs to the client. Legal advice has stated that the VAT invoices don’t strictly contain the correct information (for example should show a currency conversion where relevant in order that the VAT consideration is show in sterling.

We have not chosen to determine whether the VAT number is valid to Northumberland Consulting Ltd as the concern is that if it isn’t then we are on notice and would have to account to the HMRC for the over payment.

WHAT IF ANYTHING ARE WE DOING WITH GW DEALS LTD AH MARKETING?”

902.        The words underlined and in capitals in the final paragraphs appear in this format in the text.  The Tribunal infers from this highlighting that Mr Taylor was concerned and seeking assistance from others within CFE. The Tribunal will return to the further inferences which can be drawn from these paragraphs in due course.  It will conclude that these paragraphs give real insight into the thinking of both Mr Taylor and those with whom he was dealing within CFE.  The Tribunal finds that Mr Taylor, like Mr Emanuel and the traders, had active suspicion that a number of counterparties were involved in VAT fraud by 12 June 2009.

903.        The draft report concluded:

Proposal

[Based on the information gathered and taking into account the reporting obligations, I believe that there is sufficient foundation to submit a suspicious activity report in respect of [ ]. Informed consent will be requested to continue to accept credits for trading and in the case of [ ] also to release the net surplus funds.]

Recommendations

Enhanced Customer Due Diligence is recommended for the business on the basis that carbon emissions credits are subject to VAT and the fact that credits are in bearer form. Further given the nature on many of these clients involve one trading companies it would be appropriate to apply the same requirements imposed on applicants from individuals.

It is also recommended that the client take on process be formalised for the CO2e business.

Changes to the confirmation and disclaimer language have been made to provide clarity on the roles of CFE and CO2e.

New rules around permissioned trading of Spot credits have been introduced to ensure that we are either always flat or have a net VAT surplus from the matched principal activity.”

904.        The Tribunal is satisfied that the contents of this document support HMRC’s case on means of knowledge.  

905.        The draft report actively records a large number of negative indicators regarding a number of counterparties and its EUA trading that were available to CFE.  These were acknowledged in the report but both underplayed by the author and in CFE’s response to the report thereafter.  Further, while the draft report does not make any proposal as to whether to submit a SAR (the alternative options are not selected) it does recommend the implementation of enhanced due diligence. 

906.        While it justifies the recommendation simply on the basis that ‘carbon emissions credits are subject to VAT and the fact that the credits are in bearer form’ these were not new facts in relation to CFE’s carbon credit trade.  The implication is obvious but not stated, that it is apparent and obvious from the analysis of the counterparties that there was a high risk of VAT fraud being connected to the trade with these companies and hence enhanced due diligence should be employed.

907.        Here, collected in one document, are the results of investigations conducted by CFE and material evidencing both its subjective suspicion its previous trades were connected to VAT fraud and the objective material justifying reasonable grounds for the same. 

908.        The document begins with the handwritten recitation of the means of knowledge test in Kittel ‘offence: ought to have known’.   CFE had received external advice from Mr Sharrat on 5 June 2009 as to its legal obligations concerning means of knowledge.  It is apparent that this advice had been taken on board not simply by the tax and legal departments of CFE. 

909.        As above, the document records several instances of the author, and hence CFE management and to all whom it was disseminated, being aware of reasons to be suspicious about suppliers: ‘JE is uneasy about this client’ (Westis), ‘Client seemed nervous when discussing his VAT status’ (Stratex) as well as highlighting the lack of regularity that applied to the VAT affairs of so many of its suppliers. 

910.        Perhaps the most damaging statement is that ‘we have not chosen to determine whether the VAT number is valid to Northumberland Consulting Ltd’.  It reflects a settled will on the part of at least the author and unnamed others in CFE, ‘we’, to whom it refers, to turn a blind eye to damaging or adverse information to avoid being fixed with actual knowledge.    CFE sought to protect its commercial position without due regard to the risk to the Revenue. This evidence amplifies the earlier example of CFE’s decision of 5 June 2009 to trade its way out of its potential VAT liabilities. 

911.        The Tribunal is satisfied that by continuing to trade after this point without submitting a report, CFE was not a company seeking to assist law enforcement authorities prevent money laundering, as required under POCA, nor seeking to protect the Revenue by assisting HMRC in preventing fraudulent tax loss, but a company seeking to maximise profit despite the obvious risk of VAT fraud within much of its EUA trading.

912.        The Tribunal is satisfied that the document evidences not simply the objective reasonable grounds to suspect that CFE’s transactions with its suppliers were connected to VAT fraud.  It also evidences that CFE was aware it had subjectively reasonable grounds to suspect the same.

913.        CFE’s evidence regarding the draft is also noteworthy.

914.        Mr Cooper’s evidence is that he had several conversations with Mr Taylor regarding the report, who reported to him, the details of which are omitted. Mr Cooper’s evidence is no substitute for that of Mr Taylor, who wrote the draft.

915.        Having completed a seven-page report detailing conclusions but leaving undecided the matter of whether to file the SAR, the Tribunal finds it incredible that the matter was simply left, with no final version of the report prepared with a recorded conclusion.  There was no evidence provided to the Tribunal of any record or any written or definite decision taken as to whether a SAR should be submitted.  No SAR ever was submitted to SOCA. 

916.        This lack of final report, conclusion or other written decision by CFE, is again significant.  If CFE really had considered there were no grounds on which to submit a SAR, any reasonable company would have recorded it.  The Tribunal draws an adverse inference from the silence of both Mr Taylor and CFE’s records of any decision taken in respect of the SAR.

917.        The Appellant argues that whilst the draft indicates that CFE had decided not to determine whether the VAT registration number for Northumberland Consultants was valid, Mr Cooper does not believe this to be accurate and refers to an email from Mr Emanuel to him of 12 June 2009. This email indicates that the VAT number for Northumberland Consultants had been verified as valid but that the recorded address did not match the address CO2e had on record.  

918.        The Tribunal does not accept this explanation.  Mr Taylor has not been called to give evidence so as to explain his clear statement in the draft report.  There is no record of anyone writing to Mr Taylor to correct any ‘misapprehension’.  It does not provide any explanation for the mindset expressed in the document to avoid asking difficult questions. 

919.        Mr Treanor proposed that CFE carry out further enquiries to determine where Northumberland Consultants' principal place of business was located. Mr Emanuel suggested instead that they should wait for Northumberland Consultants to trade with CFE again before asking these questions.  Mr Cooper does not recall why Mr Emanuel suggested this, but at that stage no money was being held on account for Northumberland Consultants, so CFE would not have been able to rectify the position with Northumberland Consultants had its answer raised suspicions. In the event, Northumberland Consultants declined to undertake any further trades with CFE.

920.        Mr Cooper’s evidence misses two points.  First that Mr Taylor clearly wrote that ‘we have’ decided not to check the VRN.  This indicates that CFE were prepared not to comply with their AML / VAT obligations to avoid being fixed with knowledge.  Second that this document cannot have been created in a vacuum - it must have been the result of internal conversations within CFE and communications between employees.  The collective intention is clear and revealing.

921.        The section headed “Findings” notes that CFE had at this stage identified other similarities between some of the counterparties, including that Westis, Stratex and Aristo were operating from the same premises and that Adduco, BMC and Northumberland Consultants were also operating from the same premises.

922.        The Appellant now argues that, one plausible explanation for this was that they had used the same incorporation agents and the Cantor Fitzgerald personnel believed that the entities were small independent operators. As Mr Emanuel suggested in his email of 12 June 2009 many UK trading houses provide a trading environment and shared infrastructure for individual proprietary traders. This could have also explained the common invoice style and similar errors in the VAT invoices provided by some of these counterparties.

923.         Mr Cooper recalled that it was speculated at the time that these might be traders who had left their employers (financial institutions) and were trying to make a go of it on their own; traders often need assistance with administration or support functions and it was speculated that these individuals had come together to use common support facilities. 

924.        This speculation was unsupported by actual evidence and was inconsistent with the common understanding of who their clients were as told to them by Mr Emmanuel (local consultants for emitters).  This was new evidence introduced by Mr Cooper during the hearing and not previously relied upon as an explanation for the trade.  It was a further example of CFE’s attempts to find innocent explanations at all costs and ignore negative information for fear of the inevitable consequence that it would lead to the loss of trade and profit for CFE.

Draft SOCA disclosures

925.        Two related documents are also in evidence, exhibited to Mr Cooper’s second witness statements.  These are draft SARs and are entitled “Disclosure Report Details: Standard Report” (the “draft SOCA disclosures”) and are addressed to SOCA in relation to Adduco and Westis.

926.        The draft SOCA disclosures are handwritten and only partially completed. They include the company details for Adduco and Westis, but the section in which to describe the reporting officer's reasons for suspecting criminal conduct is blank. Each of these draft reports tick the box for the suspected offence to be Missing Trader Inter(tra) Community (VAT) fraud.  They were never filed with SOCA.

927.        Mr Cooper believes that the handwriting on the draft SOCA reports again belongs to Mr Taylor. The documents are undated but have “Your ref” of “01/2009” and “02/2009” respectively, which suggests that they were created in 2009, and Mr Cooper believes that they are likely to have been drafted at some point in early to mid-June 2009 when the group was considering whether to make any report to SOCA.

928.        The JMLSG Guidance (para 6.31) requires the designated officer to make a report as soon as reasonably practicable after the relevant information giving rise to a reasonable suspicion comes to him. Mr Cooper believes that the draft reports represented Mr Taylor being prepared to act in order to meet that obligation if he reached the stage of concluding that the test was met.

929.        Mr Cooper stated that in his conversations with Mr Taylor around this time, they discussed all of CFE's counterparties in respect of whom VAT invoicing issues had been identified. The existence of the draft SOCA disclosures suggests that Adduco and Westis may have been discussed in the most detail. This is supported by the fact that those two counterparties had provided VAT numbers to CFE which had been identified as (1) invalid (in respect of Adduco); or (2) belonging to a different company (in respect of Westis).

930.        Mr Cooper’s evidence is that these factors would not have been viewed as providing, in and of themselves, sufficient reasonable grounds for suspicion that those counterparties were engaged in criminal conduct which met the threshold for reporting them to SOCA (and Mr Cooper’s evidence was that Mr Taylor reached the same view). Those factors could simply have indicated that these counterparties lacked strong administrative controls and tax expertise. This was not uncommon for smaller counterparties of this type. 

931.        The Tribunal accepts that Mr Cooper’s evidence is honest but does not accept that this was a reasonable conclusion to reach for all the reasons set out above.  It ignored a large number of negative indicators available by 12 June 2009 about the EUA trade generally, EUA’s counterparties and the specific counterparties in particular.  None of this could be viewed in isolation.

932.        The Appellant also relies on the following: that Mr Cooper believed that Mr Taylor continued to keep the issue of potentially submitting a report to SOCA under review, and this is supported by an email from Mr Taylor to Mr Rose on 15 June 2009 which suggests that Mr Taylor was still reviewing the position. Mr Taylor was gathering new information all the time, including from Mr Cooper and Mr Rose. In the event, Mr Cooper believes that no report was ever ultimately submitted.  

933.        The difficulty with this evidence from Mr Cooper, which the Tribunal accepts, is that it leaves the trail cold.  There is no evidence as to when and why any decision was reached not to submit a report.  If Mr Cooper could not explain it, then the absence of evidence from Mr Taylor is striking.

13 June 2009

934.        The following occurred on 13 June 2009.

935.        On 13 June 2009, a Saturday, Mr Rose circulated a further Bloomberg report to senior Cantor Fitzgerald individuals, including Mr Craib. This report was entitled “no easy fit EU may challenge France CO2 Tax cut ”. Mr Craib emailed Mr Rose in response to this stating he was finding it difficult to understand what if anything was really going on.

936.        Mr Craib e-mailed Mr Rose in relation to speculation that the EU may challenge the decision of the French authorities to exempt carbon credits from VAT saying:

“Its so hard to understand what if anything is really going on or not.”

15 June 2009

Classification of CFE’s carbon credit trade as high risk and implementation of new procedures

937.        The Tribunal is satisfied that by the close of play on 14 June 2009 CFE, and hence the Appellant, should have known that any further transactions to be carried out with the counterparties mentioned in the draft report (Adduco, Westis, Stratex, Axle, Aristo, NCL, GWD and AHMD) were connected to the fraudulent evasion of VAT.  CFE had rightly anticipated the problems with each of these companies – they were each involved in or connected to VAT fraud.

938.        The only transactions that CFE conducted after 14 June 2009 with these parties were AHMD on 15-18 June 2009 and Westis on 28-29 July 2009.  As the Tribunal will outline, CFE should have known the only reasonable explanation for these transactions was VAT fraud. 

939.        By 12:13 on 15 June 2009 the CFE had paid the following counterparties the sums outstanding to them: ADE, AHMD, BMC, Duntai, GWD and Ayres.

940.        On 15 June 2009 the roll-out of new matched principal compliance risk and operations processes and controls continued as part of the company’s attempted implementation of more robust procedures. Mr Emanuel engaged in a number of email exchanges with Mr Morris regarding a new standard proforma CFE deal ticket. In addition, Mr Taylor circulated more detailed due diligence document requests which were to be used in future.

941.        CFE had determined that the business should be reclassified as high risk for AML purposes. This change of classification meant that more documentation would be required from potential counterparties.

942.        On 15 June 2009 at 13:10, one hour after paying outstanding sums to counterparties, Mr Taylor e-mailed several of those in CFE confirming that the carbon credits trading business had been re-classified as high risk for AML purposes.

943.        Mr Chatterton (from the compliance team) emailed Mr Dixon to provide him with access to the documentation that the compliance team had collated during their approval of new clients. This facilitated a fuller review.

944.        Threats in respect of withheld payments were also being made by other counterparties: see the email from Mr Emanuel to Mr Rose and Mr Cooper, which indicates that Axle and Aristo were seeking payment. Axle had asked for payment to be made without the VAT and Mr Emanuel said that Aristo's accountant had telephoned him.

945.        On 15 June 2009 Mr Rose circulated a revised spreadsheet showing the outstanding client balances. From this it was clear that ADE, AH Marketing, BMC, Duntai, GW Deals and Mettec had all received payment having satisfied the VAT invoicing requirements made of them by CFE.

946.        Nonetheless the enhanced due diligence document requests were not followed in relation to the further deals conducted that day and thereafter (with AHMD) and the procedures did not involve asking serious questions of their clients regarding their business, funding, access to market, business model or rationale or visiting their offices etc.  This was now accepted to be a high-risk business CFE was engaged in.

947.        At 14:43 Mr Taylor e-mailed Mr Rose stating:

“I have spoken tonight with MC [Mark Cooper] to bring him up to speed with my thoughts on whether we have to report anything to SOCA. He told me there were further updates from the work you have been doing today which may well alter the situation for me. Please can we catch up tomorrow?”

948.        The most natural interpretation of the words “altering of the situation”, since no SAR was ever submitted to SOCA, is that Mr Taylor was intending to submit a SAR but that his conversation with Mr Rose “altered” that view. Mr Rose’s witness statement is silent on the issue and he was unable to recollect matters in detail in his oral evidence.

949.        Mr Cooper stated that had Mr Taylor wished to submit a report then Mr Cooper would not have stood in his way and whilst Mr Cooper and Mr Taylor discussed the subject matter with which the draft report was concerned, Mr Taylor was free to make the decision as to whether to do so on his own assessment, as per the JMLSG Guidance (para 3.12). Mr Cooper stated he had no input into his decision whether to submit the report.

950.        Likewise, Mr Rose stated he had no input into a decision to submit a SAR at all - the front office was deliberately not a decision-maker in the process. Mr Taylor took information from the front office, but the decision whether to submit a report was not one for the front office. Mr Rose stated Mr Taylor would have known that the decision whether to submit a report was one for Mr Taylor alone.

951.        Mr Cooper’s belief is that no reports were ever submitted to SOCA. It is not in dispute that this is the case – there is no evidence that reports were ever submitted to SOCA. No internal AML report was prepared.  No final version of the Suspicious Event Report was provided with any positive conclusion one way or the other whether to make a report.  If there was no recorded decision not to make a report, then the absence of such a record is in breach of the JMLSG as is set out elsewhere.  

952.        CFE was under a duty to keep proper records and a decision of this importance one would expect to see recorded.  For the reasons set out above, the decision not to make a report was not a reasonable one.

953.        Mr Rose’s evidence in cross-examination was that he had had no input into the decision as to whether to submit such a report. He was also clear that he did not try to persuade Mr Taylor not to make such a report. Mr Cooper was also clear that Mr Taylor had not been lent on one way or the other.   Mr Cooper also advised senior management, and possibly also Mr Rose on the group’s reporting obligations on 12 June 2009. He stated no conclusion had been reached by that time as to whether the counterparties (even those who appeared not to be VAT registered at all) were acting dishonestly or simply had poor administration. 

954.        The Tribunal accepts the evidence of Mr Cooper and Mr Rose that they did not actively intend to talk Mr Taylor out of, directly instruct him or expressly ‘lean on him’ not to submit a Suspicious Activity Report to SOCA.  The Tribunal accepts the evidence that the ultimate decision was Mr Taylor’s.  Nonetheless, the Tribunal is satisfied that they did have conversations with him about the report and the influence exerted by Mr Rose and Mr Cooper as a result, while more subtle, contributed to Mr Taylor not making any reports. 

955.        Mr Taylor was persuaded that he should not make a report by the communications he had with Mr Rose and Mr Cooper and any others in CFE with whom he spoke, against his initial (and better) instincts.  This was without the need from them to give any direct instruction not to make a report.   Whilst Mr Taylor had a separate and independent function from front office he was dealing with staff who were more senior and influential than him in the company.  He would also be aware of the commercial and reputational ramifications of his decision.

956.        Therefore, it is understandable, though not excusable, that he might not have stood up for his point of view when questions were asked or counter information was provided.  This led to poor decision making. 

957.        The Tribunal comes to this conclusion when drawing reasonable inferences from the following:

i. the e-mail above;

ii. the partially completed draft SOCA disclosure reports;

iii. the absence of any SAR being submitted;

iv. CFE’s failure to call Mr Taylor to give evidence;

v. one proposal in the draft report to submit a SAR (consistent with the recommendation to employ enhanced due diligence) being an effective bar to CFE’s agreed strategy of continuing to trade with the relevant counterparties until it held enough monies to cover the potential VAT liability;

vi. the submission of a SAR effectively being an end of CFE’s trade in carbon credits; 

vii. the absence of disclosure of detailed records of conversations around the issue;

viii. the fact that later Mr Taylor committed to writing in the annual money laundering report for 2009 that CFE suspected that it was the victim of a VAT fraud.

 

958.        As above the conclusion is that Mr Taylor was persuaded by his conversations with others in CFE including Mr Rose and Mr Cooper not to submit a SAR.  

959.        As is set out above, it is likely that there was no direct instruction made to Mr Taylor but he felt aggregated pressure against his better instincts not to submit a report.  The lack of explanation for the decision not to submit the SAR strongly implies that Mr Taylor has no innocent explanation for his change of mind ie. that it was reasonably based on the objective indicators.  Rather the Tribunal infers that the true explanation for his change of mind would not reflect well upon Mr Taylor or those in CFE.   

960.        Further, the decision not to make a report should have been documented and there has been no explanation of why this did not occur.

961.        CFE had no meeting or engagement with the authorities (such as HMRC, let alone SOCA) to explain their concerns for three weeks after Mr Emanuel read the blog on 5 June 2009.  It only contacted HMRC to arrange any meeting on 19 June one week after this draft report.

962.        Instead the senior management at CFE sought to protect its commercial position and to avoid at all costs the conclusion that it should have known, namely that its trade in EUAs was connected to the fraudulent evasion of VAT by others including its suppliers. The lack of action over the SAR illustrates this effectively.

963.        By 15 June 2009 the issue as to Adduco’s VRN had still not been resolved.

AH Marketing and Distribution Ltd disputed deals

964.        Between 15 and 18 June 2009 CFE purchased 336,000 carbon credits from AHMD at a net cost of €4,240,210.00.  CFE did this between 15-18 June 2009 despite the decision to implement enhanced due diligence, after the draft Suspicious Event Report and despite AHMD not passing the the Glove test.  In answer to the question in the draft report ‘What if anything are we doing about GW Deals Ltd and AH marketing?’ CFE was doing nothing by way of further or enhanced due diligence but purchasing large amounts of carbon credits.

965.        CFE completed the deals despite the clearly advertised risk of fraud in the market, the multiple issues with other counterparties raising concerns, and without performing enhanced due diligence in relation to the two companies. CFE had not even verified GWD and AHMD’s VRNs with HMRC (as opposed to checking them on the Europa website).  

966.        The MLRO’s report for the year ending 2007 suggested that enhanced monitoring should be carried out on unregulated parties such as AHMD. That enhanced monitoring was never done on AHMD. Ms. Mills accepted that enhanced monitoring was for high-risk accounts.

967.        Mr Buchan accepted that when CFE became aware of a risk of fraud that would then be taken into account by the risk team and would change how it assessed risk. Mr Buchan accepted that once CFE knew of the risk of fraud it wanted to satisfy itself that the counterparty could have legitimately obtained what it was providing. CFE, however, did not carry out reasonable and proportionate checks to the risk involved (only standard customer due diligence) to satisfy itself that AHMD could have legitimately obtained what they were providing to CFE.

968.        CFE’s due diligence documentation in relation to AHMD was only standard Customer Due Diligence.  That showed little more than that AHMD existed, Mr Malhi had been on an emissions trading course, the SIC at Companies House was that of a hardware consultancy, the last accounts were those for a small company, and just 2 months before it contacted CFE it changed its director and company secretary.

969.        Despite being recently taken over, with little track record in trading carbon credits other than a 2-day course and previous research, AHMD had managed to get credits at a cheaper price than Cantor Fitzgerald could, despite its experience in the market and despite Mr Emanuel, the desk head, being an authority on the market.

Background to AH Marketing and Distribution Ltd – VRN 889 8806 33 – supplier to CFE

 

970.        AH Marketing and Distribution Ltd (“AHMD”) was incorporated on 7 August 2000 in the name AH Technology Ltd, failed to render any accounts to Companies House after those for the year ending 31 October 2007, and provided Companies House with the SIC code for “ hardware consultancy .” AHMD had little apparent financial worth. AHMD’s address registered with Companies House was 732 Greenford Road, Middx., UB6 8QR. On 30 March 2009 Mr Imran Malhi was appointed a director of AHMD, replacing Mr Amjad Hussain. AHMD supplied CFE with carbon credits that it had purchased from Pan 1 Ltd (“Pan 1”). Pan 1 purchased from Bilta (UK) Ltd (“Bilta”). Bilta is accepted to be a fraudulent defaulting trader.

971.        Amjad Hussain applied for AHMD (in the name of A H Technology Ltd) to be registered for VAT on 14 August 2006 declaring a main business activity of “IT consultancy” , an address of 123 Foxholes Rd., Rochdale, OL12 OEF and an estimated turnover in the next 12 months of £100,000.00.

972.        On 13 December 2006 AHMD notified HMRC that it wished to change its trade classification to wholesale and distribution. On 24 April 2009 Mr Malhi competed a variations form stating a change of main business activity to “ establishing to trade at European climate exchange in carbon emissions”.

973.        AHMD was registered for VAT with effect from 1 August 2006 and only declared sales on its 07/07 return.

974.        HMRC Officers later visited AHMD on 9 July 2009 at a serviced office address in Staines but Mr Malhi was said by an employee to be in Dubai. A Regulation 25 direction shortening AHMD’s VAT period was served.

975.        On 25 July 2009 HMRC Officers returned to AHMD.  Mr Malhi told the Officers that when he first began to trade he was advised by a Mr Nick Eagle at Carbon Capital who told him how to trade but could not explain why Carbon Capital did not deal directly with AHMD’s supplier Bilta.

976.        HMRC Officers returned to AHMD on 30 July 2009 and spoke with Mr Malhi who said that: he had purchased the business for £4,000.00, he had begun researching carbon credits 8 months ago and he was acting as a broker. Mr Malhi confirmed that he was aware of MTIC fraud and the Officer provided a detailed explanation of the fraud to him. Mr Malhi said that AHMD’s bank account was in Hong Kong because UK banks were not prepared to provide a service to him.

977.        AHMD was notified on 5 May 2010 that it had been deregistered for VAT because it failed to answer a series of letters from HMRC.

978.        Between 20 May and 18 June 2009 AHMD had made 17 sales of carbon credits to CFE totalling 829,000 units with a gross purchase value of €12.9 million. The details of the AHMD transactions were set out in Officer Ball’s witness statement.

979.        AHMD received the carbon credits that it sold to CFE from: Bilta (10 transactions) and Pan 1 (7 transactions) who in turn purchased them from Bilta. Bilta is agreed to be a fraudulent defaulting trader. Bilta mainly requested payment be made to its account at HSBC in Hong Kong, as did Pan 1. However, on one occasion, Bilta requested that Pan 1 pay monies to its supplier Jetivia SA’s account (a third-party payment). Bilta was assessed by HMRC in respect of the VAT for the transactions tracing to CFE through AHMD.

980.        AHMD had neither experience in nor repute for dealing in carbon credits, its ability to sell such volumes of them to CFE was commercially incredible and its lack of financial worth made it a poor candidate to enter into such transactions.

981.        CFE’s due diligence documentation in relation to AHMD was not enhanced due diligence.  CFE did little more than confirm the existence of AHMD and carry out basic AML checks.  CFE did not question how AHMD could supply such large volumes of carbon credits, at a price that CFE could not beat despite its experience in the market, when it had no net worth to speak of and had just been taken over.

982.        CFE did no more than verify AHMD’s VRN on 12 and 16 June 2009.  HMRC was not provided with evidence during the extended verification that AHMD had been KYC approved by CFE.

983.        CFE disclosed e-mail correspondence and records of calls with AHMD.  There are no discussions in the e-mails about the carbon credits market or AHMD’s background aside from Mr Malhi’s statements in his initial correspondence.  AHMD appeared willing to send carbon credits to CFE regardless of market conditions.

984.        None of the e-mails after 8 June 2009 show CFE as making enquiries with AHMD about their trading until 19 June 2009 (after the transactions in question were completed) when a meeting was arranged between Mr Lynch and Imran Malhi and 8 July 2009 when CFE sent revised KYC and supporting documentation requests to AHMD. After CFE had received the further documentation from AHMD it never traded with it again.  

985.        In the meantime, on 18 June 2009 Mr Emanuel sought permission to pay €1.2 million to AHMD without having received payment from Citibank for the relevant transaction. On 22 June 2009 Mr Emanuel informed Mr Rose that CFE had turned business away from AHMD.

986.        CFE has only disclosed the record of one telephone conversation between it and AHMD.

987.        Between 20 May – 18 June 2009 AHMD supplied CFE with 829,000 carbon credits at a net price of €11,306,810.00. Prior to 8 June 2009 the largest deal by AHMD was for 68,000 carbon credits at a net purchase price of €992,800.00.

988.        As Mr Buchan accepted, CFE should have been satisfying itself that the counterparty could have legitimately obtained what it was providing. CFE did nothing in relation to AHMD. It was apparent that AHMD could not reasonably have paid for these credits up front.  It was apparent that no reasonable commercial entity would have granted in excess of €1 million of credit to AHMD or provided these “on trust”.

989.        AHMD had failed the “Glove Test” applied by CFE’s risk team on 12 June 2009.

990.        CFE has provided no specific explanation other than fraud for these purchases from AHMD which is reasonable.  It has relied on its generic explanation (local consultants for local emitters) for why it believed that the transactions were legitimate.

991.        Once CFE knew of the risk of fraud in the market its conduct in continuing to deal with AHMD shows that it either knew, or should have known, that dealing with AHMD would be connected with the fraudulent evasion of VAT.  CFE pursued its “strategy” of trading with those that on its own case, at the very least it suspected prior to carrying out risk assessments and proper checks.

992.        CFE has been denied input tax claimed on these transactions and the Tribunal finds that the Appellant should have known these transactions between 15 and 18 June 2009 were connected to the fraudulent evasion of VAT. 

993.        No explanation has been provided as to why CFE entered these transactions knowing that it had failed its own initial screening. CFE did not obtain any additional information or enhanced due diligence on AHMD prior to these transactions other than looking at its website. By 15 June 2009 when this set of transactions occurred, CFE’s demonstrable suspicions of its counterparties had been heightened even further, as shown by the draft Suspicious Event Report.

994.        There is no reasonable explanation for these AHMD trades other than fraud.  The Tribunal is satisfied that CFE should have known by 15 June 2009 that there was no reasonable explanation for the trades other than fraud, it should have known these transactions were connected to fraud.

995.         CFE had recognised it was involved in high risk trading but failed to respond reasonably, proportionately or progressively to the threat of fraud the trading presented as is set out in detail above.  The Tribunal takes into account the failure to conduct enhanced due diligence by this stage because it would have revealed further negative indicators as to the nature of AHMD’s trade.  This is considered in light of all the material set out above. The factors include the collective knowledge of the organisation about all the traders and their VAT irregularities (VRNs, invoices, suspicious explanations), the draft report, SARs, the commercial profit motive, the Glove Test, CFE’s business model, its decision to trade on out of VAT liability, suspension of the Blue Next exchange and investigation into VAT fraud in France etc.

16 June 2009

996.        On 16 June 2009 CFE continued to trade with AHMD in two transactions.

997.        On 16 June 2009 Mr Craib of CFE e-mailed Mr Rose with a subject line: “You have a right to identity of emissions trading blogger (if UK based)”.

998.        AG Kakouris Ltd, accountants used by several of CFE’s suppliers, wrote a letter stating:

“1) Westis Ltd is wholly owned by Epicure Business Solutions Ltd.

2) Epicure Business Solutions Ltd as per the agreements in place can invoice on behalf of Westis Ltd.

3) Westis Ltd is entitled to use the Group Vat registration of the Group which currently Epicure Business Solutions Ltd is the responsible member.

4) Epicure Business Solutions Ltd VAT number is 915 2720 21.”

999.        At 18:37 Westis wrote to CFE saying:

“Please understand what’s going on.

We don’t have any problem by sending you all paperwork in our possessions and we don’t need to hide you anything.

Here’s the point.

Epicure just bought Westis one month ago, before that date, epicure didn’t had (sic) the necessity of having a vat group number has she was not owning companies. All applications had been done and we are waiting the certificate from custom…”

17 June 2009

1000.     On 17 June 2009 Mr Rose received an email from Westis forwarding an email from Kingsley Napley. CFE had not traded with Westis since 3 June 2009 because it had been identified as one of the counterparties who had provided deficient invoices in respect of prior trades. CFE was refusing to release payments for prior trades until Westis could provide evidence of valid VAT registration and corrected invoices.

1001.     The email stated that amounts of VAT owed to Westis had remained outstanding for two weeks. It stated that Westis was a subsidiary of Epicure Business Solutions Ltd, which was registered for VAT under registration number 915727021 and that an application was presently being processed for a group VAT registration number to include Westis. The email proposed that the two outstanding invoices should be paid without VAT, which would be invoiced separately once group VAT registration had been obtained. The email stated that, in the absence of payment by 10am the following morning, Kingsley Napley were instructed to take appropriate steps, including the service of a statutory demand as a prelude to winding up proceedings.

1002.     On 17 June 2009 at 07:17 Mr Emanuel e-mailed Mr Rose in relation to Westis’ assertions.  Mr Rose raised the issue with Messrs. Treanor and Cooper.

1003.     Mr Cooper’s evidence was that the threat of a statutory demand was, in his view, extremely aggressive and one they would have taken very seriously. Later on the same day an email was received from Mr Stork by the settlements team attaching invoices without VAT being charged on them.

1004.     On 17 June 2009 Mr Emanuel also circulated the first draft of a new KYC questionnaire to key stakeholders, including Mr Rose, for comment in advance of it being rolled out as part of the new controls and processes which were suggested to be put in place for CFE’s business in response to what they perceived as ‘rumours of fraud’.

1005.     Mr Rose passed on a further Bloomberg article to Mr Cooper in which an analyst from Barclays plc speculated whether the figures showing a marked increase in the total number of Spot trades for EUAs related to VAT fraud in France and stated that “it's impossible to know” .

1006.     Mr Craib e-mailed Mr Rose in relation to the article headed “ Fraud Risk Clouds Surge in Carbon Day Trading, Barclays ” saying:

“Just keeps things cloudy. No clarity.”

1007.     This email again gives an insight into the way of thinking of some of CFE’s management and employees – that they did not wish the high risk of fraud of which they were aware to be considered to be clear.  Such an approach justified in their mind their prevarication and prioritising of their profit margin and bonuses in the face of an obviously high risk.

1008.     Mr Sharratt issued a note of advice, which was concerned principally with three unnamed suppliers, referred to as “Supplier 1”, “Supplier 2” and “Supplier 3”. The advice was focussed on whether CO2e would be able to recover its input VAT on transactions which had already taken place with these three suppliers. Mr Sharratt also recommended to the group that they should contact HMRC and raise this issue with its Customer Relationship Manager (“CRM”) as soon as possible.

1009.     Mr Sharratt e-mailed Mr Treanor a finalised copy of his advice to CFE. As well as iterating the principle in Optigen the advice noted in relation to the spectre of VAT fraud:

“HMRC will use the questions set out in the guidance as a starting point to their enquiries, in particular those questions dealing with how the client relationship came into existence and what checks were carried out before setting them up as a client and/or before paying them large sums of money. I would therefore advise that before contacting HMRC we ensure that the facts are clear and we have the answers to the questions listed .” (emphasis added)

1010.     The strategy of avoiding any engagement with HMRC until CFE had prepared its account is here made explicit.  This was a defensive strategy to avoid risking its commercial position not a strategy to inform HMRC openly about all the information it had available to it.

18 June 2009 - Mr Dixon’s review of counterparties

1011.     On 18 June 2009 CFE continued to trade with AHMD in three transactions which HMRC have subsequently linked to tax losses. As noted above, CFE had not undertaken enhanced due diligence in relation to this company. An email from Susi Luard to Steve Adcock and Steven Treanor confirms that the VAT invoice for one of the trades (36,000 units) was checked by the tax team prior to payment.

 

1012.     On 18 June 2009 Mr Cooper had a telephone conversation with Mr Cukier of Kingsley Napley regarding Westis and this was followed by an email from him to Mr Cooper on the following day. The email stated that Alex Christofi - Westis' accountant and a VAT expert - would send a letter fully explaining the position together with a copy of the application for a group VAT registration made on behalf of Epicure.

1013.     The email concluded by again pushing for payment of the outstanding invoices (without VAT), stating there was no reason why they could not be settled immediately and that he would commence proceedings if payment was not made by close of business that day. However, Mr Cooper was not prepared to pay any amount to Westis until he had at least established whether they were validly VAT registered.

 

1014.     Mr Sharratt had a further conversation with Mr Treanor on 18 June 2009 concerning Axle Ltd. Mr Sharratt agreed that it was perfectly reasonable for CFE to withhold the VAT element on Axle Ltd's invoices until it had issued a valid VAT invoice.

 

1015.     Mr Sharratt also spoke with Mr Cooper on 18 June 2009 about Westis and the fact that Westis had provided a VAT number belonging to its parent company, Epicure. Mr Sharratt confirmed that Westis could not use another company's VAT registration number unless Westis and Epicure had formed a VAT group and obtained a new registration as a group, in which case both of their old VAT registration numbers would be cancelled. Mr Sharratt also confirmed to Mr Cooper that it would be reasonable for CFE to withhold the VAT element on recent unpaid invoices, since it would otherwise be at risk of being substantially out of pocket.

 

1016.     On 18 June 2009 Messrs Rose, Emanuel, and Morris were supposed to meet Mr Ayres of Ayres t/a Mettec. There is no account of what occurred at this meeting provided by CFE’s witnesses.

1017.     Mr Emanuel tried to drum up business from ADE on 18 June 2009. Mr Emanuel also sought permission to pay €1.2 million to AHMD without having received payment from Citibank for the relevant transaction.

1018.     Mr Dixon provided a further credit review of CFE’s counterparties. The review appears to have been substantially based on what those counterparties had said on their websites. The only deals subject to this appeal that were carried out after 18 June 2009 were with Westis (on 28 and 29 July 2009). This review noted that no financial information had been obtained on Westis and that further information needed to be obtained on Westis’ rationale for carbon trading.

1019.     At 14:52 Mr Rose e-mailed Mr Buchan saying:

“Hi Wayne.

I would like your group to do credit checks on the attached list of CO2e clients [which contained all of the impugned suppliers]. Until I hear back from you on this, I will not be approving trading for these clients (with a few exceptions).

…”

1020.     Mr Rose has not explained why he waited until 18 June 2009 to request credit checks. The inference is that, again, CFE did not want to know full answers to the questions it asked in case those answers affixed it with knowledge that would see it deprived of its VAT reclaim.   There is no good reason why this document should not have been prepared by 8 June or 12 June (the same time as the Suspicious Event Report) at the very latest.

1021.     In the evening of 18 June 2009 Mr Rose emailed Mr Emanuel requesting a meeting with him to discuss strategy going forward. In the same email Mr Rose instructed that Mr Emanuel should not execute any further retail matched principal EUA transactions until further notice. 

1022.     At 19:36 Mr Rose e-mailed Mr Emanuel stating:

“I would like to meet with you in the morning to discuss strategy going forward. In the interim, please do not execute any matched principal EUA transactions (except in the unlikely case that we receive orders for any of the 3 clients with exposures – you may transact that business).”

1023.     Thus, by 18 June 2009 some progress was being attempted to be made by CFE on the formulation of new controls and processes to be used for matched principal carbon credit trading, again with the instruction to suspend trade except for those to whom CFE was exposed. Meanwhile, issues with prior VAT invoices and paperwork had been settled in the case of a large number of counterparties.

1024.     On 18 June 2009 Mr Rose began to give further consideration to the future of the business. He requested copies of the documentation on a number of counterparties from the compliance team. Mr Rose also instructed the Risk team to commence a review of the financial position of the counterparties.

1025.     At 22:34 Mr Buchan replied to Mr Rose saying:

“Laurence,

My group did a simplified search of public data using Companies House and web searches of the 23 accounts that had recent activity on the retail trade blotter.

The preliminary assessment is not encouraging . The financial statements posted on Companies House are largely from 2007 and admittedly stale and could have materially changed in the last 18 months given the growth in the carbon market.

The summary from the attached worksheets is as follows: Negative Equity

4

Under £15K Equity

5

£500K-1Mil. Equity

1

Sub of Large Co.

1

Established Co., Not on Companies House

5

Dormant Company

1

New Companies, no financials (started 008-09)

5

Total

23 clients

Based upon this data, the brokers need to get us recent financials (2008 or 2009) to have me feel comfortable we are not dealing with insolvent, or nominee companies . We can do the same public search for the other accounts on the list you provided which have not traded recently. However, I don’t think it would be productive. I suggest that the brokers go out to their clients and proactively obtain financials.”

[ Emphasis added ]

 

1026.     Mr Buchan’s team’s document (drafted by Mr Dixon) noted that Westis was a new company with no known assets despite which CFE had conducted £ millions of trade, that no financials had been obtained and that further information needed to be obtained as to its rationale for carbon trading.

1027.     The document also noted that:

i. Axle, Duntai and ADE were technically insolvent despite which CFE had carried out maximum trades with each of £476,920, £4.8 million and £5.3 million;

ii. Adduco had net assets of £100 against a maximum trade carried out by CFE of more than £3 million and an average trade of more than £1 million and its last accounts were for a dormant company;

iii. BMC had net assets of £1,755 against a maximum trade carried out by CFE of more than £12.6 million and an average trade of more than £2.6 million;

iv. AHMD had net assets of £3,621 against a maximum trade carried out by CFE of £1.1 million and an average trade of some £725,000;

v. GWD had net assets of £100 against a maximum trade carried out by CFE of £1.9 million and an average trade of nearly £900,000 and was dormant; and

vi. CD, Aristo, NCL, Stratex and Westis were new companies with no known assets despite which CFE had conducted £ millions of trade with them.

 

1028.     Mr Dixon’s report does nothing but confirm the entirely negative picture built up as to the lack of bona fides or financial sustainability of the counterparties with which CFE had been trading.  There is no good reason why this report should not have been prepared before (say, by 12 June 2009 at the latest) except that it would have committed to paper what CFE already should have known.

1029.     Mr Buchan notes in evidence that Mr Dixon approved a number of counterparties, including AH Marketing, notwithstanding the low net worth of the counterparties. Mr Buchan’s recollection is that the low net worth counterparties were still understood at that time to be akin to brokers and aggregators who sold excess allowances provided as payment for consultancy services or on trust (i.e. to the counterparty as agent) by emitters.

1030.     This understanding is reflected by entries on the spreadsheet, for example the description of GW Deals as a “provider of independent analysis and consulting services for European and global power, gas and carbon markets”

1031.     However, as the Tribunal finds, there was no objective evidence which supported this understanding – it was simply understood on the say so of Mr Emanuel.  There was no attempt to investigate the explanation or confirm it with the counterparties in writing, let alone seek independent support for the explanation.

1032.     For parties selling as agent, which Mr Buchan considered was perhaps the most likely position of these counterparties, he considered their financial position was not material and had no bearing on their ability to consummate a transaction. Mr Buchan also did not rule out the possibility that credit might have been extended to the counterparty. 

1033.     However, Mr Buchan did not arrange for CFE to conduct proportionate or reasonable investigations – by this time it should have been obvious to CFE that they were not simply looking at credit risk in relation to ability to consummate a transaction but that there was an AML focus – to investigate the bona fides of the counterparties.

1034.     Mr Buchan stated his understanding as to the nature of the counterparties’ business was consistent with the names of several of them, their financial positions, and the fact that they had, and had been able to deliver, the carbon credits.  It was also consistent with CO2e’s dealings with them: see the email exchange on 9 June 2009 between Mr Emanuel and ADE which refers to the latter’s requirement to be paid “in order to be able to pay my clients”. 

1035.     Furthermore, Mr Buchan stated they each had perfect track records of transaction completion, i.e. when a transaction was promised the credits were delivered and there was the onward counterparty sale and the completion of the matched principal trade.  He stated that this was itself positive indicator, particularly bearing in mind that a person can build up a positive credit profile by establishing a track record of successful transactions.

1036.     However , this evidence was not to the point – this type of credit review was not the reasonable or proportionate focus – it was nothing like enhanced due diligence and only narrowly focused on CFE’s commercial objectives to complete deals, it did not counter the risk of fraud.

1037.     Furthermore, Mr Buchan accepted that in light of the risk of fraud, it was determined that CO2e should be more critical in their assessment of the counterparties and that it was prudent to establish a positive affirmation and gather more data.

1038.     Mr Buchan, on behalf of the Appellant, suggested it was the responsibility of the risk function to be fair and balanced and not jump to conclusions. The risk of fraud is not a certainty of fraud and there were lots of rationales for what CO2e was seeing that had nothing to do with fraud. He stated it had to be fair and balanced in its analysis and not just “see shadows everywhere where they may not exist” ; that would not have been prudent.  He stated it would also have been unfair and unbalanced to make assumptions about fraud, which is a very serious matter, without having undertaken proper analysis. Assuming that a counterparty has been fraudulent based upon an anonymous blog would not have been appropriate. Mr Buchan noted that there have been many instances where traders and people with various vested interests have written things that have no basis in fact because it may help them in some way that cannot be fully understood.

1039.     Mr Buchan suggested that at this stage there was an ongoing investigation involving enhanced due diligence. It was important for CO2e to be balanced in its approach - terminating trading relationships was a serious matter which would have had repercussions on people’s careers and CO2e’s revenue. Moreover, to do so on the basis of an unproven allegation of fraud could have had further ramifications for CO2e.

1040.     On 18 June 2009, following a request by Mr Rose, Mr Buchan provided a preliminary analysis of the financial position for the relevant CO2e counterparties, which he considered was not encouraging. Mr Buchan noted that many of the financials were out of date and suggested he applied a particularly cautious approach given the sensitivities regarding the rumours of potential fraud in the market. He stated he recommended that more recent financials be obtained in order to ensure that CO2e was not dealing with insolvent or nominee companies (meaning a front for another kind of business). He stated he was clearly not happy to base conclusions on old financial statements which could have materially changed over the last 18 months given the growth in the carbon market.

1041.     Mr Buchan stated that even where low net worth counterparties were identified, based on the more recent financial information, this may not necessarily have involved fraud and led to rejecting the counterparty provided there was evidence to support the explanation that the counterparties were acting effectively as brokers or aggregators.

1042.     Mr Buchan’s evidence was honestly given and is accepted as being a fair recollection of his beliefs and actions at the time.  However, those belief and actions are not accepted as being reasonable.  His view was narrowly focused on credit risk rather than AML / tax risk and divorced from the large range of negative indicators of which CFE was aware from its various internal departments which obviously indicated widespread VAT fraud.  The Tribunal provides more reasons within the discussion section below why it does not accept that Mr Buchan’s approach or evidence was reasonable.

19 June 2009

 

1043.     On 19 June 2009 Mr Emanuel e-mailed Mr Craib in relation to the blog saying “How do you go about revealing their identity?” and there was a subsequent discussion about the removal of the blog. 

1044.     On 19 June 2009 Mr Rose also engaged in an email exchange regarding one of the rationales for the trade put forward by Citibank. In the same exchange Mr Craib informed Mr Rose that the author of the emissions trading blog referred to above had removed three recent blog entries referencing VAT fraud in the emissions market.

1045.     Importantly, on 19 June 2009, after the final deals with AHMD were completed, Mr Cooper contacted HMRC and requested a meeting to discuss issues that would impact upon the period 06/09 VAT return. This was the meeting that took place on 25 June 2009.

1046.     At 09:11 Mr Emanuel sent an e-mail to Messrs Cooper and Rose, saying that he had spoken with unnamed individuals at Citibank who said that they had come up with four legitimate explanations for the swathe of recent companies that had approached them to trade Spot emission allowances and had concluded that there was nothing to suggest that this was driven by illegitimate activity.

1047.     Citibank had been investigating the possible motivation behind the increase in counterparties that had approached them to trade carbon credits. They put forward five possible reasons for the activity, only one of which was illegitimate.

1048.     Mr Rose considered that this was helpful information for the purpose of considering strategy for CO2e's approach to matched principal trading going forward.

1049.     In contrast, a month later at a meeting of the UK Emissions Trading Group on 24 July 2009, Garth Edward, Head of Emissions Trading at Citibank was minuted as commenting that most traders would say that the spot trading market was driven by VAT fraud – the issue was already in play in the market and affecting companies like his.

1050.     At 09:52 Mr Emanuel forwarded the Swift confirmation for the previous day’s AHMD deals to Mr Rose. Mr Rose replied saying: “ Anything happening? Aducco, stratex, numberland? Wholesale? ” Mr Emanuel replied saying:

AH wanted to send us more to sell

We told them that our systems were down for maintenance and couldn’t do anything more today

Aducco and Stratex same story… you never called and made a note of the Israeli number

Northumberland said that they may have something to do on Monday.”  

 

1051.     There is no record supporting Mr Emanuel’s assertion that Adduco had tried to trade with CFE after June 2009 and that CFE had to turn their business away.

20-23 June 2009

 

1052.     On 20 June 2009 Mr Emanuel e-mailed Mr Rose requesting permission to buy a further 57,000 carbon credits from AHMD.  Mr Rose replied saying:

I am not comfortable with them yet.

Were you able to get them to send over updated financials?

We need to put them through a proper credit check to ensure we are not dealing with insolvent or nominee companies.

Also, why are they only selling through us?”

 

1053.     Mr Rose says in his witness statement:

…Like any good broker he [James Emanuel] was keen to do deals but in light of the rumours within the market I was not willing to sign off on further trading until more information was obtained from AH Marketing & Distribution. …”

 

1054.     It is therefore unclear why between 15 – 18 June 2009 CFE purchased 336,000 carbon credits from AHMD, apparently with Mr Rose’s authorisation.  Nothing had changed in the period between 18 and 20 June 2009, or since 15 June 2009 in fact.  AHMD remained obviously suspect and Mr Rose’s statement is a tacit admission he was aware of this. 

1055.     The fact is that Mr Rose was both deliberately kept out of the loop by Mr Emanuel and his traders in relation to the transactions and avoided intervening in the trade unless specifically requested to authorise it or it was so obvious that he had no choice but to intervene.

1056.     Between 20 June 2009 and 22 June 2009 Mr Rose and Mr Emanuel engaged in further exchanges regarding future trading and Mr Emanuel's desire to deal with AH Marketing. Mr Emanuel was keen to do deals but in light of the rumours within the market Mr Rose was not willing to sign off on further trading until more information was obtained from AH Marketing. Mr Emanuel however was holding off requesting additional information until the new procedures for matched principal trading had been finalised; his explanation is that he did not want to ask AH Marketing for information piecemeal.  The reality is that he was not deterred from trading despite everything that had gone before.

1057.     After 18 June 2009 CFE did not purchase any carbon credits until July 2009. CFE’s carbon credit trading business virtually disappeared until it purchased a further 773,000 carbon credits from Westis on 28-29 July 2009.

1058.     On 22 June 2009 there was a meeting of a CFE Risk Policy Committee. A note shows the following discussion item:

“CO2e Business

Retail Business – Risk has begun a review of the CO2e retail client base (i.e. client pre-delivers or pre-pays). Initial review of the recently active clients was not encouraging . The financial statements posted on Companies House are from 2007 and largely reflect recently formed or nominally capitalized companies. Based on this review, any client wishing to trade will be required to submit recent financial statements to be reviewed and approved by risk and L. Rose prior to trading.”

 

[ emphasis added ]

1059.     On 22 June 2009 Mr Cooper received a letter dated 22 June 2009, which was addressed to Kingsley Napley from AG Kakouris Limited, the accountants acting for Westis. AG Kakouris are a firm of certified chartered accountants who are based in Winchmore Hill in North London. 

1060.     AG Kakouris wrote stating that a group registration application had been made for Epicure and Westis.   AG Kakouris stated that there should be no reason why the application for group registration to enable Westis to be VAT registered should be rejected. They also acknowledged that their clients had applied for registration in the knowledge that there may be penalties for late notification and further surcharges for late submission of VAT returns. The letter also asserted that in their view, there should be no reason why CFE was not now able to settle invoices rendered to it by Westis on which no VAT had been claimed, pending group registration.

1061.     Mr Cooper, however, was not prepared to release any sums to Westis until he had received more comfort that there would be no risk to the ability to recover input VAT having made the payment.

1062.     On 23 June 2009 at 08:26 Mr Emanuel had e-mailed Mr Rose in relation to attempts to trace the Israeli numbers for Adduco and Stratex, saying:

I wonder if the private investigators or anyone that we know in Israel is able to trace the owners of these numbers.

It could be that they people aren’t as smart as they thought they were…perhaps it didn’t occur to them that if they didn’t answer the London forwarding number that it would divert to their Israeli voicemail.

It has to be worth a try.”

 

1063.     Adduco and Stratex’s disappearance troubled Mr Emanuel sufficiently to write the above e-mail, private investigators having become involved in attempt to trace the owners.  Some of CFE’s suppliers, whom they already had grounds to suspect were fraudulent, became uncontactable.  The seriousness of the problems with fraud in the trade were now obvious.  Yet despite this CFE was apparently content to trade with Westis in July.

24 June 2009

1064.     On 24 June 2009, Mr Cooper sent an email to Mr Cukier rejecting a proposal made by Kingsley Napley to pay over the outstanding amounts owed to Westis, less an amount equal to 50% of the VAT amount previously paid to them.

1065.     Mr Cooper did, however, agree to pay the balance CFE was holding which exceeded the amount of VAT chargeable on all previous invoices received from Westis. This payment was made on 25 June 2009. But Mr Cooper refused to pay any further amounts until Westis had obtained a valid VAT registration number for the period in question.

1066.     Mr Cukier replied to this email on 24 June 2009, stating that there was no question of dishonesty on the part of his client and that it was an administrative error. He stated that his instructions were now to serve a statutory demand on CFE.

1067.     The statutory demand was received by Mr Cooper on 24 June 2009. The statutory demand claimed payment from CFE of €3,989,280, which was the amount outstanding on the two unpaid invoices, exclusive of any VAT.

25 June 2009 meeting with HMRC

1068.     On 19 June 2009 Mr Cooper had arranged a meeting with HMRC to take place on 25 June 2009.  On 25 June 2009 Mr Cooper of CFE, Mr Sadler and Mr Sharratt of Smith & Williamson (CFE’s advisors) met HMRC Officers Marian Drakes and Ian Edgson (BGC/Cantor Fitzgerald’s customer relationship manager or ‘CRM’).

1069.     Mr Cooper records that, in light of the large input VAT repayment claim that the Appellant would be making in its 06/09 VAT return, it wished to be upfront with HMRC about the issues that the group had experienced with VAT invoicing in respect of 12 of CFE's counterparties.

1070.     He also records that the group discussed with HMRC at the meeting (1) the information that it had obtained through its enquires into the 12 counterparties; (2) the measures that it had taken to address these issues; and (3) the state of the group’s understanding as regards the counterparties at that time.

1071.     Mr Sharratt took a handwritten note (which was transcribed). HMRC also produced a note after the meeting.

1072.     The HMRC note of the meeting states (IE being Ian Edgson):

“The business reviewed some of their suppliers for carbon emissions trading they invited HMRC in as they wanted to bring some invoices to the attention of HMRC as the next return was due.

They noticed an upward spike in their trends of their emission trading as a result they reviewed some of their suppliers and compiled a list of 12 companies.

They noticed that these businesses were independently run but had poor controls with regards to running a business. Eg vat not translated into sterling. The last 3 businesses on the list were highlighted – Westis Ltd/Aristor Partners and Axle. To regulate the VAT position Cantors withheld some of the Vat in respect of some of these companies.

IE explained the process of MTIC fraud to the business.

- Vat registration numbers are needed for the 12 companies

- A sample of invoices should be provided

- Need to consider tax point issues for the last 3 businesses

- Registration.

 

Mark Cooper agreed to keep HMRC updated. …”

 

1073.     Martin Sharratt’s evidence in relation to the meeting was:

“…Mark [Cooper] highlighted the suspension of the BlueNext Exchange and the rumours of MTIC fraud in the market. He also explained the actions which CantorCO2e had taken. In particular this had included revisiting some of the invoices received from their counterparties and the anti-money laundering (AML) due diligence which had been undertaken. As I recall, Mark Cooper provided a clear message to HMRC that he wished to draw their attention to the problem and alert them to the possible risks in this market.”

 

1074.     According to Mr Sharratt, whose statement was read as agreed:

(1) The meeting with HMRC lasted for approximately 45 minutes.

(2) Mr Cooper opened the meeting by explaining that CFE wished to share with HMRC its concerns at certain recent developments. He explained the business of CFE as a broker in EUAs and noted that CFE had seen an increased volume in trading in these products, which, unlike most of the group’s business, were standard rated for VAT purposes.

(3) Mr Cooper also highlighted the suspension of the BlueNext Exchange and the rumours of MTIC fraud in the market and also explained the actions which the group had taken. In particular, this had included revisiting some of the invoices received from CFE’s counterparties and the AML due diligence which had been undertaken.

(4) Mr Cooper provided a clear message to HMRC that he wished to draw their attention to the problem and alert them to the possible risks in this market. Mr Sharratt recalls clearly that Mr Edgson indicated that this was the first time he had heard of the problem and that he expressed his gratitude to those on the CO2e side for bringing it to the attention of HMRC.

(5) Mr Cooper explained that a list of 12 “problematic” counterparties (i.e. those where VAT concerns had been raised) had been compiled by CFE. The list was passed to Mr Edgson and Ms Drakes at the meeting.

(6) The parties then discussed the 12 clients who appeared on the list. This included ADE and Mettec, who had appeared to have corrected some errors in their earlier invoices. The parties discussed Northumberland Consultants, Stratex and Adduco, and it was noted that the transactions carried out with these counterparties appeared to have been valid, i.e. there was clear evidence that the transactions had genuinely taken place. The parties then discussed a further group of three counterparties, Westis, Aristo and Axle. These counterparties were the three in respect of whom CO2e was withholding amounts of VAT, as they had not yet provided evidence of a valid VAT registration.

(7) Mr Edgson made some general comments about HMRC's policy with regard to allowing input VAT deduction and general guidance about VAT invoicing requirements. This is also consistent with Mr Cooper’s evidence about the meeting.

1075.     HMRC asserted that the Appellant withheld information at this meeting as to particular counterparties or its proposed actions.  

1076.     It was submitted on behalf of the Appellant that there was no evidence that the Appellant withheld information from HMRC at the June 2009 meeting. Two points were made on behalf of the Appellant. Firstly, Officer Ball who made these assertions was not at that meeting. Mr Cooper and Mr Sharratt who were at that meeting gave evidence of what took place. Secondly, the meeting notes demonstrate albeit in brief terms, what was discussed, and it is plain from those notes that all relevant counterparties and all relevant actions were disclosed.

1077.     The Appellant relies on the following evidence in support of its case:

(1) HMRC’s note of the meeting records the Appellant as having “noticed that these businesses [presumably a reference to the 12 relevant counterparties] were independently run but had poor controls with regard to running a business”.

(a) HMRC now refer to correspondence between Mr Emanuel and ADE on 9 June 2009 in which he asks ADE whether it was “affiliated” with any other companies dealing with CFE, based on factors that that had been noticed, such as similarities in the invoicing format used by a number of different counterparties.

(b) Mr Cooper stated in his second witness statement that the group’s understanding at the time was that the similarities in the invoices were likely to be the result of these companies sharing office space and infrastructure, but that they were nonetheless independent operators (i.e. not in common ownership or otherwise formally affiliated).

(c) Accordingly, the comment recorded in the meeting note was an accurate statement of the group’s understanding of these companies at the time of the meeting.

(2) As regards Northumberland Consulting Limited:

(a) HMRC allege that CFE did not inform them at the 25 June meeting that “it had decided not to make enquiries of the validity of the details of Northumberland Consulting Ltd's VAT registration to avoid being “on notice” of any difficulties arising from the answer” (as alleged in Officer Ball’s second witness statement). For the reasons outlined above the Appellant submitted that this was not an accurate characterisation of CFE’s response.

(b) Further, Mr Sharratt's note of the 25 June meeting shows that Northumberland Consultants ( “NCL” ) was in fact discussed with HMRC during the course of the 25 June meeting and the note groups Northumberland Consultants with the counterparties Adduco and Stratex, being the counterparties in respect of whose VAT registrations CO2e had identified issues: this is apparent from the handwritten note and a transcribed version.

(c) This is also supported by the evidence of Mr Sharratt.

(3) HMRC also alleges that the group did not disclose at the 25 June meeting that it intended to carry out further trades with the counterparties in respect of which CO2e had a net exposure. Mr Cooper cannot recall whether this was mentioned, but in any event, given the effect and intent of the strategy CFE deployed, namely to avoid VAT loss in the transactions, and thus VAT loss to HMRC, it was not a particularly material point.

(4) As regards Westis, HMRC allege that CO2e did not disclose its concerns or what it knew about Westis at the 25 June meeting.

(a) First, HMRC do not particularise what they say was omitted.

(b) Secondly, Mr Sharratt's meeting note (see the handwritten note and the transcribed version) shows that Westis was discussed. Whilst Mr Cooper cannot recall exactly what was discussed, he is confident that the group would have been upfront with HMRC regarding the state of its knowledge in respect of Westis.

(c) Thirdly, in the disclosure provided by HMRC was an email dated 6 December 2012 from Officer Edgson, who was present at the meeting, to various of his HMRC colleagues, including Officer Ball. An earlier draft of the decision letter issued by Officer Ball on 6 December 2012 asserted “Nor is there any evidence that CO2e queried this anomaly [namely that an early Westis invoice contained Epicure’s VRN] or investigated it further” .  Officer Edgson said of this:

‘I am not sure whether it is strictly accurate to say that “…there is no evidence that CO2e queried this anomaly or investigated it further”.’

‘I visited Cantor Fitzgerald’s office on 25 June 2009 at the meeting, Mark Cooper explained that an internal VAT review exercise had been carried out, prompted by news that the Blue Net [sic] trading exchange in France had been suspended on 4 June 2009 as a reaction to unusual patterns of CO2 emission trading. He showed me a list of 12 suppliers which he said had warranted a more detailed review based on the quality of their invoicing paperwork. One of these was Westis. He said that Cantor’s [sic] engaged with the 12 businesses to help them regularise their invoices, which he said was necessary because some of their invoices lacked the necessary information required on tax invoices. This included in some cases not displaying VAT registration numbers and/or not showing the VAT amounts in sterling. He said that Cantor’s had decided to withhold VAT payments from Westis as a precaution until they had obtained satisfactory VAT invoices. Westis did subsequently obtain its own VAT registration number at the end of June 2009.’

‘So, there was some activity to get a valid VAT registration for Westis at the end of June 2009, which infers that CO2e were querying an anomaly and investigating it further (albeit after the event). Also, by then HMRC did have some awareness that there had been a problem with (at least some of) Westis’ invoices.’

1078.     Officer Rod Stone of HMRC responded very shortly after that email was sent to say that he had discussed the point with Officer Ball and that they were in agreement that the sentence which Officer Edgson had highlighted should be removed.

1079.     Further, the Appellant relied on Mr Cooper’s evidence that the Cantor group valued its relationship with HMRC, and its practice was and is to deal with them openly and honestly.

1080.     The Tribunal does not accept the Appellant’s characterisation of the meeting on 25 June 2009 for the reasons submitted by HMRC.  While Mr Cooper was honest with the Tribunal, his evidence was not reasonable and the picture presented on behalf of the Appellant was one-sided.

1081.      In evidence Mr Cooper accepted that as at 5 June 2009 there were several companies that CFE had real concerns about. Mr Cooper accepted that Westis appeared to have told a number of lies to CFE in that it had: provided a VRN that it claimed to be proper to it when it belonged to Epicure; then provided Epicure invoices showing that the supplies from Westis were made by Epicure; then claimed that there was a group VAT registration in existence and that Epicure’s VRN was a group registration; and then asserted that a group VAT registration application was being made when one was not.

1082.     Mr Cooper’s evidence was that he did not think that any of the senior team were aware that Mr Emanuel had engaged in the above series of correspondence with Westis and that Mr Emanuel did not inform him of the chain of events in relation to Westis. He said that the directors’ knowledge was different to that of Mr Emanuel. Mr Cooper further said that ADE issuing invoices for Westis trades and subsequent denial of any affiliation to Westis was not brought to his attention at the time by Mr Emanuel.

1083.     Mr Cooper accepted that HMRC had not been provided with the full account of what Westis had been up to prior to registering it for VAT by reference to what Mr Emanuel knew. Mr Cooper did not believe that HMRC had been provided with the four sets of Westis invoices after the meeting of 25 June 2009.

1084.     These concessions stand in contrast to what was said in the Appellant’s submissions when it was said that there was no evidence of the very things that were conceded by Mr Cooper.    The witness, Mr Cooper, who was to give the evidence that HMRC had been provided all relevant information on behalf of CFE, failed to do just that. In fact, the concessions support the allegation that Officer Ball is said to have wrongly made.

1085.      HMRC alleged in relation to this meeting that those on the Cantor side withheld material information from them.

1086.     The Tribunal accepts that CFE did not disclose relevant material to HMRC.  This was not necessarily part of a deliberately misleading strategy on the part of Mr Cooper.  Much of that information he himself was not aware of and the meeting was short.  Nonetheless, the Tribunal does accept HMRC’s submission that the focus on the part of CFE and Mr Cooper was not to primarily to assist HMRC in detecting fraud in the market but to ensure that their VAT returns would be accepted by HMRC.  Therefore, the material Mr Cooper chose to select or highlight was the material that would naturally support his client in this aim.

1087.     Following the meeting, Mr Cooper emailed Mr Edgson to confirm that he had spoken to Westis' accountant (Alex Christofi) and inform him that Mr Christofi was going to call him the following morning to set out the current state of affairs for his client.

1088.     Finally, on 25 June 2009 Mr Quentin Bradshaw, part of the VAT and International Excise Team in HM Treasury, invited Mr Sharratt to a “stakeholder’s meeting” to be held on 30 June 2009 to discuss the VAT treatment of emissions allowance trading following the changes made to the same by the French government in response to concern about VAT fraud in the market. Mr Sharratt attended that meeting (see below). It is material to note that Mr Bradshaw ended his invitation by saying “Rest assured we have no plans to announce sudden changes to the current system operating in the UK!” .

1089.     It is fair to observe that HMRC and the Treasury were slower than they might have been to act on the apparent risk of VAT fraud in the carbon credit trade as far as it affected the UK.  They would have been assisted if the likes of CFE had given them full and open disclosure as to the extent of their problems with the trade.

26-29 June 2009

 

1090.     On 26 June 2009 Mr Rose circulated within CFE draft replacement KYC and account opening process documents for comment.

1091.     The response from Mr Lynch (one of CFE’s traders) was (LR being Laurence Rose):

I can see why LR etc. want to be vigilant against unsavoury customers.

However this seems over the top, we will not have any customers if bona fide clients are asked to jump through this many hoops, why would they bother when other brokerage houses and banks are offering a similar service and only asking them for documents to pass the KYC and AML checks.

We should be doing KYC and AML checks as were are required to by law – Not putting it on ourselves to investigate farther than is reasonable to do so.

I was talking to Barclays yesterday – they are still trading direct with these companies as the have passed their KYC checks and AML checks.

We are not the Knights of the carbon market – it is not our job to police it.

I agree we should be vigilant – have a compliance team who carry out KYC and AML checks. Have a VAT department that knows what a VAT invoice should look like. This New Account Process looks to me like it has the propensity to encourage the market to shy away from Cantor CO2e and hand the bona fide lucrative sport market Trade elsewhere.”

 

1092.     Mr Emanuel agreed with Mr Bush, saying to Mr Rose:

“…Either we want this lucrative business and find a way to make it work while ensuring that our business is legally and economically secure, or else we don’t want it. This is a decision that I feel you now need to make.

 

1093.     The brokers on the EU Carbon Desk raised concerns about the proposed new procedures. In particular, they felt they did not strike a good balance between commercial sense and the exercise of caution.    Moreover, and as an aside, the brokers’ natural inclination to trade and do business is not a surprising one: that is why institutions like Cantor separate out their risk and compliance functions from their trading function.

1094.     Nevertheless, these concerns demonstrate what had been evident throughout June – that the traders’ priority was to keep trading to support CFE’s profit margins and their personal bonuses.  The traders did not support reasonable investigations and proportionate procedures made into counterparties who had demonstrated themselves to be unreliable and operating in a high risk market.  This tension between trade and compliance departments was never finally resolved because Mr Rose never made the reasonable decision that compliance should take priority.  The fact that Mr Rose was torn is obvious from his prevarication.

1095.     The Appellant submits two things: (1) that the due diligence hitherto carried out by CO2e (namely AML and KYC checks) was in line with market standards; and (2) that the new procedures went above and beyond market standard: see the email from Mr Lynch of 26 June 2009, which evidences that Barclays Capital operated the same checks that CO2e had and a concern that clients in the market would go to Cantor’s competitors to do business in light of the more robust checks.

1096.      The Tribunal does not accept these submissions for all the reasons set out above.  Further, it is not the job of the Tribunal to make any comparative analysis – the standard of reasonable and proportionate due diligence is not to be judged as a relative standard to a company’s competitors.  Reasonable and proportionate due diligence is to be judged in relation to the risk factors that are or should be apparent to a company in its trade based upon the market generally and the specific counterparty involved.

29 June 2009

1097.     On 29 June 2009 Westis’ accountant faxed an application for VAT registration to HMRC.

1098.     On 29 June 2009 Officer Drakes of HMRC emailed Mr Cooper to update him with regards to the VAT registration status for Westis. She stated that Alex Christofi had faxed her a copy of the application that afternoon and that it had been forwarded on to the registration team. Officer Drakes also asked for confirmation as to when Mr Cooper would send the VAT registration numbers for the other companies and the sample invoices which had been discussed on 25 June 2009.

1099.     Mr Cooper replied the same day to say that they would be sent to her shortly and Mr Cooper believes that they were sent.

30 June 2009 - meeting at the Treasury

 

1100.     On 30 June 2009 Mr Sharratt and Kamlesh Chauhan (from the Appellant’s advisors Smith & Williamson) attended a Carbon Credit Stakeholders meeting hosted by HM Treasury.

1101.     At that meeting attendees were alerted to: HMRC’s awareness of the potential for fraud using carbon credits, the French zero-rating of carbon credits, the risk of unusual trading patterns, offers of trades in credits which looked too good to be true and large movements or bundles of credits being made available. Mr Sharratt states that he provided an update to Mr Treanor afterwards.

1102.     Neville Trout at HM Treasury highlighted at the meeting the suspension of the BlueNext Exchange and the steps the French Government had taken to head off a significant threat of VAT fraud involving carbon credits. Mr Trout noted that the UK was not in the same position, but most of the meeting was concerned with policy options as to how best to deal with the risk of VAT fraud in this market, should it emerge.

1103.     Mr Sharratt spoke to Mr Trout at the end of the meeting and mentioned to him that he had recently attended a client meeting with their customer relationship manager (CRM) to discuss concerns about VAT fraud in the carbon credit market. Mr Trout confirmed that CRMs had not yet been briefed on this issue.

1104.     This meeting thus suggests that the view of HM Treasury as at 30 June 2009 was that evidence of VAT fraud in the UK market had not been confirmed; and this was confirmed by the follow-up email from Mr Trout on 3 July 2009, which stated:

“At the meeting, I outlined what actions we understood the French had taken to head off a significant fraud threat involving carbon credits. The UK is not in the same position but as part of our planning we were considering policy options should a problem emerge. The early identification of fraud was important in an effective response and I accordingly invited you to consider sharing with HM Revenue and Customs (HMRC) what you might consider to be indications of changes in trade in carbon credits that might not be driven by market forces, along with any information on unusual trading patterns or out of the ordinary activity.”

 

1105.     Mr Trout sent a further email to attendees on 15 July 2009 asking for further feedback from the attendees of the meeting on the proposed changes to the VAT system in order to combat possible MTIC fraud.

CFE’s Money Laundering Report for 2009

1106.     CFE’s Money Laundering Reporting Officer’s Report for the year 2009 said at [6.4]:

“In June 2009, following press commentary on carousel fraud in the spot emissions market, CFE suspected that it had been the victim of VAT fraud . Although nothing was proven policy and procedures were reviewed around the types of clients with whom such activity would be undertaken. As a consequence more stringent KYC requirements were implemented and the level of ALM/CFE/Sanctions checks was increased.”

[ Emphasis added ]

 

1107.     CFE’s own report contains an admission that in June 2009 CFE suspected that it had been the victim of a VAT fraud following the press commentary which led to it introducing more stringent procedures.  This evidence supports the Tribunal’s own finding that CFE had more than reasonable grounds to suspect its counterparties were involved in VAT fraud and subjectively, it reasonably suspected the same at the relevant time.

1-2 July 2009

 

1108.     On 2 July 2009 Messrs Bush (JB) and Lynch (HL), traders in CFE, had the following messenger conversation referring to Laurence Rose (LR) and James Emanuel (James):

“JB: have you thought any more about the bonus, or talking to LR?

HL: not yet will send an email to james

JB: well get a grip then!

HL: did you get an email back from Stratex

JB: funnily enough…..no.”

 

1109.     The reference to ‘funnily enough…no’ suggests that the traders were not expecting any reply from Stratex because they already believed that Stratex had not been acting lawfully.  Any e-mail sent to Stratex by CFE does not appear to have been disclosed.

1110.     Between 1 and 2 July 2009 Mr Rose exchanged emails with Mr Von Butler (another trader) regarding certain trading conditions that the risk team were insisting on for matched principal sales: not that there was any trade going on by this time.

1111.     Mr Von Butler was querying why CFE would insist on payment being received for carbon credits before releasing the carbon credits to the purchaser. Mr Von Butler was of the view that if counterparties such as Barclays and Citibank did not eventually pay for the carbon credits CFE would be able to sue them under the trading contract. Mr Von Butler also emphasised in his email that morale on the EU Carbon Desk was low on the basis it was having to turn away clients on a daily basis.   

1112.     The Tribunal is satisfied that CFE was too late in applying effective controls to combat fraudulent trading such as implementation of the procedures decided on 15 & 26 June 2009 and the turning away of clients for carbon credits.

3 July 2009

 

1113.     On 3 July 2009 Mr Cooper responded to the statutory demand issued on behalf of Westis, claiming a right of set off of the amounts owed to Westis against the amounts CFE had paid to it in VAT. Further correspondence ensued on the issue.

7 July 2009

1114.     On 7 July 2009 at 22:31 Mr Emanuel e-mailed the traders on the CFE carbon desk, saying:

I spoke to Laurence tonight. This overhaul to our business has been dragging on for too long.

While the company want to introduce many new hoops for clients to jump through before we are able to deal with them, we fear that such procedures may inhibit our business.

Rather than try to fine tune the procedure to something that we are all happy with, an exercise that may take weeks contrary to our wishes to resume spot business ASAP, we have agreed the following.

We will implement a revised version of the procedures wanted by the company from tomorrow (Wednesday). Laurence will send you an email with the new protocol.

If the clients comply, then everyone is happy. If not, then the company will have to re-think and dilute the new client procedures that it is presently introducing. …”  

 

1115.     On 7 July 2009 at 23:44 Mr Rose circulated an e-mail around CFE attaching: a revised KYC Client Questionnaire, a list of required supporting documents, a revised New Client Take On Order Form and a memo setting out the new client take on process that was said to be effective immediately.

1116.     On 7 July 2009 therefore there had been further internal exchanges regarding the roll out of new procedures for matched principal carbon credit trading with a view to lifting the temporary halt that had been in place in respect of most counterparties. Although there had been concern from the brokers that the new enhanced procedures may force clients to look elsewhere, Mr Rose had finally decided to introduce reasonable and proportionate client questionnaires in light of the rumours of fraud in the market.

1117.     Despite the concerns of the brokers, Mr Emanuel was willing to see whether the clients would comply with the new procedures and defer any discussion about diluting them on the basis that this would cause delay and may not have proved necessary.  

1118.     After 7 July 2009 the brokers therefore started liaising with counterparties in accordance with the new procedures with a view to recommencing trading with counterparties who complied with them. An example of an exchange between CFE’s EU Carbon Desk and Mettec can be seen in evidence; and an example of an exchange between CFE’s EU Carbon Desk and AH Marketing, where their compliance department was liaising with brokers on the EU Carbon Desk in order to provide information requested under the new procedures.  Mr Rose had in fact already met Mettec on 18 June 2009.

1119.     None of these attempts to revive the trade with CFE’s previous or existing counterparties was successful now that appropriate procedures were finally in place.  

1120.     On 14 July 2009 Westis’ lawyer advised CFE that his client’s accountants had been advised that Westis’ VAT registration number had been posted to them.  Mr Cooper received an email from Mr Cukier at Kingsley Napley stating that Westis' accountants (AG Kakouris) had been advised that Westis' VAT registration number had been posted to them. This, however, did not arrive until on or before 20 July 2009.

15 July 2009

1121.     On 15 July 2009 the Netherlands authorities introduced a reverse charge on carbon credit which was reported by Reuters as being predicated on clear indications of fraudulent activity, specifically carousel fraud, in the Dutch emissions market.

1122.     At 11:47 on 15 July 2009 Mr Emanuel forwarded Messrs Rose, Treanor and Cooper the Reuters article.

17 July 2009

 

1123.     Mr Rose understands that on 17 July 2009 a meeting took place at Barclays Capital and that it was at that meeting that HMRC made their first official public acknowledgement that VAT fraud was affecting the UK emissions market.

1124.     On 17 July 2009 one of the brokers from the EU Carbon Desk emailed Mr Rose, copying in Mr Emanuel, Mr Weldon and Mr Bush, attaching documentation for a new client (Kaplan Ltd) to be approved. They were ultimately not approved as a client due to issues with their VAT number.  The Tribunal will return to Kaplan below.

20 July 2009 – the spreadsheet recording the response to the new procedures

1125.     On 20 July 2009 Mr Emanuel e-mailed Mr Rose a spreadsheet setting out the response of CFE’s counterparties to the new procedures:

Adduco Consulting Ltd

Gone AWOL

Ade International Ltd

Refused to deal with us because we held onto their money

AH Marketing and Distribution Ltd

Re-applied to be a client by completing our new account opening docs

Aristo Partners Ltd

Refused to deal with us because we held onto their money

Axle Ltd

Refused to deal with us because we held onto their money

Business Management Consulting Ltd

Refused to deal with us because we held onto their money

Duntai Ltd

Refused to deal with us because we held onto their money

Green & Blue Co

Dealt with us once but has never had any repeat business: still have €2.5k of their money on account

GW Deals Ltd

Sent them the new client approval docs, they have other avenues to market and haven’t had time to complete them

KO Brokers

Dealt with us once but has never had any repeat business: still have €16k of their money on account

Mettec

Sent them the new client approval docs, they have other avenues to market and haven’t had time to complete them

NLT

Dealt with them a few times but haven’t had anything to do recently

Northumberland Consultants Ltd

Dealt with them a few times but haven’t had anything to do recently

Stikito

Sent them the new client approval docs, they have other avenues to market and haven’t had time to complete them: we have €4.5k on account

Stratex

Gone AWOL

Westis

Refused to deal with us because we held onto their money

SVS

Dealt with us once but has never had any repeat business. They were brokers themselves and using us for liquidity.

 

1126.     It should have been apparent by this time that the vast majority of CFE’s counterparties were not prepared to trade in carbon credits when faced with reasonable and proportionate procedures that reflected enhanced due diligence.   There was no other reasonable explanation put forward for the almost universal end to trade.  This should have indicated that their previous trade was infected by fraud.

1127.     On 20 July 2009 AG Kakouris Ltd e-mailed CFE a copy of Westis’ VAT certificate with an effective date of 1 July 2009, stating that they were seeking to have it backdated to 1 May 2009.  HMRC confirmed on 20 July 2009 that the registration would be backdated to 11 May 2009.

1128.      On 20 July at 14:52 Bloomberg reported that the UK government had found what it called the first attempt at tax fraud in the market for carbon credits. Mr Rose forwarded the article to Messrs. Cooper and Treanor.

1129.     The value of the potential fraud was not disclosed in the report. As noted above, on or before 20 July 2009 Mr Christofi at AG Kakouris received a VAT certificate for Westis from HMRC. He sent a copy to Mr Cooper on 20 July. However, the effective date of registration had not been backdated to 1 May 2009; AG Kakouris had requested HMRC to amend the VAT certificate to backdate the effective date. This would enable CFE to reclaim VAT from the dates on which the trades were undertaken.

1130.     By letter dated 20 July 2009 HMRC agreed to amend the date of registration to 11 May 2009 (being the date of the first trade with CFE). This was sent to Mr Cooper by email from Mr Cukier the following day.

21 July 2009

1131.     On 21 July 2009 HMRC issued CFE with an MTIC warning letter which stated:

“VAT Status Verification Facility For New Carbon Credit Suppliers/Customers

 

Please be aware that HM Revenue & Customs are experiencing problems with Missing Trader Intra Community (MTIC) VAT fraud involving businesses that are trading in carbon credits.

 

MTIC fraud may involve all types of VAT standard rated goods and services including carbon credits….For information purposes please find enclosed the leaflet “How to spot VAT Fraud.”

Although the Commissioners may validate VAT registration details, it does not serve to guarantee the status of suppliers and purchasers. Nor does it absolve traders from undertaking their own enquiries in relation to proposed transactions. It has always remained a trader’s own commercial decision whether to participate in transactions or not and transactions may still fall to be verified for VAT purposes.

 

For your information I also enclose a copy of our Notice 726 – “Joint and Several Liability” which may also be viewed on our website www.hmrc.gov.uk…”

 

1132.     The Appellant’s assertion in cross-examination that HMRC “didn’t publish any warnings as to the presence of MTIC fraud in the carbon credits market prior to introducing the zero rate” is therefore inaccurate.  Nonetheless, it is fair to state that HMRC were slow finally to confirm the existence of fraud and give the appropriate warnings which they did not give to CFE until 21 July 2009.  However, CFE was not reliant upon HMRC’s warnings for its means of knowledge of the widespread VAT fraud in the carbon credit market.  Further, CFE traded with Westis eight days later despite this warning.

1133.     HMRC’s warning letter dated 21 July 2009 formally confirmed that there was a potential for fraud in the carbon credit market.   It enclosed a copy of Notice 726 and also stated that where one wished to verify the VAT status of new customers, these should now be faxed to the Wigan HMRC office and not to the Local Office or the National Advice Service.

1134.     On 21 July 2009 Mr Emanuel asked Mr Rose to chase the Risk and Operations teams in respect of their review of a number of potential new counterparties who had already been approved by Compliance under the new process.

24 July 2009

1135.     On 24 July 2009 Mr Treanor emailed Officers Edgson and Drakes at HMRC to confirm that Westis had now reissued its invoices correctly showing its new VAT registration number. It noted that the trades with Westis would be included in the VAT return for the period ending 06/09 and that (as had been discussed with Officer Edgson) CFE had not submitted Westis through the new Wigan clearance procedure.

1136.     At a meeting of the UK Emissions Trading Group on 24 July 2009, Garth Edward, Head of Emissions Trading at Citibank was minuted as commenting that most traders would say that the spot trading market was driven by VAT fraud – the issue was already in play in the market and affecting companies like his. Citibank had traded carbon credits with CFE.

27 July 2009

1137.     On the morning of Monday 27 July 2009 Mr Cooper telephoned Andrew Milner at HMRC, who was the author of the letter confirming Westis' VAT registration. Mr Cooper wrote a manuscript note on his copy of the letter. The note stated that Mr Cooper had spoken to Andrew Milner on 27 July 2009 at 12.53pm and that Mr Milner had confirmed that the letter was valid and expressed his view that Westis had a valid VAT number. This number was effective from 11 May 2009 and Mr Milner stated that CFE would be able to recover the VAT amount paid over to Westis.

1138.     Further to the confirmation of Westis’ VAT registration and a number of internal approvals (including invoice checks), on 27 July 2009 CFE finally paid Westis the money it was holding.

1139.     Despite the difficulties in relation to Westis and confirmation of fraud in the carbon credits market, on 27 July 2009 Mr Emanuel e-mailed Mr Stork of Westis saying:

“…I do hope that once this matter is behind us we will be able to resume business once again in the successful manner than we dealt with each other in the past.”

 

Trades with Westis on 28-29 July 2009 in respect of which input tax has been denied

 

1140.     On 28 July 2009 CFE paid Westis the outstanding sums due to it.  Thereafter Westis had an immediate change of heart about trading with CFE, with Mr Stork saying to Mr Emanuel in an e-mail at 09:38:

Thanks!!

I will call you in half an hour to discuss about trade today.”

 

1141.     Following the release of funds to Westis, Mr Emanuel had emailed Mr Rose and Mr Cooper on 28 July 2009 about recommencing trading with Westis.

1142.     Mr Emanuel stated that he had done his best to repair the relationship and that Westis had initial reservations about trading with CFE again. He also said that he was keen not to present them with the new process as he expected this would send them elsewhere in light of previous events regarding withholding of payment.

1143.     Mr Rose stated he decided to approve trading on the basis that HMRC had chosen to register Westis and had approved CO2e's releasing of payments on its earlier trades to Westis. Mr Emanuel therefore traded with Westis on 28 July.

1144.     HMRC had expedited Westis’ VAT registration at CFE’s request.

1145.     It is material to note that the application for registration that had been made by Westis to HMRC on 15 June 2009 (and received by HMRC on 3 July 2009) had made clear that:

(1) Westis was a broker for buyers and sellers of greenhouse gas emissions.

(2) Westis had started trading allowances on 11 May 2009 and that Westis considered that it should have been registered from that date.

(3) Westis had charged VAT from the point at which it issued its first invoice to CFE (without being registered for VAT) and had received payments including VAT.

(4) That CFE had realised that it should not have paid the output VAT from a number of invoices and was withholding funds for the last two invoices issued due to the fact that Westis was not VAT registered.

 

1146.     Further, the VAT application form revealed to HMRC:

(1) Westis’ date of incorporation (08 December 2008);

(2) Westis’ address, with an accompanying contract showing a different address for Westis, being Suite 2, 23-24 Great James Street;

(3) Westis’ email address (a Gmail address);

(4) That Westis had no website;

(5) That Westis’ nominated bank was with Marfin Popular Bank, with an accompanying contract showing a prefix “CY” to the account number, a designation for Cyprus.

 

1147.     Thereafter CFE has sought to rely on the fact of HMRC registering Westis for VAT as somehow being in lieu of it carrying out proper due diligence on the company.  The mere fact of HMRC registering Westis for VAT was not equivalent to enhanced due diligence and relied on the provision of basic information by the company.  CFE’s attempt to rely on this as a shield to means of knowledge was unreasonable.

1148.     CFE’s witnesses argue that, notwithstanding the concerns initially raised on review of the invoices from Westis, a combination of Westis appearing to be legitimate from the use of reputable advisers and HMRC's decision to register it for VAT provided Mr Cooper with the comfort that they had sought and it therefore appeared that Westis were not entering into EUA spot allowance transactions for reasons of VAT fraud.  Mr Rose’s position was similar.  The Tribunal does not accept this.

1149.     CFE, through Mr Cooper, had not disclosed the vast majority of the information that it knew about Westis (eg. the invoice corrections and substitutions, links with ADE and Epicure etc), such as that set out in the contact and emails before that date, at the meeting of 25 June 2009.  CFE wished to present itself as a “good corporate citizen” whilst not disclosing to HMRC the extent of its knowledge and concerns about its counterparties.  This was in line with CFE’s general attitude towards what it had discovered, which was to seek to continue to protect its profit margin in carbon credit trading without giving adequate consideration to the risk of loss this caused for the Revenue.

1150.     The Appellant suggested in cross-examination of Officer Ball that Westis’ previous behaviour was attributable to “administrative error” . The Appellant has accepted that Westis was a fraudulent defaulting trader, it is not open to it to now suggest that Westis was not.

1151.     By 12:05 on 28 July 2009 Mr Emanuel was seeking clearance to trade with Westis again without presenting the company with the enhanced due diligence documents. Mr Rose approved this. 

1152.      In his live evidence Mr Rose did not recall whether he approved Mr Emanuel to trade with Westis without going through the new procedures that had been put in place. This is an important gap in his memory.  Mr Rose’s approval of these trades is stated in his witness statement at paragraph 135: ‘I decided to approve trading on the basis that HMRC had chosen to register Westis and had approved Cantor COE2e’s releasing of payments on its earlier trades to Westis’.

1153.     Mr Rose was cross examined on this topic as follows:

‘Q. An email from James Emanuel to Laurence Rose.

 28 July:

 "Gentlemen ..."

He outlines that Westis have received the payment made by Cantor, that Westis are willing to trade again.

The middle paragraph:

 "On the basis that they were able to provide all the requisite documentation for us to be comfortable to release payment to them of the retained money, are we clear to resume trading with them?  If we present them with a questionnaire and further document request package, I fear they will lose their patience and we will never see them again.  This is not a decision I am  authorised to make."

Did you authorise Mr Emanuel to go ahead without the new procedures that you had put in place?

A.  I don't recall whether I gave him those instructions or approved trading with Westis.  I recall in and around this time, I believe Mark Cooper was dealing with some of the elements of Westis, and I believe, I am happy to be corrected, that we got information from HMRC that said that Westis was approved, or they gave us the okay to release a payment.  There was something I am recalling.

Q.  Right.  Because of that, you didn't require documentation that Mr Emanuel is alluding to here, the  questionnaire and document request?

A.  I don't recall whether I required it from him or not.  I was certainly seeking it.’

1154.     The Tribunal finds that Mr Rose’s failure to remember whether he approved the trades without going through the new procedures is significant.  The Tribunal finds that a lapse in memory was motivated by a desire not to admit his omission under cross examination.  Mr Rose was aware that his approval of the trade without following the new procedures would not be seen to be reasonable in light of all the information that was before him. 

1155.     The Tribunal does not accept Mr Rose had a lapse of memory, notwithstanding the events taking place many year ago.  The Westis trades were the final impugned transactions and for very large sums of money.  His memory was clear and specific that he approved the trades set out in his witness statement.  The statement was prepared with ample time and care taken to provide specific details and the contents approved much closer to the events (in February 2015) than when he gave oral evidence (March 2018).

1156.     The Tribunal is satisfied Mr Rose allowed the trades with Westis to occur without going through the new procedures that had been in place since at least 7 July 2009.  This demonstrates Mr Rose did not have a firm oversight and was often conflicted (torn in two opposing directions) about the extent of oversight and willing to concede when there was pushback from traders.  In the end he was not prepared to enforce red lines in respect of these trades at the expense of commercial profitability. 

1157.     Some of the time Mr Rose was driven by the profit motive above the need to enforce red lines and prevent CFE taking part in fraudulent transactions, at other times he was kept out of the loop by Mr Emanuel and his traders and sometimes he failed to make the necessary detailed enquiries in response to the cumulative material and obvious risk presented.  That is not to say that Mr Rose took no action, as is clear from the various steps set out above, it is just that it was too little too late.

The Westis transactions

1158.     On 28 and 29 July 2009 CFE purchased a total of 773,000 carbon credits from Westis at a net cost of €10,397,710.00 in four transactions (two on each day).  These are the four July 2009 transactions upon which input tax has been denied.

1159.     The DG Environment records obtained by HMRC show that 557,000 of the carbon credits that were the subject of the July purchases from Westis were actually transferred to CFE by another entity, Kalestesia (UK) Ltd t/a Kaplan Ltd (“Kaplan”) on 29 July 2009. This was obviously uncommercial, since it had the potential for Westis to be disintermediated from any future transactions.   

1160.     More importantly, it also occurred despite Kaplan being unapproved by CFE to trade with it. Kaplan had just been rejected as a counter party by CFE the day before. At 18:22 on 28 July 2009 Mr Rose e-mailed Mr Emanuel in relation to Kaplan, saying:

OK, so it seems we cannot approve them yet as they are waiting on a response from HMRC for a new valid VAT number as the company director has changed. This is likely because this is a new corporate arrangement for the purposes of transacting in EUA spot markets.

This accounting firm is the same as used by Westis and others.

I think we need to get more info about the accountant and the firm.

James, I would like to discuss this with you on our next call.”

 

1161.     CFE’s explanation for Mr Emanuel trading with Westis again on 29 July 2009 was that it was only after the trade that it was noticed that some of the carbon credits purchased had come from a different registry account (unknown to CO2e at that time). Mr Emanuel therefore queried this with Westis who then provided a letter confirming the registry account was managed by them.  In light of everything that had gone before concerning Westis and in light of not following the 7 July 2009 procedures this explanation is not reasonable.

1162.     On the same day, having seen the volume of trades undertaken with Westis that day, Mr Rose claimed he was unable to recall whether he asked Mr Emanuel to request that Westis complete the new processes.  He stated he asked Mr Emanuel to clarify what Westis' business was and where they were getting their allowances.  Mr Rose stated he was cautious in view of the risks in the market and the fact that CO2e had entered into some large trades with Westis. The Tribunal has not accepted the evidence that Mr Rose had a lapse of memory – he approved the trade on the basis of HMRC’s registration without asking further questions.  If Mr Rose did not approve the trade, as the Tribunal finds and he originally stated, then Mr Emanuel would have acted alone.

1163.     Paragraphs 6.38 - 6.40 of the Pinsent Masons’ Report prepared on behalf of the Appellant are illuminating because they appear to accept Mr Rose was aware of a connection between Kaplan and Westis at the time through their common accountant (rather than they being a third party transferring the credits).  The paragraphs state:

“6.38 On 28 July, Ben Pink of Kaplan chased up their account opening application. They had provided this two weeks previously. The matter was investigated and Laurence Rose confirmed that they had not been approved by him for KYC checks as they had not provided a valid VAT number. Laurence Rose also noted that Kaplan used the same accounting firm as Westis and wanted more information on the accountant.”

 

“6.39 On 28 July, Franck Stork expressed his disappointment at the delayed payment, but offered to trade again. James Emanuel emailed Laurence Rose to say he thought the relationship with Westis was damaged but could be repaired and asked for permission to trade given the requisite paperwork had been received. Two trades were undertaken with Westis later that day. The buyer on the other side of the trade was Citibank.”

 

6.40 On 29 July, Mark Cooper emailed lan Edgson at HMRC noting that Ian's colleague, Andrew Milner had said he did not foresee any problems with releasing the monies to Westis on the basis that they had been registered retrospectively. Compliance emailed James Emanuel saying they could not pay the invoice raised by Westis for the 28 July trades without seeing the "checklist etc." Later that day, James Emanuel asked Westis to provide written confirmation that the registry account used for the 28 July trades was an account managed by Westis. A letter on Westis headed paper was provided, confirming that the registry number DK-121-9395-0 was an account managed by Westis.”

 

1164.     Despite the Westis carbon credits being supplied directly by Kaplan, who had failed CFE’s checks, CFE paid out funds to Westis without further investigation.

1165.     By 17:26 on 29 July 2009 James Emanuel had noticed that some of the carbon credits for the Westis deals had come from another registry account and asked Westis to confirm that it managed the account. Westis did so. The account was that of Kaplan. As per Officer Stone’s unchallenged evidence, Mr Emanuel could (even though there is no evidence he did in fact do so) have identified the owner of the registry account as belonging to Kaplan.

1166.     He did not even need to do that.

1167.     On 14 July 2009 Kaplan had told CFE that the account DK-121-9395-0 was their registry account . CFE therefore knew that Westis was apparently transferring carbon credits from Kaplan’s registry account, the account of a company that it had not approved for trade.

1168.     The Daily Check Point for these transactions, circulated on 12 June 2009 included:

“If client is selling units we must print or download from the Registry the status reflecting the credit position in our account and confirm that the Transferor matches the clients standing instructions on the Client Details tab of the blotter.”

 

1169.     In relation to the Westis July deals, yet again, CFE had failed to follow its own procedures. By now the risk of MTIC carousel fraud was plain and stated to be so. CFE still did no enhanced monitoring on Westis, conducted no enhanced due diligence checks, failed to obtain any financial information on Westis and failed to comply with its own procedure for ensuring that it was being supplied with carbon credits from the party that it was meant to be purchasing them from. The registry account did not match that which CFE held on its records for Westis.

1170.     At 23.10 on 29 July 2009 Laurence Rose e-mailed James Emanuel in relation to the Westis deals, saying:

I see they came in with some big volume at the end of the day. Please can you fill in the new client form and questionnaire on them and email to me in your morning, so that I can review in my morning and then we can discuss?

What is their business? How/where are they getting the allowances?

Please don’t tell me it doesn’t matter – I want to know, or at least try and find out.”

 

1171.     The email is revealing as it highlights the tension between Mr Rose and Mr Emanuel and that Mr Emanuel was at the very least obstructive in either not making enquiries of counterparties or not sharing them with his management.  It also illuminates that Mr Rose failed to take sufficient control of Mr Emanuel’s trading and allowed him to operate outside CFE’s own agreed procedures.   He also only sought the client form and questionnaire after the deal was completed.

1172.     The Tribunal has not been made aware of a response to this e-mail. Mr Rose’s enquiries were, consistent with his other enquiries, made long after the event and the transaction being completed.

1173.     Mr Rose’s apparent exasperation with Mr Emanuel illustrates the contradiction in CFE’s approach to its carbon credits business. On the one hand it had vast resources in terms of compliance, risk and legal expertise which could have been deployed proactively to recognise the trade in EUAs for what it was, i.e. infected with fraud, but on the other hand after 15 June 2009 it allowed the traders to carry on business as usual, trading with counterparties whom it obviously should not have done.

Westis Ltd – VRN – 973 3510 17

 

1174.     CFE’s due diligence documentation in relation to Westis was inadequate and disproportionate to the risk which it presented.

1175.     CFE did little more than confirm the existence of Westis and carry out the standard AML checks without any enhanced due diligence as was obviously required by the history of their dealing by 15 June 2009 at the latest and in any event, well before 28 July 2009.

1176.      The AML documents that CFE completed showed that Westis had been incorporated on 1 December 2008, had declared no nature of its business to Companies House and had not filed any accounts. The documents further showed that Mr Storck, resident in France, bought the entire share capital of Westis (£1) on 1 December 08 and sold it on 6 May 2009 to Epicure. The documents further showed that prior to 1 December 2008 Westis had never traded.

1177.     CFE’s disclosed e-mail correspondence and records of calls with Westis reveal few discussions in the e-mails about the carbon credits market or Westis’s background.

1178.     Westis Ltd (“Westis”) was a direct supplier to CFE and fraudulent defaulter. Westis was incorporated on 1 December 2008, provided an address of 105 St Peters St., St. Albans, AL1 3EJ (the same address as Duntai), has never filed accounts with Companies House and is now in liquidation.

1179.     Mr Franck Stork was appointed a director of Westis on 1 December 2008, giving an address in Nanterre, France. Westis had no apparent financial worth. Nantia Efstathiou (also company secretary of Stratex and Aristo) was appointed company secretary of Westis on 18 May 2009.

1180.     Mr Stork applied for Westis to be registered for VAT with effect from May 2009 giving the company’s main business activity as “ brokers of EU emissions allowances ”, an address of 4th Floor, Southpoint House, 321 Chase Road, Southgate, London, N14 6JJ, a bank account with Marfin and Mr Stork’s address in Nanterre, France. The application was submitted by AG Kakouris (“AGK”) under cover of a letter dated 15 June 2009 and in support of it was provided a contract with Duntai, which was at that time said to be the sole supplier of carbon credits to Westis. The contract was signed for Duntai by Mr Volodarsky on 12 May 2009, describing himself as a director when he had in fact ceased to be a director on 19 March 2009.

1181.     AGK’s letter stated that Westis should have been registered for VAT from 11 May 2009 but that it had “inadvertently charged VAT from the first invoice issued to Cantor Fitzgerald EU and has received payments including VAT. Cantor Fitzgerald EU have now realised that they should not have paid the output VAT from invoice 20090501 to 20090524 (as per spreadsheet)…Cantor Fitzgerald EU will only release the withheld funds if a VAT number is allocated which makes renders our client unable to operate. ” 

1182.     HMRC Officers visited Westis at South Point House on 10 September 2009. The receptionist at the building did not recognise the name Westis. An unknown female said that there was no one from Westis in the building. The building was also said to be home to Epicure Business Systems. The Officers spoke to AGK who said that they had had no contact with Westis since mid-August.

1183.     The report noted of the documents provided by AGK:

“n.b. The “Westis” invoice used by A G Kakouris in order to get the VAT registration is almost identical to the invoices from Epicure Business Solutions. Also the schedule of transactions – Duntai to Westis to Cantor Fitzgerald that appears at sheet 17 of the VAT 1 pack shows 24 sales amounting to 12,820,000 tonnes of CO2 between 11th May and 2nd June 2009. None of the unit prices shown for the Westis sales agree with the figures that appear on the sales invoices, all of the sales invoice prices being 5p/tonne more than on this schedule. This schedule also shows the purchases from Duntai. The unit price for these sales are all 5p less than the Westis sale price to Cantor regardless of the size of the package of CO2 allowances being sold. This is indicative of fraud as in any free market there would not be this uniformity or conformity of mark-up.”

 

1184.     Between 11 May and 29 July 2009 Westis made 30 sales of carbon credits to CFE totalling 1,564,000 units with a gross purchase value of €37 million. The details of the Westis transactions are set out in Officer Ball’s witness statement.

1185.     The input tax incurred on the four CFE purchases from Westis that took place on 28 and 29 July 2009 remains denied. Despite Officer Ball meeting with CFE in August 2009 the July transactions were not brought to his attention.  Officer Ball only discovered them in 2011.  That in itself is significant and is dealt with as part of the Fifth Issue.

1186.     The DG Environment records show that the carbon credits that were the subject of the July purchases from Westis were actually transferred to CFE by a company called Kaplan Ltd. Westis’s schedule of transactions that it undertook between 11 May and 2 June 2009 produced in support of its application to be registered for VAT showed that all of its purchases were from Duntai. DG Environment data shows that companies other than Duntai transferred the majority of these carbon credits to Westis.

1187.     On 14 October 2009 a Notice of Assessment was issued to Westis in the sum of £3,017,070 for unpaid VAT on 26 sales from Westis to CFE between 11 May 2009 and 3 June 2009 (the 06/09 period). This was subsequently reduced to £527,004.

1188.     Four additional transactions were identified subsequently with a total value of £1,322,800 in the 09/09 VAT period. These were not assessed against Westis as HMRC were out of time to do so. Nonetheless, the VAT went unpaid and therefore there is a tax loss. These are the remaining denied transactions. Despite the sales purportedly being by Westis the carbon credits were provided to CFE directly by Kaplan who had not passed CFE’s KYC checks.

1189.     Westis’ invoices to CFE requested that payments to it be made to its account at Marfin. Some of Westis’ early invoices carried the same spelling error as those from Aristo in relation to CFE’s address (“Canary Whars”). Westis subsequently applied for VAT registration and the invoices were reissued. CFE then paid Westis the VAT that it had withheld.

1190.     Westis made third party payments to companies including Solimaxco, Primark and Lovania (Cyprus).

1191.     Westis had neither experience in nor repute for dealing in carbon credits, its ability to sell such volumes of them to CFE was commercially incredible and its lack of financial worth made it a poor candidate to enter into such transactions.

1192.     CFE’s due diligence documentation in relation to Westis reveals that CFE did little more than confirm the existence of Westis and carry out standard AML checks with no enhanced due diligence.  Such due diligence would have been required by 15 June 2009 at the latest in proportionate response to the categorisation of the trading as high risk trading and the specific negative indicators that its contact with CFE had produced.

1193.     CFE did not question how Westis could supply such large volumes of carbon credits, at a price that CFE could not beat despite its experience in the market, when it had no net worth to speak of and had recently been formed. CFE did not verify Westis’ VRN until 4 June 2009 when CFE was informed that the name and address provided did not match that held by HMRC. CFE tried to verify Westis’ VRN again without success on the morning of 11 June 2009 and finally successfully verified it that evening.

1194.     Enhanced due diligence would have revealed further negative indicators regarding Westis which would have added to the means of knowledge of their transactions being connected to fraud.

1195.     CFE had done nothing to enquire as to how Westis could have legitimately acquired the credits sold by it. In the context of CFE’s state of knowledge as at the end of July 2009, this failure by CFE is inexplicable other than by reference to means of knowledge that the transactions were connected with fraud.

1196.     The Tribunal is satisfied CFE should have known that these four transactions on 28 and 29 July 2009 with Westis were connected with the fraudulent evasion of VAT and that this was the only reasonable explanation for them.

Other events on 29 July 2009

1197.     On 29 July 2009 Mr Emanuel e-mailed Mr Anzalone complaining that he had changed his mind about releasing money to Westis which had lost CFE more than $70,000 in brokerage fees and saying:

“Laurence and I have a call with Howard next week in which Howard wants to know about the future of this business…I have no clue what to tell him. To be honest the business is in a mess.”

 

1198.     On 29 July 2009 Mr Rose sent Mr Emanuel some draft EU Desk VAT trading rules for comment.  Further on 29 July 2009 Mr Buchan contacted Mr Rose regarding the credit review of proposed new counterparties. 

1199.      On 29 July 2009 Mr Rose agreed some thoughts on the events in the carbon credit market with Mr Emanuel for publication in an article for Carbon Finance.

30 July 2009

1200.     On 30 July 2009 the UK decided to zero rate carbon credit trades.

1201.     Mr Buchan reported to Mr Emanuel on the results of the Risk team's full review of pending CO2e new client approvals. Two clients which were approved were Pan Energy and KO Brokers.

1202.     HMRC have asserted that KO Brokers was a perpetrator of VAT fraud.   Mr Buchan states, in paragraph 27 of his witness statement, that KO Brokers was approved even applying a higher standard of review.  The Appellant argues this indicates that even if the enhanced credit and financial checks had been carried out on the relevant counterparties at an earlier stage, they would not have been identified as suspicious.  In light of all the negative indicators raised in relation to the relevant counterparties as set out above, the Tribunal does not accept this.

31 July 2009

1203.     Officer Edgson replied to Mr Cooper’s email on 31 July 2009, stating that he was “pleased that the Westis situation was resolved in time” .

The extended verification, CFE’s counterparties and the connection with the fraudulent evasion of VAT

 

1204.     The Appellant’s 03/09, 06/09 & 09/09 period VAT returns were ultimately subjected to extended verification.

1205.     On 26 August 2009 HMRC Officers met with representatives of the Appellant including Messrs Treanor, Cooper and Rose. The Officers were told that in the current year the business had switched from being mainly on a name give up basis as opposed to a matched principal basis (70% / 30% to 30% / 70%), the business was now mainly spot trading and this had dropped off since the UK zero-rated carbon credits.

1206.     The Officers were told that CFE came into contact with the counterparties for carbon credit trading from: expos (e.g. Barcelona), general contacts at banks, cold calling, broker companies and using the internet.

1207.     The Officers asked for details of how CFE came into contact with those on a list of customers that was provided at the meeting. The Officers were told that Know Your Customer (“KYC”) checks were undertaken for all customers but that financial checks on them were not carried out. The Officers asked whether serial numbers for carbon credits were recorded and were told that they were recorded at the registry and could also be obtained from the Community Independent Transaction Log (“CITL”) which logged the transactions.

1208.     On 27 November 2009 HMRC Officers again met with representatives of CFE including Messrs Treanor, Cooper and Rose. The Officers explained that to date around £20 million of the Appellant’s claimed input tax had been traced to tax losses and that HMRC expected to trace a further £20 million again to losses. HMRC requested the following records and information:

i. Structure of and information on emissions trading;

ii. Names of traders and how many there were;

iii. Risk and Marketing analysis;

 

iv. Levels of authorisation for the trading desk;

v. Daily Value at Risk;

vi. Transaction monitoring process under FSA and money laundering requirements;

vii. KYC documents in relation to emissions counterparties;

viii. Business relationships and third party agreements;

ix. Third party reports – SARS (suspicious activity reports);

x. Any reports to the FSA;

xi. Any concerns that may have been raised with head offices;

xii. Deal documents including certificate numbers, invoices, settlement details; and

xiii. Incentivisation for the traders.

 

1209.     The representatives of CFE were informed that after HMRC had received and reviewed the requested records and information that further questions may need to be asked.

1210.     The result of the verification of the Appellant’s 03/09 period VAT return was that of the £1,686,809.39 input tax claimed on the 03/09 return £690,294.29 incurred on 13 purchases from Adduco Consulting Ltd was traced to fraudulent tax losses.

1211.     The result of the verification of the Appellant’s 06/09 period VAT return was that of the £44,749,475.65 input tax claimed on the 06/09 return, £41,054,429.58 (92%) was traced to fraudulent tax losses through the suppliers as set out in Table 1 below:


 

 

Table 1: Tax losses traced in to the Appellant 06/09 VAT Reclaim and Amounts Now Denied  (Input tax on the deals highlighted in bold remains denied.)

Supplier Name

VAT Amount

Number of deals

Denied VAT Amount

Denied Deals and Dates

1.Adduco         

Consulting

Limited          £4,687,455.38   

          50

 

2.ADE             

International

Limited          £3,140,341.76          

          20

 

3.AH  Marketing

And Distribution Limited            

£1,480,143.38                

17

£675,488.54

7 deals between 08 – 18.06.09

4.Business         

Management Consulting Limited        £14,655,252.65

          65

 

5.Carbon Desk      

Limited               £15,291.61

             1

 

6.Duntai

Limited          £3,727,139.59

           25

 

7.G W Deals Limited  

£1,381,598.24

 17

£42,477.82

1 deal on 08.06.09

8.Mettec (trading name of Ayres Limited)

£139,232.46

   3

£84,926.28

1 deal on 10.06.09

9.Northumberland        

Consultants

Limited          £3,007,575.23              

             7

 

10.Stratex Alliance Limited* ( not  registered for VAT)

£5,605,119.77

 17

£5,605,119.77

17 deals (between 18.05.09 - 03.06.09)

11.SVS Securities PLC

£242,533.91

         1

 

12.Westis * Limited N.B.

£2,972,745.60

       27

 

 

Total  £41,054,429.58

 

 

 

*N.B. TB’s 09/09 VAT return was also verified. Of £2,287,029.59 input tax claimed on the 09/09 return, £1,322,800.16 incurred on 4 purchases from Westis Ltd on 28 and 29 July 2009 was traced to fraudulent tax losses .

 

1212.     In VAT period 06/09 CFE also purchased carbon credits from the following two UK companies who were not registered for VAT but charged it on their invoices. CFE did not pay the VAT and therefore did not reclaim input tax:

Supplier Name

VAT Amount

Number of deals

13.Aristo Partners Limited

€910,200.78

6

14.Axle Limited

€449,643.78

7

Total in Euros

€1,359,844.56

 

1213.     The Appellant’s reclaimed input tax that traced to fraudulent tax losses in periods 03/09 – 09/09 inclusive totalled £43,067,524.03.

1214.     HMRC’s denial of CFE’s right to deduct input VAT on the basis of the principle in Kittel is now limited to those that took place from 8 June 2009 (apart from Stratex).  Nonetheless, the Tribunal is satisfied that CFE’s history of tax losses prior to 8 June 2009 (the date from which HMRC assert that CFE knew, or should have known that the denied transactions were connected with the fraudulent evasion of VAT) remain relevant to: (i) whether there was an overall scheme to defraud the Revenue in existence, and (ii) CFE’s cumulative means of knowledge as to the transactions that remain denied.

1215.      The Tribunal only set out the evidence above in relation to CFE’s five counterparties for which HMRC has denied input tax (counterparties in deals prior to 8 June 2009 – Stratex; counterparties in deals after 8 June 2009 - GWD, Mettec/Ayres, AHMD and Westis) and CFE’s due diligence in relation to each direct counterparty.  In relation to the remaining nine counterparties, HMRC served evidence of their involvement in VAT fraud which was accepted by the Appellant.

The Suppliers to CFE in respect of which HMRC has denied input tax

1216.     HMRC provided evidence in relation to the fourteen suppliers to CFE in the period 06/09 establishing that their supplies were connected to the fraudulent evasion of VAT.  This was not in dispute.

1217.     From the twelve suppliers set out in Table 1 above, there are five suppliers (highlighted in bold) in respect of whom HMRC denied input tax and hence form the subject matter of this appeal, namely Stratex, GW Deals, Mettec/Ayres, AHMD and Westis.

1218.      HMRC denied CFE input tax in respect of 17 deals in period 06/06 taking place between 18 May and 3 June 2009 with the supplier Stratex Alliance Limited on the basis that it knew or should have known of the connection to fraudulent tax loss.

1219.     HMRC denied CFE input tax on the same basis in respect of transactions between 8-18 June 2009 with three suppliers:

AH Marketing and Distribution Limited;

Mettec (trading name of Ayres Limited); and 

GW Deals. 

1220.     HMRC also continues to deny CFE input tax in respect of the supplier Westis Limited on the same basis in the period 09/09 for four supplies on 28 and 29 July 2009.

1221.     As above, the Tribunal has only recorded the evidence in relation to these five suppliers to CFE.

CFE’s transactions with other UK traders who were not registered for VAT

 

1222.      CFE also purchased carbon credits from two UK companies that were never registered for VAT but charged it on their invoices: Aristo Partners Ltd and Axle Ltd. CFE did not pay the VAT charged.

The Law on the Third Issue

 

The right to deduct and Kittel

 

1223.     Articles 167 and 168 of the Principle VAT Directive and Sections 24 to 26 of the Value Added Tax Act 1994 (“VATA”), as set out above, provide for the right to deduct input VAT.  If a taxable person has incurred input tax that is properly allowable, they are entitled to set it against their output tax liability and, if the input tax credit due to them exceeds the output tax liability, receive a payment.

1224.     However, the European Court of Justice (“the ECJ”), in its judgment dated 6 July 2006 in the joined cases of Axel Kittel v Belgium & Belgium v Recolta Recycling SPRL (C-439/04 & 440/04) (“ Kittel ”) has confirmed that taxable persons who “knew or should have known” that the purchases in which input tax was incurred were connected with fraudulent evasion of VAT will not be entitled to deduct that input.

1225.     At [56] of Kittel , the ECJ stated: “ …a taxable person who knew or should have known that, by his purchase, he was taking part in a transaction connected with fraudulent evasion of VAT must, for the purposes of the Sixth Directive, be regarded as a participant in that fraud, irrespective of whether or not he profited by the resale of the goods.”

1226.     Conversely, the ECJ had stated at [51]:

  “ …traders who take every precaution which could reasonably be required of them to ensure that their transactions are not connected with fraud…must be able to rely on the legality of these transactions”.

1227.     The rationale for the above approach was set out by the ECJ at [57-58]:

That is because in such a situation the taxable person aids the perpetrators of the fraud and becomes their accomplice.” [57]; and “In addition, such an interpretation, by making it more difficult to carry out fraudulent transactions, is apt to prevent them.” [58]

 

1228.     At [59], the ECJ therefore concluded:

“... it is for the referring court to refuse entitlement to the right to deduct where it is ascertained, having regard to objective factors, that the taxable person knew or should have known that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT , and to do so even where the transaction in question meets the objective criteria which form the basis of the concepts of ‘supply of goods effected by a taxable person acting as such’ and ‘economic activity.’”

[ emphasis added ]

 

1229.     At [61], the ECJ reiterated:

“...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.”

 

1230.      In Mobilx Limited (in Liquidation) v HMRC [2010] EWCA Civ 517, the Court of Appeal considered Kittel . At [52], Moses, LJ. stated:

“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. It profits nothing to contend that, in domestic law, complicity in fraud denotes a more culpable state of mind then carelessness, in the light of the principle in Kittel. A trader who fails to deploy means of knowledge available to him does not satisfy the objective criteria which must be met before his right to deduct arises.”

 

1231.     At [59], Moses, LJ. went on to state in relation to the “should have known” aspect of the test:

The test in Kittel is simple and should not be over-refined, it embraces not only those who know of the connection but those who “should have known”. Thus it includes those who should have known from the circumstances, which surround their transactions that they were connected to fraudulent evasion. If a trader should have known that the only reasonable explanation for the transaction in which he was involved was that it was connected with fraudulent evasion of VAT then he should have known of that fact ...”

[ emphasis added ]

 

1232.      At [64] of Mobilx , Moses, LJ. then said:

“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 that it was connected with fraud then such a trader was directly and knowingly involved in fraudulent evasion of VAT.”

 

1233.     Before, at [82], warning:

  “..Tribunals should not unduly focus on the question whether a trader has acted with due diligence. Even if a trader has asked appropriate questions, he is not entitled to ignore the circumstances in which his transactions take place if the only reasonable explanation for them is that his transactions have been or will be connected with fraudulent evasion of VAT...”

1234.     Moses, LJ. also gave guidance as to the sort of circumstances that might be relevant to the “should have known” question:

i. In [79], Moses, LJ. drew attention to the significance of the fact that Mobilx, aware that the CPU business in which it was engaged was “rife with fraud”, nevertheless chose to ignore HMRC’s warnings that its own transactions had, upon extended verification, been shown to trace back to fraud.

ii. In [83], Moses, LJ. adopted the passage from paragraph 110 of Red 12 Trading v HMRC [2009] EWHC 2563 in which Christopher Clarke J highlighted the following indicators of fraud:

 

(a) “compelling similarities between one transaction and another.”

(b) “pattern[s] of transactions.”

(c) “transactions all of which have identical percentage mark ups ...”

(d) “... made by a trader who has practically no capital ...”

(e) “... as part of a huge and unexplained turnover ...”

(f) “... with no left over stock.”

(g) “A tribunal could legitimately think it unlikely that the fact that all 46 transactions in issue can be traced to tax losses by HMRC is a result of innocent coincidence.”

 

1235.     In [84] the Court of Appeal commented as significant the fact that:

“... a trader has chosen to ignore the obvious explanation as to why he was presented with the opportunity to reap a large and predictable reward over a short space of time.”

 

Knowledge or means of knowledge

 

1236.     As noted, the burden of proving knowledge or means of knowledge rests upon HMRC: Mobilx Ltd (in admin) v HMRC [2010] STC 1436, at [81].

1237.     In terms of what HMRC must prove:

(1)           The threshold they must cross is high - Davis & Dann Ltd and another v HMRC [2016] STC 1236, at [4].

(2)           They must demonstrate either:

(a)           that the taxpayer actually knew that he was participating in a transaction connected with fraudulent evasion of VAT; or

(b)            that the taxpayer had the means at his disposal of knowing that he was participating in such a transaction: see Mobilx , at [52]. It is now accepted that this requires HMRC to show that the taxpayer ought to have known that the only reasonable explanation for the transactions was that they were connected to a VAT fraud: see Mobilx , at [59] and [75]; and Davis & Dann Ltd , at [4].

(3)           It is thus not sufficient for HMRC to show that the taxpayer knew or should have known that he was running the risk that by his purchase he might be taking part in a transaction connected with fraudulent evasion of VAT: Mobilx , at [56].

(4)           Nor is it sufficient for HMRC to show that a taxpayer knew or should have known that such transactions might be connected with fraudulent evasion, or even that it was more likely than not (i.e. probable) that his transaction was so connected: see Mobilx , at [56] and [60].

(5) It follows from the nature of what HMRC must prove that the focus is on only what the taxpayer actually knew at the time of the relevant transaction and/or the means of knowledge he had at his disposal at that time. Whilst that can include obvious inferences from the facts and circumstances in which he has been trading ( Mobilx , at [61]), it cannot, by definition, include information not known to him if he had no means at his disposal of knowing during the relevant period or matters known only with the benefit of hindsight: see Aria Technology Ltd v HMRC [2016] UKFTT 98 (TC), at [13].

 

(6) Nor is it sufficient for HMRC to show that a reasonable explanation for the relevant transaction was that it was connected with fraudulent evasion of VAT. It must be the only reasonable explanation.

 

Attribution of Knowledge to a corporate appellant

 

1238.      HMRC’s case is that from all the evidence in the case the Tribunal both can, and should, conclude that at least one of CFE’s directors or employees who undertook or authorised the transactions for CFE, had the relevant state of knowledge to engage the principle in Kittel . The Tribunal is satisfied that HMRC are not required to identify that individual, merely to prove that there was one. That individual’s knowledge is then to be imputed to the corporate body CFE using the ordinary principles of attribution.

1239.     The judgment of Hoffman, LJ. (as he then was) in the Privy Council decision in Meridian Global Funds Management Asia Ltd v Securities Commission [1995] 2 AC 500 remains the guiding decision in relation to attribution. The principles of attribution are summarised thus by Hoffman, LJ. at pages 506-7.

1240.     A company as a legal person requires natural persons to act for it as its agents and servants. The rules of attribution are those by which acts of the company’s agents and servants are attributed to the company. The company’s primary rules of attribution are generally to be found in its constitution supplemented by those inferred by the operation of company law. The primary rules of attribution are insufficient for a company to go out into the world and do business and the company therefore builds upon those primary rules by using general rules of attribution, the principles of agency. By a combination of the general principles of agency and the company’s primary rules of attribution the acts of a company’s servants and agents will count as an act of the company.

1241.     The combination of the primary rules of attribution and those of agency are normally sufficient to determine the rights and obligations of the company but exceptionally they are not e.g. when reliance on primary rules of attribution would defeat the intention of legislation. Hoffman, LJ. then went on to set out how a court should proceed in determining how such substantive rules are to be applied to a company in such a situation (at p.507D-G):

“In such a case the court must fashion a special rule of attribution for the particular substantive rule. This is always a matter of interpretation: given that it was intended to apply to a company, how was it intended to apply? Whose act (or knowledge, or state of mind) was for this purpose, intended to count as the act etc. of the company? One finds the answer to this question by applying the usual canons of interpretation, taking into account the language of the rule (if it is a statute) and its content and policy.”

 

1242.     Hoffman. LJ, having considered examples of the fashioning of special rules of attribution based on particular substantive rules did so for the facts of Meridian . In Meridian , Messrs Koo and Ng, employees of Meridian, had authority to enter into transactions in relation to the acquisition of securities but used their authority improperly with the ultimate net result that they caused Meridian a loss (pp.503-4). The acquisitions were not disclosed by notice as required by the New Zealand Securities Amendment Act 1988 (“NZSAA”) and proceedings for breach of the Act were begun.

1243.     Hoffman, LJ. analysed the reasoning behind why the NZSAA demanded the attribution to the company of the knowledge of the person who had the authority to carry out the transaction (at p.511D-F):

“In the case of a corporate security holder, what rule should be implied as to the person whose knowledge for this purpose is to count as the knowledge of the company? Surely the person who, with the authority of the company, acquired the relevant interest. Otherwise the policy of the Act would be defeated. Companies would be able to allow employees to acquire interests on their behalf which made them substantial security holders but would not have to report them until the board or someone else in senior management got to know about it. This would put a premium on the board paying as little attention as possible to what investment managers were doing. Their Lordships would therefore hold that upon the true construction of section 20(4)(e), the company knows that it has become a substantial security holder when it is known to that person who had authority to do the deal. It is then obliged to give notice under section 20(3). The fact that Koo did the deal for a corrupt purpose and did not give such notice because he did not want his employers to find out cannot in their Lordships’ view affect the attribution of knowledge and the consequent duty to notify.”

 

1244.     In a VAT context, Meridian was followed by Dyson, J. (as he then was) in his judgment in the High Court in McNicholas Construction Co Ltd v Commissioners of HMCE [2000] STC 553 (“ McNicholas ”).

1245.     In McNicholas the Commissioners had alleged that the company had, through its employees, perpetrated an input tax fraud involving sub-contractors failing to make invoiced supplies. It was common ground that the knowledge of the employee site managers who had been dishonest could not be attributed to the company by virtue of the primary rules of attribution, the general rules of agency of the ordinary principles of vicarious liability. In applying Meridian at [44-49] Dyson, J. considered that the knowledge of the site managers ought to be attributed to the company because failure to do so would frustrate and seriously undermine the policy of the relevant provisions which was to discourage the dishonest evasion of VAT, concluding:

48. In my view, the Tribunal were correct in attributing the acts and knowledge of the site agents to MC. I start with section 60(1) and 77(4) simply because the Tribunal's reasoning in paragraph 24 is directed to those provisions. The policy of those provisions is to discourage the dishonest evasion of VAT, and to give the Commissioners an extended period in which to make assessments where VAT has been lost as a result of the dishonest evasion of VAT. That policy would be frustrated if the acts and knowledge of all those employees who have a part to play in the making and receiving of supplies were not to be attributed to the company for the purposes of section 60(1) and 77(4). If the only persons whose acts and knowledge may be attributed to a company are those who are responsible for running the affairs of the company as a whole, and those involved in its VAT activities, then the policy to which I have referred would be seriously undermined. As Mr Parker points out, it would encourage those prepared to engage in fraud or turn a blind eye to fraud to set up separate VAT accounts departments for that purpose. Moreover, it would discriminate against small companies that do not have separate accounts departments insulated from what happens on site or in contracts departments.

 

49. I would hold, therefore, that the acts and knowledge of all those employees of a company who have a part to play in the making and receiving of supplies, as well as those involved in its VAT arrangements, are to be attributed to the employing company for the purposes of section 60(1) and 77(4).”

 

1246.     When Meridian is applied to Kittel, the rule in Kittel demands attribution to the company of the knowledge of the person who, with the authority of the company, entered into the transaction connected with the fraudulent evasion of VAT, authorised it, supervised it, instigated or encouraged it.

1247.     Absent such attribution, a key objective of the Principal VAT Directive and the will of the European Court of Justice to prevent tax evasion would be frustrated.  Companies bent upon the commission of MTIC fraud would be able to use employees authorised to carry out transactions entering transactions connected with the fraudulent evasion of VAT in full knowledge of what they were doing but at the same time rely upon an absence of attribution of knowledge to enable them to recover their input tax.

1248.     Company officers would simply be able to turn a blind eye to the activities of their employees and attempt to insulate the company from wilful acts of engaging in transactions connected with fraud by the very employees or agents that they had authorised to carry out the transactions. An absence of attribution to the company of the knowledge of such persons would destroy the very purpose of Kittel and therefore Kittel demands that such a rule of attribution be applied and enforced.

1249.       Meridian and McNicholas were cited in the Court of Appeal’s judgment in Bank of India v Morris & Ors [2005] EWCA Civ 693 where an employee of the bank had knowingly entered into fraudulent transactions. The Court of Appeal found that a combination of: the employee’s level of responsibility, the policy of the substantive rule, justice and common sense combined to justify the treatment of the employee’s knowledge as the knowledge of the company (at [126]).

1250.     The Court of Appeal considered that failure to attribute the knowledge of the employee to the company would risk emasculating the relevant substantive rule. The Court then noted that it would be wrong to attribute to a company the knowledge of any agent without reference to the facts and then laid down factors to be considered in relation to the relevant rule which will be of assistance in this case in deciding whether to attribute knowledge held by employees to the Appellant company:

i. the seniority of the agent;

ii. the significance of the agent and his freedom to act in the context of the transactions;

iii. the degree to which the board of the company was put on enquiry; and

iv. whether questions were not raised or answers were too easily accepted by the board.

 

1251.     The Court concluded at [131]:

“When one considers these factors in the present case, we are of the clear opinion, for the reasons we have given, that this is plainly an appropriate case for attribution. Mr Samant had a very senior position in BoI, he brought the transactions to BoI, he was given a free hand to negotiate them, they were plainly suspicious, there was no questioning, save in relation to the first transaction, and Mr Samant’s unconvincing answer was too readily accepted by the board. Further the fact that it was not a “one-off” transaction but a series serves to underline the point.”

 

1252.     That the knowledge of those other than the director(s) of a company can be attributed to the company in the context of Kittel cases is plain from the judgment of Lewison, J. (as he then was) in The Commissioners for HMRC v Livewire Telecom Ltd [2009] EWHC 15 (Ch) at [123]:

“The taxable person was Olympia (the company). The question therefore for the Tribunal was not what a director of Olympia knew or ought to have known, but what the company itself knew or ought to have known. The knowledge of a director of the company may, to be sure, be attributed to a company, but there may be other knowledge (for example that of a senior employee) which, on the facts ought also to be attributed to the company: Meridian Global Funds Management Asia Ltd v Securities Commission [1985] AC 500.”

 

1253.     Warren, J. addressed the issue of attribution in the context of the principle in Kittel in The Commissioners for Her Majesty’s Revenue & Customs v Greener Solutions Ltd [2012] UKUT 18 (TCC). From [23] Warren. J, cited the relevant parts of Meridian etc. At [47] Warren, J. made plain that even if an employee (compared with say, a director) had the relevant state of knowledge for the Kittel principle to apply, that state of knowledge would be attributed to the corporate taxpayer for the purpose of the Kittel principle:

“I agree also with Mr Foulkes’ observations about the context of the substantive rule which gives rise to the issue: it is the objective of combating fraud within the context of the VAT legislation. A parallel objective was to be found in Bank of India which led the Court of Appeal, in agreement with Patten J at first instance, to conclude that the application of section 213 required a special rule of attribution in order to make the policy effective. The purpose, or at least a major purpose, of the Kittel principle is to combat fraud. The Tribunal’s decision would make a serious in-road into that principle: in cases where there were innocent shareholders or directors who had been deceived by a fraudulent employee or director, the company might be able to escape liability notwithstanding that it was able to profit considerably from the transactions conducted on its behalf.”

 

1254.     In Jetivia SA & Anor v Bilta (UK) Ltd & Ors [2015] UKSC 23 the Supreme Court at [41] at p.249 AB suggested that, “the key to any question of attribution is ultimately always to be found in considerations of context and purpos e.”  Importantly at paragraph 39 of the judgment in Bilta it was said:

Rules of attribution are as relevant to individuals as to companies. An individual may himself or herself do the relevant act or possess the relevant state of mind. Equally there are many contexts in which an individual will be attributed with the actions or state of mind of another, whether an agent or in some circumstances an independent contractor. But in relation to companies there is the particular problem that a company is an artificial construct and can only act through natural persons .”

 

1255.     A similar stance was adopted in Moulin Global Eyecare   Trading Ltd (in liquidation) v Commissioner of Inland Revenue  [2014] HKCFA 22, (2014) 17 HKCFAR 218 at [41] page 211AB where it was stated that, “ [o]ne of the fundamental points to be taken from Meridian is the importance of context (including, as in this case, statutory context) in any problem of attribution.”

1256.     In Meridian the Court of Appeal did not limit how the rules of attribution might apply to a company alone. At page 506F (page 7AB) the Privy Council (Lord Hoffman delivering the judgment on behalf of the Court) found that:

These primary rules of attribution are obviously not enough to enable a company to go out into the world and do business. Not every act on behalf of the company could be expected to be the subject of a resolution of the board or a unanimous decision of the shareholders. The company therefore builds upon the primary rules of attribution by using general rules of attribution which are equally available to natural persons, namely, the principles of agency . It will appoint servants and agents whose acts, by a combination of the general principles of agency and the company's primary rules of attribution, count as the acts of the company .” ( Emphasis added )

 

1257.     In Bilta [191] p.297AB it was stated (in the context of attributing the state of mind of an individual to a company) that the relevance of the context in which the question was asked was not limited to Lord Hoffman’s third category. Bowstead and Reynolds on Agency is quoted; “ Before imputation occurs there needs to be some purpose for deeming the principal to know what the agent knows .”

1258.     Following the decision in Bilta , the Upper Tribunal determined the case of Mobile Sourcing Ltd -v- Revenue and Customs Commissioners [2016] UKUT 274 (TCC). Principally, the Upper Tribunal considered whether Bilta had materially changed the law since it decided Greener Solutions Limited -v- Revenue and Customs Commissioners [2012] STC 1056 (a case specifically about attribution of knowledge in MTIC cases). Mr Justice Morgan and Judge Sinfield (President of the FTT) considered the earlier authorities before turning to Greener Solutions where they stated as follows:

“30. In Greener Solutions, the FtT held that the principle it should apply was as follows:

The principle we derive from these authorities is that the Hampshire Land principle is of general application and applies to prevent the knowledge of the agent in breach of his duty to the company being attributed to a company where the company is a victim of his fraud. In determining whether there is a fraud against the company “one should consider the effect of the acts themselves, and not what the position would be if those acts eventually prove to be ineffective.” And “In judging whether the fraud was in fact harmful to the interests of [the company], one should not be too ready to find such harm .”

 

Extent of knowledge, identification of individuals with knowledge and cumulative knowledge


1259.     HMRC do not have to prove that CFE knew or should have known either the details of the fraud or the identities of the fraudulent defaulters ( Megtian Ltd (In Administration) v The Commissioners for Her Majesty’s Revenue & Customs [2010] EWHC 18 (Ch) at [37-38] per Briggs, J. (as he then was).

1260.      HMRC neither allege nor have to prove that those at CFE who undertook or supervised the transactions were dishonest - see The Commissioners for Her Majesty's Revenue and Customs v Citibank NA, E Buyer UK Limited [2017] EWCA 1416 (Civ) at [90] per The Chancellor.

1261.     HMRC do not have to identify or select individuals and accuse them of having the requisite state of knowledge, rather than running a case that by inference that there must have been such a person and that person’s knowledge should be attributed to the relevant Appellant, would be.  HMRC do not, in the context of a large organisation, have to identify a specific individual by name to make good their case.

1262.      It is sufficient for the Tribunal to conclude that:

i. There must have been at least one such person;

ii. That person(s) must have been an employee of the Appellant; and

iii. That person(s) must have had sufficient responsibility within the Appellant such that it is proper to impute their knowledge to the body corporate.

 

1263.     In McNicholas , Dyson, J. found no requirement to identify by name “ all those employees of a company who have a part to play in the making and receiving of supplies, as well as those involved in its VAT arrangements” for the knowledge of those individuals to be attributed to an Appellant itself accused of the fraudulent evasion of VAT.

1264.     In the First-tier Tribunal decision of Citibank NA v Revenue & Customs [2014] UKFTT 1063 (TC) ( “Citibank” ) Judge Mosedale developed this point at [85] saying:

“85. But I do not think identification would be required: otherwise a corporate entity could avoid allegations of actual knowledge by simply refusing to cooperate with HMRC’s enquiry or call any witnesses, making it impossible to identify which particular person had actual knowledge. If the circumstantial evidence was sufficient to justify it, I think a Tribunal could draw the inference that at least one person, albeit unidentified, acting on behalf of the bank had actual knowledge.”

 

1265.     In Citibank Judge Mosedale also agreed with HMRC’s submissions on cumulative knowledge of matters relevant to the “should have known” limb of Kittel , saying at [87]:

“87. I agree with HMRC that to prove merely constructive knowledge they would only have to prove that various persons individually had separate elements of knowledge, which, when collectively attributed to Citibank, would mean that Citibank as an entity had constructive knowledge of the connection to fraud.”

 

Approach to an allegation of an overall scheme to defraud the revenue

 

1266.     HMRC allege that the denied transactions were part of an orchestrated scheme to the Revenue and that, in consequence, the Appellant knew that the transactions were connected with fraud.

1267.     Newey, J. (as he then was) addressed just such an issue in Regent Commodities Limited v HMRC [2011] UKUT 259 (TCC) at [46], stating:

I should have thought, moreover, that, in the circumstances of the present case, the evidence given by Mr Humphries [overall contra-trading scheme] and Mr Mendes [FCIB circularity] (as to which, see paragraphs 17-31 above) would of itself have sufficed to entitle the Tribunal to make a finding of actual knowledge. As already mentioned, the Tribunal considered (with justification, in my judgment) that that evidence indicated that Regent knew to whom it was supposed to sell.

 

1268.     Thus, an objective factor may be that a series of transactions took place as part of an overall scheme to defraud the Revenue. Inferences may then be drawn from the existence of the overall scheme to defraud the Revenue. Those inferences are not precluded simply because the Appellant did not know the facts that underpinned that scheme.

1269.     The Court of Appeal addressed this issue in Fonecomp Ltd v Revenue & Customs Commissioners [2015] STC 2254 at [51] where Arden, LJ. (as she then was) stated:

“[ 51] However, in my judgment, the holding of Moses LJ does not mean that the trader has to have the means of knowing how the fraud that actually took place occurred. He has simply to know, or have the means of knowing, that fraud has occurred, or will occur, at some point in some transaction to which his transaction is connected. The participant does not need to know how the fraud was carried out in order to have this knowledge. This is apparent from paras 56 and 61 of Kittel cited above. Paragraph 61 of Kittel formulates the requirement of knowledge as knowledge on the part of the trader that ‘by his purchase he was participating in a transaction connected with fraudulent evasion of VAT’. It follows that the trader does not need to know the specific details of the fraud .”

 

1270.     The Upper Tribunal addressed (i) the failures of the First Tier Tribunal to draw inferences from the existence of an overall scheme to defraud the Revenue and features thereof, and (ii) the error in ignoring the evidence about fraud and connection simply because those matters are no longer in issue, in The Commissioners for Her Majesty’s Revenue & Customs v Pacific Computers Ltd [2016] UKUT 350 (TCC) ( “Pacific” ).

1271.     HMRC’s first broad complaint before the Upper Tribunal in Pacific was ([6]):

“…that the FTT treated the evidence in relation to the overall scheme to defraud as incapable of being probative of PCL’s state of knowledge as to the impugned transactions. In doing so, HMRC submit that the FTT erred in law…”

 

1272.     The Upper Tribunal began (at [10]) by setting out the well-established approach that what was required to answer the questions before the FTT was a consideration of all the circumstances of the transactions, the totality of the evidence of those circumstances and consideration of what inferences ought properly to be drawn from that evidence.

1273.     The Upper Tribunal picked up on HMRC’s first broad complaint at [49]:

49. Although HMRC point to numerous examples within the FTT’s decision where they submit the FTT failed to have regard to the evidence, the overriding submission is that the FTT failed to have proper regard to the evidence of contrivance in the deal chains, including through the fraudulent conduct of participants in the chains, the circularity of fund flows and carouselling of products, and the control which HMRC argued the orchestrators of the fraud would need to have exerted over all the transactions in the deal chains. The FTT, say HMRC, either refused to place any or any proper weight on certain of the evidence or discounted it as relevant only to the facts of fraud and connection to fraud, which were accepted by PCL, and did not have regard to that relevant evidence when assessing the evidence of PCL, including the credibility of its witnesses .”

 

1274.     The Upper Tribunal (“UT”) at [78] held the existence of an overall scheme to defraud the Revenue was relevant to the knowledge of the Appellant and not simply to whether there had been a fraudulent evasion of VAT:

“78 . From a review of the case as put by HMRC in their written closing submissions to the FTT, we are satisfied that the FTT was wrong to describe HMRC’s case in this way. The FTT went on, at [225], to say that the carousel argument did not assist in considering whether the only reasonable explanation for PCL’s transactions was fraud “when PCL has accepted that there was fraud in the chain which caused a tax loss”. The FTT was thus saying that the evidence of orchestration and contrivance was relevant only to the existence of the fraud (which had been conceded), and failed to appreciate the relevance of contrivance and the submissions based on it to the question of knowledge .”

 

1275.     At [79] the UT described this as an error of approach. At [80-81] the UT said:

80. The FTT failed to appreciate, and thus failed to address, the link that HMRC was seeking to make between the evidence of fraudulent behaviour on the part of the three companies through the submission that the deal chains in which PCL’s transactions had been orchestrated by fraudsters to the submission that all companies involved, including PCL, must have been instructed so as to facilitate the fraud, and PCL must therefore have known, or should have known, of the connection to fraud. It did not connect the evidence and submissions in relation to the three companies with the question of PCL’s knowledge that it had to address. It simply considered whether PCL had been aware of the involvement of the three companies in the 2005 fraud. It said, at [218], that that involvement did not go to PCL’s actual knowledge or that the only reasonable explanation for PCL’s transactions was fraud; and at [219] it remarked, rather caustically, that “whilst this may be interesting information we do not see that it helps us answer the question was the only reasonable explanation for the transactions PCL took part in fraud? It does not go to what PCL did or did not know.”

 

81. It is regrettable that the FTT failed to appreciate the inferences which HMRC was inviting the FTT to make from the orchestrated and contrived nature of the fraud and the presence of fraudulent companies within the deal chains at issue in the appeal. The FTT was keenly aware, it appears, of the need to consider whether inferences could be drawn from the evidence. But in the FTT’s decision that awareness manifests itself, not in a proper consideration of whether inferences could be drawn, weighing the evidence on both sides and reaching a reasoned conclusion, but in a number of statements by the FTT of a general nature that there was no evidence on which to found any inference .

 

82. Although, as for example at [140], when describing its conclusion that PCL had no actual knowledge of fraud in the chains, the FTT stated that it had carefully considered all the evidence before it in reaching that conclusion, and that it had done so “because there was no evidence before us to show otherwise and no evidence laying a foundation from which such an inference could be drawn”, it is evident from how the FTT later addressed the question of orchestration and contrivance that it did not consider, or did not properly address, the evidence before it. Where there is evidence, and it is evidence from which the tribunal is invited to make an inference, the tribunal must address that question and explain its reasons either for drawing an inference or refusing to do so. It is not sufficient simply to say that there was no evidence. The failure by the FTT properly to address the submissions of HMRC by reference to the available evidence was an error of law .”

 

1276.     Thus, as a matter of law the Tribunal is entitled to draw inferences from the entirety of the circumstances of the relevant transactions in deciding whether the Appellant knew or should have known that the transactions were connected with fraud. The Tribunal is not restricted to facts demonstrably within the knowledge of the Appellant. That is to confuse what is known to someone with what should have been known or should reasonably have been known, an objective factor.  The Tribunal is not precluded from considering facts that only came to light after the HMRC investigation so long as they are facts that could reasonably have been known or discovered at the relevant time of the transactions.   That is not applying hindsight.

1277.     Therefore, the Tribunal should not be persuaded that the existence of an overall scheme is irrelevant to knowledge or means of knowledge.

1278.     But for the exclusion of hindsight properly understood (which is not the same as reliance on fact established after the event), the Tribunal should not be persuaded to confine itself in answering the two key questions in Kittel to facts only demonstrably known to the Appellant at the time of the transactions.  To do so would, on the binding authorities of Mobilx and Pacific , be an error of law.

1279.      Moses. LJ. endorsed the approach of Christopher Clarke, J. in Red 12 in Mobilx at [83]:

83. The questions posed in BSG (quoted here at § 72) by the Tribunal were important questions which may often need to be asked in relation to the issue of the trader’s state of knowledge. I can do no better than repeat the words of Christopher Clarke J in Red12 v HMRC [2009] EWHC 2563:-

 

“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. Nor does it require the tribunal to ignore compelling similarities between one transaction and another or preclude the drawing of inferences, where appropriate, from a pattern of transactions of which the individual transaction in question forms part, as to its true nature e.g. that it is part of a fraudulent scheme. The character of an individual transaction may be discerned from material other than the bare facts of the transaction itself, including circumstantial and “similar fact” evidence. That is not to alter its character by reference to earlier or later transactions but to discern it.

 

110. To look only at the purchase in respect of which input tax was sought to be deducted would be wholly artificial. A sale of 1,000 mobile telephones may be entirely regular, or entirely regular so far as the taxpayer is (or ought to be) aware. If so, the fact that there is fraud somewhere else in the chain cannot disentitle the taxpayer to a return of input tax. The same transaction may be viewed differently if it is the fourth in line of a chain of transactions all of which have identical percentage mark ups, made by a trader who has practically no capital as part of a huge and unexplained turnover with no left over stock, and mirrored by over 40 other similar chains in all of which the taxpayer has participated and in each of which there has been a defaulting trader. A tribunal could legitimately think it unlikely that the fact that all 46 of the transactions in issue can be traced to tax losses to HMRC is a result of innocent coincidence. Similarly, three suspicious involvements may pale into insignificance if the trader has been obviously honest in thousands.

 

111. Further 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. ”’

 

Adverse inferences

 

1280.     HMRC rely on the absence of a number potential witnesses for the Appellant who may have been able to give relevant evidence regarding the transactions of the Appellant which form the basis of the appeal.

1281.     The law in relation to the issue of adverse inferences is that summarised in Lord Sumption’s speech in the Supreme Court in Prest v Prest [2013] 2 AC 415 at [44], and that in Wisniewski v Central Manchester Health Authority [1998] PIQR P324 ( “Wisniewski” ). There is no difference between the two, per Morgan, J. in British Airways PLC v Airways Pension Scheme Trustee Ltd [2017] EWHC 1191 (Ch) ( “British Airways” ) at [141-143]:

141. The consideration which a court should give to the fact that a potentially relevant witness has not been called is well established. I can take the principles from the judgment of Brooke LJ in Wisniewski v Central Manchester Health Authority [1998] PIQR P324 at P340 where, having reviewed the authorities, he said:

 

“From this line of authority I derive the following principles in the context of the present case:

(1) In certain circumstances a court may be entitled to draw adverse inferences from the absence or silence of a witness who might be expected to have material evidence to give on an issue in an action.

(2) If a court is willing to draw such inferences, they may go to strengthen the evidence adduced on that issue by the other party or to weaken the evidence, if any, adduced by the party who might reasonably have been expected to call the witness.

(3) There must, however, have been some evidence, however weak, adduced by the former on the matter in question before the court is entitled to draw the desired inference: in other words, there must be a case to answer on that issue.

(4) If the reason for the witness's absence or silence satisfies the court, then no such adverse inference may be drawn. If, on the other hand, there is some credible explanation given, even if it is not wholly satisfactory, the potentially detrimental effect of his/her absence or silence may be reduced or nullified.”

 

142. This statement of principle is in accordance with the earlier decisions of the House of Lords in R v IRC ex p. T C Coombs & Co [1991] 2 AC 283 and Murray v DPP [1994] 1 WLR 1 and the comments of Lord Sumption in the Supreme Court in Prest v Prest [2013] 2 AC 415 at [44].

 

143. These principles mean that before I draw an inference and made a finding of fact adverse to a witness who was not called, I need to ask myself: