18113

INPUT TAX – carousel fraud – whether transactions must be ignored as not being economic activities with the result that an innocent party is not entitled to credit for input tax – yes – whether the principles of legal certainty, proportionality, equal treatment and interpretation on favour of the taxpayer prevent disallowing input tax of innocent party – no 

         LONDON TRIBUNAL CENTRE

	OPTIGEN LIMITED	Appellant

	- and -

	THE COMMISSIONERS OF CUSTOMS AND EXCISE	Respondents

	FULCRUM TRADING CO (UK) LIMITED (in liquidation)	Appellant

	- and -

	THE COMMISSIONERS OF CUSTOMS AND EXCISE	Respondents

			Tribunal:	DR JOHN F AVERY JONES CBE (Chairman)

Sitting in public in London on 14-15 April 2003

Tom Beazley QC and Javan Herberg, instructed by Peters & Peters, for Optigen

Robert Englehart QC and Adam Lewis, instructed by Peters & Peters, for Fulcrum

Rupert Anderson and Ian Hutton, instructed by the Solicitor for the Customs and Excise, for the Respondents

© CROWN COPYRIGHT 2003

DECISION

1.	This is a decision on a preliminary issue of law in an appeal by Optigen Limited (Optigen) against decisions contained in letters dated 16 October 2002, disallowing input tax of £7,302,940.51 (later reduced to £7,018,256.70) out of £63,714.43 claimed on 21 purchases in June 2002, and dated 30 October 2002 disallowing input tax of £13,003,452 (out of £15,526,956.93 claimed) on 19 purchases in July 2002.  
2.	It is also a decision on the same preliminary point of law in an appeal by Fulcrum Trading Co (UK) Limited (in liquidation), formerly Fulcrum Electronics Limited (Fulcrum), which I understand is on liquidation in consequence of the present dispute, against decisions contained in letters dated 11 November 2002, disallowing input tax of £1,956,830.40 in respect of 5 purchases out of £7,186,612.24 claimed for June 2002, and dated 23 December 2002 disallowing input tax of £1,107,187.20 in respect of 3 purchases out of £3,815,764.14 claimed in July 2002, and an assessment dated 7 February 2003 for £158,949 in respect of one purchase for the period 05/02 for reason code 19: “input tax disallowed—not for business purposes.”  These represent in total 9 purchases out of about 467 in the three months concerned.
3.	The two cases were heard together and this is a joint decision.  Optigen was represented by Mr Tom Beazley QC and Mr Javan Herberg, Fulcrum by Mr Robert Englehart QC and Mr Adam Lewis, and the Commissioners by Mr Rupert Anderson and Mr Ian Hutton.  Mr Englehart QC concentrated more on the factual side and adopted Mr Beazley QC’s contentions on the law, while making some further points of law.  There is no distinction between the two cases and I shall refer generally to each of the appellants as “the Appellant.”
4.	The Commissioners accept that the Appellant is an innocent party to transactions comprising a carousel fraud relating to computer chips, dealing in which is the Appellant’s trade.  On 2 April 2003 the Tribunal directed the following issue to be determined as a preliminary issue of law on the basis that all factual contentions set out in the Commissioners’ statement of case are correct:
“Is a trader entitled to credit for input tax on goods sold to him (and sold by him to companies outside the United Kingdom) when
(a) in the chain of supply of such goods there was a “missing trader” (a trader who incurs a liability to VAT, but goes missing without discharging that liability) or a trader using a “hijacked VAT number” (a trader using a VAT number which belongs to someone else), without in either case the trader who is claiming the credit being in any way concerned with or having any knowledge of such other trader’s failure to discharge the liability or misappropriation of the VAT number? and
(b) the chains of supply within which the sales to and by the trader took place were, unbeknown to the trader, part of a carousel fraud by others?”
5.	Assuming, contrary to the Commissioners’ contentions, that a carousel fraud is within the scope of VAT, it consists in its simplest form of the following transactions:
(1)	A company in another member state of the EC sells goods to a UK company, UK1.
(2)	UK1 should pay tax on the acquisition and claim the same amount as input tax.  UK1 sells the goods at a loss to a “buffer company,” UK2, charging output tax for which UK1, being the missing trader or the trader using a hijacked VAT number, never accounts to the Commissioners.  Part of the loss corresponds to the tax which it does not pay, thus enabling each subsequent sale to be made at a profit.
(3)	UK2 sells the goods to another buffer company, UK3, charging and reclaiming tax and so on through several such buffer companies.
(4)	Finally a sale is made to the broker (the Appellant in this case) who resells the goods to the same EC company at the same price at which it sold to UK1 on a zero-rated supply, reclaiming the tax paid to UK3 as input tax (the input tax disallowed in this case).
(5)	The process can be repeated.
6.	In real life, the position can be considerably more complicated involving each buffer company splitting the goods into smaller units and selling to different customers.  The transactions giving rise to the disallowed input tax are set out in detail in various annexes to the Statement of Case running from page 36 to 94 in the bundle of documents.  The flavour of these can be seen from the Commissioners’ description of Deal No.2 in June 2002 relating to Fancygrove (FG), the non-UK participant to which I have added the prices per chip from an explanation elsewhere in the papers:
“On 5/6/02 FG purchased 48,960 chips from Bond House (from deal 1) and used 22,752 of these chips.  On 5/6/02 FG purchased 29,952 chips from Harringtons (from deal 1) and 15,120 from Amitel (from deal 1).  The combined total of 67,824 was sold to VW Business [the missing trader, price £97 per chip] who added the 26,208 (from deal 3) to make a total of 94,032 and sold to Thornton [price unknown].
Thornton sold 94,032 chips to SDP [price £92.75 per chip].  SDP split the consignment into three parts and sold 22,896 to Fulcrum [price £93 per chip] who in turn sold 24,912 (2,016 difference = 7 boxes more) to Optigen on the 6/6/02 [price £95.25 per chip].  Optigen then sold the 24,912 to FG on the 6/6/02 [price £97.75 per chip].  SDP sold 44,928 to Bond House who in turn sold the 44,928 to FG on the 10/6/02.  SDP sold 26,202 to Amital who in turn sold 26,202 to FG on the 25/6/02.”
7.	The missing trader, VW Business, purchases the chips from abroad at £97 per chip and while we do not know the price at which it sells them, the succeeding transaction is at £92.75 and so we can deduce that VW sold them at a loss reflecting part of the VAT that it was not intending to pay.  It will be seen that both of the Appellants’ participation in this circle was in relation to 24,912 chips (out of a total of 94,960 chips, and of the 24,912, 2,016 seem to have had a different origin) which Fulcrum sold to Optigen making a profit of £2.25 per chip, the circle being completed by Optigen’s sale to FG at a profit of £2.50 per chip, the circle having originally started by FG selling to VW who sold to SDP before they reached Fulcrum.  
8.	The story continues in Deal No.4:
“On 6/6/02 FG purchased 44,928 from Bond House and used 10,368 of these chips (from deal 2) and combined this with a purchase of 26,208 chips from Amitel (from deal 2) and 5,472 from Fulcrum.  The combined total of 66,960 was sold to VW business on 6/6/02.  VW Business sold the 66,960 to Mercer who sold to SDP.  SDP split the consignment and sold 34,992 to Fulcrum who sold 8,352 of the 34,992 to FG.  Fulcrum sold the remaining 26,640 (34,992-8,352) to Optigen on 7/6/02 who in turn sold 26,640 to FG on 7/6/02.  SDP sold 31,968 of the 66,960 to Amitel who in turn sold to FG on 7/6/02.”
And so on up to Deal No.16 identified for June 2002 of which there is no circularity in six of them.  There are further schedules detailing the deals for July 2003.
Contentions of the parties
9.	In outline Mr Anderson’s case for the Commissioners is that the carousel fraud with a missing trader or hijacked VAT number is a circular transaction which is not a commercial activity and is accordingly outside the scope of VAT, even though the Appellant is not a party to the fraud but an innocent party in the chain.  Accordingly in relation to such supplies the Appellant received no supplies used for the purpose of any business carried on by it, and therefore the amounts are not input tax and the supplies made by the Appellant are not made in the course or furtherance of business for VAT.  The relevant purchases and sales, judged objectively, were devoid of economic substance and were not part of any economic activity.  The lack of knowledge of the Appellant is irrelevant.
10.	Mr Anderson concentrates on a purposive construction of the European VAT legislation.  He starts with the recitals to the First VAT Directive:
“Whereas the main objective of the Treaty is to establish, within the framework of an economic union, a common market within which there is healthy competition and whose characteristics are similar to those of a domestic market;
Whereas the attainment of this objective presupposes the prior application in Member States of legislation concerning turnover taxes such as will not distort conditions of competition or hinder the free movement of goods and services within the common market;…”
11.	The VAT Directives are concerned with genuine economic activity.  Viewed in this light a carousel fraud with a missing trader has no relevance to a common system of VAT that eliminates distortion of competition and hindrances on the free movement of goods.  While the goods go round the carousel there is no possibility of distortion of competition, no ultimate consumer, and no overall profit.  Accordingly Mr Anderson contends that a purposive approach to the interpretation of “supply” and “economic activity” must exclude transactions forming a carousel fraud with a missing trader.
12.	Mr Anderson contends first that transactions which, judged objectively, lack any economic substance are outside the scope of VAT.  He draws an analogy with the cases where an illegal activity has been held to be outside the scope of VAT: Mol (Case 269/86) [1988] ECR 3627, Happy Family (Case 289/86) [1988] ECR 3655, both concerning narcotics, and Witzemann (Case 343/89) [1990] ECR I-4477, concerning counterfeit currency.  The reason is that these illegal activities are not in the economic system and there is no potential for distortion of competition with other activities:
“…the court held that illegal imports or supplies of narcotic drugs or counterfeit currency, whose release into the economic and commercial channels of the Community was by definition precluded and which could give rise only to penalties under the criminal law, were wholly alien to the provisions of the Sixth Directive and did not give rise to any VAT debt.”  (Fischer (Case C-283/95) [1998] STC 708 judgment para.19)
Where the illegal activities are in competition with other activities VAT applies, as in Fischer, concerning unlicensed casinos in competition with licensed ones, or Coffeeshop “Siberie” (Case C-158/98) [1999] ECR I-3971 concerning the renting of tables in a coffee shop at which soft drugs are sold in competition with renting of tables elsewhere. 
13.	He draws a further analogy with the avoidance cases where transactions have been held to be outside the scope of VAT when their only purpose was to avoid VAT, as in Halifax v Customs and Excise Comrs. [2001] V&DR 73:
“The Halifax’s tax avoidance scheme contains transactions that have no business purpose and which were inserted solely for tax avoidance reasons.  To exclude these from the ranks of economic activities could not possibly create unfair competition.” (page 92)
At the resumed hearing of Halifax, the Tribunal also found as a fact that the sole purpose of the two subsidiaries in entering into the relevant transactions was tax avoidance [2002] V&DR 117, 126.  Similarly Blackqueen v Customs and Excise Comrs (2002) VAT Decision No.17,680 concerned a circular tax avoidance scheme in which it was accepted that the sole reason and intention of each of the companies concerned for entering into the series of transactions was tax avoidance (paragraph 15):
“Because of the special characteristics of the tax avoidance scheme the motor cars the subject of the scheme could not be marketed or incorporated into economic channels while they were part of the scheme…
Applying the principle in Halifax to the facts of the present appeal we conclude that all the transactions in the series of transactions had no business purpose and so did not constitute economic activities.”  (paragraphs 83, 84)
14.	Mr Beazley QC contends that the illegal trading cases are not analogous but are a narrow exception where trading in the goods is illegal.  Nor are the tax avoidance cases analogous because they all related to transactions within a controlled group whereas here the Appellant’s transactions were those of an independent third party without any knowledge of the fraud.
15.	Mr Anderson secondly contends that a transaction which lacks economic substance is neither a supply of goods nor a supply of services.  The economic reality of transactions must be considered, as in such cases as Glawe [1994] STC 543.
16.	Mr Beazley QC contends that the economic reality must be looked at for each separate transaction, not in relation to the whole of the fraudster’s scheme of which the Appellant has no knowledge.
17.	Thirdly, Mr Anderson contends that the lack of economic activity within a carousel fraud extends to each link of the carousel.  The entire scheme masterminded by the fraudsters is a fraud perpetrated against the Commissioners and lacks in its entirety economic substance.  The transactions have no purpose save those which are “wholly alien” to the VAT regime.  Consequently the Appellant’s transactions also lack any economic substance.  This is not contrary to the principle derived from BLP v Customs and Excise Comrs. [1995] STC 424 and applied in Robert Gordon’s College v Customs and Excise Comrs. [1995] STC 1093 that each transaction in the chain must be examined separately to ascertain objectively what output tax is payable and what input tax is deductible.  The Commissioners are looking at the substance of the Appellant’s transactions as part of a carousel and are not asking the Tribunal to take a global view of unrelated transactions (Robert Gordon’s College) or to have regard to the ultimate motive or intentions of the parties (BLP).
18.	Mr Beazley QC points out that Mr Anderson is attributing the fraudster’s purpose to the Appellant who does have a normal business purpose in carrying out the transactions.  He says that the Commissioners’ approach is clearly contrary to the prohibition on taking a global approach.
19.	Fourthly, Mr Anderson contends that where a transaction is devoid of economic substance, the mere fact that a party mistakenly believes itself to be involved in economic activity is irrelevant.  He contends that it is the inherent nature of the transaction that determines whether it is an economic transaction.  He cites the Tribunal’s summary in Halifax [2001] V&DR 73 at 92 (paragraph 53):
“The ICAEW decision and the other cases cited in Lord Slynn’s speech show that, in deciding whether an activity is an economic activity, it is, to use the words of the Advocate General (Lenz) in Wellcome Trust Ltd (Case C-155/94) [1996] STC 945, “…the inherent nature of the activity itself that is the vital consideration.”  The inherent nature of the transactions with which the present appeal is concerned is, taking those transactions collectively and individually, tax avoidance.  There was no business purpose.  Even the profits allowed to LPDS and CWPI, which are emphasised in the minutes of the meetings, were (to use Mr Fleming’s words referred to in paragraph 33 above) “built into the scheme”; they were not based on any real business activity.  Adapting the Sixth Directive terms, the Halifax’s tax avoidance activities were, we think, “counter-economic activities.”  They were, to use the ECJ’s words in Fischer, supra, at page 722 (paragraph 19),…“wholly alien to the provisions of the Sixth Directive and do not give rise to any tax debt” (at paragraph 53).
He contends that the inherent nature of the relevant transactions is a means to obtain an illegal advantage from the VAT system.  The profit made by the participants is “built into the scheme” and caused by the loss made by the missing trader compensated for the fact that he does not pay the VAT, and is “not based on any real business activity”.  The Appellant’s transactions have no objective reason to take place save as an integral part of the fraud.  In determining the VAT status of a transaction the apparent intention of the parties is not determinative, citing SAFE (Case 320/88) [1990] ECR I-285, in which the parties deliberately did not transfer legal ownership of the land intending unsuccessfully to avoid VAT on the supply of the land, and First National Bank of Chicago (Case 172/96) [1998] ECT I-4387, in which the necessarily retrospective calculation of the margin made by the bank in its foreign exchange transactions meant that the parties to a transaction did not know the basis on which VAT was charged.  Equally the parties’ belief as to the nature of the transaction is irrelevant.  Thus in Happy Family the fact that both the authorities and individual traders had treated the transactions as normal VAT supplies did not change their nature from being supplies of prohibited drugs.
20.	Mr Beazley QC says that the inherent nature of the relevant transactions is irrelevant and points out that the lawfulness of the transactions was not in issue in SAFE and First National Bank of Chicago.
21.	Fifthly, Mr Anderson contends that the Commissioners’ position is fully consistent with the general principles of European law.  It is not disproportionate to disallow the Appellant’s input tax if the transaction in which it was incurred was “wholly alien” to the VAT system.  It cannot make a difference that the Commissioners have a greater ability to investigate the facts.  Thee is no authority for proportionality to bring a “wholly alien” activity within the VAT system.  Nor is this a case of legal certainty, which is concerned with the law being certain at the time of the relevant transaction so that retrospective changes in the law were not permitted.  It is that the facts giving rise to the VAT position are not necessarily obvious to the Appellant.  He points out that the cases all deal with the legal position, such as the absence of any rule in new regulations dealing with a point covered by the old regulations (Gebroeders van Es Douane Agenten BV (Case C-143/93) [1996] ECR I-431), the Regulation containing no express provision on the consequences of a deposit being wrongly released (Konecke [1984] ECR 3921), and rules that had not yet been issued (Netherlands v Commission [1987] ECR 5091, Ireland v Commission [1987] ECR 5041).
22.	Mr Beazley QC contends that disallowing the Appellant’s input tax is a disproportionate approach when there are other avenues open such as the proposal contained in Budget Resolution No.14 for a new section 77A of the VAT Act 1994 to make the parties in the chain jointly and severally liable but only when they knew or had reasonable grounds to suspect that VAT on the goods or services would go unpaid, based on published guidelines, issued in draft for consultation, on what reasonable commercial steps a business can take to determine this.  This Budget proposal appears to assume, contrary to the Commissioners’ contentions in this case, that VAT is chargeable on missing trader intra-Community fraud, but Mr Anderson explained on instructions that the Commissioners would not apply it if they could prove the existence of a carousel fraud with a missing trader, leaving it to apply in other missing trader cases.
23.	Mr Beazley QC also contends that legal certainty is a fundamental principle of community law:
“which requires in particular that rules imposing charges on a taxpayer be clear and precise so that he may be able to ascertain unequivocally what his rights and obligations are and take steps accordingly….”  (Gebroeders van Es Douane Agenten BV (Case C-143/93) [1996] ECR I-431 Judgment para.27)
This is particularly so in relation to transactions having financial consequences:
“That requirement of legal certainty must be observed all the more strictly in the case of rules liable to entail financial consequences, in order that those concerned may know precisely the extent of the obligations which they impose on them” (Ireland v Commission [1987] ECR 5041 at 5088)
He also contends that the disallowance of input tax is in the nature of a penalty imposed on an innocent person which cannot be imposed unless it rests on a clear and unambiguous basis.  Since legal certainty is a fundamental principle it is not relevant that none of the decided cases relate to a situation where a factual uncertainty determines the legal position.  If the Commissioners are correct the Appellant’s inevitable lack of knowledge of the facts means that the cannot “take steps accordingly.”
24.	Mr Englehart QC raised two further principles of EU law: construction of ambiguities in favour of the taxpayer and discrimination between taxpayers.  Mr Anderson contended that the first did not go as far as the Appellant contended.  The second was based on the assumption that the Commissioners were not attacking the buffer companies but Mr Anderson confirmed that if they succeeded no tax would be charged to anyone in the chain.
Reasons for the decision
25.	The facts which I have to assume are that the Appellant has unknowingly taken part in one step in a carousel fraud with a missing trader (or hijacked VAT number), to which to save repetition I shall refer merely as a carousel fraud but implying that both the carousel fraud and the missing trader must be present.  The whole fraud consists of goods entering the United Kingdom at a particular price, going round in a circle and leaving the United Kingdom at the same price (although on the actual facts Deal No.2 in paragraph 6 above does show a profit of 75p per chip on the sale back to the non-resident) with each participant in the chain making a profit except the first, the missing trader, who makes a loss which is more than compensated for by its not paying over any VAT to the Commissioners.  
26.	It will be seen that the parties start from different points in coming to their different conclusions.  The Appellant starts from its own purchase and sale transactions and concludes that they are normal commercial transactions, being unaware, and having no means of knowing, that those transactions form part of a carousel fraud.  The Commissioners start with the overall transactions comprising the carousel fraud and conclude that the whole is outside the scope of VAT as not being economic activities, and so must every part be, including the transactions carried out by the innocent Appellant.  
Whether looking at the transactions as a whole is contrary to the prohibition on taking a global approach
27.	The Appellant’s first objection to the Commissioners’ approach is that it amounts to taking a global approach to transactions for VAT, which is prohibited.  I shall examine that point first because if the Appellant is right it will decide the case.  BLP Group Ltd v Customs and Excise Comrs (Case 4/94) [1995] STC 424 concerned the deduction of professional fees in connection with the sale of shares carried out by a company in order to pay debts.  The company wanted to attribute the fees to its normal taxable trading which was the cause of the debts, while the Commissioners contended that the fees had to be attributed directly to the exempt sale of the shares.  The ECJ found in favour of the Commissioners’ interpretation.  This shows that one looks for an objective direct and immediate linking of transactions, ignoring the taxpayer’s ultimate aim in carrying them out.  This principle was applied in Robert Gordon’s College v Customs and Excise Comrs [1995] STC 1093 where the College, which provided exempt education, constructed new playing fields and ancillary buildings, let them to a subsidiary having elected to charge tax on the lease, and the subsidiary licensed the College having elected to charge tax on the licence.  The self-supply charge was avoided because the College did not occupy the property as developer but as licensee of the subsidiary.  Lord Hoffmann interpreted the BLP principle as follows:
“…that decision [BLP] makes it clear that for the purposes of European value added tax legislation, it is not permissible to take a global view of a series of transactions in the chain of supply.” ([1996] 1 WLR 201, 209)
The self-supply charge under the Directive applied where tax would not be fully deductible on goods or services had they been supplied by another taxable person.  Here the supply of the licence was actually from another taxable person, the subsidiary, and so there was no room for the hypothesis to apply.  The House of Lords therefore found that the College was correct in saying that one could not take into account that the College had originally developed the land and granted the lease to the subsidiary.  In a tax avoidance scheme, in Customs and Excise Comrs v Thorn Materials Supply Ltd [1998] 1 WLR 1106, Lord Hoffmann, who dissented as to the result and so the other members of the House did not deal with the point, found against a Ramsay argument for cutting out a group company that had been inserted into a chain of supply without any commercial purpose, on the basis that to do so would involve taking a global view.  These cases therefore all look at transactions in a chain of transactions in isolation, ignoring the wider setting in which they occur, even though the transactions in Robert Gordon’s College were obviously designed to avoid tax.  But none of them related to circular transactions.
28.	The circular tax avoidance cases decided by the Tribunal take a broader approach and look at the transactions in their complete setting.  The transactions in Halifax were all with a group of companies.  Halifax agreed to grant a building lease (designed so as not to be a capital item) of a site to subsidiary No.1 at a premium; subsidiary No.1 entered into a construction agreement with subsidiary No.2, paying it in advance from funds lent by Halifax; subsidiary No.1 made a small standard-rated supply in this period and recovered all the input tax on the construction work; subsidiary No.2 engaged and paid arm’s length builders and reclaimed the input tax.  In the next accounting period the lease was granted as an exempt supply, the premium being funded by loan from Halifax.  Subsidiary No.1 agreed to sell the lease to subsidiary No.3 on completion of the work at a small profit which was an exempt supply but in a different accounting period from the one in which it had recovered the input tax on the construction work.  Subsidiary No.3 agreed to grant an underlease of the site back to Halifax so that Halifax was effectively in the same economic position as it would have been if it had contracted with the arm’s length builders.  The Commissioners contended that the building work had effectively been supplied by the arm’s length builders direct to Halifax.  Looking at the transactions objectively the Tribunal concluded:
“We have not been able to discern any business or ‘commercial’ rationale for any of the transactions referred to in paragraph 41 above, save that they were required to make the scheme work.” ([2001] V&DR 73, 90 paragraph 42)
One should add that in the second decision, the case having been remitted to the Tribunal by Neuberger J, the Tribunal also found that the purpose of the subsidiaries was to facilitate the implementation of the scheme; they had no separate intention of entering into the transactions in order to make a profit ([2002] V&DR 117, 126 paragraph 33).  The Tribunal in Halifax did not consider that it was taking a global approach ([2001] V&DR 73, 93, paragraph 55).  The Tribunal has made a reference to the ECJ on the basis that each participator had the sole intention of obtaining a tax advantage, and so the answer will not directly govern the facts of this case.  
29.	The same approach was applied to the completely circular tax avoidance scheme in Blackqueen v Customs and Excise Comrs (2002) VAT Decision No.17,680 in which cars went from Holdings to Blackqueen which leased the cars to Fuel & Co which sub-leased the cars back to Holdings; from Blackqueen to Strong Run and back to Holdings.  Thus ownership went round in a circle with Holdings enjoying possession in the meantime by means of a lease.  Blackqueen:
“…accepted that the sole reason and intention of each of the companies concerned for entering into the series of transactions was tax avoidance…” (paragraph 15)
Thus, whether looked at subjectively or objectively, the transactions were nothing but tax avoidance transactions.  These cases show that the prohibition on the global approach does not prevent one from seeing the reality of a circular tax avoidance scheme by looking at the scheme as a whole.  
30.	There is therefore nothing in BLP or in the cases in the UK courts relying on it that says anything about circular transactions.  There are two cases in the Tribunal that deal with circular tax avoidance cases by looking at the whole.  I therefore conclude that the Commissioners’ approach of starting from the whole of the transactions comprising the carousel fraud is not contrary to the prohibition on taking a global view of transactions.   This does not mean that one is required to look only at the whole.
The consequences of looking at the transactions as a whole
31.	Before deciding whether the correct approach is to look at the transactions as a whole or the Appellant’s transactions separately I shall look at the consequences of doing so.  The consequences of looking at the Appellant’s transactions separately are obvious; they are within the scope of VAT in the normal way.  Looking at the carousel fraud as a whole and ignoring for the moment the presence of an innocent party, the Appellant, in one of the transactions comprising the whole fraud, can one ignore the whole fraud as not being an economic activity?  Article 2(1) of the Sixth Directive subjects to VAT “the supply of goods or services effected for consideration within the territory of the country by a taxable person acting as such.”  By article 4(1) “‘taxable person’ shall mean any person who independently carries out in any place any economic activity specified in paragraph 2, whatever the purpose or results of that activity.”  By paragraph 2 “The economic activities referred to in paragraph 1 shall comprise all activities of producers, traders and persons supplying services including…”.  The issue is accordingly whether in a carousel fraud there are supplies of goods made by persons carrying out economic activities, whatever the purpose or results of the activities.
32.	A circular series of transactions comprising the carousel fraud where the goods enter and leave the UK at the same price certainly does not look like an economic transaction.  European law recognises that transactions in prohibited goods are outside the scope of VAT in Mol, Happy Family and Witzemann, and, subject to what the ECJ decides in Halifax, the same applies to a tax avoidance scheme where all the participants have the sole purpose of avoiding tax in entering into the transactions.  The reason for excluding transactions in prohibited goods is that there is no prospect of distortion of competition with other legal transactions in the case of prohibited goods (and conversely when there is a danger of distortion of competition, as in Fischer and Coffeeshop “Siberie,” VAT is payable on illegal transactions): 
“…the court held that illegal imports or supplies of narcotic drugs or counterfeit currency, whose release into the economic and commercial channels of the Community was by definition precluded and which could give rise only to penalties under the criminal law, were wholly alien to the provisions of the Sixth Directive and did not give rise to any VAT debt.”  (Fischer (Case C-283/95) [1998] STC 708 judgment para.19)
33.	The same reasoning applies in the circular tax avoidance cases where there are no transactions with parties other than the participants, as is demonstrated in the circular scheme in Blackqueen: 
“In our view, the series of transactions entered into by the group was wholly alien to the provisions of the Sixth Directive.  It frustrated the objectives of the Sixth Directive as it enabled part of the basis of assessment to escape taxation.  It ran counter to the principle of the Sixth Directive because tax was not applied to all the stages of the production and distribution process.  Because of the special characteristics of the tax avoidance scheme the motor cars the subject of the scheme could not be marketed or incorporated into economic channels while they were part of the scheme….” (paragraph 83)
34.	The transactions in issue here comprising the carousel fraud are even more clearly not economic activities than the transactions in the avoidance cases.  Overall there is no economic activity (although there is, or appears to be, an economic activity by the Appellant) and no danger of distortion of competition while the goods enter the United Kingdom, go round in a circle and leave the United Kingdom at the same price as they came in, in transactions having no purpose or result other than defrauding the Commissioners.  Such transactions are just as “wholly alien to the provisions of the Sixth Directive” as transactions in prohibited goods.  I therefore accept Mr Anderson’s proposition that such transactions are in principle outside the scope of VAT as not being economic activities.
35.	Within this approach of looking at the transactions as a whole, the only feature distinguishing the Appellant is that it intends to carry out a normal commercial transaction.  If transactions as a whole are not economic activities, part of the whole cannot be an economic activity.  VAT is charged on persons carrying out “any economic activity whatever the purpose or results of that activity” (article 4(1) of the Sixth Directive); it follows that VAT is not charged on any activity that is not an economic activity whatever the purpose of the activity.  The VAT treatment cannot change because of the Appellant’s purpose, any more than one can allocate inputs in BLP based on the taxpayer’s ultimate purpose in making the sale of shares:
“Moreover, if BLP’s interpretation were accepted, the authorities, when confronted with supplies which, as in the present case, are not objectively linked to taxable transactions, would have to carry our inquiries to determine the intention of the taxable person.  Such an obligation would be contrary to the VAT system’s objectives of ensuring legal certainty and facilitating application of the tax by having regard, save in exceptional cases, to the objective character of the transaction in question.” (Judgment paragraph 24)
The objective character of the transactions, looked at as a whole, is not an economic transaction and its purpose cannot change that.  Logically once the carousel fraud is complete, one ignores the whole circle of transactions; one cannot do so for some of the participants and not others.  I therefore accept Mr Anderson’s proposition that the fact that the Appellant is innocent of the fraud cannot make any difference.  Although at the time of the purchase transaction giving rise to the right to deduct input tax it is unknown whether there will be a circle and therefore a carousel fraud, in fact the Appellant uses the purchase to make a non-supply.  
36.	The consequence of looking at the transactions as a whole are that neither the Appellant nor any of the other participants has carried out an economic activity.  Obviously the consequence of looking at them separately is that the Appellant and the other participants have done so. 
Whether to look at the transactions as a whole or the Appellant’s transactions separately
37.	The case for looking at the carousel fraud as a whole is that it is circular and the fraudster planned it as a whole.  To do so is consistent with the circular tax avoidance cases.
38.	The case for looking at the Appellant’s transactions separately is that its transactions and purpose are wholly commercial and it has no purpose in completing the circle to make a carousel fraud.  It is also uncertain at the time the purchase transactions are entered into by the Appellant that there will be a carousel fraud comprising a complete circle because this does not then exist.  Unlike a circular tax avoidance schemes in Halifax and Blackqueen where all the participants share the same purpose and will therefore ensure that the circle is carried into effect, the Appellant’s commercial purpose and ignorance of the fraudster’s purpose means that one does not know whether the circular transactions comprising the carousel fraud planned by the fraudster will take place.  The Commissioners have disallowed only 9 of Fulcrum’s purchases out of about 467 in the three-month period.  Without going into the facts at this stage, how does one know at the time of a particular purchase by the Appellant that there will be a circle comprising a carousel fraud?  The facts that make the Appellant’s transactions into part of a carousel fraud do not exist when the Appellant incurs the input tax that the Commissioners seek to disallow.  Under article 17 of the Sixth Directive “The right to deduct shall arise at the time when the deductible tax becomes chargeable.”  Concentrating on the time when the Appellant purchases the chips when the input tax becomes chargeable, the chips have not been sold and so it cannot be known that there will be a circle (not that the Appellant ever knows that there is a circle as it sees only its own purchase and sale) or even that the missing trader will go missing (although I appreciate that it is part of the fraud that he intends to do so).  Both of these are necessary in the preliminary issue I have to decide.  The Appellant might sell to a genuine purchaser and so there is never a circle (or, as Fulcrum did in Deals Nos.2 and 4, may sell to another innocent person, Optigen, whose sale completes the circle), even though there is a missing trader.  Alternatively, there may be a circle but no missing trader because the Commissioners manage to intercept the proceeds before the trader goes missing; the Budget document VAT Strategy: joint and several liability, Consultation on reasonable checks (April 2003) mentions that “Customs has already enjoyed some success in…securing injunctions to meet missing traders’ debts.”  The fact of the Appellant’s transactions being part of a carousel fraud cannot be known until later as part of the Commissioners’ detailed analysis of all the transactions.  Finally, the effect on administration of VAT and the ability of taxpayers to self-assess would be serious if transactions of which the taxpayer was unaware had to be considered.
39.	The problem is that there is no middle way of treating the Appellant’s transactions as within the scope of VAT and all the others as outside.  Either the Appellant is right and all the transactions are within the scope of VAT, or the Commissioners are right and none of them is.  Having considered the arguments my conclusion is that I must look at the transactions as a whole.  Not doing so would be to shut one’s eyes to the reality of the situation.  The transactions as a whole consist of a carousel fraud which is circular and has no purpose or (if successful) result other than defrauding the Commissioners.  This case is analogous to the circular tax avoidance cases.   I therefore consider that the Commissioners succeed in their contention that I should look at the transactions as a whole with the consequence that neither the Appellant nor any of the other participants has carried out any economic activity.
The principle of legal certainty
40.	I shall next consider whether any principles of European law require a different result.  First, does the principle of legal certainty requires that the Appellant be entitled to input tax recovery because at the time the transaction giving rise to that recovery was entered into neither the complete carousel fraud nor the fact of the missing trader existed?  The ECJ has stated that the principle is a fundamental principle of community law:
“In that regard, it should be noted that the principle of legal certainty is a fundamental principle of Community law [reference to cases omitted] which requires in particular that rules imposing charges on a taxpayer be clear and precise so that he may be able to ascertain unequivocally what his rights and obligations are and take steps accordingly [references to further cases omitted].”  (Gebroeders van Es Douane Agenten BV (Case C-143/93) [1996] ECR I-431 Judgment para.27)
The Court has also stated that the principle must be observed strictly where, as here, the transactions have financial consequences:
“That requirement of legal certainty must be observed all the more strictly in the case of rules liable to entail financial consequences, in order that those concerned may know precisely the extent of the obligations which they impose on them” (Ireland v Commission [1987] ECR 5041 at 5088)
The principle was a reason for the ECJ deciding against the taxpayer’s contention in BLP that its ultimate purpose should be considered:
“Moreover, if BLP’s interpretation were accepted, the authorities, when confronted with supplies which, as in the present case, are not objectively linked to taxable transactions, would have to carry our inquiries to determine the intention of the taxable person.  Such an obligation would be contrary to the VAT system’s objectives of ensuring legal certainty and facilitating application of the tax by having regard, save in exceptional cases, to the objective character of the transaction in question.” (Judgment paragraph 24)
The attribution of the professional fees to the sale of shares to which they objectively related ignored the taxpayer’s subjective purpose in carrying out the transaction.
41.	Here, objectively the Appellant has taken part in an overall transaction that is not an economic transaction and I have decided that its purpose to carry out an economic transaction cannot change that.  But the principle requires that the taxpayer should be in a position to “take steps accordingly” which the Appellant cannot do as it does not know that it has taken part in a carousel fraud and it has no means of finding out until after the event.  Mr Anderson makes a distinction between legal certainty and factual certainty, the cases all being examples of the former.  The principle requires that “rules imposing charges on a taxpayer be clear and precise” with the consequence that “he may be able to ascertain unequivocally what his rights and obligations are and take steps accordingly.”  Here the reason why the consequence does not apply is that the Appellant does not know, and cannot know, all the facts, not because there is anything uncertain about the law to be applied.  In my view, this is not a breach of the principle of legal certainty.
Proportionality, equal treatment and interpretation on favour of the taxpayer
42.	Proportionality requires that the means used to prevent carousel frauds must be appropriate and necessary to attain that end.  The means is to treat circular fraudulent transactions as outside the scope of VAT.  In spite of the fact that this catches innocent parties like the Appellant I cannot see that the means is disproportionate.  The burden of the consequence falls more heavily on the Appellant not because the Commissioners’ interpretation is disproportionate but because it has exported the goods and therefore has no output tax, with the result that it stands to lose a large input tax recovery.  The buffer companies have paid only a small net VAT liability which in the light of this decision will have to be refunded.  
43.	Since the Commissioners are proposing to treat all the participants in a carousel fraud as not having carried out an economic activity there is no unequal treatment or discrimination between different traders.
44.	Interpretation in favour of the taxpayer may apply when there is an ambiguity in legislation but I do not think that is the case here.  There is no ambiguity in imposing VAT on economic activities and not imposing VAT where the transactions looked at as a whole are circular and do not amount to an economic activity.
Conclusion
45.	I have found this case difficult and I have come to a conclusion that I did not expect to come to having wavered several times.  The problem is not confined to computer chips and mobile phones, the areas where the Budget proposes to impose specific measures to prevent such frauds, but could potentially occur in any chain of transactions where unknown to the trader there is a circular series of transactions and a missing trader.  Another recital of the First VAT Directive is:
“Whereas a system of value added tax achieves the highest degree of simplicity and of neutrality when the tax is levied in as general a manner as possible and when its scope covers all stages of production and distribution and the provision of services…”
It would be difficult to imagine a system further removed from simplicity or neutrality if the VAT treatment of transactions depends on a retrospective analysis of other transactions of which the Appellant is unaware and cannot discover.  For Fulcrum, for which we have figures, the Commissioners have attacked 9 out of 467 purchases in the three-month period which, one assumes, looked no different to Fulcrum than the other purchases.  The Appellants have between them lost the right to recover more than £23m of what looked like input tax that they have paid.  But regretfully I see no escape from the conclusions I have reached which flow from looking at the transactions as a whole.
46.	My conclusion is that the Commissioners are right in saying that the Appellant’s transactions are outside the scope of VAT as not being economic activities, and that there is no principle of European law that prevents that result.  Accordingly I answer “no” to the question posed in the preliminary issue of law set out in paragraph 4 above, with the consequence that the preliminary issue of law does not determine the appeal.  The Appellant may wish to appeal rather than apply for a hearing of the factual side of the appeals.  Accordingly the Tribunal will not take steps to arrange a further hearing during the time limit for appealing unless the Appellant requests it to do so.
47.	I assume that questions of costs do not arise at this stage but in case this is wrong I give the Commissioners liberty to apply in principle for an award of costs.

J F AVERY JONES

CHAIRMAN

                                                               1 May 2003

LON/02/961 and 965 (Optigen)
LON/02/1010, LON/03/35 and 189 (Fulcrum)