Let's imagine you are a company trading in many different types of goods. You issue VAT invoices and you pay VAT to your supplier in the normal way. You undertake credit checks and you make sure you know who you are trading with. Suddenly, you receive a visit from HMRC who say there has been a serious VAT loss somewhere along your supply chain because of a "defaulting trader'. What has this tax loss got to do with you? You respond by confirming that you collect and pay all of your VAT as required by HMRC. You might even invite them to speak with your accountant and you positively wish to disclose a lot of financial information to HMRC in the hope that they will be satisfied with your proper procedures.

During the visit, HMRC serve you with a Notice 726, something you may not have seen before. They talk about Missing Trader Intra-Community Fraud (MTIC) and they refer to a schedule of invoices issued by one or more of your suppliers. They might not tell you exactly where the VAT loss has occurred. They might not even tell you exactly how much the VAT loss is or why it occurred. Was it, in reality, the result of conventional bad debt or business failure, rather than fraud? You begin to wonder why the officers are asking you questions about your supply chain, annual accounts, logistics, KYC checks, due diligence and who your suppliers are.

They then serve you with a letter containing some important paragraphs along the following lines:-

'The fact that this notification of tax loss letter has been issued to you does not limit HMRC's right to deny input tax in respect of these transactions if, when the facts are known, it is established that you knew or should have known that you were participating in a supply chain connected with the fraudulent evasion of VAT. You should satisfy yourself that you have undertaken sufficient due diligence commensurate with the perceived risk to satisfy yourselves as to the integrity of your suppliers and customers, and of the underlying supply chains. It is your responsibility to determine which checks to carry out and whether to undertake transactions in light of the results of those checks. Examples of checks that you may wish to consider are listed in Notice 726 section 6'

Furthermore, if you trade in goods regarded as "specified" for the purposes of the regulations, HMRC will talk about how the company may be held "jointly and severally liable" for the net tax charged on those goods if the company knew or had reasonable grounds to suspect that in your supply chain the VAT on the supply of specified goods would go unpaid.

In essence, it means that HMRC is trying to recover someone else's VAT default from you and the visit is normally followed by some intense correspondence with HMRC in an attempt to establish that you did not know and (given the circumstances) should not have known that your company was participating in a supply chain resulting in a fraudulent evasion of tax. Typically, a company will have implemented quite a few of the measures suggested in Notice 726. HMRC's visit is designed to test the extent of compliance with what I will refer to as the 'Notice 726 factors' and the company's ability to pay a financial penalty in respect of the tax loss. Clearly, it is in a company's interests to implement the relevant Notice 726 factors from the outset, so that the HMRC investigation results in an agreement that the company acted appropriately. This assumes that the proper measures did not actually reveal red flags that would have caused a sensible company to refuse to trade with the relevant supplier. However, I encounter many situations in which the company feels the need to implement additional measures AFTER the HMRC visit because they find a shortfall in the procedures. This may protect the company from future problems, but will this satisfy HMRC in relation to the current VAT loss?

Here are some of the typical questions I answer when I am instructed by a company to assist with an HMRC inspection whether I become involved before, during or after the meeting:-

1. What is 77A of the Value Added Tax Act 1994 and why did HMRC think it was relevant during the visit?

2. What are 'Specified goods'?

3. What is 'joint and several liability' and why does it apply to me if I paid a normal market price for the goods?

4. HMRC talked about the 'reverse charge' in relation to our trade in mobile phones and computer chips. What does this mean?

5. How do I defend an allegation that I knew or should have known about the tax loss?

6. The Notice 726 mentions 'rebuttable presumptions'. What evidence do I need to develop this defence?

7. How do I convince HMRC that there are no 'reasonable grounds to suspect'?

8. How do I avoid being caught up in an MTIC fraud?

9. Which 'reasonable steps' should the company take to protect itself?

10. Why won't HMRC tell me which checks and procedures I should implement?

11. HMRC have sent me a 'Notification Letter'. What do I do from here?

12. Is there a time limit to respond to a Notification Letter?

13. HMRC have sent me a 'Notice of Liability'. Can I appeal and is there a time limit?

14. Do I have to pay the liability pending my appeal?

15. Should I ask HMRC to review their decision or should I appeal straight to the 1st Tier Tribunal?

16. What is HMRC looking out for when they check the company's compliance with Notice 726 factors?

17. Let's say I agree with HMRC. How can I minimise the financial penalty?

18. Do I have to agree to a meeting with HMRC? What are the consequences if I refuse?

19. What information do I have to provide to HMRC?

Quite apart from the technical aspects of HMRC's allegation, I also have to advise clients on some practical issues:-

17. Do I need to be legally represented at the meeting with HMRC?

18. Will the company insurance policy pay legal expenses and / or any financial penalty?

19. If not, how much will legal representation cost for

• The meeting,
• Subsequent correspondence with HMRC
• Preparation for a review
• An appeal to the Tribunal

20. If HMRC withdraw or if I win at Tribunal, can I recover my legal costs?

21. Can I claim damages against HMRC if they acted inappropriately?

It is difficult to answer these questions comprehensively in a short article, especially since the answers depend largely on the type of business I represent. I am asked to become involved at different stages of the process:-

• Prior to HMRC involvement to assist with the implementation of proper procedures (AML / KYC / Notice 726 factors etc.)
• Before the meeting; to prepare and correspond with HMRC beforehand.
• At the meeting, to defend the company's interests and ensure HMRC behave properly.
• After the meeting, to assist with answering HMRC questions.
• Preparing a submission for a statutory review.
• Appeal to the First Tier Tribunal.
• Negotiating penalties and HMRC costs.

One thing is certain; without experienced legal representation, it is difficult to compile all of the information and arguments a company requires to convince HMRC that your company should not be their target in the recovery of someone else's default. Please feel free to call for a no obligation chat on how we can assist.