Traders footing £25m VAT bill after landmark appeal fails

Three mobile firms out of pocket as pivotal hearing warns firms that "choose to ignore" links to fraud

VAT's life: UK firms involved in 800 ongoing cases could be affected by the appeal's ruling

The Court of Appeal has reinforced HM Revenue and Customs' (HMRC) claim against three mobile phone traders in a ruling set to have far-reaching implications.

Calltel, Opto Telelinks and Mobilx, (which is now in administration) have previously been chased through the High Court and a Tribunals process for more than £25m in combined VAT deductions. A fourth firm, Blue Sphere Global (BSG), was part of the same hearing, as HMRC appealed a tribunal ruling in the trader's favour.

The case was the first to reach the Court of Appeal since the landmark Axel Kittel v Belgium case in the European Court of Justice (ECJ). The Kittel case saw the ECJ rule that firms are ineligible to make tax deductions for transactions that "they knew or should have known" were linked to fraud.

In a transcript of the appeal hearing, available from the British and Irish Legal Information Institute, Lord Justice Moses claimed the decision hung on "two essential questions".

"Firstly, what the ECJ meant by 'should have known'," he said. "And secondly, as to the extent of the knowledge which it must be established that the taxpayer had or ought to have had: is it sufficient that the taxpayer knew or should have known that it was more likely than not that his purchase was connected to fraud or must it be established that he knew or should have known that the transactions in which he was involved were connected to fraud?"

Ultimately, Moses ruled that the tribunal had applied the wrong test by seeking to ascertain whether traders should have known their transactions were "more likely than not" to be connected to fraud. Nonetheless, the tribunal's ruling against Mobilx was upheld.

Moses explained: "In my judgment, on the basis of [the tribunal's] findings the true and only reasonable conclusion, is that Mobilx ought to have known that the only realistic possibility... was that its purchases would be connected with fraudulent evasion of VAT and not merely that all its transactions were more likely than not to be connected with fraud. In those circumstances, despite the Tribunal's error of law in the test which it applied, that error makes no difference to the true and only reasonable conclusion."

The appeals of Calltel Telecom and Opto Telelinks were also dismissed. With BSG, the tribunal had previously ruled in favour of the firm after finding that a link to fraud was not "the only reasonable conclusion" the company could have come to. HMRC's appeal against this decision was also dismissed.

Since the Kittel case, there have been 20 tribunal decisions and six High Court rulings in VAT cases relating to UK traders. There are also more than 800 cases, involving upwards of £2bn in VAT, which are awaiting final decisions.

While upholding HMRC's claim, the appeal noted that the test of culpability was applied wrongly in the tribunal's findings against the three traders. The appeal's finding that traders that "should have known" their transactions were linked to fraud will doubtless come to bear on hundreds more cases.

Moses closed the appeal hearing by concluding: "A trader who chooses to ignore circumstances which can only reasonably be explained by virtue of the connection between his transactions and fraudulent evasion of VAT, participates in that fraud and, by his own choice, deprives himself of the right to deduct input tax."