Speaker's Corner, by Neil Owen. Neil Owen, BA FTII AIIT MBIAC, is a freelance speaker and writer on VAT. He is also Principal of Southern VAT, a consultancy based in Eastleigh, Hampshire. This article appeared in the January 2003 issue of Tax Adviser. It is not often that a value added tax (VAT)-related announcement in a pre-Budget statement hits the headlines, and even less often that one relating to administrative, rather than policy, matters is mentioned in the national press. Yet the new approach to VAT strategy, announced on 27 November, and heralded in the Customs & Excise document Protecting indirect tax revenues did exactly that. Opposition to the proposed changes from the business community was prominent in the business sections of the following day’s newspapers. Why the reaction, and was the criticism justified?
Easy to say …
In their own summary of the new strategy, Customs identify eleven strands. Some are uncontroversial, some surprising and some arguably disturbing. The overall aim, say Customs & Excise, is to ‘… make it easier to comply with the VAT rules and harder to abuse them’. This is easy to say and difficult to deliver. Experience shows that changes designed to counter practices perceived by Customs as abusive almost invariably make life more difficult for those who have no interest in such practices.
Furthermore, a key element of Customs’ new strategy is the reallocation of 1,000 staff over the next three years to ‘crack down hard on those who continue to abuse the system.’ Given the huge reduction in the number of visiting staff and VAT visits undertaken over recent years, it is difficult to see how this will enable Customs, at the same time, as their document declares, to develop ‘a new out-reach programme designed to get businesses, especially newly-registered ones, into a sustained pattern of voluntary compliance’. Indeed, elsewhere the paper states that Customs will be, inter alia, ‘ … focusing less on the number of VAT assurance visits made … ”
However, these aspects are in some respects trivial. The main thrust of the report is concentrated on dealing with ‘the shortfall in VAT revenues’. This is defined as consisting of ‘Missing Trader Fraud, abusive tax avoidance, non-compliance and the failure of businesses to register for VAT’. A disturbing trend is apparent here. Tax avoidance is linked directly with various kinds of illegal activity. The earlier description applied to those tax arrangements disliked by Customs, ‘unacceptable tax avoidance’ has been replaced by an even more emotive and distortive one, ‘abusive tax avoidance’. Those who indulge in such activities are close to being branded criminals. Whatever one’s view of the sorts of schemes Customs have in mind, this cannot be right.
Legal and illegal activity
Avoidance has always been, is, and will remain legal. Schemes designed to reduce the amount of VAT payable are either within the law or outside it. If within, Customs may seek redress by changing the law. If outside, they will be struck down by the courts. Such forms of redress are available to Customs, and indeed are frequently used by them. If the doctrine of ‘abuse of right’ pleaded by Customs in Halifax  BVC 2240 is a valid one, more schemes may ultimately fail. (There are, of course, clear echoes of this phrase in Customs’ choice of words in their paper.) But to brand avoidance ‘abusive’ is to pre-judge the courts and, it might be said, deliberately to blur the intellectually clear distinction between legal and illegal activity.
Nine pages of the 21-page document are dedicated to the new VAT strategy, immediately following six on the subject of tackling excise fraud. Recent successes in this latter area are used as an example of the approach which will be taken to reduce ‘VAT revenue losses’. This is also disturbing, as key elements of Customs approach to the prosecution of cross-Channel smuggling have been declared by the courts to be themselves illegal. Efforts to prevent carousel fraud have also led to the inappropriate persecution of legitimate businesses. It is to be hoped that the measures taken under the proposed new initiative are more carefully targeted.
It is difficult to avoid (no pun intended) the conclusion that some of Customs’ historical attitudes to taxpayers have come back to the fore. This is a shame, because much of what is proposed could be readily endorsed were it not tainted by such contradictions. It also sits uneasily with the assertion that a more caring and considerate attitude will be taken to businesses which comply voluntarily with the VAT rules. Part of the problem with this is of course the fact that this means complying with the rules as Customs would like them to be seen, not as genuinely responsible traders may legitimately interpret them in circumstances where there is a valid basis for alternative views.
There are also some surprising aspects to the report. In particular, there is to be a short-term amnesty for unregistered businesses trading above the threshold, prior to a clampdown, based in part on increased cooperation with the Inland Revenue. The first element of this strategy is undoubtedly welcome, although there is some uncertainty over the likely uptake. Arguably, it is the back tax, rather than the penalties, which are the greatest disincentive to admission of guilt in this area. With a maximum penalty rate of 15 per cent of the net tax due, the penalty is by definition no more than 13 per cent of the cost of belatedly registering. A far greater incentive would arise if the tax were also to be waived, but this is clearly not a step which Customs could take. Even a waiver of the penalty is not without controversy, as it could be seen as discriminating against all those traders who have in the past volunteered the fact that they have not registered when they should, and whose penalties are unlikely now to be retrospectively withdrawn.
Methodologies set out
The paper Protecting indirect tax revenues is accompanied by a second document, called Measuring indirect tax losses, which, at 25 pages, is the longer publication. This sets out the methodologies by which Customs estimate the losses arising from the various fraud and avoidance activities which they identify in the former document.
Computations are used to arrive at the VAT theoretical tax liability (VTTL), which is then compared, year-on-year, to the actual tax take. These tables purport to show an increase in the difference of £7 billion between 1990 and 2001. The difference, referred to as the ‘Gap’ was £3.4 billion in 1990 and £10.4 billion in 2001. In percentage terms, this is an increase of just over 200 per cent. However, the yield from VAT has also increased over the same period, from £31 billion to £61 billion. As a proportion of the total yield, the Gap is identified as having risen from 9.8 per cent to 14.6 per cent. That is to say, it has increased by slightly less than half.
Given that the report admits that ‘ … there are limitations associated with the data on which calculating the VTTL depends’, it is at the very least arguable that this variation is within an acceptable level of tolerance. However, it is clear that this is to form the basis of comparison, against which the success of Customs’ crackdown will be measured. The report describes this approach as ‘top-down’, and goes on to consider another method of calculation, namely ‘bottom-up’.
This approach is based on Customs’ analysis of their own work on the ground, such as information gathered on VAT visits. Despite the length of the report, it is actually short on the details of the precise calculations undertaken in this regard. For example, it is known that data published in the past in respect of tax assessed on assurance visits made no differentiation between sticking tax and non-sticking tax. Without precise information as to whether or not this is the case here, it is impossible to see if the figures quoted (VAT lost as a result of errors, omissions, etc. is between £2.5 billion and £4 billion per annum – actually not a very precise sum anyway) are based on accurate presumptions.
The calculation for VAT lost to avoidance is calculated on no more sustainable a basis than ten times the amount paid by businesses to their advisers ‘on VAT avoidance schemes’. Aside from the question of how Customs know so precisely how much this is (they say £250–300m), this does not appear to be a very scientific method of calculation. Do they really intend to use this as a method of measuring future success?
A significant proportion of the paper is devoted to fraud in other indirect taxes, and there is a welcome openness in the publication of the methods of calculation used in all these areas. However, as has been pointed out, this often begs as many questions as it answers.
The overall aim on the VAT side is to produce more than £2 billion per annum of additional revenue by 2005–06. Only time will tell if this will happen of course, but, in the meantime, it is clear why the announcement has generated so much controversy.
The VAT strategy: summary of key measures
The reduction in VAT losses and the additional revenue yield which the government has set out to achieve will be delivered through an integrated strategy designed to make it easier to comply with the VAT rules and harder to abuse them.
The key measures which will deliver the VAT strategy are as follows:
- the deployment of 1,000 staff both to enhance existing efforts in the key problem areas and provide the resources for the new activities described below;
- a new out-reach programme designed to get businesses, especially newly-registered ones, into a sustained pattern of voluntary compliance;
- a broader-based, intelligence-led, risk-based approach to tackling non-compliance, based on improved analysis of the patterns of non-compliance, and targeting of resources on high-risk sectors of the economy;
- an increase in the use of deposits and guarantees to secure timely payments from businesses with histories of persistent non-compliance;
- a one-off, short-term scheme where unregistered businesses operating above the VAT threshold will be able to obtain relief on their penalties if they come forward for registration voluntarily;
- followed by a tough crackdown – alongside the Revenue – on those businesses who continue operating above the registration threshold, but outside the VAT system;
- the recruitment of new highly-specialised anti-avoidance experts with proven ability to identify and shut down legislative loopholes and abusive tax avoidance schemes;
- the inclusion – alongside the Regulatory Impact Assessments which accompany new legislation – of a specific avoidance impact assessment, explaining the elements included to prevent avoidance and the steps taken to make the legislation avoidance-proof;
- a substantial increase in both the speed with which avoidance schemes are identified, and the number of schemes challenged;
- a stepping up of efforts to prevent bogus traders from registering, identify those already on the register, stop their frauds before they grow, and recover VAT Missing Trader debts from the fraudsters; and
- the use of Customs’ specialist investigators, with proven track records in dismantling organized criminal operations, to target the gangs behind Missing Trader Fraud.
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January 2003 by