HMRC VAT Enquiries – Understanding the Kittel Principle in VAT Investigations

The Kittel principle is a statutory tool used by HM Revenue and Customs (HMRC) in VAT investigations to prevent MTIC/Carousel fraud.

This principle, established by the European Court of Justice in the cases of Axel Kittel v Belgian State and Belgian State v Recolta Recycling SPRL (C-439/04 and C-440/04), allows HMRC to deny a business the right to reclaim input VAT if the taxpayer knew or should have known that its transactions were connected to VAT fraud.

We have increasingly seen Kittel used in both construction and mini-umbrella companies of late, and it is important to be aware that HMRC does consider this in VAT enquiries.

How HMRC applies the Kittel principle

HMRC has been using the Kittel principle increasingly in its VAT investigations where they believe that fraud has taken place within the supply chain.

When conducting an investigation, HMRC will scrutinise a business’s transactions, along with other companies that they work with, to identify any connections to fraudulent activity.

A few of the key indicators that may alert HMRC to potential VAT fraud include:

• Failure to conduct due diligence on suppliers and customers
• Unusual transaction patterns or pricing
• Lack of proper documentation or records

If HMRC determines that there has been VAT fraud in the supply chain, they will usually write to all the associated businesses, informing them that they should no longer trade with the company that they suspect is fraudulent.

HMRC may conduct checks into associated businesses to determine whether they knew or should have known about the fraudulent nature of its transactions.

If they determine that the business should have known about the fraud, they will issue a Kittel Notice which will deny the business the right to reclaim input VAT on those transactions.

This is usually followed by assessments to collect the previously claimed input VAT.

Additionally, should the company continue to trade, HMRC may decide to deregister the company for VAT completely, which will usually remove its ability to trade altogether.

The intention of HMRC’s approach is to remove businesses out of the chain that knowingly or negligently facilitate VAT fraud.

“Should have known”

A point that should not be overlooked is the fact that in Kittel VAT investigations HMRC does not have to prove that the business was aware of any VAT fraud.

Instead, it simply has to evidence that the business “should have known” that fraud was taking place.

Whilst the burden of proof is on HMRC to evidence that the business should have known there was a VAT fraud taking place, HMRC are often reluctant to share all the information that leads them to this conclusion for confidentiality purposes.

This can lead to a position where HMRC has omitted key information on why they believe a business should have known of a VAT fraud, causing clients to be unable to comprehensively defend their position prior to VAT assessments and penalties being issued.

Whilst we have been able to successfully displace Kittel VAT investigations before they have reached Tribunal, from our experience it is likely that HMRC will try to push for this outcome.

Consequences of a Kittel Notice

Receiving a Kittel Notice can have severe consequences for a business and the people involved.

In addition to being denied the right to reclaim VAT, the business will be required to repay the VAT that it has previously claimed from the trader which HMRC asserts is committing VAT fraud.

This is usually such a significant sum that it can damage a company’s ability to operate.

In addition, HMRC will usually seek to apply a 30 per cent penalty for any input VAT claimed from the deemed fraudulent trader.

If this is not paid by the company, then they will make an officer of the business attributable for the failing (usually a director or owner) jointly and severally liable for the error.

As an example:

As such it is not the case that the debt would die with the company (if liquidation is forced), as the individuals involved are likely to face significant personal financial exposure.

Therefore, it is extremely important to ensure that advice is taken at an early stage within the process.

Kittel due diligence and risk assessment

To avoid falling foul of the Kittel principle or being subject to VAT investigations, businesses must conduct thorough due diligence and risk assessments, including providing a detailed audit trail of any checks made.

This includes verifying the legitimacy of suppliers and customers, maintaining accurate records, and being vigilant for any signs of suspicious activity.

Businesses should also ensure that their internal controls and procedures are robust enough to detect and prevent VAT fraud.

How we can help with Kittel Notices

If you receive a Kittel Notice, or HMRC states that it is considering sending one, we can assist you to defend your position.

We can help you gather evidence and present your case that either you did not know, or there is no way that you ‘should have known’ that a party in a supply chain was committing VAT fraud.

We are also specialists with extensive experience of Tax Tribunals and can also assist you with navigating the complexities of this process if it is required.

If you need guidance dealing with a Kittel Notice, please speak to our experts.

You can get in touch with our friendly and experienced team on: 0203 675 8122 or email jeremy.johnson@intaxltd.com.

inTAX is a specialist tax disputes firm. We deal with disclosures, investigations, and tax enquiries of all descriptions, including COP9, fraud investigations, VAT fraud, tax avoidance, let property disclosures and tribunal appeals. However, we don’t just deal with the serious end of tax investigations; we are also happy to handle smaller enquiries, disputes and problems that can be equally as worrying for our clients