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VAT fraud: evidence obtained through investigations into other taxpayers

Out-Law Legal Update | 10 Jul 2019 | 1:14 pm | 6 min. read

In a recent opinion, the Advocate General (AG) of the Court of Justice of the EU (CJEU) considered what obligations tax authorities have to disclose evidence used in a tax decision which was obtained through investigations into other taxpayers.

The AG said that where a tax authority was denying the right to deduct input VAT on the basis that the taxpayer knew or should have known about fraud by a supplier, the relevant evidence must be disclosed to the taxpayer before the tax authority makes its decision, so that the taxpayer has the opportunity to make representations and mount a defence during the decision-making process. We will need to wait to see if the CJEU confirms this approach, but if it does, this will be helpful for taxpayers.

  • Advocate General: evidence obtained through investigations into other taxpayers should be disclosed to taxpayer before tax authority makes its decision
  • Gives taxpayer opportunity to make representations and mount defence during decision-making process
  • Not HMRC's current approach but if CJEU agrees with AG, useful for taxpayer

The Hungarian tax authority denied Glencore Agriculture Hungary Kft (Glencore) deductions of input VAT on the basis that Glencore knew, or should have known, of tax evasion committed by several of its suppliers, who had issued fictitious invoices and had evaded VAT. In reaching its decisions, the tax authority relied upon (i) evidence collected during the administrative procedure opened against Glencore; (ii) evidence gathered during the administrative procedure carried out against Glencore's suppliers (which had resulted in finalised tax decisions); and (iii) evidence gathered during criminal proceedings against Glencore's suppliers (which were ongoing).

Despite requesting that it be provided with documentation gathered in relation to Glencore's suppliers before the decision was issued, Glencore received only a description of the evidence from the tax authority in the form of a summary report.

Hungarian law provides that the tax authorities must automatically apply findings made about a taxpayer (through an investigation, decision or judicial proceedings) in findings made about another taxpayer. Whilst a taxpayer has a right of disclosure of information relating to its tax affairs, it does not have a right of disclosure of other taxpayers' information. Documents, expert opinions and statements made by taxpayers or their representatives are admissible evidence.

The Hungarian Court asked the Court of Justice of the European Union (CJEU) to consider whether these provisions of Hungarian tax law were compatible with the Principal VAT Directive, insofar as it provided for the right of input tax deduction and Article 47 of the Charter of Fundamental Rights of the European Union, in particular regarding the right to a fair trial and the respect for the rights of the defence.

Issues in the case

The specific issues that the Advocate General (AG) considered were:

  • the burden of proof on tax authorities to prove the involvement of taxable persons in evasion committed by its suppliers;
  • the right to be granted access to the documents relevant to a taxpayer's defence; and
  • the scope of the review that is to be carried out by a domestic court.

The burden of proof on the tax authority

The AG began the analysis by recognising that it is a common, and entirely legitimate, practice of tax authorities that when an investigation gives rise to suspicion of the lawfulness of certain transactions, additional checks are carried out on taxable persons upstream or downstream in the supply chain. These checks may lead to parallel investigations against other taxable persons, arising from the same facts and based on the same evidence. This does not result in a breach of the rights of defence of the taxable person who is subject to the later investigation.  

However, the AG said that if a tax authority intends to rely upon documents obtained in earlier investigations in subsequent decisions, it must:

  • give access to those documents to the taxable person in the subsequent decision;
  • give the taxable person the opportunity to challenge the documents and to submit evidence in support;
  • expressly reconcile the documents, identifying their importance to the decision, in the decision; and
  • respond to the arguments of the taxable person in the decision.

These principles apply even if the documents form the basis of a decision that has become definitive (for example, a court has upheld the decision). The AG found that any other approach would seriously impair the rights of defence of taxable persons.

The scope of the taxable person's right of access to the file

The second issue considered by the AG was the 'when, what and how' of disclosure.

Looking at the when, the AG found that the addressee of an adverse decision must be in the position to submit its observations before the decision is made, so that the tax authority can take into account all relevant information.

Accordingly, the taxpayer must be granted access to the file during the administrative process. This also ensures that the taxable person can make an informed decision as to whether to appeal the decision to a court or tribunal.

In relation to the what, the disclosure must include all documents relevant to enabling a defence. This comprises:

  • the documents relied upon in the decision;
  • ·other documents that might relate to the admissibility, reliability and completeness of the documents relied upon; and
  • all exonerating evidence held by the tax authorities.

The only exceptions are when it is necessary to restrict access to the documents on public interest grounds. This includes where necessary to protect the secrecy of ongoing criminal investigations and other persons' fundamental rights, such as the protection of personal data or business secrets. It is for the tax authorities to prove that these exceptions apply, subject to review by a court. The tax authorities must also consider whether partial disclosure of documents to which the exemption applies could be made.

Finally, in relation to the how, the AG stated that it was of the 'utmost importance' that taxable persons be able to view the original documents, should they wish to do so.

Judicial review

The AG found that a court or tribunal must conduct an overall assessment of all of the relevant facts and circumstances of a decision. In conducting its examination, it cannot be bound by any findings made by the tax authorities against other taxpayers, even where those have become final.

The domestic court must also be able to verify (if needs be, in interlocutory proceedings), the lawfulness of how the evidence was obtained, including where it was obtained in other investigations.

The consequence of not doing so is that the evidence must be disregarded and the decision annulled if, as a consequence, it has no basis. 

AG's opinion

The AG found that the relevant provisions were not incompatible with EU law, but only if certain conditions were satisfied. These were that:

  • the tax authority was not prevented from reaching different conclusions, in the context of different investigations, when presented with new arguments or new evidence;
  • the tax authority granted access to all documents relevant for the taxable person's rights of defence, before making a final decision. This includes documents that have been obtained in related proceedings. A description of the evidence in the form of a summary report will not suffice, unless the taxable person is able to request inspection and copies of the specific documents; and
  • the court hearing an appeal must review all elements of fact and law, and this may include the lawfulness of how the evidence was obtained.

Implications of the decision

The role of the AG is to provide an impartial opinion to the CJEU. AG's opinions are not binding on the court, although the CJEU often reaches the same conclusion as the AG. 

It will be interesting to see if, and to what extent, this opinion is endorsed in the decision of the CJEU. Currently, the approach to disclosure suggested by the AG is not taken by the UK's HM Revenue & Customs (HMRC) when it makes a decision to deny a taxpayer its input tax claim because of knowledge, or means of knowledge, of a connection to fraud. It would certainly assist a taxpayer to know the full extent of the case against it, particularly on the alleged fraudulent default in its supply chain, have the opportunity to access relevant documents, and understand their provenance, before a decision is taken.

Access to this information would also help with the decision as to whether to appeal the denial of an input tax deduction. Often the prospects of success in such appeals cannot be determined until after HMRC serves its evidence, which in some cases can be some time after the decision to appeal is made.

Clara Boyd and Stephanie Bashford are tax disputes experts at Pinsent Masons, the law firm behind Out-Law.