Those companies and individuals waiting – in some cases for well over two years – for a decision from HM Revenue & Customs (HMRC) on whether or not their VAT repayment claims are to be honoured, need no reminding that the so-called “extended verification” process can seem interminable.
Some decisions are starting to be issued by HMRC to the businesses concerned, but many observers have long been of the view that the time taken by HMRC to investigate VAT repayment claims is wholly disproportionate and unreasonable. Now, with the release of the European Court of Justice (ECJ) ruling in the case of Alicja Sosnowska –v- Dyrektor Izby Skarbowej we Wroclawiu Osrodek Zamiesjscowy w Walbrzychu (“Sosnowska”), that view is given additional weight.
The Sosnowska case was not one which, at first sight, would appear to have much in common with the plight of the companies caught up in HMRC’s extended verification and, indeed, the facts bear no relation to any alleged missing trader intra-community (MTIC) fraud. The company was a newly registered business whose first VAT return was, as one would expect, a repayment claim. Because the firm had not paid over a security deposit to the Polish VAT authorities and was a new trader, the normal 60 day period allowed for VAT repayment verifications was insufficient, and, as was allowed in Polish law, was extended to 180 days.
The ECJ decision does not, in itself, call into question the legitimacy of the extended verification policy, as some observers have, somewhat optimistically, claimed. However, there are, within the text, a number of potentially useful findings, which lend support to the claim that HMRC is behaving unreasonably in subjecting traders to such protracted “verifications”.
The judgement makes it clear, once again, that the right to deduct input tax is, save in exceptional circumstances, an inalienable one. At paragraph 17, the ECJ had this to say:
“…the Court has made it clear that, while the Member States have a certain freedom to manoeuvre in determining the conditions for the refund of excess VAT, those conditions cannot undermine the principle of neutrality of the VAT system by making the taxable person bear the burden of the VAT in whole or in part.”
In the welter of litigation which has resulted from HMRC’s efforts to stem the flow of VAT losses attributable to MTIC frauds, the basic principle of a right to receive a VAT repayment in respect of input tax has perhaps been overlooked. The ECJ makes it clear that any attempt to withhold or deny repayment of input tax must flow from circumstances which are exceptional.
The ECJ goes on to state that a VAT repayment must be made to a claimant within a reasonable time. However, as the Court points out, built into the EU VAT system is provision for the tax authorities in individual Member States to conduct more extensive enquiries in order to protect against tax evasion – indeed, the EU positively encourages Member States to safeguard their taxation systems against such abuses.
That said, the ECJ endorses the opinion set out by the Advocate General in the preliminary ruling in the Sosnowska case, and finds that:
“…Member States must, in accordance with the principle of proportionality, employ means which, whilst enabling them effectively to attain such an objective, are the least detrimental to the objectives and principles laid down by the relevant Community legislation, which include the fundamental principle of the right to deduct VAT.”
Once again, the Court takes the opportunity here to emphasise that a taxpayer’s right to deduct input tax is not one which should be taken lightly, or sacrificed.
Any investigations conducted by the tax authorities must, therefore, be undertaken in such a way as to preserve, as far as is possible, the right of the taxpayer to deduct. This harks back to the “balancing exercise” referred to in cases such as that of UK Tradecorp, which the authorities must conduct in weighing their duty to protect the revenue against the adverse effects of their actions upon the taxpayer.
Few who have been forced to wait for two years or more and who have received only the most anodyne responses from HMRC to requests for updates would agree that any serious effort has been made to carry out the balancing exercise.
Perhaps the most far-reaching comment contained within the judgement is to be found at paragraph 24:
“It is clear from the case-law that national legislation determining conditions for repayment of excess VAT which are more onerous for one category of taxable persons because of a presumed risk of evasion, without making any provision for the taxable person to demonstrate the absence of tax evasion or avoidance in order to take advantage of less restrictive conditions, is not a means proportionate to the objective of combating tax evasion and avoidance and has a disproportionate effect on the objectives and principles of the Sixth Directive.”
If applied to the situation in which many UK companies find themselves as a consequence of the HMRC policy of extended verification, then it could be argued that, by their adherence to this policy, HMRC is acting disproportionately and is, in fact, compromising the principles of neutrality set out in the Sixth VAT Directive, as well as diluting the right to deduct input tax without a proper basis in law.
HMRC would, of course, argue that the steps they are taking to protect the UK revenue against the billions of pounds of VAT losses attributable to MTIC fraud are proportionate, reasonable and constitute a proper use of resources. But, such an argument can only succeed if it can be shown that the extended verification process has been designed and implemented in such a way as to target those companies likely to be involved in fraud, rather than used as a blanket policy intended to withhold VAT repayments irrespective of their merits.
The ECJ’s judgement in the Sosnowska case may not, therefore, prove to be a landmark one in the context of MTIC litigation, but it can most certainly be viewed as a welcome reminder of certain basic principles which have, all too often, been ignored, and the Court’s findings provide useful impetus and assistance to any company still waiting for HMRC to reach a decision.
Time, and perhaps the Courts, will eventually tell whether HMRC has conducted itself properly in the current extended verification exercise, but in the meantime businesses should be pushing for a decision from HMRC in relation to any VAT withheld.
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