Elbrook (Cash & Carry) Limited v The Commissioners for HMRC

Moses also stated in Mobilx that:

It is not necessary for a taxpayer to be dishonest (see HMRC v Citibank NA, E Buyer UK Limited [2017] EWCA 1416 at [90] or for the taxpayer to know the identities of the fraudulent defaulters (see Megtian Ltd (In Administration) v HMRC [2010] EWHC 18 CH [37-38]

Arden LJ said in Davis & Dann Ltd & Another v HMRC [2016] (“Davis & Dann”) EWCA Civ 142:

On ordinary principles, Elbrook’s state of knowledge can be determined from the state of knowledge of Mr Khalid, a director of Elbrook.

Most the VAT Act 1983 is given over to the entitlement to be registered for VAT and the mechanics of enabling VAT recovery. The first decision of the CJEU on deregistration was handed down on 14 March 2014 and referred to as Ablessio C-527/11 (“Ablessio”).

Section 386 Companies Act 2006 requires companies to keep adequate accounting records sufficient to show and explain the company’s transactions. Section 386(4) states that if the company’s business involves dealing in goods the accounting records must contain:

statements of stock held by the company at the end of each financial year of the company,

all statements of stocktakings from which any statement of stock as is mentioned in (a) has been or is to be prepared,

We received evidence from each of the following individuals, each of whom provided witness statements and were subject to cross examination.

Elbrook’s main business, that it has carried on since 1984, is a cash and carry business selling food, tobacco, alcohol, confectionery and soft drinks with a turnover of £95m in 2009, rising to £143m in 2013 before falling to £120m in 2015. Elbrook was registered for VAT on 1 October 1984.

Elbrook’s principal place of business since 1994 was at 105 Bond Road, Mitcham, Surrey. It comprises a large warehouse and offices above.

Mr Amjad Khalid was appointed a director in 2002. During the VAT periods ended 01/12 to 07/14 the directors of Elbrook were Mr Fukhera Khalid and his brother Mr Amjad Khalid. Mr Amjad Khalid was responsible for the purchases of soft drinks made by Elbrook. References in this decision to Mr Khalid are to Mr Amjad Khalid unless otherwise indicated.

Elbrook purchased soft drinks from each of Golden Harvest, Horizon and DZ in the periods in question. Elbrook also purchased some soft drinks directly from GSK and Coca Cola Enterprises Limited (“Coca Cola”) the manufacturers of Lucozade, and coca cola (which we refer to as “coke” or “diet coke” below) respectively.

Elbrook had SAGE accounting software which they used for accounting purposes but did not use it to monitor sales or record/control the stock levels and had no other formal record of the stock levels. On a weekly basis a physical stock-take was undertaken by the staff using a piece of paper with two columns, one showing the stock in the warehouse the other indicating stock required. Mr Khalid approved the paper record and buyers would place orders with approved suppliers for replacement stock. A copy of the paper stock records was given to Elbrook’s accounting adviser to prepare the quarterly management accounts. Elbrook did not keep a copy for themselves and did not ask their advisers for copies of these records in advance of this hearing.

The software in the point of sale (“till”) system was incapable of recording what was sold to whom. The till system is incapable of generating invoices in respect of the sale of £6.4m of the soft drinks which Elbroook says were sold retail through the cash & carry, the purchase of which is the subject of this appeal. The information from the till system was supplied by Elbrook to HMRC which Mr Ginn’s colleagues in the System Evasion & Audit team analysed to determine the sales made by Elbrook in the period 1 January 2012 to 31 July 2014. The data showed that in that period of 31 months, Elbrook had sold 160,857 cases of the 12 most popular products, which is in stark contrast to the 1,028,833 cases Elbrook say they purchased in the period. This is shown in Table L to Mr Ginn’s first witness statement dated 7 August 2017.

In relation to the soft drinks acquired by Elbrook in each of the 335 transactions concerned in this appeal, there was a chain of suppliers before the goods were acquired by Golden Harvest, Horizon and DZ, each of whom on-sold the goods directly to Elbrook. These three companies are referred to as “Direct Suppliers”. There were no other direct suppliers in the 335 transactions.

In relation to each of 335 transactions the goods were acquired by a company and on sold directly or indirectly to Golden Harvest, Horizon or DZ. I refer to these arrangements as chains. There was a minimum of two and a maximum of four suppliers in each chain. The Appellant accepts the accuracy of each of the transaction chains identified by HMRC.

The trader at the beginning of the chain in each of 335 transactions defaulted in paying output VAT to HMRC. These are referred to as fraudulent “Defaulter Traders”.

The suppliers between the Defaulter Trader and the Direct Supplier are referred to as “Buffer Traders”. The Buffer Traders were all registered for VAT and functioned as a conduit in holding and transferring title to the goods to Elbrook and put distance between the fraudulent Defaulter Trader and Elbrook.

When the company at the beginning of a chain becomes a fraudulent Defaulter Trader, the next Buffer Trader in the chain becomes the originator of the trades and it in-turn defaults.

Elbrook accept that there was a fraudulent Defaulter Trader at the beginning of each chain other than the chain involving Sparrowhawk. The following are the names of the Defaulter Traders: Alexis Ltd, Arete Systems Ltd, Ashneet Ltd, Blueray Enterprises Ltd, Euro Choice Ltd, Europa Cash & Carry Ltd, Gujarr Ltd, Hobbs Close Ltd, Innocent Wholesale Ltd, Logical Retail Ltd, Marjot Ltd, Mr Cash & Carry Ltd, Saad Victoria Food & Wine Ltd, Sea Inn Foods Ltd, The Person Purporting To Be (“TPPTB”) Smithers Rapra Ltd, UK Beer & Wine Ltd, and Universe Drinks Ltd.

Sparrowhawk was the original supplier in a chain that sold soft drinks to DZ on a single occasion. Elbrook disputes that there was a tax loss caused by Sparrowhawk and therefore whether Sparrowhawk was a Defaulter Trader.

In all but four of the 335 transactions (“the DZ transactions”), Elbrook accept that the transactions were part of an overall scheme to defraud HMRC.

Six of the 23 companies in the chains, at the date of the hearing had been the subject to successful criminal prosecutions. They are Golden Harvest, Horizon, Alexsis, Hobbs Choice, Gujarr Ltd and Euro Choice Ltd. HMRC secured convictions of the directors of Golden Harvest and Horizon.

HMRC instigated a surveillance operation into the conduct of an Organised Crime Group (“OCG”) and installed covert video and audio devices in the premises at Claremont House, Alma Road, Windsor in early October 2014. This postdates the transactions the subject of the input tax denial but records the on-going relationship between the OCG and Elbrook. The footage records the delivery of boxes of cash, the generation of invoices for transactions between parties and the provision of bank transfers to launder cash deposits suspected to be the proceeds of crime.

The judge hearing the criminal case against Mr Riaz Kahn an employee of Golden Harvest and a senior member of the OCG noted of Mr Khan in his sentencing remarks that, “The product of that device showed you [Mr Riaz Kahn] and other associates discussing and enacting the operation of the fraud in various ways, by giving instructions to new recruits on how to deal with HMRC company inspections and complete VAT returns; by processing and counting out huge quantities of bank notes brought there in boxes; by giving instructions to and from others involved; and by arranging money transfers through the network of company accounts and beyond. The footage is a window through which the elaborate and painstaking process of coordinating and creating a massive fabric of false paperwork can be seen in action.”

The transcripts of the undercover operation clearly show that the OCG are involved in money laundering. One or two refer to Elbrook sending boxes or bags of money and receiving TTs. There is no mention of prices or contract terms for the sale of goods. These transcripts caused Officer Ginn to question whether the goods referred to in all of the 331 invoices with Golden Harvest and Horizon existed. The analysis of the information provided by Elbrook from the till system (see [24] above) led Officer Ginn to consider that 748,165 of the cases of soft drinks are unaccounted for.

One transcript of a conversation on 25 November 2014 includes statements made to the effect that Mr Amjad Khalid of Elbrook has two mobile phones and two email accounts, only one of which was to be used for the business conducted by the OCG.

HMRC have been able to identify the number of the second phone and confirm that it is a pay as you go phone that belongs to Mr Amjad Khalid. The second email account has not yet been detected.

A transcript of another recorded conversation involves one side of a telephone conversation asking whether the caller would like “paying direct into Elbrook or do you want to do it via TT for the first few loads off you”.

Another transcript records a conversation in which Riaz Kahn director of Golden Harvest refers to Mr Amjad Khalid as the “big boss”.

A further transcript of 10 February 2015 reports that Mr Khalid is not taking any further bags or boxes of cash or any transactions. He wants “Halal” transactions only as he is dealing with two appeals. At that date Elbrook would have received the decision letters from HMRC denying Elbrook the right to deduct input VAT and the associated VAT assessments. Elbrook had asked for a review of the decisions and assessments by 10 February and were waiting for the review conclusion letter that was subsequently sent by HMRC on 18 February 2015. Elbrook was also appealing a decision denying the deduction of input tax on building and other supplies involved in the demolition and construction of a building not owned by Elbrook.

Documents obtained through the criminal investigation include spreadsheets of payments to parties. One document refers to Elbrook and it being entitled to or due to pay 3% commission. Another lists 120 of the 335 transactions the subject of this appeal.

As a result of the investigation and prosecutions:

HMRC commenced an investigation into Elbrook’s VAT periods 01/13 to 10/13 as regards 92 transactions with Golden Harvest. A meeting was held on 9 April 2014 at Elbrook’s offices between Mr Khalid, Mr Ginn and another officer of HMRC. Some of the documents that had previously been requested were provided at the meeting.

Correspondence followed including a telephone call on 8 May 2014 when Mr Khalid confirmed that the soft drinks acquired from Golden Harvest were sold on a retail basis through the cash and carry rather than being sold wholesale in bulk.

On 26 June 2014 a “tax loss letter” concerning 92 transactions in the periods 01/13 to 10/13 with Golden Harvest was hand delivered to Elbrook by Mr Ginn and explained to Mr Khalid. Correspondence ensued. A tax loss letter explains that a supplier in a chain of transactions with which the taxpayer is a party, has failed to account to HMRC for output tax. The tax loss in this case was £350,122.41.

On 26 September 2014 a further tax loss letter was sent to Elbrook concerning transactions with Golden Harvest and DZ relating to 53 transactions and a tax loss of £221,551.14.

On 10 October 2014 the implications of the tax loss letters were discussed with Elbrook and their lawyers.

On 22 October 2014 a further tax loss letter was sent to Elbrook concerning 52 transactions with Golden Harvest in the periods 10/13 and 01/14. The loss was calculated at £193,662.33.

On 25 November 2014 a further tax loss letter was sent to Elbrook in respect of 21 transactions with Horizon in the periods 04/14 and 07/14. The loss was calculated at £81,716.45.

On 18 December 2014 HMRC notified Elbrook of their decision to deny £771,430.20 input tax in relation to soft drinks transactions with Golden Harvest and DZ for periods 01/13 to 04/14.

On 6 January 2015 HMRC issued an assessment for £771,430.20 to Elbrook in respect of these transactions.

On 12 January 2015 Elbrook requested a review. HMRC sought additional information that Elbrook may have wished to provide to the reviewing officer. No new information was received. On 18 February 2015 the Review was concluded, and a letter was sent to Elbrook confirming the original decision to deny input tax deduction.

On 4 March 2015 Elbrook filed a Notice of Appeal against the assessment.

On 21 April 2016 HMRC issued a second decision to deny input tax in respect of £502,309.35 relating to the purchase of soft drinks in the periods 04/12 to 01/13, 04/14 and 07/14 in respect of purchases from Golden Harvest and Horizon.

On 22 April 2016 a notice of assessment of £502,308, relating to the input tax denial was issued.

On 27 May 2016 Elbrook filed a notice of appeal against that assessment.

Golden Harvest was established in 2007. Mr Divyesh Karsan (“Mr Karsan”) who was born in 1969 was the sole director and shareholder. Golden Harvest’s business was stated at Companies House as the “wholesale of wine, beer, spirits and other alcoholic beverages”.

Mr Karsan’s employment history indicates he had no relevant experience to begin trading as a cash and carry enterprise selling wine, beer, spirits and other alcoholic beverages.

At the material times Golden Harvest was registered for VAT.

Golden Harvest was first registered for VAT on 1 February 2009 and in the form VAT1 Mr Karsan stated that the estimated turnover in the first 12 months of business as a wholesaler of wine beer, sprits and other alcoholic beverages was £100,000. The VAT threshold of £67,000 was not reached that year.

In 2010 the business lost its registration number because the number had been hijacked, i.e. used by another trader fraudulently. A new form VAT 1 was filed and it stated the estimated turnover in the first 12 months was £9m.

Golden Harvest’s turnover rose dramatically from under £67,000 in 2007/8, to £5.1m in 09/10, £31.8m in 10/11, and to £33m in 11/12. It drops off slightly thereafter. Growth in turnover on this scale in a 4-year period seems to us, and seemed to Officer Dean to be too good to be true with only Mr Karsan employed. The explosive growth is attributed by Mr Karsan to Mr Riaz Kahn becoming employed by Golden Harvest on 1 August 2011.

HMRC’s PAYE records show that Mr Kahn was employed by Golden Harvest, although officers visiting the premises of Golden Harvest never observed him at the premises. Golden Harvest’s own adviser had informed HMRC that Mr Karsan was the only employed person at Golden Harvest. Mr Riaz Kahn was part of the OCG, was prosecuted and is now in prison.

The purchase orders created by Golden Harvest show that Golden Harvest bought goods from suppliers and sold them to their customers on a back-to-back basis, which involved the goods being on-sold by the original supplier to a buffer trader, from the buffer trader to the direct supplier and onto Elbrook on the same day and for the goods to be delivered by the original supplier directly to Elbrook’s premises at 105 Bond Road. There were 310 such transactions involving Golden Harvest numbered 1 to 310 on HMRC’s annex 2 to their submissions. The back to back sales occurred even when the supply chain extended to four companies such as Deal 139 which commenced with Mr Cash & Carry Ltd, that sold to Alexis Limited, that sold to Hobbs Close Ltd, that sold to Golden Harvest that sold to Elbrook. Each purchase order between the companies in the chain specified delivery to Elbrook’s premises.

Golden Harvest never took possession of any of the stock. Mr Karsan considered that the supplier insured the goods and included the cost of insurance and delivery in the sale price. Mr Karsan neither confirmed nor denied if it had warehouse capacity and it seems likely that it did not. Golden Harvest’s address on invoices was Unit 4 McNicolas House. The building was demolished in November 2012.

Golden Harvest was party to 310 of the 335 transactions.

In 105 of the 170 transactions involving Golden Harvest in 2013, where the supplier to Golden Harvest was either Hobbs Close Ltd or Alexis Ltd, the invoices provided to Elbrook have handwritten notes on them indicating that the goods had been damaged. This seems to us to be an extraordinarily high strike rate. We note Golden Harvest, Hobbs and Alexis were part of the criminal case involving the OCG.

In relation to the volume of damaged goods, it seems to us that if there were no goods being supplied on occasions and invoices were being issued as part of a money laundering operation to make the trade appear real, noting damaged goods on the invoices may well be thought to assist in substantiating the trade. Unless a record is being kept of the number of cases claimed to be damaged it is possible those in the warehouse may get carried away in their zeal to make the trade appear real. Further it is difficult to understand why Elbrook would continue to purchase goods from these suppliers if the volume of damaged goods was so high. Mr Khalid said in cross examination that only one or two cans per case were damaged and it was easy to repack the cases. If the damage was so slight and it was so easy to repack it is difficult to understand why the invoices were marked up in the manner that they were. We infer from the above that the volume of real trades from Golden Harvest was smaller than the volume of purchases Elbrook claims to have made.

Horizon was incorporated on 14 January 2005. It became registered for VAT but its original VAT number was hijacked by a third party to commit fraud and a new VAT1 was submitted on 9 December 2010. Its business activity was stated to be “wholesaler of wines, beers, spirits and other beverages”.

Jayesh Shah was the sole director in the period concerned.

Horizon had a 2,500 square feet warehouse with offices above and an entrance into the warehouse that would accommodate a heavy goods vehicle.

On 20 April 2011 HMRC visited Horizon ostensibly to discuss a repayment claim Horizon had made but also to discuss the high-risk nature of the trade and the fact that Horizon’s VAT registration had been hijacked in 2010. The meeting took place at Horizon’s accountant’s offices in Mr Shah’s absence. The accountant promised to discuss the issues with Mr Shah. The repayment claim was for general running costs as there was no current trading activity.

On 11 December 2012 HMRC made an unannounced visit on 11 December 2012. Mr Shah was not there but they obtained his mobile phone number.

HMRC wrote to Horizon to inform them that the VAT registration number would be suspended due to lack of evidence of trading unless Mr Shah provided such evidence in five days.

Mr Shah contacted HMRC and a further visit was made on 14 January 2013. Mr Shah explained that he had been ill and had family troubles which is why there had been no trading, but he now planned to deal in shrink wrap and boxes and needed to retain his VAT registration number.

On 17 May 2013 HMRC informed Mr Shah that Horizon’s VAT registration had been suspended owing to lack of evidence of trading activity.

At a meeting on 3 June 2013 Mr Shah informed HMRC that he was fully fit and able to trade. The VAT number was reinstated.

Horizon’s VAT return for 08/13 claimed a repayment and the return was subject to scrutiny by Officer Reynolds of the MTIC team.

On 12 November 2013 HMRC visited Horizon and spoke to Mr Shah and an employee Mr Hirani about business activity and procedures, MTIC fraud and excise duty diversion fraud. Mr Shah informed the officers that Horizon had engaged Due Diligence Exchange Ltd (“DDE”) to undertake due diligence on suppliers. The officers formed the view Mr Shah was aware of MTIC and were in no doubt that further review of Horizon’s transactions would result in UK tax losses.

On the same day HMRC wrote to Horizon informing Horizon that the VAT return was to be verified as part of the strategy to counter MTIC fraud.

On 13 November 2013 HMRC wrote to inform Horizon of financial platforms that fraudsters used, provided information about indicators of MTIC fraud and invited Horizon to verify the VAT status of its suppliers.

On 4 March 2014 at a meeting at Horizon’s premises Horizon produced purchase invoices from Euro Choice and Golden Harvest. The officers looked at customers and transport arrangements. The officers concluded Horizon was involved in defaulting supply chains but were there several buffer companies between the defaulting traders and Horizon.

On 23 May 2014 Officers informed Horizon that they were selected for a closer working visiting programme due to ongoing problems in the sales of alcohol.

On 30 June 2014 officers visited the premises and discussed business activity, VAT records, business set up, vehicles, cash handling, and stock control. Horizon had no stock record. Mr Shah was given Notice 726 on joint and several liability and due diligence that ought to be undertaken. The officer concluded that as he had been trading in alcohol and as alcohol is a high risk commodity frequently the subject of fraudulent transactions, Mr Shah was aware of the need to undertake due diligence on its suppliers and customers.

On 9 July 2014 Horizon were informed that its VAT return 05/14 was selected for verification. Officers visited the premises to collect the necessary records to do the check. Mr Shah had no invoices for the stock purchases, and he had failed to put in place a stock control sheet. The HMRC Officer noted there was very little evidence of trade and very little stock for a company with £3m turnover.

On 23 July 2014 officers visited the premises. Mr Shah was not present. There were only a few pallets of goods in the warehouse.

On 3 October 2014 Officers visited the premises. Mr Shah was absent. An employee allowed them to inspect the site.

On 21 October 2014 Officers of HMRC and Mr Shah met to discuss VAT period 08/14 in respect of bad debts claimed on two transactions. Officers collected records but again Mr Shah had no stock record. Officers collected VAT records and due diligence materials relating to Elbrook. The officers inspected the stock. There were only ten pallets of beer and wine on the premises.

A visit on Saturday 1 November 2014 revealed that the premises were not open on Saturdays.

The Lanyard fraud team called at the premises on 5 November 2014. Mr Shah was not present and the officers were advised to call back at 13.00. they called again at 13.20 but no one answered the door.

The Officers called again on 6^th November to inspect the premises, there were 19.5 pallets of beer and 3.5 pallets of wine.

On 1 December 2014 Officers visited the premises to return the records and Horizon was given a tax loss letter concerning their customer Golden Harvest. In the warehouse were six pallets of wine and a number of pallets of beer.

On 26 January 2015 a number of tax loss letters were delivered concerning purchases by Horizon from Best Buys Supplies Ltd, Euro Choice, Breanga Wholesale Ltd and Golden Harvest.

On 4 February 2015 officers visited Horizon. The warehouse was deserted, and unopened mail was visible on the floor. Officers left a message on Mr Shah’s phone and followed up with a letter the same day, to the effect that the business was to be deregistered and if no contact was made in 7 days the deregistration would be permanent.

On 5 February 2015 the officers were informed by Mr Shah’s accountant that on 30 January another team of HMRC officers called at the premises and removed all documents, computer, stock and mobile phones.

Horizon’s legal team sought a reinstatement of the VAT registration number, which was refused by Officer Broers. It was however agreed that Horizon could trade up to the VAT threshold. The warehouse stock comprised shrink wrap and boxes.

The following tax loss letters were sent to Horizon:

On 23 August 2016 an assessment denying deduction of £533,477 input tax was issued in respect of the period 08/14 on a protective basis as the verification process was incomplete.

On 4 October 2016 a decision letter denying input tax recovery in respect of 08/14 and 11/14 of £533,477.69 and £898,513.73 respectively. The suppliers were Euro Choice and Golden Harvest.

On 14 October 2016 an assessment was raised in respect of the period 11/14 in the sum of £898,513.73.

Horizon did not appeal these decisions.

As can be seen from Officer Cole’s witness statement dated 13 September 2017, the documentation shows that Horizon had entered into twenty-one transactions with Elbrook between 1 April 2014 and 14 May 21014. 15 of the transactions concerned coke and diet coke, one concerned Lucozade and the remaining five concerned mixed soft drinks. In respect of each transaction there was a corresponding transaction on the same day between Horizon and Euro Choice pursuant to which Horizon bought identical goods, save for one transaction when there is a single day separating the date of the invoice delivered by Euro Choice and the invoice delivered by Horizon. The prices paid on each leg are remarkably stable. We note that the price paid for coke and diet coke by Elbrook from Horizon was £19,188 on 12 occasions and £18,218 on three occasions, and the prices paid by Horizon from Euro Choice were correspondingly constant, with the price for coke and diet coke being £18,876 on 12 occasions and £18.906.25 on the remaining three occasions. The same pattern of pricing can be seen in the invoices recording sales of soft drinks.

Of the 335 transactions undertaken, Horizon were engaged with the last 21 transactions. HMRC have numbered each transaction in sequence and the Horizon transactions are numbered 315 to 335. The fraudulent Defaulting Trader, UK Beer & Wines Ltd, was the ultimate supplier in respect of deals 315 to 319. Logical Retail was the Defaulting Trader in respect of transactions 320 to 335. Gujarr Ltd and Euro Choice were the Buffer Traders in all 21 transactions. Gujjar Ltd, Euro Choice and Horizon were prosecuted as part of the criminal case involving the OCG.

The invoices issued by all parties in each chain were issued on the same day, save for one chain where the invoices were issued two days apart.

From the documentation HMRC recovered it can be seen that the originating supplier (i.e. the Defaulting Trader) in each transaction obtained no mark up, every other party received a mark-up of 10p per unit save in one instance when the mark-up was 11p.

The lack of mark-up for the originating supplier, who is said to have sourced the goods to be sold, is in our view uncommercial. We note that Mr Jayesh Shah, a director of Horizon, was convicted of cheating the public revenue and of conspiring to enter into/being concerned in the acquisition/retention/use/or control of criminal property and was sentenced on 24 may 2019 to 7 years and six months in prison.

DZ was incorporated on 10 May 2011. Its business was stated at Companies House to be “wholesale of fruit and vegetable juices, mineral water and soft drinks.”

Dashnor Zylfo (“Mr Zylfo”), the sole director of DZ, was appointed on 10 May 2011.

DZ applied for a VAT registration number on 26 May 2011 to conduct the business mentioned above. Form VAT1 records the estimated turnover in the next 12 months was £500. The principal place of business at that date was 81 Reston’s Crescent, London, SE9 2JD.

The registered address of DZ changed three times. By 2014 it was at 5 Assembley Passage, London, E1 4UT which DZ shared with a freight agency.

DZ were made aware of the problem of missing trader fraud in two visits by HMRC in January 2012 and September 2013.

DZ were subject to close monitoring by HMRC because the transactions DZ entered into with Elbrook were part of chains of transactions that commenced with tax losses. HMRC visited the DZ offices frequently. The following information was obtained by HMRC on those visits: DZ began working with Elbrook as a result of Mr Zylfo simply walking into Elbrook’s offices without any introduction where he met a person named Bikal. Mr Zylfo agreed some soft drinks sales to Elbrook on terms that his suppliers were to deliver direct to Elbrook and bear the cost of insurance and transport. These costs were not however reflected in the prices in the invoices.

On 19 May 2014 officers gave Mr Zylfo Notice 726 and the leaflet, “How to spot a missing trader fraud”. Mr Zylfo agreed to provide all paperwork for all transactions DZ entered into on a monthly basis.

DZ had entered into a transaction to buy soft drinks with Tariq Traders in December 2013 and a tax loss had ensued as a result of Tariq’s failure to pay VAT to HMRC. Officers visited DZ in August 2014. Mr Zylfo said he knew the directors of Tariq but the female director of Tariq had been reluctant to provide a copy of her passport. Mr Zylfo said that the soft drinks he bought from Tariq were transported directly to Elbrook and the cost of transport and insurance was Tariq’s cost. Officers informed DZ of the tax loss as a result of the transaction with Tariq and sent a tax loss letter concerning Tariq to DZ after the visit.

DZ had not supplied the monthly spreadsheets of transactions as required under the monitoring project for July and August 2014. HMRC made a visit to discuss the failure on 16 September 2014 and delivered another tax loss letter. Mr Zylfo said the failure to supply the spreadsheets was due to him being on a business trip to Turkey to secure mineral water supplies.

HMRC made a further visit on 29 October 2014 as DZ had failed to provide the August spreadsheet of transactions. Officers discussed the importance of the spreadsheets, doing Due diligence (“DD”) and served DZ with another tax loss letter.

In January 2015 there was a further meeting as Mr Zylfo had informed HMRC that he had changed the nature of DZ’s business because of being caught up in fraudulent transaction chains. Instead of wholesale, DZ was then focussing on retail of soft drinks and water to local shops and restaurants. He was using a warehouse and van owned by the landlord of the warehouse and he employed the director of the landlord in the business. The monthly monitoring continued which Mr Zylfo found onerous.

On a visit in April 2015 Mr Zylfo lamented the loss of profitability in the retail business compared with the wholesale business.

On a visit on 24 June 2015 Mr Zylfo said he was finding the retail business tedious, and the returns were poor compared to wholesale. He informed the officer he had received wrong advice while doing wholesale business and he put his hands up for being caught up in the tax loss chains.

On a visit in July 2015 officers requested information and documents relating to the wholesale business previously conducted by DZ. Mr Zylfo was worried and said he hoped the enquiry was nothing to do with him as he is now in the retail sector. He was informed HMRC were investigating transactions where tax losses had ensued.

HMRC requested more documents on a visit in August 2015. Again, Mr Zylfo expressed concern. He recognised he had been badly advised when he operated the wholesale business.

Officers collected more documents and obtained information about DZ’s accountants on a visit in September 2015.

In November 2015 officers requested more data about a number of suppliers including Bestway Cash & Carry, Chetans Cash & Carry, Josh Suppliers Ltd and Amish Wholesalers.

In a further visit in December 2015 Mr Zylfo provided more records and information on a new supplier Ozdil Ltd and confirmed he had no desire to return to back-to-back dealing and that he had learned his lesson.

More records were provided to officers on the visit in February 2016 during which Mr Zylfo asked for a new VAT registration number for DZ Cash & Carry Limited. HMRC asked for further information about what was to happen to DZ’s business. This was not provided by the date set and so the application for the new registration number was refused.

Further visits occurred in March 2016 when the refusal to issue a New VAT number was discussed. DZ sought voluntary deregistration on 1 May 2016.

In April 2016 HMRC issued a letter denying DZ input tax recovery for the period 04/14. The officer reached the conclusion to deny input tax because the officer considered the transactions were connected to fraudulent evasion of tax and the officer considered DX knew or ought to have known they were so connected because:

HMRC withdrew the above-mentioned letter for technical reasons later after a review was requested.

The following suppliers to DZ were deregistered or missing traders:

DZ were party to 4 transactions involving sales to Elbrook which are the subject of this appeal:

As mentioned above, Elbrook accepted that each of the following traders fraudulently defaulted in its obligation to account to HMRC for the VAT on supplies shown in VAT returns filed by it resulting in a tax loss to HMRC: Alexis Ltd, Arete Systems Ltd, Ashneet Ltd, Blueray Enterprises Ltd, Euro Choice, Europa Cash & Carry Ltd, Gujarr Ltd, Hobbs Close Ltd, Innocent Wholesale Ltd, Logical Retail Ltd, Marjot Ltd, Mr Cash & Carry Ltd, Saad Victoria Food & Wine Ltd, Sea Inn Foods Ltd, TPPTB Smithers Rapra Ltd, UK Beer & Wine Ltd, and Universe Drinks Ltd.

Elbrook did not accept that Sparrowhawk had failed to account for VAT owed to HMRC creating a tax loss to HMRC.

Sparrowhawk was party to transaction chain 314 involving Sparrowhawk, DZ and Elbrook. The transaction chain concerned the sale of coke and diet coke with output tax due of £3,484.00 in the period 04/14.

Sparrowhawk was incorporated on 10 December 2013 at a residential terraced house in Hackney. Its director was Akkas Ali whose previous work experience was as a decorator in the construction industry. The registered office and principal place of business was at the residential terraced house. Sparrowhawk was registered for VAT on 16 January 2014 to trade as a wholesaler without any particular specialism in the sector. In the VAT registration application Mr Ali said he would be distributing confectionery and cold beverages to other retail stores buying from a supplier, adding commission, and delivering the goods himself to customers. HMRC visited the registered office on two occasions because it had not filed its first VAT return on time. The first was on 31 May 2014. Mr Ali was not present. His brother who was present said he had not heard of Sparrowhawk but thought it may be connected to Mr Ali but he did not have his brother’s telephone number to enable the officer to check it. The second was an unannounced visit on 18 September 2014 by Officer King and one other, after Officer Ginn had informed Officer King that Sparrowhawk was a Defaulter Trader involved with Elbrook. An elderly woman was at the premises on that occasion. She understood little English but indicated that Mr Ali would be back at 1pm. Officer King asked that Mr Ali call HMRC. No call was received.

Sparrowhawk did not file a return for the quarter on time. On 29 September 2014 HMRC assessed Sparrowhawk for £3,484 in respect of the goods sold to DZ and on sold to Elbrook. HMRC considered a tax loss had arisen.

Sparrowhawk filed a VAT return on 24 October 2014 showing total sales of £1,387,930 and total purchases of £1,387,442 and £97.77 VAT due. HMRC received £97.00 from Sparrowhawk. HMRC has not been able to verify whether transaction 314 was included in the VAT return filed late. Officer King considered Sparrowhawk had filed the return overstating the input tax to prevent HMRC from collecting VAT. Officer King considered that Sparrowhawk was a defaulting trader having regard to the features of the trading pattern namely:

0n 26 September 2007 HMRC sent a letter to Elbrook to raise awareness of MTIC fraud. Mr Khalid could not recall if he had read the letter but acknowledged that had he done so he would have been aware of MTIC fraud. The letter urged Elbrook to undertake due diligence in respect of suppliers and to contact HMRC to verify VAT numbers. It reminds Elbrook that it is Elbrook’s responsibility to identify its suppliers. The letter also enclosed Notice 726 which discusses MTIC concerning computers and mobile phones and explains that a trader can become jointly and severally liable for missing VAT if there is a failure to undertake due diligence (“DD”). Section 8 of the notice describes certain DD tasks that should be undertaken:

“(1)

To consider the legitimacy of customers and suppliers such as what is the supplier’s history in the trade, are there normal commercial arrangements in place for financing the goods, are the goods adequately insured, what recourse is there if the goods are damaged.

(2)

To ensure commercial viability of the transaction, i.e. is there a market for the goods, is it commercially viable for the price to increase within the short duration of the supply chain, have normal commercial practices been adopted in negotiating prices, is there a commercial reason for payments to third parties.

(3)

Undertaking commercial checks to ensure the goods are as specified and in good condition and have they been previously supplied to the trader.

(4)

Examples of information gathered by existing businesses are set out and include, introduction letters, trade and credit references, checking VAT numbers, insisting on contact with a senior officer and making a visit to the supplier’s premises. It recommends this documentation be retained.”

Mr Khalid in his witness statement said Elbrook had followed all HMRC’s recommendations in relation to DD but in oral evidence he said he meant all oral guidance given by officers. He accepted that the suggested DD tasks identified in the leaflet were carried out by the majority of businesses but suggested that he had many meetings with HMRC’s Stratford office and implied he was relying on those meetings to bless his DD or obviate the need for him to do DD.

HMRC sent a letter to Elbrook on 25 May 2012 indicating MTIC was still an issue and enclosing a link to Notice 726 and the leaflet “How to spot MTIC fraud”. Mr Khalid recalls reading the letter but not the leaflet.

The leaflet “How to spot MTIC fraud” sets out a list of characteristics for traders to look out for and be suspicious if you are dealing with companies that exhibit these characteristics. The list included:

Mr Khalid could not recall having received the leaflet or having read it during the trading period. He acknowledged in oral evidence however that he ought to have been looking out for newly incorporated traders, individuals with little or no knowledge of the trade, and repeated deals at low or consistent prices and entities trading from residential premises. He also acknowledged that he would have been concerned about the provenance of the goods, that the goods delivered were as described and about the background suppliers.

It is clear from HMRC notes of a meeting on 9 April 2014 that Mr Khalid knew about MTIC fraud in 2009/10 and had read Notice 726.

The DD that Elbrook undertook in relation to each of Golden Harvest, DZ and Horizon was as follows:

Elbrook produced DD documents in the middle of the hearing. These documents were apparently discovered at 107 Bond Road premises by Mr Khalid months after the sale of the cash & carry business to a third party during which period he still had access to the premises. The documents included DDE reports on three other suppliers/customers, Apex, Pivotal and Maryam. The reports had handwritten notes on them in blue and red. The handwriting was Mr Khalid’s. Mr Khalid made notes raising concern about newly incorporated companies, individuals with little relevant background, inconsistent replies to questions concerning compliance and whether the trades will be in cash. When questioned in cross examination on the red flags raised by him on the DD reports and review forms, Mr Khalid found excuses to explain away the red flags he had raised, including that the supplier may have made a mistake in completing the form. He had no explanation as to why the directors of two new and allegedly independent suppliers should have had the same mobile phone number. He failed to see it was unlikely that a single director in a newly incorporated company whose personal bank account has a tiny credit balance would be able to fund large wholesale transactions. He also failed to notice that another director of such a newly incorporated company was in receipt of jobseeker’s allowance. He said he was only relying on those bank statements to verify the address of the individual. Notwithstanding his own red flags Mr Khalid accepted these new suppliers/customers and his staff were enabled to purchase or sell goods from them.

The director of Maryam (the former customer of Elbrook) was the sole director of Myer Limited which company had been deregistered and had caused a tax loss to HMRC. Elbrook was aware of the fate of Myer as it had received the relevant deregistration and tax loss letters from HMRC. Maryam had received the business of Myer. Notwithstanding these facts Maryam became a customer of Elbrook, whereas Myer had been a supplier. The transactions undertaken with Maryam were in bond alcohol sales in France which Maryam on-sold to Hassalt a cash and carry based in France. The trades generated high volumes of Sterling currency that was couriered to the UK and deposited in Elbrook’s bank account at various branches around the UK because it was said French cash & carry companies receiving sterling could not deposit the cash in a bank in France. These trades were made notwithstanding Elbrook knew that cash was a red flag, that alcohol trades are high risk and that the sole director of Myer was now the sole director of Maryam.

HMRC sent many letters informing Elbrook that the VAT registration of suppliers had been revoked. From 11 June 2010 to 24 February 2011 HMRC sent seven such letters to Elbrook. Each letter indicated that HMRC had revoked a supplier’s VAT registration number from a particular date and all input tax claims on supplies after that date will be denied.

HMRC also sent tax loss letters to Elbrook informing Elbrook that HMRC had suffered loss of VAT because of suppliers whose VAT registrations had been revoked.

Mr Khalid asserted in cross examination that receipt of a tax loss letter would cause Elbrook to augment the DD process. But we note that receipt of a tax loss letter did not cause Mr Khalid verify his suppliers or to consider asking his suppliers to verify their supply chains.

Notwithstanding the link between deregistration and tax loss, Mr Khalid denied in cross examination that there was a connection between VAT deregistration and tax loss unless, in addition, HMRC issued a VAT assessment on the company that had been deregistered. Mr Khalid said that was so because the deregistration may have been voluntary. Mr Khalid said he would have called the supplier to see what was going on following receipt of a tax loss letter and he would stop trading with the supplier but only until the issue with HMRC and the supplier was resolved. There was no documentary evidence of any such contact with these suppliers. We consider Mr Khalid’s reaction was irrational.

Mr Khalid did accept that in mid-2011, when Elbrook had received four tax loss letters in a month concerning transactions entered by Elbrook worth £2m that had resulted in a tax loss to HMRC of £310,000, that there were serious problems with Elbrook’s supply chains.

Notwithstanding that Mr Khalid was wary of companies run by single directors, he continued to deal with Mr Aris, the sole director of Myer Ltd, after Elbrook had received a tax loss letter from HMRC in May 2011 in respect of Myer Ltd, and when Mr Aris moved the business to Maryam Limited, Elbrook accepted Maryam Limited as a customer. We consider Mr Khalid’s behaviour was irrational.

HMRC sent further letters to Elbrook warning of continuing issues in the wholesale commodities business:

The soft drinks with which this appeal is concerned were manufactured at the relevant time either by Coca Cola or GSK.

Elbrook was a member of the Today Group, a collective of European Cash and Carry companies that buys goods directly from manufacturers to enable them to compete in price terms with large supermarket chains such as Tesco.

Today Group had accounts with GSK and Coca Cola.

Discounts offered by Coca Cola to the Today Group members included discounts to the prices which were shown on the invoices “on invoice discounts” and “override discounts” which are determined by volume of goods purchased and the discount is paid by Coca Cola at the end of the trading period to the Today Group and it is then distributed by the Today group to the members according to the volume of goods purchased.

Notwithstanding the advantages of being a member of the Today Group Elbrook bought goods from Golden Harvest, Horizon and DZ.

HMRC obtained data from Coca Cola about its soft drinks' sales prices and discounts available to Elbrook as a member of the Today Group. The data for 2012 was more detailed than for other years. HMRC analysed the data it received from Coca cola and that extracted from the SAGE accounting system provided by Elbrook. HMRC assembled the results about the prices Elbrook bought goods from Golden Harvest, Horizon and DZ in annex 3 to the HMRC’s submissions (“Annex 3”) and set out in annex 5 (“Annex 5”) a comparison of the prices at which goods were offered to Elbrook by Coca Cola in 2012 compared to the prices at which Elbrook purchased goods from Golden Harvest in 112 of the transactions as shown in Annex 5 to HMRC’s submissions.

The data shows the prices paid to Golden Harvest and Horizon are remarkably constant over the 30-month period in question compared with the list prices of the products sold by Coca Cola which fluctuated constantly and not insignificantly upwards and downwards from month to month. (There are only 4 transactions with DZ over a shorter period of time, the prices per case were £6.35, £5.99 and £6.25 and £6.25 so no trend can be detected.)

The also data shows that the prices at which Elbrook bought goods manufactured by Coca Cola from Golden Harvest and Horizon in 2012 in respect of 6 of the 8 products purchased (coke and diet coke were the exceptions), were higher from Golden Harvest and Horizon by between 65p and 95p per case of 24 cans. This makes no commercial sense. If margins are tight in a cash & carry as Elbrook wish us to believe, why would Elbrook buy these goods at inflated prices from Golden Harvest and Horizon when they are available more cheaply from Coca Cola?

Coke and diet coke represented 59% of all purchases of soft drinks by Elbrook in 2012. The data made available by Coca Cola for 2012 about the discounts that Elbrook were entitled to as a member of the Today Group shows that when the “on invoice” discounts were included the price payable to Coca Cola for coke and diet coke by Elbrook would have been less then Elbrook had paid to Golden Harvest. Annex 5 shows that Elbrook bought coke directly from Coca Cola on only 4 separate occasions in 2012: on 5 and 6 March 2012 when it paid £6.42 and £6.36 per case of 24 cans, and on 23 and 24 April 2012 when Elbrook paid £5.95 per case. Yet in 2012 Elbrook bought coke from Golden Harvest on 97 separate occasions, on one occasion they paid £5.95 per case but for the remaining 96 occasions they paid £5.99, £6.15 and £6.17 per case. This makes no commercial sense. Given the tight margins one would expect Elbrook to have selected the cheapest supplier on every occasion.

In cross examination Mr Khalid suggested for the first time that the reason Elbrook had purchased goods from Golden Harvest and Horizon was due to price. Mr West had said in cross examination that it was possible to buy more cheaply than the prices being offered by the manufacturers owing to loss leaders etc. We accept loss leaders occasionally result in prices lower than the manufacturer’s price but given the relative lack of movement in the prices at which goods were purchased from Golden Harvest and Horizon and the constant movement in prices of goods sold by Coca Cola we consider that if the prices offered by Golden Harvest and Horizon had been consistently less than that being offered by the manufacturers would have been too good to be true and would have caused Elbrook to look more closely at the supply chain. We also consider that the prices being offered were consistently above Coca Cola prices there would be no reason to purchase the goods from Golden Harvest, Horizon or DZ at all.

Mr Khalid did not produce any evidence of the discounts available and the prices Elbrook were entitled to purchase goods from Coca Cola. He also questioned HMRC’s use of the data extracted from Elbrook’s records but did not produce any expert able to analyse the data. In cross examination Mr Khalid queried the value of the discounts in the data used by HMRC and whether they included the override discounts that were payable only at the end of a trading period which he said involved tying up capital. He did not produce any evidence of the cost to Elbrook of tying up capital and therefore the impact on the prices, which is a function of interest rates. We note that if the prices being offered by Coca Cola are lower than those being offered by third parties with the on-invoice discounts alone it makes no sense to pay the third parties at all. But even if the prices were only lower when the override discount is received, it would still be more advantageous to buy from Coca Cola. The higher price can never be recovered.

HMRC did not have the same data for GSK products. But GSK confirmed that it is unlikely that they had been prevented from providing product to Elbrook due to lack of supply.

Mr West was an account manager of GSK for the Today Group which had 100 members including Elbrook. Mr West was not therefore directly involved with sales to Elbrook. He would liaise with the sales manager to whom the sales representatives reported. Mr West’s role was to increase the volume of sales to the Today Group. Mr West sought to visit each member two or three times a year and ensure they received the benefit of periodic promotions and support for promotions being offered by the member. On visits to Elbrook, Mr West met both Khalid brothers as the meetings were pre-arranged.

The Today Group was entitled to 2% “over-rider” discount of total sales from GSK and was rebated periodically, at the end of a trading period. The rebates received by the Today Group were distributed to individual members according to the volumes of goods purchased by the member. A dedicated sales representative could also award discounts, but they were not cash discounts, they could take the form of free product or product to support an event.

Mr West, who gave evidence of fact, and not expert evidence, to the Tribunal, put forward many reasons why a person could buy soft drinks more cheaply from a third party than from a manufacturer, such as a loss leader offered by supermarket chains or other Cash & Carry companies, and why there may be a grey market but did not give any evidence as to what actually happened in the 335 transactions we are considering. His evidence was not therefore helpful. We note however that he said that there were no certainties as to what might happen to the price at which goods could be on-sold given the strategies that players in the market may be pursuing. We infer from this lack of certainty, that the prices in any grey market would likely fluctuate and were unlikely to follow a flatline or straight trajectory over the 30-month period we are concerned with.

Elbrook had no written contracts with any of Golden Harvest, Horizon or DZ or any emails or texts or faxes recording any negotiation or the final terms of the transactions or the transactions themselves.

The only contractual term, apart from the sales price and the description of the goods recorded on invoices issued by companies in the chains was a retention of title clause. Title was retained by the seller until payment was received. However, Elbrook mainly paid long after the date of delivery.

In cross examination Mr Khalid sought to explain away Elbrook’s non-compliance with the only recorded commercial term by saying that Elbrook had the benefit of credit advanced to it by Golden Harvest. There was no credit agreement, no terms recorded in emails or texts or faxes. There was no record in the DD report provided by DDE of any credit check having been carried out. The amount of the credit on occasion amounted to £200,000. It is inconceivable to us that the terms of such an arrangement would not be recorded. Mr Khalid’s explanation in cross examination of the credit terms, in particular the period for which credit was available, was inconsistent and unconvincing.

There was no record of any agreement on the return of damaged goods. Invoices obtained from Elbrook showed that of 170 purchases from Golden Harvest in 2013, 105 were marked as damaged as shown in Annex 2 to HMRC’s submissions. Mr Khalid in cross examination said that it was possible that only one can of a large consignment would be damaged rather than the entire case being damaged, and the warehouse staff would simply repack the undamaged cans. If that was the case, it seems to us that the handwritten note on the invoices was inadequate to enable Elbrook to recover the actual loss from Golden Harvest.

Elbrook’s position, as set out in Mr Khalid’s witness statement made in 2017, was that Elbrook bought directly from Golden Harvest, Horizon and DZ rather than the manufacturers because of lack of supply.

Mr West reluctantly agreed that the purchase of Lucozade from persons other than the manufacturer, was unlikely to be due to lack of supply. Mr Khalid also appeared to alter his position in cross-examination in relation to Lucozade.

Elbrook produced no evidence to show there was a lack of supply of soft drinks from Coca Cola, notwithstanding that Mr Khalid had said in correspondence in 2017 that he had written evidence from Coca Cola as to why they would buy from third parties rather than Coca Cola and would produce it in any Tribunal hearing. In cross examination Mr Khalid said that Elbrook was unable to get data from Coca Cola because their dedicated sales representative had left Coca Cola. Mr Khalid also said he had seen information on Google about lack of supplies in 2012 but did not produce the searches. We found this unconvincing.

Mr West conjectured that in 2012 there may have been a shortage of soft drinks owing to the Queen’s Diamond Jubilee and the London Olympic Games, as can happen when demand is high. But that would not explain why even more soft drinks were bought from third party suppliers in 2013 when there were no such events causing increased demand from GSK and Coca Cola.

Mr Khalid also thought the closure of roads during the Olympics would have affected Coca Cola’s ability to deliver. The same road closures would have affected Golden Harvest and Horizon and so this is unconvincing.

HMRC had received information from Coca Cola that they had no records of any inability to supply product ordered by Elbrook. Elbrook said that orders finally placed may well have been fulfilled but that does not mean all requests resulted in firm orders. Given the pattern of purchases from Golden Harvest and Horizon as shown in Annex 5, it seems to us unlikely that that was the case.

As mentioned above, in cross-examination Mr Khalid said for the first time since the dispute began that the reason he bought from Golden Harvest, Horizon and DZ, rather than directly from the manufacturers, was price.

We accept that it may be possible on occasion for products to be capable of being purchased at a price lower than that being offered by a manufacturer because of loss leaders being offered by traders. We consider it highly unlikely that that would be possible for all 335 transactions over a 30-month period.

We note that the prices offered by the manufacturers varied significantly upwards and downwards over the 30-month period. We find it difficult to believe that products could be acquired legitimately at prices that did not reflect to some extent that variation.

Elbrook provided no evidence of Coca Cola’s inability to meet consumer demand. Coca Cola informed HMRC in writing that they had limited information available going back to 2012 but since 2015 they can confirm there were no instances of Coca Cola being unable to meet consumer demand save for the supply of mineral water for a short time due to plant issues. We consider it unlikely that there were regular product shortages which forced Elbrook to buy from other direct suppliers.

HMRC prepared a spreadsheet (Annex 3 to HMRC’s submissions) showing the 335 transactions, the suppliers in each chain and the price at which each member of the chain purchased and on-sold the soft drinks. HMRC refer to the difference in the two prices by a supplier in the chain as a mark-up. The mark ups on the goods as they passed down the chain hardly vary in the 30-month period under consideration. The mark-up charged by Golden Harvest was between 2, 3 and 4p per case, the supplier to Golden Harvest secured mark ups of 3p per case. Elbrook secured 18p per case. We consider this allocation of mark-up is contrary to the risk and reward one would normally expect where the originator in the chain has secured an advantageous price for the goods by its own ingenuity or endeavours.

Elbrook’s consistent 18p per case mark-up on goods bought from Golden Harvest in the 30-month period is highly suspicious and ought to have put Elbrook on notice as to the legitimacy of the supply.

One document obtained by HMRC surveillance team of the OCG was a spreadsheet. The “mark-up” on the price of the goods sold in the chain was referred to as commission.

We note that HMRC found no evidence to trace the goods that were the subject of the 335 transactions back to the manufacturers.

The data provided by Elbrook enabled HMRC to identify the volume of stock purchased by Elbrook in the 30-month period under consideration and to compare it with the data provided by Elbrook on sales. Purchases exceeded sales by 6.4 times, but the excess stock was not in Elbrook’s warehouse. This caused Officer Ginn to have grave concerns as to whether the transactions had taken place. We share those concerns.

Mr Khalid said in cross examination that the data used by HMRC would be flawed because Elbrook often reallocate a product code used to buy goods from manufacturers to other products and so not all sales will be picked up in consequence HMRC’s calculations will be inaccurate. We note that if that had occurred there would have been more transactions than those identified with greater volume discounts being available to the Today Group. However, as coke and diet coke were bought on a weekly basis it is unlikely that the codes for these products were reallocated. The reuse of codes does not undermine the modelling that HMRC undertook.

Coca Cola advised HMRC that they would have expected a Cash & Carry of Elbrook’s size to have ordered 0.5m cases of soft drinks from them per year. The volumes purchased by Elbrook were:

Prior to 14 March 2014 when the Ablessio decision was handed down by the CJEU, it was difficult for HMRC officers to deregister a trader who was registered for VAT without a very protracted process because of the obvious and potentially devasting financial consequences for the trader.

HMRC invited the Tribunal to dismiss the appeal against the denial of VAT input tax of £1,273,739.55 and find that it had established on the balance of probabilities that Elbrook knew that 335 of its transactions in the 30-month period were connected with fraud or ought to have known that in the circumstances the only reasonable conclusion that could be drawn was that the transactions were connected with fraud.

In relation to Sparrowhawk, it was a supplier to DZ in respect of a single transaction in respect of which two invoices were issued. HMRC accepts that it is not in a position to say whether the two invoices were included in the late VAT return filed by Sparrowhawk, but the tax loss that HMRC say arose was caused by an inflated input tax claim. Sparrowhawk filed a VAT return showing a turnover of c.£1.4m and inputs of £1.396m, with a mere c£400 profit and a net VAT liability of £97. The overstatement of input VAT is the VAT fraud. Sparrowhawk also displayed all the characteristics of a company involved in fraudulent trading, such as a single director, purporting to operate from residential premises, no warehouse space, failure to communicate with HMRC resulting in suspension of its VAT registration after the first quarter which is never reinstated, turnover of over £1m in a single quarter from the commencement of business which is unknown in HMRC’s observation of new businesses. A late return was only filed after HMRC has issued an assessment to recover VAT on supplies to Elbrook. The input tax claimed is out of line with the output tax in a commercially run operation. The company was dissolved the following year.

In relation to DZ, the Appellant accepts that the suppliers to DZ had been engaged in VAT fraud but does not accept that DZ was involved in an orchestrated VAT fraud. HMRC says that DZ knew that the transactions it was engaged in were connected with fraud as can be seen from the following:

As to whether Elbrook knew or should have known they were participating in transactions connected to an orchestrated scheme to defraud HMRC, HMRC noted that cases such as these there is rarely a single piece of evidence such as a smoking gun or a confession. HMRC invited the tribunal to consider all the circumstances of the transactions and not to compartmentalise the individual strands of evidence. When viewed together, HMRC assert that the individual pieces of evidence are, like the individual strands in a rope which together form a rope, when looked at together are as powerful as direct evidence.

HMRC considered there are ten strands of evidence:

Elbrook says in relation to the denial of input tax, it is for HMRC to prove that Elbrook knew or ought to have known that the only reasonable explanation for the 335 transactions was that they were connected to fraud and HMRC has failed to discharge the burden of proof generally and specifically:

Sparrowhawk. In relation to Sparrowhawk, Elbrook says the alleged tax loss relates to two invoices of supplies to Elbrook which HMRC allege were not reflected in the VAT return made by Sparrowhawk. The return showed outputs of £1,387,930. Elbrook says that:

DZ. In relation to DZ, the alleged tax loss arose when HMRC denied DZ input tax on purchases from five traders including a purchase from Sparrowhawk. Elbrook says that HMRC has failed to show that the tax losses were fraudulent in accordance with the two-stage test laid down by the Supreme Court in Ivey v Genting Casinos (UK) Ltd t/a Crockfords [2017] UKSC 67 at [74], namely

Elbrook says that the denial of input tax by HMRC did not appear to be based on dishonesty and HMRC has not proved dishonesty. Further Elbrook notes that Mr Zylfo the director of DZ attended 18 meetings with HMRC between May 2014 and April 2016 and that is not the behaviour of a dishonest person.

Elbrook’s knowledge of fraud. Elbrook says that:

Whether Elbrook ought to have known,Elbrook points to the decision in Mobilx at [75] which sets out the test and states that “the ultimate question is not whether the trader exercised due diligence but, rather whether he should have known that the only reasonable explanation for the circumstances was that it was connected to fraud.” This Elbrook says:

In response to points made by HMRC on some of the facts and circumstances, Elbrook says:

For HMRC to deny the claims by Elbrook to deduct input tax of £1,273,741.55 in respect of the 335 transactions under consideration in accordance with the decision CJEU in Kittel, HMRC must prove on a balance of probabilities that:

As indicated in Citibank, at [90] it is not necessary for the taxpayer to be dishonest or to know the identities of the fraudulent defaulters.

A taxpayer will be regarded as having knowledge to the only reasonable explanation standard if he fails to make enquiry, per Davis & Dann at [64].

Lady Justice Arden also stated in Davis & Dann that the Tribunal must not compartmentalise the evidence [60] and is not restricted by any rule of law or statute from relying on any circumstance which was capable of being probative of knowledge to the no other reasonable explanation standard [62].

Elbrook:

Before considering the specific aspects of the case we wish to comment on Mr Khalid’s evidence. Our impression of Mr Khalid was that he was an intelligent man and his father and brother had trusted him to run the family cash & carry business albeit with some assistance from his brother Fukhera. However, we set out at [195 (9)] above the authorities HMRC rely on to invite the Tribunal to treat Mr Khalid’s evidence with caution and to infer from the facts that, except where Mr Khalid’s evidence is supported by contemporaneous documentation, Mr Khalid’s evidence was not credible. We agree with the eight comments made by HMRC on the quality of Mr Khalid’s evidence at 195(9)(ii)(A) to (H), we agree that it is appropriate to treat Mr Khalid’s evidence with caution and to draw an inference that except where his evidence is supported by contemporaneous documentary evidence that his evidence is not credible. We also agree that Elbrook failed to provide any witness with knowledge of the SAGE accounting software, able to comment on HMRC’s analysis of the data provided by SAGE or to conduct its own analysis to demonstrate why HMRC’s analysis was incorrect. Elbrook failed to produce any of the buyers in the warehouse team to give evidence of whether they ascertained the price being offered to the Today Group before doing so. Elbrook also failed to provide evidence or witnesses from Coca Cola and GSK on their inability to supply stock or even on the prices at which Elbrook could purchase goods from Coca Cola and GSK in the period. These failures seem to us inexplicable except on the basis that to do so may have exposed unfavourable facts.

In relation to stock records, these were needed by Elbrook’s auditors to prepare the quarterly accounts and therefore the annual accounts. Section 386(4) of the Companies Act 2006 is clear that a company must state the level of stock at the end of each financial period and must retain all statements of stock takings from which that statement of stock in the accounts has been prepared. In cross examination Mr Khalid said the paper stock records had been destroyed. It is clear that the weekly paper stock records that were prepared and handed to Elbrook’s accountants to prepare the statutory accounts ought to have been retained. Elbrook ought to have asked their accounting advisers for copies and we find the failure inexplicable except on the basis that to do so may have exposed unfavourable facts.

At a preliminary stage in the course of these appeals Judge Gething was invited to make a direction to admit evidence from the OCG hearings. Judge Gething was unaware of the issues in the case and was being asked to give directions. She allowed the evidence to be admitted as to do otherwise could be unjust but indicated that no weight would be attached to it. Judge Gething was not in a position to understand what weight should be given to it. The Tribunal was asked by Elbrook to maintain that position. HMRC asked the Tribunal to alter that position and afford the evidence such weight as the Tribunal sees fit. We modify the original direction and allow the evidence some weight to the extent that it corroborates other evidence. We do not wish to give the impression that enormous weight should be placed upon it. The OCG evidence is a small piece in comparison with the 15,000 pages in the Trial Bundle.

We infer from the facts set out at [132] to [137] above that Sparrowhawk is a fraudulent defaulting trader and that a loss of VAT has arisen on sales to DZ because the claim to input tax in the late filed VAT return for 04/14 was overstated.

Specifically, we note that the mark up on £1,387,442 of alleged purchases set out in Sparrowhawk’s return was a mere £488. In our view, no trader could realistically conduct business on such a tiny margin.

We also note that HMRC has not been provided with the VAT invoices to enable it to verify the purchases and sales set out in the 04/14 return.

We note that the 04/14 return was only submitted in October 2014 after HMRC had in September 2014 suspended the VAT registration with effect from 1 June due to lack of contact from Sparrowhawk, and had issued a VAT assessment to recover the output tax on the sales to DZ in the sum of £3,484.

Further if Sparrowhawk’s business had been legitimate and had generated over a million pounds worth of sales in three months, it would be logical for Sparrowhawk to contact HMRC to reinstate the VAT registration number. We infer from Sparrowhawk’s failure to reinstate the VAT registration number that the business was not legitimate. We further infer from the information above that the input tax was overstated deliberately creating a tax loss.

To deny Elbrook’s input tax claim in respect of the four transactions involving DZ, HMRC must prove on a balance of probabilities that DZ were part of an orchestrated scheme to defraud HMRC, i.e. that DZ were connected with the fraudulent evasion of tax.

Elbrook say that HMRC has not satisfied the test laid down in Ivey v Genting Casinos (UK) Ltd t/a Crockfords [2017] UKSC 67 (“Crockfords”) at [74], concerning establishing fraud. The is a two-step approach:

We set out the text of [74] in Crockfords below:

“[74.] … The test of dishonesty is as set out by Lord Nicholls in Royal Brunei Airlines Sdn Bhd v Tan and by Lord Hoffmann in Barlow Clowes: see para 62 above. When dishonesty is in question the fact-finding tribunal must first ascertain (subjectively) the actual state of the individual’s knowledge or belief as to the facts. The reasonableness or otherwise of his belief is a matter of evidence (often in practice determinative) going to whether he held the belief, but it is not an additional requirement that his belief must be reasonable; the question is whether it is genuinely held. When once his actual state of mind as to knowledge or belief as to facts is established, the question whether his conduct was honest or dishonest is to be determined by the fact-finder by applying the (objective) standards of ordinary decent people. There is no requirement that the defendant must appreciate that what he has done is, by those standards, dishonest.”

Elbrook also says that the denial of input tax by HMRC did not appear to be based on dishonesty and HMRC has not proved dishonesty. Further Elbrook notes that Mr Zylfo, the director of DZ, attended 18 meetings with HMRC between May 2014 and April 2016 and that is not the behaviour of a dishonest person.

We consider that there is sufficient evidence of Mr Zylfo’s knowledge and belief as to the facts to enable the Tribunal to conclude that Mr Zylfo was aware that DZ was part of an orchestrated scheme to defraud HMRC when the following is considered together:

Further we consider Mr Zylfo’s conduct judged by the standards of the ordinary decent person would be regarded as dishonest.

We reject the suggestion made by Elbrook that the Tribunal should follow the decision of the FTT in Crow Metals, where there were issues of inadequate DD. We decline to do so. It is the purpose of authority to give guidance on the law not to find analogy on the facts.

We now address the circumstances in which the 335 transactions took place in the VAT quarters ending 04/12 to 07/14 and Mr Khalid’s knowledge of the circumstances:

Considering the above, we consider on the balance of probabilities, that Mr Khalid and therefore Elbrook knew that the 335 transactions were connected with fraud.

If we are wrong, we consider that Mr Khalid and therefore Elbrook ought to have known that the only reasonable explanation for the circumstances in which the 335 transactions were undertaken was that they were connected with fraud.

We dismiss the appeals.

This document contains full findings of fact and reasons for the decision. Any party dissatisfied with this decision has a right to apply for permission to appeal against it pursuant to Rule 39 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009. The application must be received by this Tribunal not later than 56 days after this decision is sent to that party. The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice.