The ruling will also have a bearing on up to 1,200 appeals by thousands of traders still to be heard. Hundreds of millions of pounds is still being withheld from traders by HMRC.
Mobile phone trader Livewire Telecom won its appeal for more than £2 million in withheld VAT. It is the fifth such case to go to the VAT Tribunal, but the first to find in favour of the trader.
The VAT Tribunal said HMRC had been loose in its interpretation and use of ‘means of knowledge’ assessments, by which it has withheld VAT from traders on the grounds they “knew or should have known” about fraud in a supply chain.
‘Means of knowledge’ assessments have been employed by HMRC as a part of its ‘extended verification’ tactic for withholding VAT from traders since the European Court of Justice ruled it was grounds for non-payment in the Axel Kittel and Ors case in July 2006.
But the VAT Tribunal in this instance overturned HMRC’s interpretation of ‘means of knowledge’.
It criticised HMRC for its application of the Kittel doctrine and said traders should not be required to police the supply chain for VAT fraud.
Martin O’Neill, senior consultant at Vantis Tax, which handled the case for Livewire, said: “This is a terrific result for Livewire and for other traders caught up in the lengthy extended verification exercise carried out by HMRC. It will also have a marked effect on future cases.
“It puts to rest a number of incorrect assumptions which HMRC has made in its interpretation of the Kittel judgment. It allows the taxpayer to challenge the grounds for the extended verification.
“Until now, a decision as to whether a company had knowledge of a fraud was largely based on the opinion of an HMRC officer.
“There was very little in the way of legal framework and even less case precedent upon which to base this decision, or appeal against it.”
The Livewire case concerned wholesale transactions dating from April 2006, where Livewire purchased and exported 14 consignments of mobile phones.
The resulting VAT repayment, of more than £2 million, was subjected to extended verification by HMRC and repayment was denied in December 2006. The VAT Tribunal hearing started in November last year.
HMRC was unavailable for comment. It could appeal the decision to the High Court.
Vantis Tax managing director Don Mavin said: “HMRC will have to review its stance in light of this decision.”