HMRC CIS Supply Chain Fraud Investigations: The Kittel Principle Arrives in Construction

HMRC has introduced significantly stronger powers targeting CIS supply chain fraud within the construction industry. Since April 2026, contractors facing HMRC Fraud Investigation Service (FIS) enquiries may increasingly encounter allegations that they “knew, or should have known” that fraudulent tax loss existed within their labour supply chain.

For businesses familiar with VAT fraud litigation, the direction of travel is immediately recognisable.

While these are not technically Kittel VAT cases, many of the same investigative themes are now beginning to appear within construction supply chain fraud enquiries. In practice, HMRC is moving beyond ordinary CIS compliance checks and towards wider supply-chain enforcement focused on labour providers, outsourced payroll arrangements and alleged tax loss further down the chain.

HMRC’s new labour supply chain powers may expose companies to substantial PAYE/NIC liabilities and penalties. In serious cases — particularly where insolvency, deliberate conduct or repeated non-payment issues arise — directors may also face personal exposure through existing HMRC personal liability powers.

What Is CIS Supply Chain Fraud?

CIS supply chain fraud typically involves allegations that tax has been lost within construction labour supply chains through:

• unpaid PAYE or National Insurance;
• fraudulent CIS deductions;
• labour intermediaries;
• non-compliant subcontractor structures; or
• artificial payroll arrangements.

In many cases, HMRC alleges that contractors benefited from artificially low labour costs generated by non-payment of tax elsewhere in the chain.

The critical issue is often not whether the contractor directly committed fraud, but whether HMRC believes the contractor knew — or should reasonably have known — that its supply chain was connected to fraudulent tax loss.

HMRC FIS Investigations in the Construction Sector

Many construction businesses initially assume these enquiries are routine CIS compliance matters.

That is frequently a mistake.

Where HMRC Fraud Investigation Service becomes involved, the enquiry often develops into a detailed examination of:

• labour supply arrangements;
• subcontractor relationships;
• payroll structures;
• margins and pricing;
• labour control;
• payment flows;
• bank accounts;
• due diligence procedures; and
• internal decision-making.

These investigations can become highly document-heavy and may involve requests for:

• contracts;
• onboarding records;
• timesheets;
• RTI evidence;
• verification records;
• payroll material;
• supplier due diligence;
• bank statements; and
• internal communications.

The factual and evidential position established during the early stages of an enquiry can become highly significant later if HMRC issues formal assessments or penalties.

The “Knew or Should Have Known” Test

The phrase “knew or should have known” is already well known within Kittel VAT litigation.

HMRC has spent many years developing cases based on alleged knowledge of fraud within supply chains. Those cases often rely heavily on inference, surrounding circumstances and what HMRC says a reasonable business should have identified.

Construction supply chain fraud cases are increasingly beginning to follow a similar pattern.

HMRC may seek to argue that warning signs existed which should have alerted the contractor to fraud risk within the labour chain. Examples may include:

• unusual pricing structures;
• opaque intermediary arrangements;
• rapid supplier changes;
• inconsistent commercial explanations;
• unusual payment methods;
• lack of genuine operational substance; or
• weak due diligence.

Importantly, HMRC does not usually rely on a single “smoking gun”. These cases are commonly built cumulatively through multiple alleged indicators which HMRC says, when viewed together, demonstrate knowledge or means of knowledge.

Why Documentary Evidence Matters

In many CIS supply chain fraud disputes, the documentary evidence becomes decisive.

Tribunals and investigators will often examine whether the contractor can demonstrate:

• a genuine commercial rationale for supplier relationships;
• credible onboarding procedures;
• proper oversight of labour providers;
• consistent and legitimate contractual arrangements;
• reasonable due diligence; and
• contemporaneous evidence supporting the business narrative.

One recurring problem in supply-chain litigation is hindsight reconstruction. HMRC frequently reviews transactions years after the events and attempts to reconstruct supply chains retrospectively.

Where documentation is incomplete or inconsistent, HMRC may seek to fill gaps through inference.

For that reason, businesses facing HMRC labour supply chain enquiries should approach witness evidence, explanations and document production carefully from the outset.

Director Liability and Personal Exposure

One area receiving increasing attention is potential director liability.

Many directors assume that any dispute is limited to the company itself. However, in some circumstances HMRC may pursue individuals personally where it believes responsibility for the arrangements can properly be attributed to directors or those controlling the business.

This is one reason why early strategic handling of HMRC supply chain enquiries can be critical.

How Construction Businesses Defend HMRC Supply Chain Allegations

Successful defence of construction supply chain fraud allegations often depends upon:

• detailed forensic analysis of transactions and labour arrangements;
• testing HMRC’s assumptions and methodology;
• examining whether proven tax loss actually exists;
• assessing whether the contractor’s transactions were genuinely connected to that loss;
• careful witness preparation; and
• demonstrating legitimate commercial behaviour within the sector.

These disputes are rarely resolved through generic correspondence alone. They are usually evidence-heavy, inference-based and strategically complex.

The Wider Trend in HMRC Enforcement

The broader trend is increasingly clear.

HMRC is moving towards more sophisticated supply-chain enforcement across multiple tax regimes. The principles historically associated with Kittel VAT fraud litigation are now beginning to influence wider construction and labour supply investigations.

Businesses operating within construction labour supply chains should therefore treat HMRC FIS enquiries seriously from an early stage, particularly where allegations involve knowledge, means of knowledge or wider supply-chain tax loss.

Specialist Advice on HMRC CIS Supply Chain Fraud Investigations

CTM advises businesses and directors dealing with:

• HMRC CIS supply chain fraud investigations;
• HMRC Fraud Investigation Service enquiries;
• labour supply chain disputes;
• “knew or should have known” allegations;
• VAT and Kittel-related disputes; and
• Tax Tribunal appeals involving supply-chain fraud allegations.

Early specialist analysis can often be critical in assessing the evidence, identifying weaknesses in HMRC’s case and determining the appropriate litigation strategy before formal decisions are issued.