The Kittel Principle

The Kittel Principle

CTM has handled over 100 Kittel cases over the course of 18 years, making the firm one of the most experienced in the United Kingdom in this area of tax law.

Historical Context

MTIC (Missing Trader Intra-Community) carousel fraud emerged in the late 1990s as a significant threat to the VAT system across Europe. By 2005, it was estimated that MTIC fraud was costing the UK Exchequer approximately £5 billion per year in lost VAT revenue.

The fraud exploited the zero-rating of cross-border supplies within the EU, creating circular chains of transactions in which VAT was charged and reclaimed but never paid to the tax authority.

The 2006 ECJ Ruling

The landmark ruling came from the European Court of Justice in 2006 in the joined cases of Axel Kittel v Belgian State (C-439/04) and Belgian State v Recolta Recycling SPRL (C-440/04).

The Court established the principle that companies cannot deduct input VAT if they knew or should have known that their transactions were connected with fraud.

The ECJ Judgment

The Court held:

Article 17 of the Sixth Directive must be interpreted as meaning that a taxable person who knew or should have known that, by his purchase, he was taking part in a transaction connected with fraudulent evasion of VAT must, for the purposes of the Sixth Directive, be regarded as a participant in that fraud, irrespective of whether or not he profited by the resale of the goods.

Where it is ascertained, having regard to objective factors, that the supply is to a taxable person who knew or should have known that, by his purchase, he was participating in a transaction connected with fraudulent evasion of VAT, it is for the national court to refuse that taxable person entitlement to the right to deduct.

Critically, the Court also held that Article 17 of the Sixth Directive must be interpreted so as to preclude national law from denying the right to deduct to parties who did not know and could not have known of the connection to fraud. Innocent parties retain their right to deduct.

The Mecsek-Gabona Principle

A related principle, the Mecsek-Gabona Principle, applies specifically to export fraud. This principle addresses situations where goods are sold for export and the seller knew or should have known that the transaction was connected with fraudulent evasion of VAT on the export leg of the supply chain.

Modern Application

While the Kittel principle originated in the context of traditional carousel fraud involving goods such as mobile phones and computer chips, its modern application has expanded significantly. HMRC now applies the Kittel principle extensively to:

• Payroll and labour supply schemes where outsourced payroll providers default on their VAT obligations
• Recruitment and staffing fraud involving chains of labour supply companies
• Service-based supply chains where the fraudulent element is in the provision of services rather than goods

These modern applications present distinct challenges, as the supply chains are often less transparent than those involving physical goods.

CTM’s Experience

CTM has achieved three consecutive tribunal successes in the last 3 years in Kittel cases. The firm’s extensive experience spanning over 100 cases provides an unparalleled depth of knowledge in defending businesses against HMRC’s Kittel allegations.

Contact

For specialist advice on Kittel cases, contact Liban Ahmed on 07738 666548.