The ruling in the recent Elphysic case marks a significant development in HMRC’s ability to combat VAT fraud, particularly in the temporary labour sector. The case centred on four mini-umbrella companies (MUCs) that HMRC alleged were part of a wider fraudulent scheme involving over 18,000 similar entities. It was found that the MUCs were under the “dominant influence” of scheme organisers and lacked genuine independence, thereby rendering them ineligible for both the flat-rate VAT scheme and employment allowance.

At issue was whether HMRC could lawfully de-register these companies for VAT without categorically proving that their directors knew, or should have known, about the fraud. The First-tier Tribunal had previously ruled that such knowledge was necessary. However, the Upper Tribunal decision has overturned this, holding that HMRC need only demonstrate that there is sound evidence suggesting the VAT numbers in their supply chain will probably be used fraudulently in the future.

This matters because it affirms HMRC’s power to act pre-emptively against VAT fraud even where company directors may be unaware of an alleged fraudulent activity. The ruling highlights that deregistration is a forward-looking measure, designed to prevent misuse of VAT numbers rather than punish past conduct. It also confirms that the abuse-of-law principle in EU VAT jurisprudence remains applicable post-Brexit, reinforcing HMRC’s powers to act against organised tax evasion.

The impact of this development is wide-ranging and means any defence based solely on the assertion that it was a third party acting fraudulently is unlikely to be sustainable where a person has failed to carry out adequate due diligence or verification checks of their supply chain. Businesses operating with similar supply chains, especially where control and association with other entities may trigger scrutiny, should review their use of MUCs to ensure transparency in their governance and VAT compliance, thereby reducing their risk of being deemed part of a fraudulent arrangement by HMRC.

The ruling sends a clear message: the level of proof required for an HMRC deregistration is now lower, as the practical burden shifts to businesses to prove their legitimacy. HMRC can and will act decisively where it believes that VAT registration numbers are being used in schemes that undermine the integrity of the tax system.

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