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UK customs fraud triggers EU legal action

  • United Kingdom
  • Brexit
  • Competition, EU and Trade - Brexit

13-03-2018

On 8 March the European Commission triggered a formal legal action over alleged breaches by the UK of EU legislation, stating that the UK’s failure to take action against fraudulent activities in Chinese footwear and textile imports has cost the EU budget EUR 2.7 billion (minus collection costs). The European Scrutiny Committee, which is investigating the issue, has warned that this dispute may have a negative impact on the ongoing Brexit negotiations, particularly with regard to the UK’s hopes of securing a light-touch customs arrangement as part of a post-Brexit trade deal.

Fraud, Customs Duties and the EU Budget

The EU budget is partially funded using a portion of the revenue generated by customs duties imposed on imports from outside the EU. Accordingly, where customs duties are evaded through fraudulent methods, the EU budget is deprived of funds.

Article 325 of the Treaty on the Functioning of the European Union (“TFEU”) states that EU Member States must adopt measures to counter fraud and any other illegal activities affecting the financial interests of the EU, and that such measures must be the same as those used to counter fraud affecting the financial interests of the individual Member States.

The dispute over footwear and textiles imports

A report published by OLAF (the EU Anti-Fraud Office) in 2017 (following a three-year long investigation) revealed that international organised crime groups were targeting ports in the EU with the weakest controls in order to make a profit by submitting fictitious invoices and declaring falsely low customs values for textiles and footwear imports from China –  a practice known as ‘undervaluation fraud’. These imported products were then distributed throughout the EU on the black market, meaning that further taxes were evaded.

The investigation by OLAF revealed that “the single most significant hub for this fraudulent traffic was in place in the UK”. In particular, the report stated that “despite repeated efforts deployed by OLAF, and in contrast to the actions taken by several other Member States to fight against these fraudsters, the fraud hub in the UK has continued to grow”. According to OLAF’s estimation, the resulting loss to the EU budget amounted to almost EUR 2 billion (after collection costs).

The investigation also found that there is substantial VAT evasion in connection with imports through the UK, by importers abusing the suspension mechanism relating to the payment of VAT. In circumstances where the suspension is applied, because the products in question are destined for other EU Member State markets, it is the revenues of those Member States (and not the UK) that are mainly affected. The VAT losses were estimated at EUR 3.2 billion for the period 2013-2016.

According to the report, the UK has known about the risks of fraud relating to the importation of textiles and footwear from China since 2007 and failed to take appropriate action despite having been asked to do so. Further European Commission inspections brought to light a dramatic increase in the scale of the fraud scheme between 2011-2017.

OLAF has issued a financial recommendation to the European Commission for the recovery from the UK to the EU budget of the EUR 2 billion in lost customs duties, as well as an administrative recommendation aimed at preventing the abuse of the VAT suspension procedure. A judicial recommendation was addressed to the UK Crown Prosecution Service to initiate judicial proceedings against those involved in fraudulently evading customs duties and against those knowingly involved in laundering the proceeds of this offence.

UK Treasury Response

The Chief Secretary to the Treasury, Elizabeth Truss, in a letter dated 22 January 2018, disputed the size of the EU’s estimated losses resulting from the alleged fraudulent activities, arguing that OLAF’s approach of calculating an aggregate duty loss from a variety of individual cases cannot reasonably provide an accurate estimate of the cumulative scale of the fraud. Moreover, the letter stated that the UK has taken reasonable and appropriate steps to address suspected fraud and complied with its legal obligations over the period in question.

Commencement of infringement proceedings

On 8 March the European Commission sent a letter of formal notice relating to the commencement of infringement proceedings against the UK, “because it refuses to make customs duties available to the EU budget, as required by EU law.”  Infringement proceedings fall under Article 258 TFEU, which gives the European Commission the power to take legal action against a Member State that is not respecting its obligations under EU law. The UK has two months to respond to the Commission’s letter, presenting its counter-arguments.

If the response is judged to be insufficient, the European Commission can send a formal request to the UK, demanding compliance with EU law, referred to as a ‘Reasoned Opinion’. If, following a specified period of time, the UK fails to comply with the formal request, the European Commission can refer the matter to the Court of Justice of the European Union.

Potential impact on Brexit negotiations

It is currently expected that the UK will leave the EU Customs Union and the Single Market following a transition period which will likely end on 31 December 2020. Thereafter, the UK Government is hoping to secure a “highly streamlined customs arrangement between the UK and the EU, with customs requirements that are as frictionless as possible”.

However, the EU is likely to be reluctant to agree to a ‘light-touch’ customs arrangement that could jeopardise the Single Market, particularly if it is concerned that the UK’s procedures are not robust enough to detect and prevent fraud.

In January 2018, the UK’s European Scrutiny Parliamentary Committee noted that both the European Commission and OLAF had observed the growing scale of customs evasion in the UK and the fact that, as of November 2017, the continuing fraud meant that losses to the EU budget were ongoing.  In particular, the Committee acknowledged that the nature and timing of the dispute may have a negative impact on the already difficult negotiations on the UK’s future trade arrangements with the EU. It remains to be seen whether the awaited response by the UK to the European Commission’s letter will resolve the issue or whether it will lead to further contention between the two negotiating parties.

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