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VAT on mobile phones, computer chips and other digital goods will not be charged between businesses under new rules about to be approved in Europe. Tax commissioner Laszlo Kovacs has said the plan will be approved in the next two weeks.

The plan is designed to combat a crime dubbed 'carousel fraud'. Criminals have been moving digital goods around Europe, buying and selling them with VAT included. They then reclaim the VAT from the Treasury without ever having passed it on to Government in the first place.

Because VAT is harmonised across Europe, the permission of the Commission is needed before Revenue and Customs (HMRC) can switch to so-called 'reverse charging', where no VAT is charged until the final sale in the chain. Customs applied in January to alter the system and awaits a ruling from the Commission.

Kovacs told The Guardian newspaper that permission would be granted. "Britain will get its approval in the next couple of weeks," Kovacs told the newspaper. "For the UK, this is a temporary step, but not a complete solution."

A spokeswoman for Kovacs said that he was not retreating from his comments. "People can apply for derogation if their change is proportionate and limited," said spokeswoman Maria Assimiakopoulou. "Some countries make applications that are wide and general; the UK's is not so is more likely than others to be granted."

The ruling, which will release the UK from its obligations under the Commission's Sixth VAT Directive, will only be a temporary measure. The entire European VAT regime is being overhauled, and that process will address carousel fraud.

"Although the common legal framework for administrative cooperation was reinforced some years ago, the Member States do not make sufficient use of the new possibilities offered and the level of administrative cooperation is not commensurate with the size of intra-Community trade," said a Commission announcement of that review.

Elements of the Finance Bill 2006 will allow for reverse charging. That Bill is currently progressing through the Houses of Parliament and will receive its third reading in the House of Lords next week, said HMRC spokeswoman Sandra McKay. "It means that if we do get permission in Europe we are ready to go," she said.

The UK losses due to carousel fraud are estimated by HMRC as being between £1.12bn and £1.90bn for 2004–2005.

Copyright © 2006, OUT-LAW.com

OUT-LAW.COM is part of international law firm Pinsent Masons.

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