Blake Lapthorn involved in recovery of money from First Curacao International bank account of mobile phone trader accused of £51 million carousel fraud

Readers may have read about the recent order made against Craig Johnson, who was a high profile carousel fraudster.  Mr Johnson was sentenced to 12 years' imprisonment in 2006 and was recently ordered by Wolverhampton Crown Court to pay back to the authorities a total of £26 million over two years or face a further ten years' imprisonment.

Following a judgment handed down on 18 August 2008 in the Dutch Antilles, a team at Blake Lapthorn led by Nick Oliver of our Insolvency and Business Recovery team, has helped Stephen Hunt of Griffins Licensed Insolvency Practitioners to become the first to recover money from First Curacao International Bank (FCIB) in respect of a UK-based company accused of taking part in 'carousel' fraud.

the facts

• FCIB was a bank based in Curaçao in the Dutch Antilles which operated a very sophisticated e-banking platform. In 2004, FCIB's volume of business was equivalent to approximately £32 million and, before it was put into a form of administration in 2006, it had increased to around £3 billion.
• In August 2006, FCIB was served with court orders to produce information on approximately 200 of its clients as part of a large-scale criminal investigation into 'carousel' fraud in the UK. In September 2006, FCIB became subject to criminal investigation by Dutch authorities on the basis of alleged money laundering and VAT fraud by its clients.
• FCIB was subsequently closed down as a result of this Anglo-Dutch criminal investigation.
• Stephen Hunt (the liquidator) was appointed liquidator of V2 UK Limited (V2) on 16 November 2006 following an investigation conducted by him as provisional liquidator.
• HM Revenue & Customs (HMRC) had petitioned to wind up V2 claiming unpaid VAT of £51 million relating to carousel fraud.
• V2, based in Blackburn, was a high street retailer of men’s fashion, whose turnover increased massively from £200,000 to £424 million after it had begun to trade in mobile phones using its VAT number.
• At the time of liquidation, the company had £1.3 million in its offshore account with FCIB, monies which it had acquired entirely through trading in mobile phones.

the proceedings

• Following advice from Blake Lapthorn, the liquidator brought proceedings in Curaçao for the return of V2’s money held with FCIB.
• Whilst this was ongoing, Blake Lapthorn and the liquidator also negotiated with the UK and Dutch criminal authorities, which resulted in the creation of a formal protocol for the release of funds from FCIB where the account holder is suspected of involvement in carousel fraud (the protocol).
• After the liquidator had complied with the protocol and made the application to court, which resulted in the order of the 18 August 2008 (the order), the funds were finally released to the UK for the benefit of V2’s creditors.
• Until the order was obtained and the protocol was created, companies involved in categories of business deemed “suspicious” by HMRC could only obtain their funds where they could produce an audit certificate confirming that the company had not been involved in carousel fraud.

what is carousel fraud?

• Carousel fraud, so called because such trades can go round and round in a loop, involves the repeated import and export of goods such as mobile phones and computer chips. The VAT is reclaimed each time as traders use sophisticated systems to create virtual trades without actually moving any goods.
• The fraudsters exploit two features of the VAT system in the European Union. First, suppliers (rather than purchasers) account for the tax and businesses pay the balance between the VAT they have charged and received on their sales and the VAT incurred on their purchases. Second, cross-border trade is not typically subject to indirect taxation, such as VAT, which means that exporters reclaim the tax they have paid on their imports.
• As an example, several linked companies, including an overseas supplier, are used to disguise the theft. At the start of the chain in the UK, a company imports (for example) mobile phones free of VAT and sells them to the next company in the chain, charging VAT but not accounting for this VAT to HMRC. After subsequent apparently legitimate transactions with buffer companies, the phones are sold back to the initial overseas supplier and the exporting company reclaims VAT from HMRC on its purchases. In effect, HMRC is writing a cheque for 17.5% of the value of the goods, each time the goods go round the carousel.

lessons for the insolvency practitioner

• As a result of the disruption to the fraudster's banking facilities at FCIB, HMRC were able to report a huge reduction in the estimated volume of fraudulent imports/exports of mobile phones and computer chips. This discovery led to the Anglo-Dutch investigation into the activity of certain accounts held with FCIB, which in turn led to the closure of FCIB. This shows that, at its most extreme, carousel fraud can result in the failure of a bank.
• Given the cyclical nature of carousel fraud transactions and the sheer number of traders' books that the goods are passed through, it is very much possible that there will be innocent traders involved in the chain. In other words, there may be legitimate companies making what they believe to be legitimate purchases of goods within the cycle of transactions who are unwittingly facilitating carousel fraud.
• The Finance Act 2003 brought in the concept of joint and several liability for traders involved in carousel fraud transactions.  The effect of this legislation is therefore that where there is a default in the payment of VAT, HMRC can hold any trader in the chain responsible.  The effect of the legislation was watered down considerably by the European Court of Justice in the litigation commonly known as Bond House.  Post-Bond House, HMRC may still deny a trader the right to deduct input tax, but only where it can be shown that the trader had knowledge (or the means of knowledge) that VAT would go unpaid.  Innocent traders must therefore be careful who they decide to trade with, especially if they operate in the mobile phone and computer industry.
• At a time when all professionals (including of course Insolvency Practitioners) are under more pressure than ever to monitor and report suspicious transactions or behaviour, it is important that we are alert to the warning signs of carousel fraud.  If you have reason to believe that you have been appointed over an individual or a company that is (either knowingly or innocently) involved in carousel fraud, you should report it immediately to your money laundering officer or the relevant authority.
• Telltale signs that a company/individual are involved in carousel fraud include the following:

1. they are trading in the mobile phone or computer markets (although carousel fraud is not limited exclusively to these markets)
2. they have a history of asking their customers to make payment directly to a third party
3. payments for goods are made to overseas accounts (especially to jurisdictions that have less stringent banking regulations)
4. paperwork, such as invoices, looks cobbled together or lacks authenticity
5. they have been involved in trading goods that fall outside their normal type of business (some carousel fraudsters are known to buy VAT-registered companies – whatever the company's business – and use them as extra links in the carousel chain).

• What tools do office-holders have at their disposal if they suspect that the company has been involved in carousel fraud?

1. There will probably be misfeasance claims against the directors.
2. There will quite possibly be fraudulent trading claims against the directors if the evidence is strong enough. The benefit of being able to bring a fraudulent trading claim is that the scope of the relevant statutory provision (section 213 of the Insolvency Act 1986) is so wide that the directors can be held responsible not only for losses incurred by the company but also by others (such as other traders in the carousel chain).
3. There may well be knowing receipt or dishonest assistance claims against other members of the carousel chain (ie the customers and suppliers).
4. There will be claims against the recipients of the company's funds (for example, the shareholders) due to lack of consideration.
5. There could potentially be negligence claims against the company's auditors if the auditors failed to undertake stock checks over what may turn out to be stock that the company never held.

It is now believed that the order obtained and the protocol engineered by Blake Lapthorn and the liquidator will enable significant further recoveries in other cases of carousel fraud given that most individuals in the UK arrested and charged with carousel fraud had links to an account with FCIB.  In fact, IBRT, with the help of other colleagues across the firm, have since had another victory in the courts of the Netherlands Antilles relating to another customer of FCIB.  Click here to view the article that appeared in the Times.

If you would like more information about this topic please contact Adrian Owen or Dan Geddes of Blake Lapthorn’s Insolvency and Business Recovery team.