Show Hide image Business and finance 15 September 2020 The record shop, the taxman and the missing billions Working from a shed at the end of his garden, one man fought an epic battle against an industry of tax avoidance that cost the country billions. By Will Dunn Follow @willydunn Sign UpGet the New Statesman’s Morning Call email. Sign-up It was the autumn of 1992, and Richard Allen, an import-export manager at a luxury wallpaper company, was spending the day at a conference held by Her Majesty’s Customs and Excise. He was half-listening to a presentation about how the UK’s ratification of the Maastricht Treaty the following year would change the taxes companies such as his would have to pay on exports. He was bored. The truth was, he was finished with wallpaper. He was thinking, he told me: “I can’t wait to get out of this, and get back to music!” In his spare time, Allen had set up his own record label, and it was doing well. He was about to give up his day job, to start selling records on a promising new technology called the World Wide Web. What Allen didn’t know, as he sat sipping his government-issue coffee and dreaming of a more exciting future in the music industry, was that the dreary presentations on cross-border tax that day contained information which would set the direction of his life for almost two decades, destroying his business and leading him into an international legal battle with his own government. For more than a decade, the British tax authorities and the Treasury knowingly allowed companies based in the Channel Islands to avoid paying hundreds of millions of pounds a year in tax. Officials did not respond as hundreds of businesses like Allen’s were damaged or destroyed, and they gave demonstrably wrong information to MPs and ministers when asked why the tax law couldn’t be changed. When Richard Allen finally closed the loophole, they didn’t thank him for saving the government more than a quarter of a billion pounds a year. Instead, they took him to the verge of bankruptcy. *** Arriving at Southampton Airport early one morning in 1998, a businessman and former IBM employee called John Biggs stopped at a line of large, wheeled racks, two metres square and a metre deep. On the racks were “tray, upon tray, upon tray, of flowers". Biggs asked a nearby security guard if the flowers had just come in from Guernsey. But the guard’s response was mystifying: they were going to Guernsey, he said, and the very same flowers would be coming back tomorrow. It was a daily occurrence. Five times a week, thousands upon thousands of bunches of flowers were flown to Guernsey before being flown back to Southampton the following day. This would continue for more than decade. To everyone else at the airport, the racks of flowers that appeared each day meant little more than a pleasant smell, but to John Biggs they stank. Not because he didn’t like flowers, but because he knew why they were there: so that the person selling them could avoid paying tax. John Biggs was the first person to try to persuade the tax authorities to stop the abuse of Low Value Consignment Relief (LVCR), a provision in EU tax law that allowed member states to forego sales tax on items posted from one country to another. LVCR was intended to reduce administration and prevent perishable items that cost less than £18 being held up in customs. But in 1996, the relief was widened to allow any small item sold in the UK to be posted from the nearby Channel Islands, with no VAT payable, creating an extra 15 or 20 per cent margin for the retailer. Within a few years, this slight change to the rules created an industry of tax avoidance that allowed a handful of offshore retailers to undercut shops and websites across the UK, silently corroding the British high street until hundreds of shops were forced to close. At its peak, the Channel Islands – a pair of tiny, self-governing territories off the coast of Normandy, smaller by population than Ipswich – accounted for three quarters of all non-EU post into the UK. Biggs had found out about LVCR when he started selling printer cartridges. He’d struck a deal with Lexmark: he’d sell ink cartridges at an agreed, affordable price, and in return every printer Lexmark shipped in the UK would have a sticker on it that told users to call Biggs’ company for supplies. But it didn't work. "Peculiarly, we were getting almost no calls," he remembers. After months of waiting, he found out why the phone wasn’t ringing: people were ordering their printer cartridges more cheaply from a company that shipped them from the Channel Islands. The offshore company could afford to undercut him by more than ten per cent, and still make more profit, because it wasn't paying VAT. Biggs wrote to his local VAT office, then the national office. The LVCR had been controversial from the beginning: a VAT Assurance Review published in the summer of 1997 noted "the concerns of a number of businesses that were complaining that they were being undercut”. But Biggs was told that there were "administrative advantages" to not collecting VAT on goods sold from the Channel Islands. This wasn't true; for everything sold from the Channel Islands that cost more than £18, the Post Office already collected the VAT. It would have taken them almost no extra effort to add smaller items. All the government had to do was change the rule, and the tax would come in. But it didn't. Biggs found ever more products being sold by circular shipping – not just printer cartridges and flowers, but camera supplies, nutritional supplements, toys, make-up. "Vitamins at tax-free prices," boasted one ad. And if a customer ordered, say, three printer cartridges for £45, they would arrive in three separate parcels, each – as far as the taxman was concerned – a VAT-free £15 transaction. The trade was made even more attractive by a deal struck between Guernsey Post and distributors in the UK, which made it cheaper to mail a small package from Guernsey to a UK address than it was to mail it within the mainland. Biggs kept writing to the tax authorities. He was studying law at the time, and he couldn’t see any reason why HMRC wouldn’t close the loophole. “I had read the directives thoroughly,” he recalls. “I had given them chapter and verse.” The taxman's lawyer agreed. In a letter dated 1 September 1998, the VAT office in Liverpool wrote to Biggs that “our solicitor agrees that if relieving mail order consignments [...] affects the conditions of competition on the home market, the UK is under a Community obligation not to grant the relief". In October 1999, two men from the tax office visited Biggs. He took them through his analysis, and they left saying they would file a report imminently. “The hint was clearly that they were going to recommend strongly, back in the office, that this was fixed,” he told me. But still, nothing happened. Years later, Biggs submitted a Freedom of Information request for that report; he was told that it was nowhere to be found. "It's almost as if there was a conspiracy,” he says, “to come up with things to maintain the status quo”. Eventually, Biggs realised that fighting LVCR was going to be a “major battle”. He gave up on selling printer cartridges, and refocused his business on other office supplies. But just as Biggs was getting out of the printer cartridge business, Richard Allen was starting to notice a difference in the price of CDs. And while for Biggs’ business the LCVR loophole was a blow from which his business would recover, for Allen, it would be the end of a dream. *** For ten years, Richard Allen had the job he’d always wanted: “running a record label, travelling around the world, building up a business that was really successful.” In the Eighties, while working his day job at the wallpaper company, Allen had written about music for magazines such as Freakbeat and Encyclopedia Psychedelica. In 1991, Allen started distributing tapes through a mail-order catalogue, and a few months later he picked up a band called Porcupine Tree, who would go on to sell out huge venues such as the Royal Albert Hall and Radio City Music Hall. He began putting their records out under his own label, Delerium. A fan whose love of “art music” borders on the obsessive, Allen has been collecting records since he was a teenager. When he’s not listening to or researching music, he repairs and builds gramophones. He tells me his story from a “shed” at the end of his garden, the walls of which are lined with records. Allen began selling music online in 1994, the same year that Jeff Bezos gave up his job on Wall Street, borrowed $300,000 from his parents and started building his own website (Amazon.com was not launched until 1995, however). Allen’s website was called the Freak Emporium. The Freak Emporium sold music that was deliberately off the mainstream. It was the place to go for Brazilian 1960s pop, 1970s German electronica, acid folk and psychedelic rock. It made those esoteric genres accessible by employing music writers to produce detailed, interesting articles about them. It was the online equivalent of a proper record shop, staffed by people who listened to everything and knew what to recommend. (It’s worth noting that Spotify, launched 15 years later, has used a similar offer – introducing people to music, often obscure, that they didn’t know they liked – to build a business that is today valued at around $20bn.) By the turn of the millennium, the Freak Emporium had ten full-time staff and the turnover of a large city record store (but without the rent). About half of its sales were in the UK, but it also sold CDs and vinyl to the US and Europe. Then, in 2003, one of Allen’s employees asked if he could get some CDs he’d bought online delivered to the office. The discs, from a new website called Play.com, turned up in 15 individual packages. Each held a single disc. Allen couldn’t understand why the retailer was shelling out for the extra postage and packaging, but his colleague explained. “It’s brilliant,” he told Allen. “You don’t pay any VAT! Stuff the government!” Allen was immediately concerned, not for the government, but for himself. “That will put us out of business,” he warned. A few weeks later, Allen found out how Play.com was avoiding VAT. At a trade fair for mail-order businesses, a well-attended stall for a company called DMS Jersey offered “offshore fulfilment”. An employee told Allen how it worked: he would ship his records to Jersey, and DMS would post on records when customers bought them, and invoice the customers. Because they were sold from the Channel Islands, they’d not be subject to VAT. He’d be 20 per cent up on every disc. Allen sent a test batch of records to Jersey. It was easy, but it came with a snag: he’d have to set up an offshore company – one he wasn’t allowed to own or run. He’d be a shareholder, while Jersey-based “nominated directors” officially ran his company. He would be legally prohibited from making business decisions – but, he was told, they “could always talk about it on the phone”. This was, at best, a grey area. Allen didn’t want to take his company offshore and become a shadow director. He wanted to sell Porcupine Tree records to geeky fans. And he was annoyed by the sales calls he was now getting on a regular basis, telling him that this was what everyone else was doing, and it was the only way to stay in the game. Unfortunately, there was some truth in this. In early 2004, other, much larger retailers – including Tesco and Amazon – complained to the Treasury that the LVCR loophole was affecting their businesses. With no action forthcoming from the government, they followed the most obvious course of action. Within a year, Boots, Asda, WHSmith, Tesco and Amazon had set up their own fulfilment centres in the Channel Islands. By 2005, Play.com's turnover had grown to £280m a year. On 2 July 2005, a spokesperson for HMV, the then UK’s biggest chain of records shops, told the BBC that while the company had “resisted” moving its online sales operations to the Channel Islands “for as long as we could”, going offshore was the only way “to compete on the same level playing field”. But this “level” playing field was one from which every high-street shop in the UK, and every VAT-paying online shop, had been locked out. It was anything but level. Only companies with the money and connections to set up in an offshore tax haven could now compete. Workers in HMV stores on the high street quietly removed signs that referenced the company’s website because the online operation, based offshore, was undercutting its own shops. The results were devastating: over the next ten years, more than 1,600 record shops and online stores went under. One of them would be Richard Allen’s. *** After the HMV announcement, Allen knew he was on borrowed time. HMV and play.com, which had previously stuck to chart music, were beginning to list everything – even the niche art-music offered by the Freak Emporium. So he redoubled his efforts against the LVCR loophole. He wrote to his MP, the paymaster general, the shadow paymaster general. Eventually, he secured a meeting with senior officials at the Treasury. On 8 March 2006, Allen arrived at the Treasury with a dossier of his own painstaking research. He had placed test orders at several large retailers, including HMV, Amazon, Tesco and Play.com. Each order was for an item he sold at the Freak Emporium, so he could confirm the wholesale price; each showed that it was impossible to make a profit against a rival who was not paying sales tax. He even had a distributor who could prove to the government that offshore companies were using “circular shipping” – sending products to the islands and back – rather than selling stock they actually kept in their warehouses. Like John Biggs before him, Allen imagined that the abuse of the system was so obvious that it would be immediately curtailed. But to his amazement, a senior indirect tax adviser at the Treasury responded by telling Allen that he didn’t see this as an issue, because the trend was that people were downloading music. At the time, 96 per cent of music was sold on physical media. CDs continue to outsell downloads (which have been largely replaced by streaming) even today – and technology has yet to provide a means to download printer cartridges, cut flowers, cosmetics, toys or multivitamins. Two weeks later, the spring budget acknowledged that the government was “aware that this provision [LVCR] is being exploited”, and that the loophole was costing the country, at a conservative estimate, £85m a year in tax. Allen and other UK businesspeople put the figure at between £200m and £300m. Allen kept fighting the LVCR, joining other record shop owners in petitioning the Treasury and HMRC for change, reiterating that the great cultural institution of British record shops was being demolished, not by the internet, but by the authorities’ failure to act. The officials’ response was to blame the EU. To remove the LVCR from goods coming from the Channel Islands, they claimed, would require a wholesale change in European law. For a couple more years, Allen kept his website going by selling the valuable intellectual property rights he’d built up over 15 years of running a record label. But the money ran out, the loophole stayed open, and on 6 December 2007 the Freak Emporium closed forever. Musicians and fans mourned the website’s passing, as did Stuart Maconie on his BBC 6 Music show, the Freak Zone. Allen had lost his business, his job, and the assets he’d built up over 15 years of effort and determination. The stress left him unable to work for three months. It was, he says, as if he had been “robbed at gunpoint by an invisible entity”. But something set Allen apart from the hundreds of other independent retailers that were forced out of business that year by offshore competition. Just before he wound up his business, he took advice from a barrister, and together they sent a letter of complaint to the people that officials in the UK had claimed were ultimately responsible: the European Commission. *** The phone call came the following year – not from Brussels, but from Holland & Barrett. The health food retailer had been one of many companies to complain about LVCR over the years, and they’d received a letter from the European Commission that was addressed, for some reason, to Richard Allen. The EU itself – the very authority that officials had blamed for years for the Channel Islands loophole – were offering to take forward his case for closing it. When the Commission wrote to the UK authorities, they received a reply that was demonstrably untrue. The same officials whom Allen had provided with detailed evidence of “circular shipping” told the EU that this simply wasn’t happening. The Treasury claimed there was no circular shipping, that retailers in the Channel Islands maintained warehouses full of the stock they were going to sell, and that there were only two online retailers in the islands anyway. Allen showed the EU that this was a fiction. He showed them how he’d tracked items ordered on HMV’s website leaving a distributor in the UK, travelling to Jersey, and coming straight back as an import. He knew, at this point, that he had HMRC “by the balls”. So he called them. After he mentioned that his next call would be to a national newspaper, he was put through to the very top of the organisation. “Sometimes,” he was told, “things get missed”. But documents seen by the New Statesman show that, years before the loophole was closed, HMRC was well aware of the scale of the VAT abuse that was under way. An internal report estimated that in 2008 alone, more than 60 million items under the value of £18 were posted from the Channel Islands to the UK. HMRC again asked Allen to meet with its officials in London, this time under clandestine conditions: he was told that the location was a secret, and that he should bring his passport. Over the course of two days, Allen and a distributor walked the officials, once more, through the clear abuse of the VAT system that was happening daily. In 2010, after the general election, one very senior official told Allen that the new coalition government would bring a change of policy. Was it the policy of ministers, then, to allow this industry of tax avoidance? And if so, why? Stephen Timms, the MP for East Ham, remembers being contacted by Allen when he was the financial secretary to the Treasury under Gordon Brown. “He was presented to me as a bit of an eccentric, a bit off the wall,” he told me, “but everything he told me subsequently turned out to be completely correct”. Timms says he looked into LVCR “a number of times, and got submissions from officials about it a number of times – and was given clear advice that there was nothing that could be done – that this was simply a feature of EU rules”. But the legal advice given to the VAT office at least as far back as 1998 had been that the UK could close the loophole. By failing to correct this mistake, Allen claims officials took things into their own hands, effectively “creating and maintaining policy that didn’t go anywhere near a minister”. HMRC claims to this day that LVCR was government policy. In a letter sent this February by Jim Harra, chief executive of HMRC, to Cheryl Gillan MP, Harra continues to claim that “when a government decides on a policy [my emphasis], there may be people who are unhappy with it”. But Timms is adamant: “It certainly wasn’t my intention, and I don’t think it was any other minister’s intention, that we should support the Channel Islands in this way.” Having claimed that LVCR was imposed on Britain by the EU, civil servants had put themselves in a difficult position. Allen's case confronted them with the fact that the UK was actually failing to uphold competition law by keeping the loophole open, because doing so gave offshore retailers an unfair advantage. For almost 15 years, the complaints of dying British business had fallen on deaf ears, but the threat of infraction proceedings in the European Court was another matter. In the spring budget of 2011, George Osborne announced that the government would “take action” against LVCR. Six months later, David Gauke announced that the loophole would be closed: LVCR would be removed from all mail-order goods coming into the UK from the Channel Islands. Eight years after he had first noticed a VAT-free CD, Richard Allen had finally closed the loophole that had killed his business. *** After he got the news, Allen wrote to Osborne, saying, in not so many words: “I’ve lost my business, I’ve had years of hell. I’ve shut this down, I’ve saved [the UK] huge amounts of money. Is anyone going to reward me, or compensate me for my business?” Osborne asked HMRC to contact Allen, which they did, but not to thank him. In a short response, an official warned Allen that HMRC would “vigorously resist” any attempt to claim compensation or apply for a reward. Despite the billions that Allen had saved the Exchequer, Allen had made no friends in the tax office. Perhaps Allen should have left it at that. One source I spoke to told me they admired Allen’s perseverance, but wouldn’t have followed the same path: “never take on the government, especially the taxman”. But that’s what Allen did. Annoyed by the dismissive response to his appeal for compensation, he launched his own action against HMRC, claiming that the tax authorities had failed in their obligation to protect him from the harm caused by LVCR. It was a relatively simple claim – at the hearing, the judge considered just one point – but it dragged on for years. Eventually, in March 2019, Allen was told that he had lost his claim. He had, he says, “had enough”. But the taxman was not finished with him. In June of this year, HMRC presented Allen with a bill. In it, the authorities demanded £72,000 in legal costs and £53,000 for the cost of fulfilling a Freedom of Information request he had once submitted, for a total of £125,000. He faced bankruptcy. *** Most people, quite understandably, find it difficult to care about other people’s tax. The £300m a year of lost revenue might not sound like much of a loss for a government. Financially, it’s equivalent to burning a new city hospital to the ground every six months, but there are no pictures that directly sum up what missing tax does – only a lack of them. A lack of libraries, teaching assistants, hospitals, free school meals. Often, one of these things will itself become a story, but the complex processes that led to the money not being there are too detailed to explain in a news story. Were it not for people like Richard Allen, we would not even know that the money was missing. *** John Biggs has continued to sell office supplies, minus the printer cartridges. Six months after the loophole closed, Simon Perree and Richard Goulding, the founders of Play.com, wound up their business, selling what remained of it for £25m. That year’s Sunday Times Rich List estimated their net worth at £160m each. Other businesses built on LVCR have continued to flourish. Last week, the Hut Group – which was established to provide VAT-free "fulfilment services" from the Channel Islands, and whose founder, Matt Moulding, told the Guardian in 2009: "if you aren't offshore you couldn't possibly compete" – plans to float on the stock market tomorrow (September 16). If all goes to plan, the company will have a market capitalisation of around £4.5bn. Britain’s crown dependencies remain, for many, a convenient grey area in which to place companies, assets and responsibilities. Last month, Global Witness reported that the world’s rich routinely use the Isle of Man to avoid paying VAT on their private jets, and put the cost of this practice so far at around £1bn. From 2012 to 2020, the number of record shops in the UK – which had fallen precipitously as LVCR priced them off the high street – began to rise again. After an article appeared in the Times about the £125,000 demand it had made of Allen, HMRC reduced Richard Allen’s bill to £10,000. Allen himself has continued to fight VAT abuse, because it has only got worse. For several years he has fought against the untaxed items that have poured in, in even greater numbers than they did from the Channel Islands, from China, via online marketplaces such as eBay and Amazon. This trade was thought to be costing the UK as much as £1.5bn a year – more than double the national budget for libraries – in unpaid tax. A single Chinese company owes the UK more than £6m in unpaid VAT; it will never be paid. But HMRC has been faster to act, this time. Last month, the government announced changes to make sales tax payable on all non-EU goods sold on online marketplaces from the beginning of next year. A lot of small items on the internet will get slightly more expensive, the government will have slightly more money, and retailers in the UK will be better able to compete against imports. The country will be, in ways that most people may not notice or credit, better off, thanks to a man in his shed who just wouldn’t give up. Will Dunn is managing editor of the New Statesman. Subscribe To stay on top of global affairs and enjoy even more international coverage subscribe for just £1 per month!