Nowhere to hide: Supreme Court considers illegality defence and global application of Insolvency Act 1986 in VAT fraud case
On 22 April 2015 the Supreme Court handed down its judgment in the case of Jetivia SA and another v Bilta (UK) Ltd (in liquidation) and others  UKSC 23, which was heard in October last year.
In short it decided that: 1) defendant directors cannot raise illegality as a defence to a claim by a company where the directors themselves acted wrongfully; and 2) a claim in fraudulent trading under Section 213 of the Insolvency Act 1986 (Section 213) has extra-territorial effect.
Bilta (UK) Limited (Bilta) went into liquidation on 29 September 2009 on an HMRC petition. Bilta had two directors, one of whom was also the sole shareholder.
The Liquidtors brought proceedings against the Company's two former directors, Jetivia SA (a Swiss company) (Jetvia) and Jetivia's Chief Executive (resident in France), claiming that the defendants conspired to injure Bilta by unlawful means, by causing Bilta to enter into a series of transactions for the purchase and sale of carbon credits with various parties including Jetivia. It was a "carousel" VAT fraud in which Bilta bought carbon credits from entities outside the UK free of VAT then sold them to UK entities inclusive of VAT (ofter for prices less than the original purchase price). To add insult to injury, any funds due to Bilta under these transactions were redirected to other parties. Bilta was always to be insolvent and unable to pay what in the end amounted to over £38 million of VAT liabilities to HMRC.
As well as damages for conspiracy, the Liquidators claimed relief under Section 213, which provides that, where a business of a company has been carried on with intent to defraud creditors, or for any other fraudulent purpose, the court may declare that any persons who were knowingly parties to the carrying on of that business are liable to contribute to the company's assets.
The Defendants applied for summary dismissal of the Liquidators' claims on the basis that:
- The wrongful action of Bilta's directors could be attributable to Bilta itself, and a company cannot benefit from its own illegal action (the ex turpi causa principle); and
- Section 213 did not apply outside of the UK (Jetivia being a Swiss company and its Chief Executive being located in France).
The Defendants lost their application in the High Court and the Court of Appeal, and their further appeal has now been considered by the Supreme Court.
The Supreme Court decision
The Supreme Court upheld the two previous decisions, dismissing the Defendants' application. It found:
- Bilta's directors could rely on the ex turpi causa principle:
a. The Supreme Court considered the public policy requirement of considering the interest of an insolvent company's creditors against the actions taken by a company's directors in the case of company. However, they encouraged further clarification or review of this requirement in the future; and
b. The case was distinguished from the position in Stone & Rolls Ltd v Moore Stephens  UKHL 39 (Stone & Rolls). In that case, the company had been created for the express purpose of defrauding banks and the author of the frauds was the manager, sole director and shareholder of the. The liquidators then sued the auditors for negligence in their failure to detect the fraud, and the auditors successfully relied on the ex turpi causa principle when the case reached the House of Lords. The Lords considered this case to be different because Stone & Rolls was not truly concerned with illegal action but rather the scope of the auditors' duty. Lord Neuberger went as far as to say that Stone & Rolls should be 'put to one side and marked "not to be looked at again"'!
2. Section 213 does have extra-territorial effect as:
a. It would be a serious handicap to the efficient winding up of a UK company in a global marketplace if the court's powers could not extend overseas; and
b. Other provisions in the Insolvency Act 1986 that contain the words 'any persons', as section 213 does, have been previously construed in case law as having global. These include the provisions regarding transactions at an undervalue (section 238, considered in Re Paramount Airways  Ch 223), public examination of officers (section 133, considered in Re Seagull Manufacturing  Ch 345) and transactions defrauding creditors (section 423, considered in HMRC v Begum  EWHC 1799 (Ch)).
This is a very helpful decision for insolvency practitioners since it provides a further precedent giving global effect to the provisions of the Insolvency Act. In our current global marketplace, this will help to protect the interests of creditors and encourage cross border claims to be pursued in insolvency.
This case also provides welcome clarity on the operation of the ex turpi causa principle and identifies that principle as a key area requiring further clarification in the future. We will have to wait and see what happens in the next referral of an appropriate case to the Supreme Court.