Memorandum from HM Customs and Excise
Letter to the Clerk of the Committee from
the Parliamentary Clerk, HM Treasury
Thank you for your letters of 18 and 24 July
about your Committee's plans for completing their inquiry into
the drinks industry in Scotland.
I enclose, as requested, a revised and updated
by Customs and Excise.
This updated memorandum addresses each of the
points raised in your letters. Specifically:
European Commission review of minimum
rates of duty: no report has yet materialised (see paragraph 5
of the memorandum).
Commission study on competition:
Customs Associates reported in February 2001.
This is a very lengthy report, the executive summary and contents
pages of which I enclose (also paragraph 5).
you already have copies (see paragraphs 31 and 32).
IPS survey: (see paragraph 22).
NAO study on losses and weaknesses:
a copy is enclosed (see paragraph 33).
Customs' own survey: (see paragraph
New registration scheme for owners
of goods in warehouses: (paragraphs 38 to 40).
BEER AND SPIRITS EXCISE DUTIES
This memorandum explains the United Kingdom's
alcohol excise duty structures with particular emphasis, as requested
by the Committee, on beer and spirits; the European dimension;
and cross-border activity. The memorandum comprises the following
Section 1: Alcohol excise dutiesgeneral.
Section 2: Alcohol excise dutiesspirits
and beer duty.
Section 3: Cross-border shopping,
smuggling and fraud.
SECTION 1: ALCOHOL
1. Excise duties provide an economical means
of raising revenue and the United Kingdom is a strong proponent
of their use. The price elasticities of demand are relatively
low for beer and wine, and in many cases expenditure on alcohol
is of a discretionary kind. In the financial year 2000-01 alcohol
duties raised £6,664 million and total tax receipts, including
VAT, came to £11,660 million. Receipts (£ million) for
each category of drink since completion of the Single Market are
shown in the following table:
#The introduction of end product duty for beer in 1993-94 led
to a reduction in receipts of approximately £200 million
in that year.
Estimate of VAT based on data from Office for National Statistics
for household expenditure on alcoholic drinks.
Note: Due to rounding of figures, components may not sum to the
2. The structures and rates of excise duty on alcohol
and alcoholic beverages are set down in European legislation.
The Structures Directive defines the various categories of alcohol
and alcoholic beverages (ethyl alcohol, spirits, beer, wine, etc),
the method for establishing duty and makes provision for certain
special cases, for example exemptions for specified purposes (eg
denatured alcohol, medical purposes, etc). The Rates Directive
sets down the minimum rates of duty that Member States are required
to apply to each category of alcohol or alcoholic beverage. Details
of the minimum rates are shown in Annex A.
3. The Rates Directive provides that Member States are
free to set excise duty rates at levels they feel are appropriate
to their own particular circumstances, subject only to the agreed
minimum rates. (This was tested and effectively confirmed in the
Shepherd Neame judicial review case.)
However, as a result of a 1983 ruling in the European Court, the
duties on beer and table wine are linked in a broad ratio of 3:1,
by volume, or 1:1 on a unitary taxation basis. Further, under
the terms of the Rates Directives the Commission is required every
two years commencing 31 December 1994 to examine the minimum rates
of duty and report to Council and, where appropriate, make proposals
for change. The first report, which appeared in 1995, made no
proposals for change but merely analysed the position highlighting
potential problems and concluded that detailed consultation with
national administrations and others was necessary to allow more
detailed analysis of all the relevant issues and the implications
of any adjustments.
4. As part of the consultation process an EU-wide conference
took place in Lisbon in November 1995 where the UK argued that
the immediate way forward should be to allow Member States a continuation
of fiscal sovereignty, but underpinned by a regime of sensible
and realistic minimum rates (including the abolition of the zero
rate on wine); the UK also argued that the present minimum rate
for spirits was too high compared with the rates for other drinks
and that effectively acted as a discriminatory barrier to EU trade
in spirits. It should be noted, however, that the Commission failed
to come forward with either its 1996 or 1998 reviews. At the ECOFIN
in March 2000, the Commission gave a commitment to undertake both
a study on the competition aspects between the various categories
of alcoholic drinks and a consultation exercise and promised to
produce a report by the end of 2000.
5. The consultation exercise has been carried out and
the competition study report has been produced by the UK consultancy;
Customs Associates Ltd (February 2001). The Commission's report
of their review has still not been published and is now not expected
until the autumn.
6. The consultation questionnaire was grouped around
four themes: the proper functioning of the internal market, competition
between the different categories of alcoholic drinks, the real
value of the rates of duty and the wider objectives of the Treaty.
The questionnaire also covered the alcohol structures. While not
required under the terms of the Directive, the Commission felt
that possible problems related to the classification of products
in one or other category could not be dissociated from the rates
7. We understand that trade involvement in the review
was through the European trade associations.
UK and EU Member States alcohol excise duty rates
8. Current UK excise duty rates and the incidence of
tax (duty and VAT) on various items are shown in Annex B.
Comparative excise duty rates for beer and spirits (in sterling)
for each EU Member State are shown in Annex C.
SECTION 2: SPIRITS
9. Spirits are the most heavily taxed of the alcoholic
drinks. However, in recent years the real value of duty on spirits
has fallen almost continuously, including as a percentage of the
retail price. Duty freezes in the last four Budgets were cuts
in real terms. The real value of tax (duty and VAT) on a (nominal)
70cl bottle of whisky at 40 per cent strength has fallen from
£8.11 (at April 2001 prices) in January 1989 to £7.23
in April 2001. As a percentage of the retail price this represents
a fall from 66 per cent in 1989 to 61 per cent in April 2001.
10. Spirits are the most price sensitive of the alcohols.
Research suggests that the own-price elasticity of demand for
spirits is about -1.4. The elasticity, plus what we know about
the proportion of price accounted for by duty, determines whether
an increase in the duty rate will increase or reduce revenues.
11. Beer duty is based on the quantity and alcoholic
strength of the beer and the rate of duty applicable when released
for consumption. Compared to duty rates in June 1993 excise duty
on beer has fallen in real terms by 6 per cent. In addition, the
proportion of tax (duty and VAT) to the cost of a pint has also
fallen. In 1993 tax on a pint of bitter in a pub represented 32
per cent of the retail selling price. As at April 2001 this has
dropped to 29 per cent.
12. Research suggests that the own-price elasticity of
beer is -0.59. This means that a 1 per cent increase in the price
of beer reduces demand for beer by 0.59 per cent.
13. The following tables show recent trends in clearances
of beer and spirits for the UK as a whole:
BEER ('000 HECTOLITRES OF ALCOHOL)
SPIRITS ('000 HECTOLITRES OF ALCOHOL)
14. The brewing industry dominates the UK alcohol market
although its share has been in gradual decline for many years,
principally as a result of changing consumer tastes and social
trends. Beer currently accounts for about 48 per cent of all clearances,
measured in terms of pure alcohol content.
15. Total spirits clearances have risen over the period
1991-92 to 2000-01 and now account for about 19 per cent of all
clearances, measured in terms of pure alcohol content. Whisky
clearances have declined over that period, but have been fairly
stable over the last five years or so. Whisky's share of the spirits
market has therefore declined, while white spirits, vodka in particular,
are enjoying a period of relative growth.
CONSUMPTION TRENDS WITHIN SPIRITS SECTOR 1985-99,
16. Within the brewing sector, 33 of the 478 breweries
registered for excise purposes in the UK are located in Scotland.
Between them, in the financial year 2000-01, they paid approximately
£407 million in excise duty (about 14 per cent of total UK
beer duty receipts).
17. The UK spirits industry is highly concentrated with
some 95 per cent of total potable spirits currently being produced
in Scotland. Within the sector, whisky makes a significant contribution
to both the regional economy of Scotland and to the national economy,
including to the UK's balance of payments; nearly 90 per cent
of whisky sales are for export. In the financial year 2000-01
domestically produced whisky (including Northern Irish whiskey)
accounted for some £625 million, or 34 per cent of UK spirits
SECTION 3: CROSS-BORDER
18. Until the completion of the Single Market on 1 January
1993, cross-border traffic was regulated by a strictly enforced
system of frontier controls for both personal and commercial importations
of excisable goods, supported, in the case of goods for personal
consumption, by objectively defined limits. Within these limits
excisable goods could be imported free of duty and tax; above
the limits goods could be imported in unlimited quantities provided,
of course, that UK duty and tax were paid. These limits applied
to both goods purchased duty-paid abroad, and those bought duty-free.
19. The Single Market brought with it the abolition of
routine frontier controls over both private and commercial traffic
and of the strict personal allowances for intra-EU travellers.
Since then there has been a rapid rise in both legitimate cross-border
shopping and cross-Channel smuggling of excise goods.
Legitimate cross-border shopping
20. Since completion of the Single Market, travellers
have been allowed to bring back to the UK quantities of excise
goods, duty and tax paid in the Member State visited, without
incurring any charge to UK duty and tax provided that the goods
are for the traveller's own consumption and are personally transported
by the traveller. To assist the tax authorities in determining
whether the goods are for "own consumption", the European
Council of Ministers agreed to the adoption of "guidance
levels" (also referred to as "minimum indicative levels").
These are set out in Annex D.
Below the levels, the goods are presumed to be for the traveller's
personal use unless the authorities can demonstrate otherwise;
above them, the onus is on the traveller to demonstrate (if asked
to do so by the authorities) that he or she has no commercial
intentions with regard to the goods. If he or she cannot do so,
the goods are liable to payment of duty in the country of importation
or seizure, subject to the normal appeal mechanisms.
21. The Government of the day recognised that these new
rules would lead to an increase in cross-border shopping and,
for the first full year (1993-94) made Budgetary provision for
an additional revenue loss from legitimate cross-border shopping
of £250 million for alcohol and tobacco, over and above the
existing revenue lost. Estimates of actual revenue losses for
the three years to 1998 are shown in the following table. Figures
for 2000 are not yet available.
Revenue lost through cross-border shopping (£ million)
Figures have been independently rounded to £5 million. Components
may not therefore sum to the totals shown.
The figures shown for revenue lost use Customs' assumption that
between 70 per cent and 80 per cent of all alcohol purchased abroad
substitutes for similar purchases in the UK (100 per cent assumed
for tobacco products).
22. The cross-border shopping estimates are based on
Customs' own analysis of the International Passenger Survey (IPS).
The IPS is a continuous survey of international passengers at
various seaports and airports conducted by the Office of National
Statistics. Customs sponsor a question on the IPS asking about
expenditure on alcohol (and tobacco) purchased duty-paid in other
EU states by UK residents. These expenditures are then grossed
up to produce the National totals once any potential smugglers
have been removed from the dataset.
Cross-channel smuggling and fraud
23. The loss of alcohol revenue is currently from two
distinct sources: (a) the inward diversion of duty suspended product,
mostly spirits, moved in freight and (b) the cross-channel smuggling
of duty paid product, mostly beer and wine, moved in light vehicles.
Customs currently believe that the former is the most significant
threat in the alcohol sector.
24. Customs estimate that in 1990-2000 the revenue lost
(duty and VAT) to all forms of alcohol smuggling and fraud was
around £800 million. Of this, the largest losses were in
respect of spirits, estimated at £500 million. Losses from
wine and beer smuggling were in the region of £100 million
and £200 million respectively.
25. The principal risk for the illicit supply of beer
and wine is through cross Channel smuggling in private and light
goods vehiclesclassically known as "bootlegging".
The table below details our estimates of the revenue (duty and
VAT) evaded and lost from cross-channel smuggling (£ million):
Figures are independently rounded to £5 million and therefore
may not sum to the totals shown. The 1999 figures are revised
to take account of the latest ONS International Passenger Survey
data. Customs assume between 70 per cent and 80 per cent of alcohol
purchased abroad substitutes for similar purchases in the UKhence
revenue lost is deemed to be less than that evaded.
26. Estimates for revenue evaded from cross-channel smuggling
are based on Customs own survey of ferry and shuttle passengers
conducted in June each year. Returning UK passengers are challenged
at random. The results are then grossed using overall annual passenger
figures to produce the national estimates.
27. Cross-channel smuggling, and the associated law and
order problems for the channel ports, is being addressed in parallel
with the tobacco strategy. The tobacco strategy provides for an
additional 170 officers specifically to target all kinds of cross-channel
smuggling and aims to reduce overall the revenue loss from cross-channel
smuggling of all excise goods by 10 per cent annually.
28. Diversion fraud is very different to smuggling, and
has a variety of forms. Inward diversion involves ostensibly legitimate
freight consignments of duty suspended spirits being imported
from duty suspended warehouses in the EU, but which never arrive
at the intended UK duty suspended warehouse. Instead the goods
are diverted for sale on the UK illicit market without payment
of duty. Unlike smuggling, concealment is not necessary, and,
if challenged by Customs prior to the diversion, criminals can
use the supporting paperwork to claim legitimacy.
29. Customs estimate that the vast majority of illicit
spirits are supplied through diversion fraud and freight smuggling.
In response Customs have put in place a number of initiatives
to tackle the problem. These include:
increasing freight challenges at the channel ports
in order to increase detections of illicit alcohol loads;
establishing a specialist team at Dover to scrutinise
and discredit the false paperwork accompanying illicit duty suspended
movements of alcohol;
a tough new HGV seizure policy to impact on those
hauliers who allow their vehicles to be used in alcohol fraud
stronger warehouse assurance controls in support
of the increased frontier activity, and to prevent and detect
outward and domestic diversion frauds;
enhanced overseas intelligence activity targeting
the EU warehouses from which illicit loads are sourced; and
focussing investigations on disrupting the organisers
of the frauds at the earliest opportunity.
30. Customs are currently looking at the costs of implementing
a full scale strategy and its likely effectiveness at reducing
Excise diversion fraud: independent investigation
31. The report of the independent investigation into
the collection of excise duties in HM Customs and Excise, conducted
by Mr John Roques, was published in July 2001. In the report,
Mr Roques outlines the system for the holding and moving of excise
goods in duty suspension and the evolution of Customs' controls
of that system since the advent of the Single Market on 1 January
1993. He examines the activities of the National Investigation
Service arising from excise diversion and considers action for
prevention and detection of losses from excise diversion. The
report contains 65 recommendations designed to improve controls
and the way fraud is tackled by Customs. The Department has accepted,
wholly or in a modified form, 62 of the 65 recommendations made.
32. Customs did not accept one recommendation, (15),
because it is contrary to our EU Treaty obligations and a further
two are likely to take longer to research and, if appropriate,
implement fully. These are:
Recommendation 8 (parts a and d). A requirement
that warehouse-keepers give Customs prior notification of excise
goods entering and leaving warehouses and a requirement for warehouse-keepers
to notify Customs of goods not delivered to warehouses within
24 hours. The benefits of applying these requirements in a blanket
fashion to all warehouse-keepers are not clear, and careful work
needs to be done to balance the costs and the deliverable benefits.
We also need to look closely at EU law in this area; and
Recommendation 27. The introduction of tax stamps
for spirits. Work has begun with the trade to produce a firm cost/benefit
analysis for fiscal marking of spirits and other drinks. The Government
is approaching the exercise with an open mind and decisions on
the future introduction of fiscal marks will not be made until
the compliance costs and benefits have been established.
33. The National Audit Office report "Losses to
the Revenue from Frauds on Alcohol Duty", published July
2001, said that the level of revenue evaded from alcohol diversion
from 1993 to 1999 was £668 million, 1.4 per cent of the total
revenue from alcohol duty over that period. The NAO acknowledge
that Customs' efforts to address the deficiencies in the system,
through a combination of fraud investigations and tightening of
controls, led to a significant fall in the level of outward diversion
fraud after 1997-98.
34. Diversion fraud is very different from smuggling,
and has a variety of forms. Inward diversion involves ostensibly
legitimate freight consignments of duty suspended spirits being
imported from bonded warehouses in the EU, but which never arrive
at the intended UK bonded warehouse. Instead the goods are diverted
for sale on the UK illicit market without payment of duty. Unlike
smuggling, concealment is not necessary, and, if challenged by
Customs prior to the diversion, criminals can use the supporting
paperwork to claim legitimacy.
Alcohol and Tobacco Fraud Review
35. The measures announced in the March 2000 Budget follow
on from the recommendations of the Alcohol and Tobacco Fraud Review
(ATFR) undertaken in the second half of 1997-98. The ATFR recommendations
were aimed principally at tackling cross-Channel smuggling and
internal (paper-based) diversion fraud involving alcohol. The
outcome was announced in July 1998 and the Comprehensive Spending
Review provided for £35 million over the three years to March
2002 to implement the recommendations of the ATFR. Money was also
made available in 1998-99 so an immediate start could be made
on implementation. Measures implemented include:
the allocation of an additional 145 staff, the
majority of which are front line anti-smuggling officersall
the front line staff were in post at the Channel ports and inland
by the end of November 1998 and beginning of April 1999 respectively;
a new registration system for owners of goods
in warehouse which became operational on 1 October 1999;
a revised prosecution policy for excise smugglers
and fraudsters. Customs now urge the courts to use all sanctions
available against offenders, including driving disqualifications,
compensation orders and, when appropriate, confiscation orders;
new rules on the treatment of seized vehicles.
Offenders now face losing their vehicles even for first offences.
Customs are working even more closely with other
agencies (Police, Benefits Agency; Traffic Commissioners; Local
Authorities; Trading Standards and Inland Revenue) to develop
further a national task force approach involving closer working
to bring the full weight of all available sanctions to bear against
smugglers and fraudsters; and
as a result of guidelines set down by the Court
of Appeal on sentencing in excise fraud cases custodial terms
are now awarded for revenue evasion of even a few thousand pounds
with higher sentences tiered upwards.
36. As at April 2000 more than half the 90 or so recommendations
had been implemented. Work on most of the remaining recommendations
is well advanced.
37. The ATFR measures aimed at tackling diversion frauds
complement Customs' IMPEX (IMPort and EXport) initiative which
began in April 1997. The initiative consists of converged, multi-functional
teams, with Customs and Excise, VAT, Intelligence and Investigation
resources working closely together to combat non-compliance and
fraud in relation to imports, exports and movements of excise
goods. There is evidence that this strategy has been successful
in disrupting the activities of the internal diversion fraudster.
The fraudsters' modus operandi appears to have moved whereby
the goods are actually exported before being smuggled back into
the UK. This increases costs to the fraudster and the risk of
the goods being detected on their return to the UK. However, Customs
are still investigating the extent to which our strategy has been
the key contributory factor.
38. To implement ATFR recommendations 30, 31 and 32,
Customs introduced The Warehouse-keepers and Owners of Warehoused
Goods Regulations 1999 (WOWGR) on 1 October 1999. Under WOWGR,
warehouse-keepers, owners of goods under duty suspension and duty
representatives (who hold goods on behalf of owners without a
UK base) are required to be registered by Customs. Applicants
must meet certain criteria before they are registered and Customs
can attach additional conditions on the registered persons. This
system of registration has allowed Customs greater control over
traders dealing with duty suspended goods. It ensures that there
is always someone with duty liability for warehoused goods up
to the point of removal, and requires that a person with duty
liability is UK based.
39. Following legal advice, Customs were unable to include
transporters in the new regulations because this was seen as a
restriction to trade, especially to foreign hauliers, and would
therefore not be supported under EU law. However, Customs are
currently working on a public notice that sets out the legal responsibilities
of hauliers and transporters.
40. Customs have also recently improved their controls
over the registration of warehouse-keepers and owners of warehoused
goods as part of their strategy to improve compliance in the holding
and movement regime. Prior to authorisation, Customs will undertake
rigorous credibility checks and will only register suitable people.
Where Customs think it appropriate, they will attach additional
conditions upon authorisations or will refuse applications.
41. Customs also work closely with the trade in tackling
smuggling and fraud. For example, Customs regularly meets with
the "Excise Alliance" (which is made up of members of
the alcohol and tobacco trades), both nationally and regionally,
to share information on excise fraud and smuggling and to update
members on successes in combating excise fraud. Members include
the Scotch Whisky Association and the Scottish Licensed Trade
See also HC 114-v, pp 268-276. Back
"Study on the Competition between Alcoholic Drinks".
Customs Associates Ltd, February 2001. (Not herewith printed.) Back
See website: www.customs.co.uk Back
"Losses to the Revenue from Frauds on Alcohol Duty".
NAO July 2001. Back
Council Directives 92/83/EEC ("Structures Directive")
and 92/84/EEC (the "Rates Directive") respectively. Back
The Queen v HM Treasury, Commissioners of Customs and Excise,
The Attorney General-Ex Parte Shepherd Neame Limited. Queens
Bench Division CO/3259/97 and Court of Appeal QBCOF 98/0394/4
FC3 98/6724/4. Back
See evidence, pp 298-299. Back
This is based on the average price for a bottle of whisky in April
2001 of 11.78 which is calculated using specially collected ONS
information on alcohol price movements. Back
No copy Back
ie quantities released for domestic consumption. Back
The Drink Pocket Book 2001. Back
As a percentage of market share (pure alcohol). Back
See evidence, p 300. Back
The subject of alcohol and tobacco fraud and smuggling was included
in the terms of reference for the Treasury Sub-Committee inquiry
into Customs and Excise towards the end of 1999. As part of the
inquiry the Sub-Committee requested a report on the implementation
of each of the ATFR recommendations. A summary of progress, as
at 30 November 1999, was produced and included in the minutes
of evidence taken before the Committee on 3 November 1999. Back