Reverse charge VAT scheme for construction industry

It is widely recognised that the Government is heavily focused on reducing the tax gap in the SME sector and in particular within the construction industry. The latest initiative focuses on VAT.

Here I explain what businesses involved in the sector need to be aware of, the impact and why it has never been so important to apply the correct treatment.

An introduction to the reverse charge

HMRC believe they lose over £100m each year in VAT fraud related to the construction industry, so it is unsurprising that they are taking steps to reduce the incidences of fraud and missing payments.

Following a consultation programme in 2017, it was announced in the Autumn Budget that a new domestic ‘reverse charge’ will be introduced, whereby, the recipient rather than the supplier will account for the VAT due.

Draft legislation will be unveiled in spring 2018 with finalised legislation and guidance expected before the end of September 2018. The changes seek to prevent the situation where each entity in the chain obtains gross payment status (GPS) under the construction industry scheme (CIS) and is VAT registered, but the bottom entity then goes ‘missing’, resulting in a loss of VAT.

What does it mean?

The policy will operate in the same way as the existing CIS, whereby, a supplier’s direct taxes are paid directly to HMRC by the customer. What the reverse VAT charge means in practical terms, is that customers would pay the VAT element of their purchases directly to HMRC, rather than it being collected through the supplier. It will impact all businesses who make purchases within the construction industry and there will be no minimum size threshold for any transactions.

All businesses which buy goods and services from the construction industry should be aware of the new policy and monitor developments closely – the rules are due to come into effect on 1 October 2019.

This will be a very important change for the construction industry and all businesses using its services. For businesses with multiple VAT rates applicable to their services it may be complex to implement and track, and all businesses will need to consider the impact on cash flow.

Whether anyone should pay VAT on building work, account for VAT on building work, or apply the reverse charge will depend on their role in the project. This is about the person’s role in the project, not the nature of their business, and in particular the definitions used for the Construction Industry Scheme are of no relevance.

Roles might, therefore, vary from project to project or from time to time, and the rules will extend to businesses that occasionally act as contractors. HMRC acknowledge, for example, that architects and engineers will be in the scope of the reverse charge if they are procuring and supplying work as principal. And given that painting and decorating services are potentially included, another case might be the gardening business that takes on other work in the winter and hires casual labour for larger jobs. Some aspects, however, are for the moment unclear.

It originally appeared that developers would be treated as final customers, since their supplies were not of construction services but of interests in the property. It transpires, however, that they are within the intended scope of the measure. To the extent that their supplies are exempt, this will be a case where the reverse-charged VAT will represent a cost, albeit it a cost that they incur already. This will be primarily relevant to commercial property where the developer does not opt to tax, and to residential developers granting short leases, or who do not qualify as “constructing” a building or as converting it from non-residential use.

There are often supplies of building work between landlords and tenants: the tenant might carry out building work for the landlord, or the landlord might fit out the property, or refurbish it, for the tenant. Even if these are supplies to final customers, and so not in themselves reverse chargeable, the landlord commissioning fit out works for a tenant (or the tenant commissioning works for the landlord) potentially becomes a contractor and so needs to reverse charge supplies from the external contractor. The external contractor needs to be aware that the landlord (or tenant) is receiving the works as a contractor, and is therefore a sub-contractor and should not account for VAT itself.

HMRC will presumably be considering the detail and the accounting requirements during the course of 2018, and it is hoped that the guidance promised for October 2018 will be comprehensive.

Summary

1. It is currently the responsibility of the supplier to charge and account for VAT to HMRC, but in future the responsibility will shift to the customer
2. The new policy will operate in the same way as the existing CIS, whereby, a supplier’s direct taxes are paid directly to HMRC by the customer
3. The reverse VAT charge means that customers would pay the VAT element of their purchases directly to HMRC
4. It will impact all businesses who make purchases within the construction industry
5. The changes come into effect on the 1st October 2019
6. There will be more work for businesses who acquire construction services – but don’t worry, we can assist you!

If you are involved with the construction industry and require specialist VAT advice, please contact Carolyn Van Hecke on 01204 414243.