
The VAT reverse charge will change the way in which building contractors account for VAT, on some of their supplies, from 1 October 2019.
Building contractors must comply with the new rules if they undertake either of the following activities:
- Buys in construction services, from other builders, then makes an onward supply of these services.
- Sells construction services to other builders who make an onwards supply of those services.
The changes have come about, because of HMRC’s concern that some supplies are prone to VAT fraud; for example, where the supplier charges VAT to the customer and receives the money, but never declares it on a VAT return.
So, what exactly is the VAT reverse charge?
Under current rules, a builder charges VAT to a customer, collects the VAT accordingly and accounts for it in Box 1 of the relevant VAT return.
The introduction of the ‘reverse charge’ procedure means that from October, the builder will invoice his customer without charging VAT and the customer will make the necessary Box 1 entry on his own VAT return.
The result of this, is that the same amount of VAT will be declared in Box 1 as in Box 4 (input tax) i.e. a nil effect overall on the builder receiving the services.
Which sales does the VAT reverse charge apply to?
The rules will apply to ‘construction services.’ The definition of construction services mirrors those used for the Construction Industry Scheme (CIS).
The domestic reverse charge will affect supplies at the standard or reduced rates of VAT (either 20 per cent, or 5 per cent), where payments are required to be reported under the CIS. This typically constitutes construction work on permanent or temporary buildings/structures and civil engineering works. For example
- Groundworks
- Demolition
- Installation of systems for heat, light, power, water or ventilation
- Painting and decorating
Are there any exclusions from the VAT reverse charge?
The VAT reverse charge will not apply where:
- services are supplied to an end user (i.e. a property owner)
- a recipient makes onward supplies of those construction services to a connected company;
- the recipient is not VAT registered, or required to be so;
- a recipient is not registered for the CIS;
- supplier and recipient are landlord and tenant or vice versa; or,
- supplies are classified as zero-rated.
The Government’s original proposal stated that the reverse charge would apply to ‘labour only’ supplies of construction services.
However, HMRC’s latest publications state that it will also cover the provision of construction services that include materials.
Example…
Tom is an electrician; he is VAT-registered as a sole trader. He is doing some work on an office block, invoicing the main contractor Chris for his work. Chris is also VAT-registered. He will invoice the person that owns the building.
Chris is not an ‘end user’, because he makes an onward supply of construction services to his own customer. He is what is termed an ‘intermediary supplier’.
The invoice raised by Tom will be subject to the new procedures, i.e. no VAT will be charged. If the value of work, including materials, is £7,000 then his VAT return will reflect this in Box 6 (outputs).
Chris will apply the reverse charge calculation and make the following entries on his own return:
- output tax £1,400 (i.e. £7,000 x 20%) – Box 1
- input tax £1,400 (same figure as Box 1) – Box 4
- inputs £7,000 (net value of payment made to Tom) – Box 7
How will the VAT reverse charge impact my business, and how can I prepare?
First and foremost, construction businesses must identify instances where they supply services to other businesses in the sector (rather than to a consumer of those services) and determine whether these fall within the list of specified services.
Businesses that are caught by the reverse charge VAT will no longer charge VAT on their services. Instead, the recipient will charge themselves VAT.
Construction businesses will need to ensure their accounting systems are capable of processing reverse charge supplies. Businesses will also need to make ongoing checks, to ensure that supplies and purchases are correctly treated.
Construction services may be charged VAT at different rates dependent upon what work is being undertaken i.e. 20 per cent, 5 per cent, or zero-rated. The onus will now be on the contractor, to verify the correct rate.
Subcontractors may need to consider the loss of cashflow, as a result of the changes. VAT can no longer be used to fund cashflow, between receipt and the time it has to be paid to HMRC.
On the other hand, however, contractors will no longer experience a delay between paying out and recovering VAT, since payment and recovery will now be dealt with on the same VAT return.
Subcontractors will also need to confirm that they are working for a VAT registered business and whether they are working for an end user, or for someone connected to an end user, including landlords and tenants.
Is there anything else I should be considering?
There are a few key questions, that those businesses which are affected could benefit from asking themselves, for example:
- Will your cash flow suffer if you no longer hold output tax?
- How can you compensate for this?
- What training will staff require, in order to comply with the new rules?
- Is there additional information you will need from your customers and how will you obtain this?
- If you use the VAT Flat Rate Scheme, how will the charge impact you?
Overall, the change means that the construction sector is likely to face considerable scrutiny from HMRC, in the foreseeable future. It may therefore be wise to evaluate VAT and CIS compliance across the board.
Will there be penalties for non-compliance?
HMRC has confirmed that it will apply a light touch approach when dealing with errors that occur in the first 6 months after introduction. However, businesses must be seen to be trying to comply with the new legislation.
Businesses that knowingly claim end user status, when the domestic reverse charge should have been applied, will be liable for the output tax that should have been paid and may incur penalties.
How can George Hay help?
We can help those affected to make any necessary changes, in respect of accounting procedures and software, to accommodate the new rules.
Our experts will also work with you to ensure that you know how to process affected transactions correctly, after 1 October 2019.
With the implementation only a matter of weeks away, it’s worth speaking to any VAT-registered subcontractors you work alongside, to ensure that they know exactly what is required of them under the new rules.
If you anticipate that you might be affected by the upcoming changes, contact us today on 01480 426500.