VAT Domestic Reverse Charge - What it means for contractors
HMRC’s new VAT domestic reverse charge for the building and construction sector came into effect on 1 March 2021. It’s one of many changes in legislation that construction firms are faced with in the first two quarters of this year alone (IR35 and MTD to name two others).
In simple terms, the new process means VAT registered subcontractors who provide a service and any related goods to a VAT-registered contractor who is CIS (Construction Industry Scheme) registered, no longer need to account for VAT.
Instead, the contractor accounts for the VAT as an input tax - as if they’ve made the supply to themselves. In practice, this means in a chain of contractors and subcontractors working on a project, the only business to include VAT to their invoicing is the main contractor - ultimately who invoices the end-user. The reverse charge doesn’t apply however to the buying and selling of construction services that are zero-rated.
Why has HMRC introduced it?
HMRC says that the domestic reverse charge will combat fraud in the construction industry - essentially putting a stop to subcontractors charging VAT for their services but not paying the bill. According to estimates, the annual revenue loss due to missing supply chain VAT payments and fraud in the sector is at £120 million.
Similar schemes have been successfully rolled out in other sectors including in the energy supply chain.
What services does the reverse charge apply to?
According to HMRC, the VAT reverse charge applies to the following list of services;
● Construction, alteration, repair, extension, demolition or dismantling of buildings or structures (whether permanent or not), including offshore installations.
● Construction, alteration, repair, extension or demolition of any works forming, or to form, part of the land, including (in particular) walls, roadworks, power lines, electronic communications apparatus, aircraft runways, docks and harbours, railways, inland waterways, pipelines, reservoirs, water mains, wells, sewers, industrial plant and installations for purposes of land drainage, coast protection or defence.
● Installation in any building or structure of systems of heating, lighting, air conditioning, ventilation, power supply, drainage, sanitation, water supply or fire protection.
● Internal cleaning of buildings and structures, so far as carried out in the course of their construction, alteration, repair, extension or restoration.
● Painting or decorating the internal or external surfaces of any building or structure.
For a full list of services that the reverse charge doesn’t apply to, visit here.
What does it mean in practice for contractors?
As a contractor, the buck stops with you. The reverse charge means that you need to ensure that you receive reverse charge VAT invoices from your subcontractors.
You then need to pay all VAT throughout the supply chain of the project that is due to HMRC as part of your usual VAT process - rather than paying VAT to your suppliers like you would have before. How you submit your VAT return is an important consideration too.
From 1 April the rules around MTD (Making Tax Digital) changed again - if only slightly. MTD requires businesses to submit a digital VAT return and following the change on 1 April, a link must be in place between where you store your data and where the VAT return is submitted from. You can find out more about this on our blog.
Before submitting your VAT return, you’ll need to make sure the invoices you receive from your sub-contractors are correct so you are paying the right amount of VAT. We know from our own survey of 1,000 finance professionals in the UK that cash flow is on the mind of finance professionals. One-third of respondents said that maintaining cash-flow is their biggest challenge (aside from Covid and Brexit) this year. So, it’s important that cash isn’t unnecessarily tied up if VAT returns are incorrect.
If you’re still a little unsure of whether you need to apply the VAT reverse charge or submit VAT as normal - check out this handy flowchart.
