Building contractors will have to comply with complex new VAT rules
Major VAT changes are coming to the construction industry, but a lack of awareness could leave construction firms paying more VAT than they should. HMRC estimates that 150,000 businesses in the building and construction sector will be affected by the rule change, but some companies may be unaware of the changes and how they need to prepare.
HMRC is introducing the domestic reverse charge (DRC) on VAT for construction services. The primary effect of this update is to change the party responsible for charging VAT. Currently, sub-contractors are responsible for charging and accounting for VAT on supplies to main contractors. But from 1 October 2019 the responsibility shifts to main contractors, who will have to account for VAT. This means that the recipient of services, rather than the supplier, will take responsibility for charging VAT to themselves. This will involve adding VAT to all applicable invoices and including these sums in your tax returns – even though it is not shown on invoices.
For example, a building firm, Firm A, is sub-contracted to provide groundwork services to the main contractor, Firm B. Firm A must not include VAT when they raise invoices for their services. Instead, Firm B must charge themselves VAT and pay this to HMRC through their VAT returns. However, the same amount of VAT can be claimed as an input, so the VAT reverse charge is typically neutralised. That is, the amount of VAT claimed is equal to the amount of VAT paid.
Richard Payne, Director of Development at Oblix Capital, a specialist lender for property developers and builders, commented on the lack of awareness about the VAT change:
“At Oblix Capital we’re concerned that the new VAT rules have not been well publicised. Property developers and smaller construction companies may not understand how their VAT responsibilities will change from 1 October – and they could lose out financially as a result.”
HMRC is introducing this change as a response to the issue of missing trader fraud, in which organised criminal gangs use shell companies to steal VAT, often operating alongside genuine construction companies. HMRC estimates that £100m in VAT is lost each year because of missing trader, or ‘carousel’ fraud. By introducing this measure, HMRC hopes to level the playing field and ensure all traders pay their fair share of VAT.
The new VAT rule applies to services defined under the Construction Industry Scheme (CIS). This includes construction, demolition, alteration, decorating, drainage, scaffolding, civil engineering, foundations and excavations.
Some supplies of services are excluded, such as shutters, security systems and seating. Professional services such as architects, surveyors and consultants will not be covered by the DRC, and those sub-contractors will need to account for VAT in the usual way. This change does not apply to zero-rated supplies of construction services.
The reverse charge policy does not contribute to the VAT registration threshold. This means that companies who are not currently VAT-registered will not be pushed over the threshold by this change.
One key exception to the DRC rule is end-users. When sub-contractors are providing construction services to end-users (recipients who use the services for themselves, rather than selling them on as part of construction services), the DRC does not apply. In such cases, sub-contractors will need to account for VAT in the usual manner.
Preparing for the VAT change will involve advising employees about the rule change, notifying suppliers, adjusting accounting systems and checking that applicable purchase invoices do not include VAT. While these steps are not significantly onerous, it is important that construction firms understand their changing obligations and take the necessary actions to ensure they don’t lose out.
Construction companies should seek advice from their accountants to help them deal with this change correctly.