VAT Reverse charge to take effect from 1 October 2019
The following article outlines a summary of how this work, who it will apply to and for what services.
Introduction
There is draft legislation that has been updated by HM Revenue & Customs (HMRC) concerning the domestic (UK) VAT reverse charge for construction services that will come into force within the UK with effect from 1 October 2019.
This a fundamental change aimed primarily at combatting VAT fraud within the sub-contractor industry (where criminals arrange for VAT to be charged often by legitimate businesses, they have taken over but then disappear without paying over the VAT to the Government) but having wide reaching consequences for all involved within the building and construction sector.
A VAT reverse charge procedure requires the customer to self-account for the VAT on the value of the supply supplied as the supplier must not / cannot charge the VAT on their supply.
On 1 October 2019, the UK VAT reverse charge procedure will apply to domestic construction services and apply up the chain to the main contractor. Building sub-contractors, will from 1 October 2019 not be able to charge VAT on their building services.
This is not changing the VAT liability of building services but changing how VAT will be accounted for when VAT at the standard 20 per cent rate or reduced 5 per cent rate is applicable. Therefore, for VAT zero-rated building services (i.e. building services for new dwellings) the reverse charge will not apply.
What will be included within the definition of building services
HMRC has defined what ‘building services’ will be caught by the new reverse charge procedure.
These are in accordance with the most recent draft legislation:
- Construction, alteration, repair, extension, demolition, or dismantling of buildings / structures (whether permanent or not) including offshore installations and the same works to land in respect of roads, electronic communication apparatus, runways, docks harbours, railways, waterways, reservoirs, drainage, land and coastal defence, industrial plant, sewers etc
- Installation in any building or structure of systems of heating, lighting, air conditioning, ventilation, power supply, drainage, sanitation, water supply and 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
- Services which form an integral part of, or are preparatory to, or are for the rendering complete, the services described above and including site clearance, earth moving, excavation, tunnelling, and boring, laying of foundations, erection of scaffolding, site restoration, landscaping and the provision of roadways and other access works.
HMRC has confirmed within their guidance note the list of services for which the VAT reverse charge will not apply, and so normal VAT invoicing and accounting will continue. Amongst these are:
- Oil and gas drilling
- The installation of seating, blinds and shutters; and
- The installation of security systems, including burglar alarms, closed circuit television and public address systems.
When will it apply
Generally, it will apply to all situations where the customer operates the Construction Industry Scheme (CIS) – this status will need to be checked by the sub-contractor. It will not apply in respect of an onward building and construction services to a connected company and supplies between landlord and tenant or vice versa.
It is important to note that it affects each VAT registered (or required to be VAT registered) sub-contractor in a chain of sub-contractors up to the end customer or main contractor. The party dealing directly with the end customer (the main contractor or the private non-VAT registered person) charges VAT in the normal manner on their invoice to the end customer.
For smaller businesses that are correctly not registered for VAT, due to turnover being below the VAT registration threshold, it has been confirmed by HMRC that the value of such reverse charge services will not count towards the VAT registration threshold.
So, any VAT registered sub-contractor involved in the services noted above (subject to VAT at the standard 20 per cent and reduced 5 per cent rate) must issue a VAT invoice stating that there is no VAT and the supply is subject to the reverse charge procedure whereby the customer must account for the VAT as a self-supply. The customer then accounts for the VAT as output VAT (sales) and then reclaims the same amount of VAT as input VAT (purchases) for a nil VAT effect.
Sub-contractors will need to request certain information from their customer (another sub-contractor or the main contractor), such as whether the customer is at the end of a supply chain (invoice and charge VAT in the normal manner), VAT registered and operating the CIS, and so apply the VAT reverse charge procedure. HMRC states that the customer should (note not must) supply information to the supplier that it is an end user of the construction services and so normal VAT invoicing must be supplied.
HMRC states that, if information is not supplied from the customer, then the sub-contractor should assume it is to not charge VAT and apply the reverse charge.
If acting as main contractor, then invoices from sub-contractors will be subject to the VAT reverse charge with the VAT in respect of the invoices from the sub-contractors confirming the reverse charge applies. This means the main contractor pays over the VAT to HMRC on the value sub-contractor’s invoice and reclaims this VAT (having nil VAT) then charges VAT on their invoices to the end customer (developer, private individual) in the normal manner.
A link to HMRC’s latest published guidance note is as follows: https://www.gov.uk/government/publications/vat-reverse-charge-for-building-and-construction-services-guidance-note/guidance-note
Below is the annex extract flowchart from the HMRC guidance. This suggests the VAT reverse charge will apply only where the customer is VAT registered (or required to be) and CIS registered, which we believe may not always be the case. This information must be obtained from the customer.
Some of these might be:
Clearly this will have significant issues for the industry and certain problems will undoubtedly arise.
Possible issues
- For sub-contractors, (although strictly not the right thing to do) the VAT is sometimes used as cash flow for the business. This will no longer be the case as there is no VAT to charge and so none will be collected from customers;
- For sub-contractors, it may be prudent with effect from 1 October 2019 (unless other non-building services activities are undertaken, or perhaps in some cases acting as main contractor) to apply for monthly VAT returns as they will become VAT repayment traders seeking a VAT repayment claim (no VAT to be charged out to customers) in respect of VAT be incurred on costs and materials;
This could mean there are significant VAT repayment claims being submitted to HMRC and the possibility of delays in receiving refunds of the VAT should certain refund claims be queried / picked by HMRC for in depth review before authorising the VAt repayment;
- How this will affect building and construction work for charities and the not-for-profit sector who are VAT registered for certain business activities and can in some cases have mixed developments and building work for business and non-business activities and in some cases also may be CIS registered;
- For main contractors, this will mean the responsibility of paying large sums of VAT through their VAT returns to HMRC. The main contractor will have nil VAT effect for the reverse charge invoice it declares (in and out for the VAT) and then the VAT to declare on the invoice to the end customer with no offset of VAT (as no VAT will be charged by the sub-contractors);
- Any situation where the customer is VAT registered (or required to be) and not CIS registered (should there be any exception from CIS), but the services fall with the VAT legislation for building services. This may require additional analysis to determine if the VAT reverse charge is required to be applied, which at this stage seems likely;
- The requirement for adhering to the invoicing requirements for the reverse charge, confirming on the invoice VAT is not chargeable and the business recipient will self-account for this (most invoicing and accounting software should be able to incorporate this – but some may not use digital accounting software) at the same time as getting to grips with making tax digital and the requirements for this; and
- The possible situation where some parties may not (perhaps for commercial reasons) wish to disclose they are sub-contractors and the requirement for sub-contractors to charge with the reverse charge and possible disputes in respect of the VAT treatment between the parties.
In summary – seek professional advice
From 1 October 2019, there will be significant changes to VAT compliance which will impact the entire building and construction supply chain. Much needs to be done between now and then to ensure you are prepared in good time.
Our tax experts at Beavis Morgan are available to discuss how the changes will affect you and advise on the best course of action to fit your circumstances.
For more information, contact your usual Beavis Morgan Partner.