What is happening and when?
On October 1st 2019 HM Revenue and Customs (HMRC) are introducing one of the most significant changes to how VAT is applied to construction services in 30 years. From that date, contractors in a chain of supply will cease to collect VAT from other contractors. In its place a reverse charge system will apply. This makes the buyer of a construction service liable for VAT accounting in place of the supplier.
Why the Change?
The introduction of the reverse charge is HMRC’s response to VAT ‘missing trader’ fraud in the sector which is estimated to cost the Treasury £100m per annum. The fraud is relatively simple – unscrupulous contractors, with limited input VAT to reclaim and significant added value in labour, charge VAT and then simply disappear.
In HMRC’s words: ‘Reverse charge accounting makes it impossible for fraudsters to perpetrate missing trader fraud because the customer rather than the supplier accounts for the VAT direct to HMRC.’
The new rules apply where construction services are supplied and both parties are registered for VAT, subject to more detailed rules outlined below.
Who will be affected by the Reverse Charge?
The scope of the new legislation is wide and based on the concept of “construction operations” for CIS purposes. It encompasses construction services and associated goods supplied by contractors working on the construction, alteration, repair, extension or demolition of buildings and civil engineering works.
The professional services of architects, surveyors etc are excluded from the new rules. Similarly, VAT must continue to be charged on separate supplies of goods.
The reverse charge applies on supplies where payment has to be reported under CIS BUT with an important exception for supplies to “end users”. The concept of ‘deemed contractor’ status which appears in CIS legislation will not apply to VAT.
What is an ‘end user’?
End Users are customers who do not supply building and construction services onwards. This will include occupiers, retailers, and developers
The position as an ‘end user’ may not be obvious to a building contractor and the onus will therefore be on the “end user” to declare it to their contractor.
VAT registered sub-contractors who work exclusively for main contractors will cease to collect VAT on their services. The right to reclaim VAT on costs will be unaffected however. This will result in regular VAT repayments being due from HMRC, a situation familiar to those working on dwellings, but new to the commercial sector. This will be a burden on cash flow for sub-contractors who will no longer be able to utilise the VAT element of payments from their customers before this needs to be remitted to HMRC.
Conversely, the cash flow position of main contractors will improve. They will cease to pay VAT to subcontractors and will instead self-account for VAT on these supplies, reclaiming this VAT under the normal rules at the same time on a VAT return.
Whilst HMRC have promised a light-touch to the new rules, this will only be for 6-months. HMRC will then see this as an opportunity to issue assessments to any businesses who fail to operate the new rules correctly. The most likely risk areas are:
• VAT charged by subcontractors will not be reclaimable by a main contractor (or other contractors in a chain) if the reverse charge should apply.
• VAT must be charged in the usual way if the customer is an ‘end user’ which might not be known to the contractor at the time of the supply.
• A supplier may fail to recognise that they are acting as a contractor in a chain and that the reverse charge should apply.
Failing to charge VAT to unregistered customers in the mistaken belief that the reverse charge applies.
Businesses will need to adapt their accounting systems and invoicing procedures in advance of the changes. Training of accounts staff will be critically important to identify when the reverse charge should be applied – relying on the supplier to get this right is not an option due to the risk of any incorrectly charged VAT being non-reclaimable from HMRC.
Some contractors will suffer a significant change to their cash flow and should consider whether there is a need for capital injection from lenders prior to October.
MHA MacIntyre Hudson can assist with your preparations with bespoke advice on your supply chains; training of staff; delivery of seminars and analysis of cash flow impacts.
For further advice on the impact of the new rules, please contact….
Sue Rathmell, VAT Director
T: +44 (0) 3330 100 221