The incoming domestic reverse charge regime is coming into effect on 1st March 2021.
As of 1st March 2021, those working in the UK’s construction industry might have to manage and pay VAT in a different way following the introduction of the new VAT reverse charge system.
Here are the answers to the top ten most frequently asked questions.
1. What is the VAT domestic reverse charge for construction services?
The VAT reverse charge for construction is effectively an extension of the Construction Industry Scheme (CIS) and applies only to transactions that are reported under the CIS and are between VAT-registered contractors and sub-contractors.
The scheme means that those supplying construction services to a VAT-registered customer will no longer have to account for the VAT. Instead, the customer will account for the VAT (that is, it will be considered output tax for them, as if they’ve made the supply to themselves).
In even simpler terms, for services they provide, sub-contractors will require the contractor employing them to operate and pay the VAT directly to HMRC.
The payment received will be for the cost of the work done (plus materials used), net of any CIS deductions for tax but no VAT will be paid on the invoice.
2. Who does the VAT reverse charge for construction services apply to?
It applies only to VAT-registered businesses who are registered with the CIS and use the CIS to report payments. In other words, it applies to services supplied between the majority of construction sub-contractors and contractors in the UK.
If your CIS business is the recipient of construction services, and receives an invoice with the reverse charge applied, then you account for the VAT amount as part of your overall output tax, as if you’ve charged it to yourself.
If your business is not VAT registered then the reverse charge cannot be applied to you, and standard VAT rules apply for the supplier (so they will charge you the VAT and account for it as usual). If you’re not VAT registered, you should make it clear to the supplier in writing.
Crucially, reverse charges do not contribute to a company’s potential VAT threshold. So, if you aren’t registered for VAT then any attempt to apply the reverse charge will not push you over the limit.
Notably, the reverse charge also doesn’t apply to end users, such as the people who use a building that’s been constructed by the provided services, and nor does it apply to some of those connected to them, such as landlords or tenants.
- Contractors & the reverse charge
From 1st March 2021, contractors should receive reverse charge VAT invoices for the CIS-regulated constructions services they purchase, which are covered by the new rules.
Any VAT due needs to be directly accounted for on their next return, instead of paying VAT on CIS-related supplies on payment of the supplier’s invoice.
*This may require an update to your accounting software if you do not use cloud software.
This might provide a cashflow boost because the VAT previously paid when paying a subcontractor is ‘netted off’ in your VAT return instead, rather than being physically paid.
- Subcontractors & the reverse charge
From 1st March 2021, subcontractors will be notified by the contractor where the reverse charge applies. Where the reverse charge does apply, they will need to include all the information that is normally required on a VAT invoice, except no VAT will be charged. Instead, the invoice should state that the reverse charge applies and the amount of VAT the customer is required to account for under the reverse charge.
It may also impact on their cashflow because the VAT previously paid with the invoice and held before paying the monthly or quarterly VAT bill to HMRC will no longer be received.
3. What construction services does the VAT reverse charge apply to?
The Domestic Reverse Charge will apply to work such as; construction, demolition, repairs and alterations, drainage, painting and decorating, scaffolding, the installation of heating, lighting, water and power. It will also affect civil engineering, site clearance, excavation and foundations works.
Remember that the reverse charge applies to the services listed above plus any construction materials used directly for those services. This is different to the CIS scheme, which does not cover materials.
4. What services are excluded?
For some services there will be no change in the way invoicing works. HMRC lists the following as some examples of exclusions if they’re supplied on their own, although the list isn’t exhaustive:
- extraction (whether by underground or surface working) of minerals and tunnelling or boring, or construction of underground works, for this purpose
- manufacture of building or engineering components or equipment, materials, plant or machinery, or delivery of any of these things to site
- manufacture of components for systems of heating, lighting, air conditioning, ventilation, power supply, drainage, sanitation, water supply or fire protection, or delivery of any of these things to site
- the professional work of architects or surveyors, or of consultants in building, engineering, interior or exterior decoration or in the laying out of landscape
- the making, installation and repair of artistic works, being sculptures, murals and other works that are wholly artistic in nature
- sign writing and erecting, installing and repairing signboards and advertisements
- the installation of seating, blinds and shutters
- the installation of security systems, including burglar alarms, CCTV and public address systems
For more information visit: https://www.gov.uk/hmrc-internal-manuals/construction-industry-scheme-reform/cisr14000
5. I’m unsure whether the VAT reverse charge for construction services applies to the services my business provides.
The first step is to seek professional guidance on this issue. We have a team of construction sector specialists who will be able to assist you, alternatively, go directly to HMRC.
Notably, HMRC says it will apply a “light touch” to any mistakes made in the first six months with relation to errors encountered with the VAT reverse charge. However, this is not an excuse to ignore the requirements or to make deliberate errors.
HMRC adds the following guidance: “If still in doubt, provided the recipient is VAT registered and the payments are subject to CIS, it is recommended that the reverse should apply.”
6. What if I’m invoicing for mixed supplies that include a VAT reverse charge component?
In this case, you should apply the VAT reverse charge for the whole invoice. This is intended to make the system as simple as possible to administer.
7. Does the VAT reverse charge for construction services apply to work undertaken overseas by my company?
No. It is limited to UK VAT registered companies providing construction services in the UK to VAT registered customers.
8. Can I choose whether to apply the VAT reverse charge for construction services?
The VAT reverse charge is mandatory in situations as discussed above.
The only time a decision might have to be made is if a service has been supplied on a construction site and the VAT reverse charge has already been applied by that sub-contractor and the contractors end user status changes during an invoice period.
The sub-contractor can choose to continue to use the VAT reverse charge on that supply until the next invoice period.
9. Is there a minimum threshold from which the VAT reverse charge for construction should apply?
There are no minimum or maximum thresholds.
10. Do invoices need to change when the VAT reverse charge for construction comes in?
Yes. Invoices should clearly indicate the reverse charge applies using the correct terminology. HMRC suggests businesses use any of the following:
- Reverse charge: VAT Act 1994 Section 55A applies
- Reverse charge: S55A VATA 94 applies
- Reverse charge: Customer to pay the VAT to HMRC
It should be clear on the invoice that the reverse charge mechanism has been applied. Your invoice should still show all the usual information required for a VAT invoice.
What do you need to do to get ready?
If your business operates in the building and construction industry, you’ll need to take the following steps to prepare if you haven’t done so already:
- check whether the reverse charge affects any of your sales and/or purchases
- update your accounting software to esure it can deal with the reverse charge
- assess the impact of the change on your cashflow
- make sure any staff who are responsable for VAT accounting know how to deal with the reverse charge
If you’re a contractor and you haven’t already done this, review all of your contracts with subcontractors, work out whether the reverse charge will apply and notify your suppliers if it will.
If you’re a subcontractor who’s only learning about this now, contact your customers to find out whether the reverse charge will apply.
If you have projects that end after 1 March 2021 and include construction services, then it’s likely that the changes to VAT reverse charge invoicing will apply.
In any event, you should attempt to become familiar now with what is (and isn’t) included under the reverse charge and communicate with any contractors who regularly use you to ensure they also understand the requirement.
For further advice on how to proceed with the VAT reverse charge, get in touch with our team. We can talk you through the way the reverse charge works, and what you need to do ahead of the new implementation date.
Contact Karl Gilchrist, Chartered Accountant, Tax Advisor and Construction Sector Specialist at Karl.Gilchrist@mbmcgrady.co.uk or on 028 4461 6321.