A domestic reverse VAT charge for building and construction services is being introduced from 1 October 2020. This is a mechanism introduced to tackle VAT fraud in the construction industry by reversing the responsibility to pay VAT from the supplier of construction services to the recipient of construction services. HMRC have produced guidance to explain how the reverse charge is to apply and have stated that they will apply a light touch for errors made in the first six months.
What supplies will be affected by the reverse VAT charge?
The reverse charge will apply to supplies made on or after 1 October 2020 where:
- both the supplier and the recipient are VAT registered
- the supply is standard rated (20%) or the reduced rate applies (5%) (and therefore does not include zero rated supplies)
- the recipient of the supply is registered under the Construction Industry Scheme (CIS), and
- the supply is of "construction services" (and does not fall within the specific exclusions to "construction services") and is not an excepted supply.
What are construction services?
Construction services have a similar meaning to the term "construction operations" that is used under the CIS.
The term "construction services" includes:
- construction, alteration, repair, extension
- demolition
- installation of systems such as heating, lighting, air-conditioning, ventilation, drainage, water supply or fire protection
- cleaning and painting
- site clearance
- tunnelling
- scaffolding
- landscaping, and
- enabling works.
A supply of materials with construction services as part of a single supply would also be caught, as would design and build works or supply and installation works. However, the supply only of materials or goods would not comprise construction services.
There are some specific exclusions to the definition of construction services, such as the drilling of gas, extraction of minerals, manufacture of components, equipment or materials, delivery to site and the installation of security systems and CCTV.
Significantly, the work of architects, surveyors or other consultants is excluded from the definition of construction services.
What supplies are excepted?
The reverse charge does not apply where:
- the construction services are supplied to an "end user". This is a taxable person that uses the construction services for a purpose other than to make further supplies of construction services (i.e. they are at the end of the construction supply chain). This will include developers that sell or lease the completed development and also includes final customers/consumers that do not make onward supplies of the building and construction services in question.
- the supplier is an "intermediary supplier" that is connected or linked to the end user. This includes the following circumstances:
- the recipient is part of the same corporate group as the supplier, or
- the recipient shares an interest in the land with the supplier (such as when construction services have been carried out by tenants for landlords). An interest in land includes an agreement for lease.
- the recipient is not registered under the CIS regime, or
- the supply is zero rated.
How will the reverse charge work?
At contractor and sub-contractor level, the contractor would be the recipient and the domestic reverse charge will apply (unless one of the exceptions applies). The contractor will be required to account to HMRC for VAT on relevant supplies received from sub-contractors. Sub-contractors will be paid net of VAT by the contractor and should not charge VAT to the contractor, although they will be required to state the VAT element on the invoice (see below).
If the recipient is not an end user or is not connected to or shares an interest in land with an intermediary supplier, the reverse charge would apply. In that case, the recipient would not pay VAT to its contractor but would instead account to HMRC for the VAT.
For recipients who are an end user or connected to or share an interest in land with an intermediary supplier, the recipient will pay VAT to the contractor in the usual way and the supplier will account for the VAT to HMRC.
What are the implications?
Where the reverse charge applies, the changes will mean that suppliers should not charge VAT. Those affected will need to set out in the VAT invoice that the reverse charge applies to the supply and that the recipient should account to HMRC for VAT. Although the amount of VAT should be stated on the invoice the VAT should not be charged to the recipient.
There are no transitional provisions. This means that from 1 October 2020 affected parties will need to apply the correct regime. For affected supplies, invoices with a tax point on or after 1 October 2020 will need to apply the reverse charge.
Cash flow in the supply chain may be affected because suppliers who are subject to the reverse charge will no longer be able to hold VAT amounts as working capital since these amounts will have been paid to HMRC by the recipient of the services.
End user status or intermediary supplier status is significant. For existing contracts, it's a good idea for recipients to advise contractors if they are the end user. For contracts entered into after 1 October it would be sensible to confirm the recipient's end user status. Although the JCT have not produced any guidance on this point, a similar confirmation could be made about the recipient's status in the same way that the recipient confirms its contractor status under the CIS.
