The Construction Reverse Charge
John Rossiter · April 21st 2023 · read
The Construction Domestic Reverse Charge (“DRC”) came into force over 2 years ago, taking effect from 1 March 2021.
The rationale for introducing the change was to combat VAT ‘missing trader’ fraud in the construction sector. HMRC considered that there was a significant opportunity for fraud to occur as a result of construction businesses collecting VAT on supplies made but failing to pay the VAT collected to HMRC. It was estimated that this type of fraud cost the Treasury up to £100m per annum. The measure followed the introduction of the Construction Industry Scheme to counter income tax fraud and applies to the same activities.
The solution is relatively simple. Rather than the supplier charging and collecting VAT on the supplies it makes, the customer self-assesses VAT on the supply received, and is entitled to claim the VAT self-assessed as input tax to the extent that the supplies received relate to taxable supplies made or to be made by the customer. Consequently, there is no payment of VAT to the supplier, and the risk of fraud is removed.
What services are affected?
The scope DRC is wide and is based on the definition 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. Supplies of such services supplied to a customer who is VAT registered where the services are required to be included on a CIS return are subject to the DRC.
What services are excluded?
There are a number of exclusions that apply:
- Professional services of architects and surveyors.
- VAT must continue to be charged on separate supplies of goods alone.
- Supplies made by employment businesses supplying staff and who pay temporary workers.
- Supplies of contractors’ services to an “End User”.
- Zero rated services (i.e., new dwellings and RRP projects)
What is an ‘end user’?
End Users are customers who do not supply building and construction services onwards. This will include occupiers, retailers, developers, and landlords. Whether a customer is an End User may not be obvious to a building contractor. A customer is required to notify a contractor that it is an End User. In the absence of a declaration, contractors should assume that the domestic reverse charge applies whenever their customer is VAT registered.
Aside from the need to change accounting systems and invoicing procedures, and verifying the VAT and CIS registration status of customers, the fact that VAT is not collected on payments means that greater consideration needs to be given to managing cash-flow for sub-contractors. The right to reclaim VAT on costs is unaffected by the DRC and will result in regular VAT repayments being due from HMRC, monthly VAT returns should be considered as a means to improve the businesses cash position.
There was concern prior to implementation that many businesses were not prepared for the changes and that this would result in significant issues arising. However, after 2 years of operation, the DRC appears to have been adopted across the sector without too many problems being encountered. It may be the case that all businesses in the sector have implemented the requirements with no trouble. But it may also be the case that some subcontractors have continued to charge VAT where the DRC should have been applied - which could potentially create an input tax issue for the businesses that the subcontractor has supplied. If a subcontractor charges VAT on construction works it recommended that this treatment is questioned before payment of the VAT amount is made.
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