The VAT reverse charge in the Construction Industry

The Government has announced a 12-month delay to the implementation of the VAT domestic reverse charge for construction services, meaning the new rules will now not come in to force until 1 October 2020.

Following concerns from industry representatives that businesses in the construction sector are not yet ready to implement the reverse charge on the original implementation date of 1 October 2019, construction associations wrote to the Chancellor.

The delay will avoid the implementation of the VAT domestic reverse charge coinciding with Brexit. Clearly, businesses are currently facing uncertainty surrounding the UK’s exit from the European Union.

However, the change will still significantly impact the VAT accounting for businesses in the construction industry when introduced in October 2020. The aim of the change is to prevent fraud by stopping unscrupulous businesses running off with the VAT that they charge.

The rules are quite complex, but the diagram below gives a simplified overview of the circumstances in which a business supplying construction services can shift the responsibility for accounting for VAT on its supplies to its customer.

The rule change means that where a business provides construction services to another VAT registered business which itself then makes similar supplies, it will no longer charge VAT. Instead its customer will be required to account for the VAT.

This raises a number of points for consideration. Firstly, the scope of the supplies which are viewed as construction is wide, meaning businesses which supply property contractors and developers will need to check whether their supplies fall in this category.

Suppliers will then need to determine whether there are any special factors which would mean that new rules will not apply.

In general, suppliers will need to determine whether their customers are deemed to be ‘end users’ for the purposes of the new rules (in general members of the public or developers looking to either sell or let the properties being worked on will fall into this definition). Where a supplier determines that its customer is responsible for accounting for the VAT as a reverse charge, it will need to change its invoicing procedures.

The invoices will need to show the supplies are subject to the reverse charge, as well as stating either the amount of VAT due or at least the rate of VAT on the supply.

This could involve significant changes to the business’s accounting systems. Such suppliers will also need to check whether the new rules will impact its cash flow position. Many sub-contractors have in the past relied on the cash flow advantage gained by charging VAT to fund expenditure.

Where a business receives supplies of construction services then it will need to check whether it is correct to be charged VAT or not.

Where VAT is incorrectly charged the risk of penalties will reside with the business receiving the supply if it seeks to recover the VAT charged as input tax.  Where a business is an ‘end user’ it will need to tell its suppliers in order that VAT is charged to it correctly.

It may be that such businesses will actually receive a cash flow benefit from no longer being charged VAT.  Such businesses may need to consider whether completing VAT returns on a monthly basis is appropriate.

Julian Borley, VAT Director at Milsted Langdon, said: “Businesses either in the construction industry or dealing with it will need to clearly identify whether they need to charge VAT in the traditional way or whether the responsibility for accounting for VAT will shift to their customers.

“These changes could result in the need to change accounting systems and also a review of business’s cash flow position. Any business which is unsure about the new rules should seek advice.”