HMRC requires building contractors to charge themselves VAT

carpenter blowing wood shavings
istock_milanvirijevic_aw
Share this content

Under rules to come in on 1 October 2019 builders, contractors and other trades associated with the building industry will have to get to grips with a new way of accounting for VAT.

The measure is designed to combat missing trader VAT fraud in construction sector labour supply chains which HMRC says presents a significant risk to the Exchequer.

Following an initial consultation in March 2017, HMRC has now published draft legislation, a draft explanatory memorandum and a draft tax information and impact note on the so-called Reverse Charge (RC) for construction services. HMRC has asked for comments before 20 July 2018. It is intended a final version of the draft order and guidance will then be published before October 2018.

Under the new rules, supplies of standard or reduced-rated building services between VAT-registered businesses in the supply chain will not be invoiced in the normal way. Under the RC a main contractor would account for the VAT on the services of any sub-contractor and the supplier does not invoice for VAT. The customer (main contractor) accounts for VAT on the net value of the supplier’s invoice and at the same time deducts that VAT – leaving a nil net tax position.

The RC only applies to other construction businesses which then use them to make a further supply of building services, and not to end users eg private individuals, retailers, and landlords. There are no de minimis limits, but the RC will not apply to associated businesses.

Type of work affected

Despite the rather misleading reference to ’construction‘ the RC will, in fact, apply much more widely to services in the building trade, including but not limited to, construction, alteration, repairs, demolition, installation of heat, light, water and power systems, drainage, painting and decorating, erection of scaffolding, civil engineering works and associated site clearance, excavation, foundation works. The definitions in the draft legislation have been lifted directly from the CIS legislation.

Excluded works

Some works will not be covered and invoicing for these will not change. These include

  • professional services of architects or surveyors, or of consultants in building, engineering, interior or exterior decoration or in the laying-out of landscape
  • drilling for, or extraction of, oil, natural gas or 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
  • signwriting and erecting, installing and repairing signboards and advertisements
  • the installation of seating, blinds and shutters or the installation of security.

Questions and preparation

In addition to the technical consultation, HMRC has been engaging with trade bodies, and discussions are ongoing.

One of the main concerns is the burden for traders of identifying customers who are liable for the RC – ie checking VAT registration numbers and obtaining evidence that a customer is an ’end user‘ or not, so that VAT, if due, is invoiced correctly. It seems likely that certification will be required, but none of this is covered in the consultation. There are also questions over the scope of the services covered, and how the supply of ‘white goods’ (where VAT deduction is blocked in most cases), will be dealt with under the RC mechanism.

The idea of having draft legislation and guidance by October 2018 is to allow businesses 12 months in which to make the necessary changes to systems, prior to implementation on 1 October 2019. This is a period in which businesses will also be coping with or preparing for Brexit and Making Tax Digital. Traders used to including VAT in their cash flow projections will also need to adjust.

Affected businesses will need plans in place to ensure that as suppliers they do not charge VAT incorrectly, or as recipients, they apply the RC correctly. Output VAT wrongly applied on an invoice can be collected by HMRC, but will not be recoverable by the recipient, and failure to operate the RC could lead to error penalties.

About Linda Skilbeck

Linda Skilbeck

Linda is a senior consultant with SOC VAT Consultants in London and has over 30 years’ experience in VAT. She joined HM Customs and Excise (now HMRC) after University and moved into private practice in the 1980s. She has worked for BDO Stoy Hayward, Grant Thornton and PricewaterhouseCoopers where she specialised in advising charities, not for profit organisations and property companies, and prior to moving to SOC  she was a VAT technical writer.

At SOC VAT Linda advises not for profit organisations, charities, and social enterprises on VAT and in particular capital projects, partial exemption, and international services. She is currently Vice chair of the CIOT Indirect Tax Technical Committee and a member of the VAT Practitioners Group.

Replies

Please login or register to join the discussion.

avatar
15th Jun 2018 17:23

The usual load of more or less unworkable drivel from HMRC!

Thanks (6)
avatar
16th Jun 2018 11:15

This proposal has a number of advantages. First, it reduces the risk of errors resulting in penalties because the wrong rate of VAT has been applied. Secondly, once the contractors get used to the system, they will if dealing primarily with larger contractors, no longer have to find a large amount of VAT to pay each quarter. Finally, in the event of another Carillion, the amount of VAT lost by HMRC (and their subcontractors) as a result of that failure will be significantly reduced.

Thanks (2)
avatar
18th Jun 2018 08:43

At first reading this means that: -

Suppliers (e.g. decorators merchants) will have to know which customers are VAT registered and which are not. This means asking EVERY customer the question (how do they know who is a builder and who isn;t) and those that say that they are will have to provide documentary proof which will have to be recorded and retained.

The sub contractor will have to know if the main contractor is VAT registered (probable but not guaranteed). Again recording and retention.

The main contractor will have to determine whether his customer is a VAT registered person (e.g. Marks and Spencer, corner shop etc). If the customer is VAT registered then no VAT. If the customer is not VAT registered then VAT will be added.

This will mean additional work and record keeping at all levels without any reduction in work required for VAT accounting (under MTD) and probably making it more complex (new VAT box for construction services?)

How big is this tax gap anyway and does it justify this change? Are there any other ways of stopping this.

Construction industry already overburdened with CIS. This just adds to cost .

Have I got it right or have I misunderstood.

Thanks (9)
avatar
By mominnz
to Trethi Teg
18th Jun 2018 09:47

Very well explained as the technical writer's explanation was completely bizarre.
Anyway, I think after reading the details there will be more record keeping and actually no significant or material improvement. I don't think it's a way to kerb lost vat, just another way for HMRC to tighten their grip on the processes.
Thanks for the breakdown.

Thanks (2)
avatar
to mominnz
18th Jun 2018 14:14

It's not bizarre at all. She correctly states that identifying end users will be key as follows:

"One of the main concerns is the burden for traders of identifying customers who are liable for the RC – ie checking VAT registration numbers and obtaining evidence that a customer is an ’end user‘ or not, so .."

Thanks (1)
avatar
By Mr_awol
to Trethi Teg
18th Jun 2018 09:48

Trethi Teg wrote:

Suppliers (e.g. decorators merchants) will have to know which customers are VAT registered and which are not. This means asking EVERY customer the question (how do they know who is a builder and who isn;t) and those that say that they are will have to provide documentary proof which will have to be recorded and retained.

(snip)

Have I got it right or have I misunderstood.

This bit I reckon you've misunderstood. I suspect that the supply of materials, especially by general retailers but probably also for builders' merchants, will continue to operate in the normal way.

Thanks (1)
avatar
to Mr_awol
18th Jun 2018 10:18

I agree - it seems to explicitly refer to services, not goods, which is at least logical!

Thanks (2)
avatar
By B.R.
to Mr_awol
19th Jun 2018 09:12

The supply of materials, especially by general retailers but probably also for builders' merchants, will continue to operate in the normal way.

Thanks (0)
to Mr_awol
19th Jun 2018 10:22

The new rules apply to supplies of services. HMRC said that the meausure was mainly to tackle "labour only" missing trader fraud. So, if you are supplying goods only, nothing will change. However, many builders supply goods along with services eg installation and fitting services. In those circumstances goods and services are supplied together and then there is a decision to be made as to whether that is a supply of goods or of services. That can sometimes be difficult to determine.

Thanks (2)
avatar
18th Jun 2018 09:42

If Trethi's summation is correct this appears to be along the lines of cross border trading with in the EU. Which I anticipate will eventually mean that b2b will charge vat at 0%, it will elevate b2b cashflow problems.

As to checking that someone is VAT registered I suspect that if this works it could be extended to income tax/corp tax to reduce the tax lost gap.

Thanks (0)
avatar
18th Jun 2018 10:01

The article is as clear as mud! I hope the draft explanatory memorandum will be clearer - but I'm not betting on it!

It sounds like yet another example of HMRC making business do their job for them.

Thanks (2)
avatar
18th Jun 2018 10:01

We have been using this in Cyprus for a few years now and, trust me, it works!

Thanks (1)
avatar
18th Jun 2018 10:19

So the nett effect is a zero rated/exempt supply? Benefits the main contractor's cash flow but how does the subcontractor account for the transaction on their VAT return? For me it's a standard rated supply but they never receive the VAT. What happens in a case like Carillion - will the VAT man come after the subcontractor for the missing VAT?

I can understand HMRC being upset about all the missing VAT but it looks like this solution will create breaches of VAT regulations all across the sector. Looks like a busy time for VAT tribunals....

Thanks (0)
avatar
to rememberscarborough
18th Jun 2018 11:46

It seems to me to be a good idea, if I understand it correctly. The gist is that the subcontractor will provide services to the main contractor that are zero-rated. Then the main contractor cannot claim loads of VAT back and the subcontractor does not have a huge VAT bill to pay before they get paid. So the likes of Carillion are no longer able to get a VAT refund and then go out of business before having paid the subcontractor who, in turn, is not forced out of business by the need to pay VAT they havn't received. Does that make sense? Let me know if I have got the wrong end of the stick.

Thanks (1)
avatar
18th Jun 2018 10:48

I seem to have missed the abolition of the Office of Tax Simplification. When did that happen?

Thanks (8)
avatar
18th Jun 2018 11:22

Anyone who thinks that explaining reverse charge VAT to a building sector sub-contractor is going to be easy clearly has never met any of the ones which I have.

Thanks (7)
avatar
18th Jun 2018 12:38

Larger companies and councils already ask for subbies VAT certificate so not too much new there.
I think it's a great idea that all VAT registered business don't charge each other VAT. Why should they cos VAT isn't a tax on business. The real crux is verifying the vat number belongs to the business you are dealing with.
What puzzles me is "HMRC have identified this area as a risk" not a "loss to public funds". It's risky crossing the road.

Thanks (1)
to johnjenkins
19th Jun 2018 10:23

In their initial consultation HMRC identified VAT losses of £100m from missing trader fraud in this sector.

Thanks (0)
avatar
18th Jun 2018 12:47

more fun
they don't even comply with CIS yet

how about HMRC do their job properly in the first place.

Thanks (0)
avatar
18th Jun 2018 12:55

What are the people who think of this stuff drinking?
I would enjoy some of the same.

Back in my youth I think the phrase was "More legislation, more fornication".
If HMRC continue to work from the starting point that every small or even medium sized business person is a crook, eventually they will be crooks. This because the financial and time cost of obeying the law will sink below the value of evading the law. See, Greece, India, Italy, Russia and others.
It really is time someone with more time on their hands than I, did a marginal cost exercise on this type of obfuscatory regulation.

Thanks (1)
avatar
18th Jun 2018 13:08

I don't object to the principle of a reverse charge. In fact, if Brexit ever happens, I think we should go the whole hog and abolish B2B VAT (for VAT registered traders) completely. And that's abolish as in the whole transaction doesn't go near a VAT return, not this halfway house reverse charge thing where there's micky mouse output tax to account for less micky mouse input tax equals, errr, exactly the same as no VAT at all.

But what I do object to is the imposition of yet another niche VAT treatment, and that in an industry which already has too many of them and where, let's be honest, the average trader has zero chance of 100% compliance (I've even had one recently where the trader managed to get something relatively simple like zero rating on new build wrong). This just feels like the usual HMRC tactic these days of setting things up so fails (and consequential penalties) are guaranteed.

If HMRC are really concerned about missing trader fraud and are really convinced about the power of technology as they like to bang on about, why not have a system where the customer is only required to pay the VAT part of a bill when the supplier can show that the output tax has been paid over to HMRC? Granted, that solution probably isn't that feasible but at least it's an attempt to address the problem without punishing the innocent parties (although that's probably a concept the big brother department at HMRC are not very familiar with).

Thanks (1)
avatar
18th Jun 2018 13:32

to continue; "They" miss the point. Is anyone reading this old enough to remember Purchase Tax?

Setting aside HMRC's ability to complicate boiling an egg:
The real advantage of VAT is that it is a balancing act. Both sides have an interest in correct paperwork. So, to maximum extent they balance each other out.
If you revert to a tax system close to or similar to a sales tax, or Purchase Tax.
You remove the need for either the seller or the buyer, one of them, to require and record the transaction.
A sure route to ancient pre-1972 forms of fiddling.
alternatively, as seems possible from the garbled explanation, we might see contractors dock subcontractors 40% of their Gross income. 20% VAT 20% CIS. This will do wonders for the construction industry, and the prices charged to customers.
Just keep in mind Canary Wharf started with my two-man company client putting up scaffolding.

Thanks (2)
avatar
18th Jun 2018 14:31

This:

Output VAT wrongly applied on an invoice can be collected by HMRC, but will not be recoverable by the recipient.

I can see endless Tribunal cases on this point, as it's a clear case of unjust enrichment for HMRC. Not to mention a 20% hole in the finances....

Thanks (0)
By DJKL
18th Jun 2018 14:38

Does make the vat software solution choice for small sub contractors post next April that much more interesting.

Will they require to enter both the output and input vat and outputs and inputs within their records to make accurate vat returns (and i presume for Gov stats) or are sub contractors (who do no other work for end users who are not contractors) to become mere vat repayment entities re their material etc purchases?

Thanks (1)
avatar
19th Jun 2018 09:39

As has already been pointed out, why don't we simply do away with the VAT "chain" of inputs? When I joined Customs I was told that what made VAT difficult to avoid was "the chain", now they're saying it's the problem!

Thanks (0)
20th Jun 2018 09:58

Dear All,

This crazy attempt at shifting the buck will not solve the issue of "missing VAT". Granted.. . in the case of Carillion, this would have avoided the loss of tax receipts but, is that really where the problem lies.

The way I see it, no reputable contractor would look to avoid paying VAT to subcontractors. Why would they? They claim it back and, in the case of new build, the output would be zero rated. Furthermore, the suggestion would be that the contractor is subcontracting for "cash" which would inevitably mean a much larger taxable profit.

Likewise, I can't see a subcontractor avoiding charging VAT to a registered contractor the NET value (and hence the true cost to the contractor) is the same with or without VAT.

However, I am not averse to seeing changes made in construction. The problem is that, missing VAT is more likely to occur in the final transaction (i.e. the ultimate client). How many large contractors seek to work "for cash"? I doubt there are many. However, how many smaller builders work "for cash"... either to undercut a reputable builder or... to avoid VAT registration altogether? I would suggest there are numerous examples!

Unfortunately, until the calls of the FMB, NHBC etc. are heard and consideration given to the suggestion of a reduced rate of VAT for extensions and refurbishments, the chasm between using a VAT registered builder and a non-registered one (or someone who is willing to ignore the law), is simply too attraction to the end client and/ or the disreputable builder.

Finally, and incidentally, having worked for a short while in Spain, I've experienced their attempt at RC. In all honesty, there is so much confusion about "who pays the VAT" that it gets to the stage where hardly anyone pays it! How in earth do HMRC police that?

Thanks (0)
avatar
20th Jun 2018 12:42

The real solution to VAT complexity is to remove it, and charge 20% VAT on everything except absolute essentials.

Why are many financial services exempt?

This new scheme is just adding further uncertainty and complexity at the same time as MTD comes in- I can just imagine the 'fun' VAT registered subbies will have with all this.

Thanks (0)
avatar
20th Jun 2018 14:55

If the HMRC are so worried about losing out on VAT, why do they not chase AMAZON for the VAT their sellers are not paying??
Conservatively estimated at around £1 billion.
Amazon is long on talk, but short on action, in sorting this issue!

Thanks (0)
By Tornado
20th Jun 2018 15:01

VAT is a stupid tax and is open to massive fraud opportunities. With actual VAT monies transferring perhaps many times from inception of a product/service through to reaching the final consumer, the only people who benefit from the system are the banks and crooks.

It is bizarre that we can sell goods outside of the UK and not charge VAT yet goods and services between UK businesses have to involve the completely unnecessary transfer of VAT monies as well.

Call it what you like, reverse charge or inter-business nil charge, but VAT would be massively easier to administer if only the last person in the chain charged VAT to the consumer. With just businesses that sell to final consumers to monitor, HMRC could virtually eliminate fraud almost overnight.

The problem is that this is too simple for those (once again) with vested interests, so it is unlikely to happen, although reverse charges for the building industry seems like a step in that direction.

Thanks (0)