Construction Services – VAT Domestic Reverse Charge changes
From the 1stOctober 2019 a major change to the way VAT is collected within the construction industry will come into effect. The change will affect the domestic reverse charge for businesses, meaning that the customer receiving the service will have to pay the VAT due to HMRC, instead of paying the supplier.
There will be no transitional period for this change, and it could have a significant impact on both the cash flow and accounting of businesses within the construction industry.
Why has the change been introduced?
The reason for the change has been to challenge missing trader fraud within the construction industry, similar to the reverse charges applied to the sale of mobile phones in recent years.
Who will the change effect?
The changes to the domestic reverse charge will only apply to businesses or individuals that are VAT registered in the UK and when supplying businesses that are VAT registered.
The reverse charge will mean that the business supplying services, to another VAT registered business for onward sale, will be required to complete a VAT invoice stating that services are subject to the domestic reverse charge. It will be the responsibility of the recipient business to account for the VAT due through their VAT return, rather than paying the amount to the supplier. Subject to the usual VAT rules the recipient business may be able to reclaim the VAT amount.
Which services will the domestic reverse charge apply to?
The change will only affect the supplying/receiving of ‘specified services’ reported under the Construction Industry Scheme (CIS). The reverse charge will apply across the supply chain, in that, if there is a reverse charge element within the supply then all other services may be subject to the domestic reverse charge.
Supply and fix services will also be subject to the reverse charge, for example: a joiner constructing a staircase offsite, then installing onsite, is providing a reverse chargeable service, even if the charge for installation is only a small element of the overall charge.
Some of the services that will be subject to the reverse charge include:
- Demolishing/dismantling of buildings
- Installation of heating/lighting/drainage/water supply
- Painting and decorating
To speed up the decision-making process on the application of the domestic reverse charge, if both parties agree, when services are provided on the same site by the same supplier and specified services are provided, any subsequent services may also be covered by the reverse charge. The VAT charges change when the original services were not completed within the scope of the reverse charge, but subsequent services were.
In addition, where goods/building materials are provided with specified services, then the reverse charge will also apply to these goods. In many circumstances it may be difficult to distinguish between a separate supply of goods excluded from the reverse charge and those included within a single supply of the specified services. Businesses will need to remain vigilant when reviewing and monitoring their services for changes in VAT charges throughout the course of a project.
When will the domestic reverse charge not apply?
There are some instances when the domestic reverse charge will not apply to specified services, such as if the services supplied are zero rate for VAT or if the recipient business is not registered for VAT in the UK or is not registered for the CIS.
There will be no reverse charges if the supplier and recipient are tenant and landlord or vice versa.
In addition, the reverse charge does not apply if the services are supplied directly to a main contractor that sells/lets newly completed buildings or an ‘end user’, such as the property owner.
What is an ‘end user’ and how can I confirm the status?
End users, also known as consumers or final customers, are businesses that do not make onward supplies of the services provided. Domestic reverse charges do not apply to ‘end users’, so it is important to understand how to identify and confirm the status of your recipients in order to correctly account for your services.
A practical suggestion for businesses would be to include a statement within the terms and conditions of your contract stating that “you will assume the customer is an end user unless they confirm, in writing, that they are not.”This places the responsibility on the customer to respond if that is not the case.
Further to confirming the recipient’s end user status, supplier businesses are also required to confirm their VAT number, status and their CIS status. Best practice would be to include this within the contract with the recipient prior to work commencing and invoicing.
Guidance from HMRC states that if the recipient business has not provided confirmation of their end user status then the services supplied will be subject to the domestic reverse charge.
For recipient businesses that wish to confirm their status they can within their communication by including similar wording to the below statement, provided by HMRC as an example:
“We are an end user for the purpose of section 55A VAT Act 1994 reverse charge for building and construction services. Please issue us with a normal VAT invoice, with VAT charged at the appropriate rate. We will not account for the reverse charge.”
What should I include on an invoice to cover the change to domestic reverse charges?
HMRC’s VAT Regulations 1995 state that invoices for services subject to the reverse charge, where the recipient is liable for the VAT, must include the reference ‘reverse charge’. Invoices must include all information usually required on a VAT invoice and it must be made clear that the domestic reverse charge applies.
Although there is no specific wording, HMRC has provided examples of suitable statements that meet the legal requirements, these are:
- Reverse Charge: VAT Act 1994 Section 55A applies
- Reverse Charge: S55A VATA 94 applies
- Reverse Charge: Customer to pay the VAT to HMRC
For recipient businesses that issue authenticated tax receipts or self-billing invoices, the recommended wording from HMRC is:
- Reverse Charge: we will account for and pay the output tax due to HMRC
- Reverse Charge: as the UK customer we will pay the VAT due to HMRC
What could the impact be to the construction industry?
Potential issues following the change will depend on the capability of the accounting system/processes when applying the reverse charge to services, as well as the ongoing work needed to ensure services are charged correctly. Moreover, errors in accounting for the VAT on services could pose a risk, as invoices must include the VAT amount subject to the domestic reverse charge, suppliers may incorrectly account for the VAT to HMRC and recipients may recover the charge from HMRC.
There is also the likelihood of issues in the supply chain, whereby businesses that rely on VAT from their customers as working capital (prior to recovering from HMRC) are likely to suffer the loss of cash flow. Subcontractors will also be required to confirm if they are working for a VAT registered business and whether their services are for an end user, adding to their administration.
What can I do to prepare my business?
The reverse charge may cause some issues within the first few months for businesses, with this in mind HMRC will apply a “light touch” when dealing with errors made, within the first 6 months of the change, so long as they have been made in good faith with the aim of compliance. However, penalties will be contemplated if you are considered to be deliberately taking advantage of the change by incorrectly accounting.
Byte Accounting are able to support businesses through this transition and prepare for the changes to come. Specific action that can be taken now, with the support of Byte Accounting, would include reviewing your current sales, purchases or both from other VAT registered businesses to establish if they would be subject to the domestic reverse charge.
Also, it would be advisable to review your business listings, to confirm their end user status, VAT registration and CIS status, and if there are any outstanding or unconfirmed businesses consider actions to address this in advance of the 1stOctober 2019.
With the support of Byte Accounting you should consider the potential impact the change could have on your business’s cash flow and if adaptations are required to mitigate any risks.
For more information on the changes to the domestic reverse charge or for support for your business please contact Byte Accounting.