Construction sector facing government clampdown on VAT fraud

The government announced in the Spring Statement their intent to pursue legislation to shift responsibility for paying VAT along the supply chain with the introduction of a domestic VAT reverse charge for supplies of construction services with effect from 1 October 2019.

Currently, large amounts of VAT are lost through ‘missing trader’ fraud. This is where VAT is charged by a supplier, who then disappears, along with the output tax. Construction is considered as a particularly high-risk sector because of the potential to make supplies with minimal input tax but considerable output tax.

The domestic reverse charge will affect supplies of ‘specified services’ at the standard rate or reduced rates of VAT where payments are required to be reported through the Construction Industry Scheme (CIS). Therefore supplies between sub-contractors and contractors, as defined by the CIS, will be subject to the reverse charge unless they are supplied to a contractor who is an end user.

What does Domestic Reverse Charge mean?

Under the reverse charge (RC) a VAT-registered business that supplies certain construction or building services to another VAT-registered business for onward sale is required to issue an invoice stating that the service is subject to the domestic reverse charge. The recipient/customer, if it is VAT registered, must then account for the VAT due on that supply via its VAT return at the appropriate rate, instead of paying the VAT to the supplier. The recipient may recover that VAT amount as input tax, subject to the normal rules – this would normally mean a nil net tax position with no VAT being due to HMRC.

The good news for smaller businesses is that the value of reverse charge services received will not count towards the VAT registration threshold for the customer. It also confirms that if there has already been a domestic reverse charge supply on a construction site, any subsequent supplies on that site between the same parties can be treated as domestic reverse charge supplies if both parties agree.

The legislation stipulates that if there is a reverse charge element in a supply then the whole supply will be subject to reverse charge if the parties agree. It will also cover the provision of construction services that include materials. Therefore, the impact of this change is wide.

Making Tax Digital (MTD) clash

It will be important for businesses to check that the software they have either adopted or are looking to adopt for MTD will be able to cope with the RC for construction services. Invoices under this RC procedure will require a statement which identifies the supply as reverse chargeable.

The HMRC guidance states that the invoice should clearly state the amount of VAT due under the RC, but “should not be included in the amount shown as total VAT charged” – this could lead to confusion when invoices are posted.

The new RC rules will have a significant effect on VAT compliance and cashflow. We therefore strongly recommend planning to accommodate this well before the October deadline.

If you would like to discuss the impacts of this change on your business, then please contact one of our experts straight away.