Proposed New “Reverse Charge” VAT Rules for the Construction Industry

In June 2018, HMRC published its draft legislation aimed at shifting the VAT liability on building and other construction services from the supplier to the customer. Here we discuss the impact of these new VAT rules for the construction industry.

The general VAT rule is that “the supplier of goods and services account for VAT on those supplies”. So, every VAT registered business adds VAT to their goods or services and the purchaser (if they are VAT registered) reclaims it. This works fine, as long as the supplier who charges VAT accounts for it to HMRC. However, supplies of goods and services are increasingly being exploited by those engaged in a type of VAT fraud called “missing trader fraud”. Missing trader fraud is an organised criminal attack on the VAT system. The fraud is perpetrated when the VAT charged by the supplier is not paid to HMRC, but is retained by the recipient. This type of fraud has been used by criminals to steal billions of pounds in VAT from governments throughout the European Union and is a growing problem in the construction industry sector.

The new proposed legislation introduces the “reverse charge” to combat this fraud. We should all be familiar with the concept of reverse charge VAT which already applies where a business purchases goods from another EU country. The reverse charge is pretty straight forward, instead of the supplier charging the customer VAT, the customer charges itself output VAT and then, because it has paid VAT as a purchaser, reclaims the input VAT.

The goods and services to which this section applies and the supplies which are to be excepted from its application are contained in articles 4 to 9 of section 55A of the Act. These goods and services are the same as those in the Construction Industry Scheme. If you’re in the industry, you’ll be familiar with these. Transactions between connected parties are excepted.

Let’s look at an example to see how this will work....

Bob the builder invoices his customer Dizzy Limited, a building company, £10,000 for construction services. Currently, Bob the builder will add £2,000 VAT to his invoice. Under these new reverse charge rules Bob the builder will not add VAT to his invoice, rather Dizzy Limited will include this £2,000 in Box 1 of its next VAT return. Dizzy Limited also includes the purchase in Box 4 and reclaims the £2,000. In this way, the two entries cancel each other out from a cash payment perspective in the same return, and there is no risk that Bob the builder will abscond with the VAT.

The draft legislation, which closed for consultation on 20 July 2018, comes into effect on 1 October 2019. So, if you’re in the building or construction industry and need help understanding when you should apply the reverse charge and which types of supply it affects, please me at andrew.coney@raffingers.co.uk.

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Article by Andrew Coney Partner and Property Sector Expert