In the Spring Budget 2017, the government announced its intention to introduce an alternative accounting mechanism for VAT in the construction sector, which the government considers to be a high risk area for missing trader fraud. The intended target of the legislation is sub-contractors who provide groups of workers to the construction sector. Supplies to end consumers are not intended to be affected.
Background to the changes
The government consulted on the scope of the measure in 2017. Changes to the Construction Industry Scheme (“CIS”) were considered as part of the consultation process to narrow the availability of gross payment status under the Scheme. That measure has been dropped and the government has instead decided to invest more heavily in compliance to police gross payment status.
On 7 June 2018 draft legislation for the VAT reverse charge measure was published for technical consultation and on 7 November 2018 final legislation was published with a number of changes that bring the measure more closely into line with the scope of the CIS rules.
The purpose of the measure is to make the customer of supplies of construction services which attract VAT (other than VAT at the zero-rate) responsible for accounting for VAT rather than the supplier.End consumers are not within the scope of the measure and so VAT on any supplies to end consumers will be accounted for in the usual manner.
Details from the draft legislation
The legislation brings new payments within the scope of the existing VAT reverse charge mechanism that is used in other industries (such as mobile phones and utilities).
The legislation operates in a very similar way to the existing CIS, which will assist taxpayers in understanding the new provisions. Construction services (defined in a similar way to the CIS and very broadly) are within the measure together with any materials supplied with the services. As with the CIS, supplies of professional services such as architects and surveyors are excluded except where they form part of a single supply with construction services (as is common under design and build contracts).
The changes to the legislation between the draft and final versions enhanced this alignment with the CIS. Supplies falling outside the scope of the legislation (“excluded supplies”) are now defined as those for which a CIS return is not required, meaning the legislation closely tracks the scope and exceptions to reporting under the CIS, but with a broad carve-out for end users (who should confirm in writing their status as an end user to the supplier).
In addition to supplies to end consumers, certain supplies made to connected persons and supplies between landlords and tenants are excepted from the measure. Supplies between a landlord and tenant which fall within the scope of the reverse premium exception to the CIS rules are excepted from the VAT measure, as are intermediary supplies between landlords and tenants and connected persons (e.g. services where a tenant buys in services and supplies them without material alteration to their landlord). This could import some of the difficulties that arise under the CIS in relation to landlord contributions to fitting out costs, as tenants currently find themselves within the scope of the CIS unexpectedly, but the intermediary carve-out will be of use in these situations. It is also worth noting that the definition of connected persons under the legislation is more narrowly cast than in other contexts.
The Chartered Institute of Taxation has previously engaged with HM Revenue & Customs to attempt to simplify the reverse premium exception in the context of the CIS to take more landlord contribution scenarios outside the scope of the CIS. Any changes to the CIS reverse premium exception would be carried over into this measure, but there appears to be little appetite on the part of HMRC for doing so.
Impact on accounting for VAT
Businesses will need to adjust their VAT accounting to accommodate the new rules. The (one off) costs incurred in doing so will be the main impact on businesses as a result of the new rules. Cash flow may also be an issue for businesses that currently use VAT paid by customers as part of their working capital.
One change in the final legislation is that supplies received by a person are not treated for the purposes of VAT as supplies made by that person (given effect by disapplying a general rule in the overarching VAT legislation). The effect may be beneficial for smaller suppliers who are otherwise not required for register for VAT on the basis that their supplies do not exceed the compulsory registration threshold. Supplies that these businesses receive under the VAT reverse charge will not be counted when determining whether this compulsory registration threshold is reached.
The final legislation is due to take effect from 1 October 2019, so there is time for businesses to prepare their accounting systems and manage any impact on cash flow. There are only limited de minimis provisions in the legislation (in addition to the provision discussed above for smaller suppliers, there is a carve out if the value of a supply together with corresponding supplies to the recipient in a single month do not exceed £1,000 in aggregate) and so businesses of any size in the construction industry will need to consider their compliance.