Tax update: Domestic Reverse Charge and Construction Industry Scheme

The Domestic Reverse Charge for the construction industry is set to be introduced on 1 March 2021, with new rules bringing practical and financial challenges for housing associations. HMRC is also running an awareness drive about organisations' obligations under the Construction Industry Scheme. Our tax advisers RSM outline the detail.

Background

The Domestic Reverse Charge (DRC) is an anti-fraud measure designed to combat supply chain VAT fraud in the construction industry. Where the new reverse charge applies, the customer rather than the supplier will be required to account for the VAT due on the supplies it receives.

Broadly, the DRC will apply to supplies of construction services reportable under the Construction Industry Scheme (CIS) between VAT-registered businesses, where a positive rate of VAT is due and the customer has not notified the supplier in writing that it is an ‘end-user’ or ‘intermediary supplier’.

Written notification by ‘end-users’ and ‘intermediary suppliers’ confirming that they are ‘end-users’ / ’intermediary suppliers’ is now a legal requirement and in the absence of such a notification, the supplier will automatically treat the supply as subject to the DRC where the other conditions are met.

While the rules may appear simple in concept, the detailed requirements are far from straightforward. Those businesses that buy and/or sell construction services and are CIS and VAT-registered will need to get to grips with their obligations under the new rules and sufficiently prepare for the significant changes that will be needed to their accounting processes and controls.

It is widely considered that many sub-contractors are unprepared for the cash flow impact that will arise as a result of the changes. Many businesses use the VAT that they collect from their customers as working capital before it is required to be paid to HM Revenue & Customs, which can be up to three months after payment has been received from their customer. The loss of that working capital, on top of the challenges posed by coronavirus, is inevitably going to result in financial difficulties for businesses which ultimately may be forced to close.

Impact on the social housing sector

Housing associations that will be considered ‘end users’, or that are outside the scheme due to being involved in the construction of zero-rated new-build dwellings, will need to consider their position. For example, as an end user the housing association will have a choice as to whether to advise the contractor of its status, in which case the normal VAT rules will apply, or take advantage of the cash flow benefits of self-assessing the tax due. Those housing associations that provide construction services reportable under CIS will also need to consider whether their services are caught by these provisions.

Housing associations may also find themselves impacted by the commercial effect of the cash-flow impact that their sub-contractors may face. Consequences of this may include a reduction in the availability of labour, closure of sub-contractor businesses and the knock-on effect on project timescales.

Housing associations that buy or sell construction services should therefore consider how they are likely to be impacted by the introduction of the DRC – whether that be practically, financially or commercially – to minimise the disruption for their organisation.

Construction Industry Scheme update from HM Revenue & Customs

HM Revenue & Customs has written to 1,907 housing associations or registered social landlords across the UK as part of an education programme to help ensure that organisations understand their obligations under the Construction Industry Scheme (CIS).

As the letter was posted in hard copy format, and as many of us are continuing to work from home, it is possible that it may not have been received and read. You can download and read the letter here.

As a reminder, although charities are exempt from operating the CIS, trading subsidiaries that do not have recognisable charitable status for tax purposes can potentially be a contractor and/or a sub-contractor under the scheme, which creates various compliance obligations.

HM Revenue & Customs is very keen to work with the social housing sector with regards to CIS obligations, and has provisionally agreed to deliver a webinar in early 2021, which will be organised in conjunction with RSM. Further details on this will be provided in due course but in the meantime, if you have any suggestions for any particular CIS issues that you would like to see included in the discussions, please contact John Butler.

If it would be helpful to discuss your CIS obligations with our tax advisers RSM please contact David Williams-Richardson.