VAT treatment of supplies of construction services

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There will be some major changes occurring in 2020 for the construction industry that could impact all qualifying supplies made.

From 1 October 2020, the VAT treatment of supplies of construction services will change, with the introduction of a new reverse charge. This change will apply even if the supplies are made under a contract entered into before 1 October 2020. Contracts should contain specific drafting to accommodate the reverse charge and businesses should take account of the cash-flow impact of the new provisions.

What does the reverse charge apply to?

The reverse charge applies to supplies of “construction services” and operates by shifting the responsibility for accounting to HMRC for VAT from the supplier to the recipient of the supply. For example, currently when a fully taxable sub-contractor (“S”) makes a supply of construction services to a fully taxable contractor (“C”) for 100 plus VAT, S renders a VAT invoice to C for a total of 120 and accounts to HMRC for 20, while C claims credit for 20 from HMRC. After 1 October 2020, S would only charge C 100 and would not account to HMRC for any VAT, while C would have both an obligation to account to HMRC for 20 and a right to claim credit for 20 from HMRC.

With some variations, the construction services within the scope of the VAT reverse charge will be those caught by the construction industry scheme (“CIS”). However, in contrast to the CIS, supplies of materials will be within the scope of the new reverse charge. Exceptions will apply where the supply is made to an end user that is not making an onward supply of construction services, or to an “intermediary supplier” which has an interest in the property upon which the works are performed. Nor will the reverse charge apply where the service recipient would not have to submit a return under the CIS in respect of the payment to the sub-contractor.

What will the reverse charge affect?

Where sub-contractors depend upon VAT receipts to support liquidity, the reverse charge will have a real economic impact. However, all parties to construction contracts should ensure that both new contracts and existing contracts that will still be “live” on 1 October 2020 contain appropriately drafted VAT provisions. Not collecting VAT when the reverse charge doesn't apply,or collecting VAT when it does apply will constitute real business risks once the new regime comes into force.

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