What Property Developers Need to Know About VAT Reverse Charges
The construction reverse charge scheme came into effect in March 2021. Do you know what it is and how it applies to you as a property developer?
VAT fraud in the construction industry reached a critical point in 2017, leading the government to introduce the VAT Reverse Charge.
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The introduction of VAT Reverse Charge and changes to how the rate of VAT is charged/paid was due to come into effect in October 2020 - but was delayed until March 2021. An initial 6 month period of good faith leniency was given for those adapting to the change who may have made mistakes, but all errors must be corrected as soon as possible.
Now firmly in place, the VAT reverse charge MUST be used for suppliers of building and construction services. Note that this wording and ruling is specifically on services, as opposed to materials, meaning property developers must take note.
To get started, let's look at the reverse charge rules. You must use the reverse charge if:
- Payment for the supply is reported under the Construction Industry Scheme (CIS)
- The supply is at a standard or reduced rate
- Are not hiring staff or workers
- Not using end-user or intermediary exclusions
The reverse charge is aimed at changing VAT reporting liability from a supplier to the recipient - so if you are, for example, working with a contractor, it becomes your responsibility to account for VAT.
If all of this sounds confusing, don’t worry: we’re going to walk you through every part of the charge to help you understand what it means.
The reverse charge is applied to any building and construction services supplied at standard or reduced rates that need to be reported under the CIS.
Understand the CIS
The CIS dictates that contractors must deduct funds from their subcontractors to pass to HMRC. These funds count as payments towards that subcontractor’s tax and National Insurance. You must register as a contractor under the CIS if you pay subcontractors for construction work - or if your business has spent more than £3 million on construction in the 12 months since you made your first payment.
For property developers, this essentially means you’re likely to need to register for the CIS. If you pay subcontractors from your property business or you spend over £3 million on construction projects over a 3 year period, you should register as a contractor under the CIS and verify your subcontractors in the eyes of HMRC.
If you’re a buy to let landlord or investment property owner, you might not need to register as a contractor under CIS. You would only be considered eligible if you spend ‘significantly’ on construction works - roughly an average of £1m per year for 3 years.
Essentially, this is designed to protect the construction industry and ensure subcontractors pay their taxes. While it may be an additional element to take care of, you risk significant fines if you fail to register. Even late filing can incur fines of up to £3000 - so it’s worth establishing if you’re deemed a contractor under CIS so you know your responsibilities.
Who the reverse charge applies to
Unlike the CIS, reverse charges are also applied to the materials used within a service. The ruling does not impact end-consumers and is focused on UK VAT registered subcontractors, but if you’re in the property development sector it is worth taking the time to understand how it could affect you.
Note: “end-users” pay VAT normally, which we’ll discuss further down. As a developer, you may be an end-user in the eyes of HMRC.
The reverse charge applies to many activities outlined by HMRC, but summarised here:
- Whenever you are constructing, altering, repairing, extending, demolishing etc of buildings and structures.
- Installing heating, lighting, air-conditioning, ventilation, drainage, sanitation etc in any building or structure.
- Any cleaning/painting/decorating carried out in the course of construction, repair or restoration.
- Services that form an integral part of the preparation for the above activities such as site clearance, earth-moving, excavation etc.
It does not apply to surveyors or architects, those manufacturing building components or delivering them to the site, the installation of seating, blinds and shutters or the installation of security systems.
Note: unlike VAT itself, where a business earning £85,000 must register for VAT, there is no minimum threshold of cost for when the reverse charge will apply. If a supplier is VAT registered and payments are subject to CIS, the reverse charge almost always applies.
How the reverse charge works
Traditionally, a supplier charges and accounts for VAT themselves and normal VAT rules apply. Under the reverse charge, the recipient of the supply accounts for the VAT - which means you need to account for the VAT due on it when completing a VAT return, rather than paying the VAT to the supplier.
Essentially this is to avoid paying a subcontractor VAT for them to then not report it to HMRC. You can still recover the VAT as input tax, but won’t be able to claim it back the same way as standard VAT. Often the reverse charge simply results in a nil net tax position where you don’t owe VAT to HMRC.
The charge is not meant to change the actual net position of suppliers or recipients - although subcontractors/suppliers will not have the same level of cash flow as they won’t be receiving the VAT part of the payment when you pay them.
Once a reverse charge arrangement has been established, two parties can continue to use it for future works. So if you have a subcontractor working on your site development, multiple ‘jobs’ can fall under reverse VAT charges.
Do you need to apply the reverse charge?
To work out whether the reverse charge rules apply to your property development business, answer the following with yes/no.
- Are the supplies within the scope of the CIS?
- Is the supply standard or reduced rated?
- Is your supplier VAT and CIS registered?
- You are NOT an ‘end user’ (see below)
Provided you answer yes to every question, you should use the VAT reverse charge. If you’re an end-user, make sure you notify your contractor via written notice.
End-user and intermediary supply
End users are businesses or groups of businesses that are VAT and CIS registered but don’t make onward supplies of the building and construction services supplied to them. If this matches you, you can let your supplier or contractor know in writing that you’re an end-user and you’ll be exempt from reverse charge.
For many property developers, you’ll be an end-user, which means you will pay VAT to your contractor. The contractor will then withhold paying VAT to their subcontractors and will instead pay it to HMRC. The subcontractor will still charge VAT, but will inform HMRC that it is invoiced but paid by the contractor - so only one business is paying VAT to HMRC on behalf of all others.
Intermediary suppliers are VAT and CIS registered businesses that are linked to end-users. If an intermediary buys construction services to re-supply to an end-user, the reverse charge does not apply. For example, if you’re a landlord and pay a contractor to do work on a tenant’s property for the benefit of the tenant. Again you must supply written notification to be exempt.
What it all means for you
All of this information essentially boils down to working out whether you’re eligible for reverse charge and if your business is set up to use it in most accountancy systems. Sage and other popular accounting platforms have their own CIS modules to make this easier - but it’s up to you or your accountant to work out if you should be using reverse charge.
Remember that using reverse charge for a subcontractor means they won’t receive VAT payments which will impact their cash flow. You will make net repayment claims to HMRC rather than receive VAT on your sales.
Ways to help make this process smoother include:
- Checking subcontractors for the relevant compliance factors: you need to ensure your subcontractors are registered for VAT and verify their CIS status. There are also third-party tools you can invest in to get information about the supplier’s CSCS card approvals etc.
- Ensure all purchase orders are tracked so you don’t lose sight of costs. This includes any PO’s you give out to suppliers or those you invoice against.
- Invest in construction-specific software to keep your property development business ahead of the financial and accounting demands of HMRC. A standard accountancy platform is less suited for a developer that works on new builds or redeveloping land than a specific construction one. Look for software that can help you with reports such as actual vs budgeted contract costing and plant on hire etc.
- Create a system with your agreed reverse charge subcontractors whereby any variations to the project can be easily issued and paid.
At Rangewell, we’re here to help property developers secure funding that can be used to finance development - which is why we’ve offered guidance around the reverse charge rules. We specialise in property development funding for the commercial market and in supporting residential developers who are either converting property or building new residences.
If you’d like to secure development finance, we can help. Talk to our team and see how we can leverage the whole of the lending market to find the best possible terms that support your financial future.