The VAT reverse charge on construction and building services was due to come into force on 1 October 2019, but was postponed for a year, and then later pushed back until 1 March 2021 due the impact of the coronavirus pandemic.
The anti-fraud measure represents a major change to the way that VAT is collected in the construction industry.
It means that VAT-registered subcontractors performing qualifying “construction operations” will not charge the main contractor VAT for services rendered. Instead, the main contractor will pay the VAT to HMRC on its behalf.
A subcontractor will no longer receive the “gross” invoice value when they bill the main contractor.
While it is true that they will no longer pay the “gross” invoice value to their suppliers, the cashflow benefit to the sub-contractor is immediately removed.
• If a sub-contractor is providing a construction service with an invoice value of £1,000.
• Currently the sub-contractor would charge the main contractor £1,200 (£1,000 plus VAT).
• That sub-contractor would then later account for the £200 to HMRC.
• In some circumstances, the sub-contractor would receive the £200 VAT before having to pay it to HMRC, leaving extra cash in the business, sometimes for up to 12 months (depending on what VAT accounting scheme they are on).
From 1 March 2021, new "reverse charge VAT accounting" rules were applied to all qualifying supplies made on or after that date.
This means that:
• Sub-contractors and contractors working in construction will no longer charge the main contractor VAT on most products or services.
• The main contractor will however be required to charge VAT on their transaction with the end customer.
• The end customer must declare VAT due as output tax on their own VAT return and reclaim it subject to normal rules via the reverse charge mechanism.
• In essence, the cash position of the main contractor and end customer remains unchanged, though they will require new processes to deal with the change.
• Subcontractors, however, will need to be aware of the potential impact on cash.
Smaller businesses who are reliant on VAT income as a working capital buffer will suffer financially and will need to prepare for potential cashflow problems now that the reverse charge is introduced.
Larger construction companies who are reliant on smaller subcontractors, could also feel the negative impact of reverse VAT.
If their subcontractors have cashflow difficulties, they are likely to favour jobs offering better payment terms and will be looking at all options to improve their liquidity position.
This creates room for an opportunity for contractors who implement a cost-free early payment programme for their sub-contractors. With this, sub-contractors can opt to be paid as soon as an invoice is certified by the contractor – they pay a small fee to Woodsford Tradebridge, and the contractor keeps the original terms.
This allows sub-contractors early access to cash and develops and strengthens a preferential relationship with the contractor offering this facility.
For more information on how Woodsford TradeBridge supports construction services businesses:
Download the Osbourne case study here.