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There has recently been a great deal of focus at government level on the health of the construction supply chain. The trade press has been full of articles on measures to improve the fortunes of SMEs, such as the abolition of cash retentions, enforcing prompt payment, and support for partnering-type procurement procedures, with many of the familiar ways of running businesses being called into question. 

HMRC has also turned its attention to supply chain issues, in an attempt to tackle supply chain 鈥渕issing trader鈥� fraud (MTF). MTF occurs when VAT is collected from customers by businesses but then not repaid to HMRC. It is estimated that without a change in the regulations, MTF could cost the Exchequer about 拢90m in 2019/20 and 拢135m the following year. HMRC is, unsurprisingly, keen to address the issue.

The new rules propose to reverse the current position so that it will be the party who receives the supply who is obliged to pay the VAT directly to HMRC

HMRC has issued draft legislation intended to combat MTF by imposing a reverse charge for VAT for construction services (and goods supplied as part of those services), which will bite on the payment of VAT by and to specific parties in the supply chain. The new rules propose to reverse the current position (of the party making the supply paying the VAT to HMRC) so that it will be the party who receives the supply who is obliged to pay the VAT directly to HMRC. With these rules there should be little danger of HMRC refunding VAT that has not been paid.

So, how will the reverse charge be applied? The draft legislation says it relates to 鈥渃onstruction services鈥�. This is very widely defined and is based on terms already used for HMRC鈥檚 Construction Industry Scheme. This includes construction, alteration, repair, extension and demolition or dismantling of buildings or structures, as well as corresponding civil engineering works and technical services such as the installation of building systems and services. 

The professional work of architects or surveyors, other building consultants, engineers, interior or exterior decoration or landscape works (unless supplied as a component of a single supply of construction services) is excluded. 

HMRC will get the cash it is due, but the result for the industry is likely to be an increase in costs because there will be greater administrative workloads 

If the onward supplier and the end-user are legally connected (such as where the same person has control of both companies), or are in a landlord and tenant relationship, these parties are also exempt from the reverse charge. 

The reverse charge will also not apply to the manufacture of building or engineering components (so should not affect modular supplies), equipment, materials, plant or machinery, or delivery of any of these to site.

The reverse charge will also not apply to payment for services carried out by suppliers at the top end of the supply chain. For example, if a main contractor or developer carries out construction works for a landowner which are not zero-rated for VAT, the reverse charge will not apply to the works carried out by the main contractor or developer, but may apply to the works carried out by the main contractor鈥檚 or developer鈥檚 subcontractors. This means the main contractor or developer will submit a VAT invoice to the landowner in respect of its works under the main contract in the normal way, account to HMRC for that VAT, and pay its subcontractors net of VAT. The main contractor or developer will then be obliged to pay the subcontractor鈥檚 VAT to HMRC directly rather than leaving subcontractors to make the payment themselves. The thinking behind this is that VAT fraud is less likely with larger, more established businesses.

What will the reverse charge actually achieve? HMRC will get the cash it is due, but the result for the industry is likely to be an increase in costs because there will be greater administrative workloads for those who will have to familiarise themselves with the law and develop new accounting procedures to deal with their obligations to pay their subcontractor鈥檚 VAT direct. They will also have to change their contracts to clarify, or provide enough information to clarify, the VAT status of payments made under those contracts. Smaller contractors may lose out on cash flow they might previously have relied upon as they will no longer have the use of VAT funds collected from customers until it is paid over to HMRC. Ongoing costs will involve record keeping, checking purchases for the treatment of VAT and reporting the reverse charge supplies to HMRC.

When will the new reverse charge come into force and how long will affected businesses have to comply? It is anticipated that the legislation, now in draft form, will become law in October 2019. HMRC have offered 鈥渟upport, including guidance鈥� for all businesses to be affected by the reverse charge and a 鈥渓ight touch on genuine mistakes and penalties鈥� for six months after the reverse charge comes into force. The message to the industry is: be prepared.

Stephanie Canham is national head of projects and construction at Trowers & Hamlins