START PREPARING FOR DRC IMPLEMENTATION
Debra Dougal discusses the implementation of Reverse VAT, how it will impact on contractors and sub-contractors, and how to prepare.
‘Main contractors and sub-contractors affected by the change need to understand what this means and to start preparing now, ready for its implementation on October 1st.’
The implementation date for reverse charge VAT accounting in the construction sector is fast approaching. Main contractors and sub-contractors affected by the change need to understand what this means and to start preparing now, ready for its implementation on October 1st.
The domestic reverse charge (DRC), as it is known, is not new but it is new to the construction sector and its impact is far reaching. It means that businesses in the construction supply chain will not be paid VAT on the services they supply. Their customer, the next contractor in the supply chain, will account for this VAT instead, as a DRC.
By way of an example, a drylining contractor working for a main contractor on a commercial new-build site, will invoice for their work plus 20% VAT, but the contractor will not pay over the VAT. Instead, the main contractor will account for this VAT to HMRC, as a DRC, which means accounting for output tax (payable) and input tax (repayable) on the same VAT return, resulting in nil net tax due to HMRC.
DRC has been introduced, quite simply, to combat fraud. HMRC has identified the construction sector as a main contributor to lost tax by way of missing trader fraud where VAT is charged and paid, but the business fails to account for this VAT or to pay it to HMRC, and the business goes missing. As the DRC means no physical movement of the money representing VAT, this type of fraud disappears.
Those affected include VAT registered contractors and sub-contractors supplying and receiving services covered by the CIS which are liable to VAT at the standard or reduced rate. Zero-rated construction services are not affected as there is no VAT to account for.
Supplies to end users, or those connected to end users, are not covered by the DRC. End users are those who receive the construction services for themselves rather than as part of an onward supply of construction services.
HMRC supplies list
HMRC has published the following list of supplies which will be affected by the DRC when liable to the standard or reduced rate of VAT:
- Construction, alteration, repair, extension, demolition or dismantling of buildings or structures (whether permanent or not), including offshore installations
- Construction, alteration, repair, extension or demolition of any works forming, or to form, part of the land, including (in particular) walls, roadworks, power-lines, electronic communications apparatus, aircraft runways, docks and harbours, railways, inland waterways, pipe-lines, reservoirs, water- mains, wells, sewers, industrial plant and installations for purposes of land drainage, coast protection or defence
- Installation in any building or structure of systems of heating, lighting, air-conditioning, ventilation, power supply, drainage, sanitation, water supply or fire protection
- Internal cleaning of buildings and structures, so far as carried out in the course of their construction, alteration, repair, extension or restoration
- Painting or decorating the internal or external surfaces of any building or structure
It also applies to services which form an integral part of, or are preparatory to, or are for rendering complete, the services described in the bullet points above, including site clearance, earth-moving excavation, tunnelling and boring, laying of foundations, erection of scaffolding, site restoration, landscaping and the provision of roadways and other access works.
Not included within the DRC are the following:
- Drilling for, or extraction of, oil or natural gas
- Extraction (whether by underground or surface working) of minerals and tunnelling or boring, or construction of underground works, for this purpose
- Manufacture of building or engineering components or equipment, materials, plant or machinery, or delivery of any of these things to site
- Manufacture of components for systems of heating, lighting, air-conditioning, ventilation, power supply, drainage, sanitation, water supply or fire protection, or delivery of any of these things to site
- The professional work of architects or surveyors, or of consultants in building, engineering, interior or exterior decoration or in the laying-out of landscape
- The making, installation and repair of artistic works, being sculptures, murals and other works which are wholly artistic in nature
- Sign writing and erecting, installing and repairing signboards and advertisements
- The installation of seating, blinds and shutters
- The installation of security systems, including burglar alarms, closed circuit television and public address systems
Neither list is exhaustive and the general advice that payments required to be reported through the CIS are likely to be subject to the DRC is a good starting point for anything not covered above.
How should you respond?
For main contractors:
If the supply you have received is subject to the DRC, you will not pay VAT to the supplier. You will complete your VAT return showing the VAT as an input and an output with no net tax payable on that supply.
As a main contractor, you would expect your supply to be to the end user but you need to be sure of this to know whether or not the DRC also applies to your services.
Completing your VAT return for the DRC means showing the VAT amount in Boxes 1 and 4 and the net amount in Box 7.
First you need to ensure that your customer is VAT-registered and then you raise your invoice as usual, including the appropriate VAT rate and amount, but show only the net amount as payable. Completing your VAT return for the DRC means just entering the net amount of your supply in Box 6.
Issues to be aware of
Apart from the obvious administrative burden of a change in accounting procedure, the single biggest issue facing the sector is the negative impact on cashflow for sub-contractors.
Materials suppliers are not within the DRC so VAT will still have to be paid on materials purchases and claimed back through the VAT return but sub-contractors will not have use of the VAT paid to them by their customers for up to three months as they do currently.
In a sector where late and slow payment is such a significant concern, a further hit to cashflow is very unwelcome.
Inevitably some will stick their heads in the sand or actively refuse to change their
procedures. HMRC has announced a light touch approach to penalties for the first six months but with the reality that VAT claimed which should have been subject to the DRC is not repayable, main contractors need to be very aware of the risks they face even during the light touch period and certainly after it.
For main contractors, our advice is to err on the side of the DRC applying and to not pay VAT
to your suppliers without properly questioning why they are charging it.
Many sub-contractors will become net VAT repayment businesses, regularly claiming refunds on their VAT returns. These businesses should consider switching to monthly VAT returns to limit the impact on cashflow.
For main contractors working for end users, cashflow will improve. With the backing of the FIS, it is time to leverage this advantage to further reduce payment delays for the benefit of the sector as a whole.
Speak to your accountant to get prepared and to check that your software can handle DRC accounting. Put your accountant in touch with a VAT specialist if they don’t have the in- house knowledge to assist you with the DRC implementation.
VAT registered contractors and sub-contractors supplying and receiving services covered
by the CIS which are liable to VAT at the standard or reduced rate
What and where:
To reduce lost tax from missing trader fraud
October 1st, 2019
START PREPARING FOR DRC IMPLEMENTATION