Reverse charge VAT: What is it & who does it affect?

The reverse charge mechanism is HMRC’s way of trying to tackle the problem of ‘vanishing tradesmen’ i.e., suppliers who charge and collect VAT for their services, but then disappear before they ever pass it on to HMRC.

Under the new regime introduced on the 1^st March, 2021 (after two delays due to the COVID-19 pandemic and Brexit), a VAT-registered business supplying construction services to another VAT-registered business has to issue a VAT invoice stating that the service is subject to the reverse charge. Rather than paying any VAT to that supplier, the company receiving those services will need to account for the VAT on that supply itself through its VAT return; it can then recover the VAT as input tax, subject to the standard rules.

How this works in practice is if, for example, you own a construction development company and hire other suppliers – such as bricklayers, plasterers, and painters and decorators – you will charge your own business the VAT on these services, and pass it directly to HMRC.

How does it affect my construction business?

The reverse VAT charge mechanism applies to the same range of construction services that are currently covered by the Construction Industry Scheme. It also only applies to those specified services supplied to another construction business, which will, in turn, sell on those services.

If, for example, you employ a builder to extend your property, the reverse charge is not an issue for you. However, if you are a general builder who hires other specialist trades such as roofers or electricians to help you complete extensions for clients, it is likely that the reverse charge will affect you.

Which supplies are affected by reverse charge VAT?

The following services will be covered by the reverse charge VAT mechanism:

• 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 walls, roadworks, power-lines, electronic communications apparatus, aircraft runways, docks and harbours, railways, inland waterways, pipelines, 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
• Services related to the above, including site clearance, earthmoving, excavation, tunnelling and boring, laying foundations, erecting scaffolding, site restoration, landscaping, and the provision of roadways and other access works.

The reverse charge mechanism applies to supplies of construction services which are subject to standard rate VAT, reduced rate VAT (for certain conversions and renovations) and zero rate (for certain new-build residential work).

What supplies are excluded?

The following services are not included in the definition of construction services:

• Drilling for, or extraction of, oil or natural gas
• Extraction 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 a 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 a site
• The professional work of architects or surveyors, or of consultants in building, engineering, interior or exterior decoration, or in the layout of landscape
• The making, installation and repair of artistic works, such as sculptures, murals and other works which are wholly artistic in nature
• Signwriting and erecting, installing and repairing signboards and advertisements
• Installing seating, blinds and shutters
• Installing security systems, including burglar alarms, closed-circuit television and public address systems.

What do you need to do?

If you supply any of the services listed above that are affected by the Reverse Charge VAT mechanism, it is important to understand how the measure might impact on your business operation. Construction companies have had to adapt their accounting systems to process reverse charge supplies correctly and ensure that supplies and purchases are correctly treated. Some businesses may also experience significant variation in cash flow, as they are no longer be able to use VAT collected from customers as working capital before paying it on to HMRC.

If you have any questions about the Reverse Charge mechanism or would like to speak to one of our team about VAT and completing VAT returns, please complete the form below and one of our team will be in touch.

Article last updated 16/02/2023