Important Update – With 24 days to go, HMRC have just announced that they are to delay the implementation of the DRC for construction services until October 2020. HMRC says that this is to give additional time for affected businesses to prepare for the impact on administration and any adverse cash flows that may arise. Businesses that have applied for monthly VAT returns to address the DRC issues may now apply to go back to quarterly returns. HMRC have said that they will be focusing on the sector in the next 12 months to expose avoidance and ensure that the implementation of DRC will be less disruptive. If you have any questions please contact your usual RL contact or our VAT Director, Ian Marrow at email@example.com
Thanks in part to the looming Brexit deadline on 31st October, the announcement of a new Domestic Reverse Charge (DRC) for construction services has gone almost unnoticed.
Yet its implementation – represents a sea change for the construction industry, particularly when it comes to managing the supply process.
This is because, as its name suggests, the DRC involves a complete reversal of the current VAT procedure.
What does the DRC involve?
Introduced in an attempt to clamp down on VAT fraud, the DRC is already in force for certain supplies. These include computer chips, mobile phones, telecommunication services, and more recently, renewable energy certificates.
Applied to the construction industry, individuals and businesses that supply standard or reduced-rate building and construction services reported under the Construction Industry Scheme (CIS) will no longer invoice for or be paid, the VAT.
Instead of the usual process of the customer paying VAT to the supplier, the customer will calculate and declare VAT due on the supply received, to declare directly to HMRC.
The payment received by the supplier will therefore cover the cost of work carried out (plus materials used), but not the VAT as the customer will claim the related VAT on their VAT return, as if they have made the supply to themselves.
If this is 100% of the VAT due as output tax, a ‘nil net effect’ state is reached, which means the output tax due under the DRC is effectively cancelled by the reclaimable input tax.
(In effect, the DRC is intended to prevent a supplier from charging a customer, adding VAT to their invoice, and then ‘disappearing’, leaving the VAT undeclared and unpaid to HMRC).
Some important points to note are that DRC will not apply if the service is zero-rated, or if the customer is not registered for VAT. Domestic customers and end users, including landlords and retailers, are also exempt.
How will the DRC affect construction businesses?
Accounting systems and software should be checked if they’re compliant with the DRC, while checks will need to be carried out to ensure the correct customer status.
Such checks will include verifying whether or not customers are VAT and CIS-registered, and if they are an end user, or an intermediary supplier. Checks should also be made to confirm whether or not the DRC will affect business purchases, as well as sales.
Furthermore, customers must be informed if and when the DRC applies, and this must be clearly specified on the relevant invoices. The amount of VAT due should still be included on the invoice, even if it is not being charged to the customer.
As you might imagine, the DRC also has seismic cash flow implications for many businesses. There will no longer be the opportunity to use VAT payments received from customers before they have to be paid to HMRC, and reverse charge transactions cannot be processed through the Cash Accounting Scheme.
Though HMRC will issue fines to businesses that do not comply with DRC rules following 1st October, a ‘soft landing’ period will apply for six months after this date, in an attempt to account for genuine mistakes.
In the meantime, the best advice is simply this: be prepared.
In-depth DRC guidance is available from Gov.uk. If you have any questions about how this may apply to your business, our expert Tax Team are on hand to answer any questions. Please contact Ian Marrow, VAT Director, on 01245 254219 or firstname.lastname@example.org