*NOTE: Reverse charge VAT will come into effect on 1 March 2021*
UPDATE: The FMB has joined forces with more than 30 organisations in the construction industry to call for reverse charge VAT to be scrapped. Following an initial letter to the Chancellor on 10 December 2020, the coalition, led by the FMB, has written again to underline the urgency with which the Government must scrap this damaging policy. The campaign was reported on by Construction News, and the industry will continue to push for a policy rethink ahead of the Government’s Budget on 3 March 2021.
Businesses should continue to prepare for the introduction of reverse charge VAT.
The upcoming Reverse VAT changes will put immense pressure on cash flow in all firms in the construction chain explains tax consultant Liz Bridge. The changes, taking effect from March 2021, mean all firms constructing buildings and structures - whether commercial or domestic - will need to prepare for changes to invoices, contracts and cash flow.
What is the current VAT process?
Generally speaking anyone who makes a supply of construction work in the UK will invoice or apply for the money due to them and must charge VAT. There are exceptions for traders below the VAT threshold and for supplies like housing which are zero rated, but the vast majority of FMB members will be charging VAT on their supplies. This means that for every £100 of work done, a business bills for and should receive £120. It uses the £100 to pay any subcontractors and cover overheads and to get profit. The £20 is passed quarterly to HMRC after any VAT incurred in making the supply has been deducted.
What is changing?
From March 2021, no one in the construction chain will bill VAT on their supplies unless they have contracted with the end consumer and user of the structure being built. If they are merely a cog in a chain of subcontractors to the main contractor who interfaces with the actual customer, they will treat the VAT as if it has been billed on supplies they receive and as if they had charged it to their contractor – but no actual money will change hands. The only businesses to collect VAT as real money will be those contracted with an end user or customer of the building.
At the moment, if for example, your firm pays subcontractors £3,000 plus VAT £600 for work and then charges a main contractor £3,300 plus VAT £660 on that element, your bank account will pay out £3,600 and will collect £3,960. At the end of a quarter you will pay £60 to HMRC as VAT (£660 - £600), leaving £300 profit in your accounts. In the post ‘Reverse Charge’ world, you will only pay £3,000 for the work. You will receive only £3,300 for the contractor you work for. In a nutshell it means that where your firm currently has cash received of £120, in late 2019 it will only be receiving £100. The VAT paid by your firm will remain the same.
There are no implications for profit or the amount of tax paid, but there are major implications for cash flow. Many firms already have difficulty paying their VAT quarterly, or their PAYE, or trading debts because their creditors have not paid them. They frequently use VAT they have collected and are holding to pay bills that arrive before the deadline for the VAT payment. Another way of putting it is that VAT acts as oil in the cash flow pump to ease moments of cash flow crisis. One can see VAT collected as providing firms with an emergency unarranged overdraft at times when it would be difficult and expensive to get such an overdraft.
What steps can you take now to prepare for Reverse Charge VAT?
- Ensure your software is updated.
- Ensure you or your accounts team are prepared for a 17% reduction in cash flowing through the veins of the business.
- You will need proforma reverse charge invoices and applications.
- You will need to warn your own VAT registered subcontractors.
- You will need to check if your customers are VAT registered, and CIS registered and if they are, check whether they are end users.
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