Domestic Reverse Charge: our 5 top tips

After being delayed twice, the new VAT Domestic Reverse Charge (DRC) went live on 1 March 2021. HMRC implemented the change to combat VAT ‘missing trader’ fraud in the sector which is estimated to cost the Treasury £100m per annum. It is the most significant change to VAT in construction services in 30 years.

Our VAT team have seen a number of recurring issues with the DRC. Below, we will cover the most common issues affecting construction businesses, with our top tips on addressing them.

1. Businesses are incorrectly charging VAT

If in doubt over whether VAT should be charged, we’re seeing that businesses will charge VAT as default. The assumption is that their customer can reclaim any VAT charged from HMRC. However, that leaves their customers at risk, as HMRC may not refund the incorrectly charged VAT.

Action Point: If you are being charged VAT within a supply chain, check to ensure you are comfortable it has been correctly charged because if will be difficult to reclaim at a later time.

2. Businesses are unaware if they fall within the Construction Industry Scheme

Under the Construction Industry Scheme (CIS), contractors deduct money from subcontractors’ payments, then pass it on to HMRC. The DRC has been linked into, and only applies to supplies that fall within CIS. This has highlighted that currently there are a number on construction suppliers and customers that should be CIS registered but are not.

Action Point: Check your CIS obligations. Many businesses do not realise they fall within the scope of both the CIS and DRC.

3. Accounting software hasn’t been updated to account for the DRC

If you’re using older accounting software to process your VAT returns, it may not have been updated to account for the new changes. Some accounting software is useful at ‘remembering’ what codes you’ve used in previous returns and may default to the same coding used in previous entries.

Action Point: Make sure the tax codes in your accounting software have been updated for DRC, and that you are using the correct codes.

4. Lack of clarity around what is considered a construction service

Whilst there are many widely accepted services that fall under the remit of construction (building a wall, installing electrics, etc), there are a number of ancillary services you may need to consider. HMRC have not currently published a definitive comprehensive list, although examples are included which can be referenced.

Action Point: Ensure you understand which of your services fall under the definition of construction services.

5. Systems and workflows have not been properly reviewed

With the effects of the DRC still impacting construction businesses, it’s essential you have good internal processes for dealing with the VAT accounting for your supply chain. We recommend all businesses have a workflow in place to deal with the DRC effectively.

Rather than one single comprehensive system, there should be two separate processes to review:

  • Supplies you make to your customers; and
  • Supplies you receive from your suppliers

These will vary depending on where your service sits in a supply chain and should be reviewed separately. If you don’t have systems in place already, make a flow chart on how construction supplies (both made and received) should be dealt with.

Action Point: Review your systems and processes to ensure DRC obligations have been taken into account

How we can help

If you are struggling to make sense of the Domestic Reverse Charge or complying with the new rules, our team can help. We can support you on an ad hoc basis, such as advising whether services fall in the scope, or on a project-based approach including:

  • Interactions within the CIS system
  • Accounting software set up and adaptation
  • Systems reviews to ensure compliance

Read more on this topic in the first issue of our newsletter South East Property.

Read South East Property Issue 1

If you have any questions about the VAT domestic reverse charge, then please contact our tax team on 01903 234094.