Who accounts for the VAT, when the charge applies, what the invoice has to say, and how to post it in Sage and Xero. Written by a Chartered Management Accountant who prepares these returns.
In the normal course of events the supplier charges VAT, collects it from the customer and pays it over to HMRC. The reverse charge moves that obligation to the customer. The supplier issues an invoice showing no VAT, and the customer calculates the VAT that would have been charged and accounts for it on its own return.
For a business that can recover all its input tax, the output tax in box 1 and the input tax in box 4 are the same figure and cancel out. That makes the charge look like an administrative nicety, which is why it gets ignored, but the entries are legally required and a return that omits them is wrong.
The reason it exists is fraud. If the supplier never holds the customer's VAT, the supplier cannot vanish with it — which is why the charge has been applied to exactly the sectors where missing-trader fraud has been a problem.
This is the version most businesses meet. It has applied to invoices with a tax point on or after 1 March 2021, having been delayed twice from an original start of October 2019.
It applies where all of the following are true:
The covered services track the CIS definition: construction, alteration, repair, extension and demolition, works forming part of the land such as roads and pipelines, installing heating, lighting, power, drainage and fire protection systems, internal cleaning during the works, painting and decorating, and integrated preparatory work such as site clearance, excavation and scaffolding. Excluded when supplied on their own: architects, surveyors and consultants, manufacture or delivery of components and materials, oil, gas and mineral extraction, artistic works and signwriting, and installing seating, blinds, shutters and security systems.
An end user is a business, or group of businesses, registered for VAT and CIS that does not make onward supplies of the construction services it receives. A developer building for its own occupation or for sale is the standard case.
An intermediary supplier is a VAT and CIS registered business that buys construction services and re-supplies them without material alteration to an end user it is connected or linked to — a fellow group company, or a landlord and tenant with a relevant interest in the same land.
Both exclusions turn on a written notification from the customer to the supplier. It can go by post, by email or sit in the contract, and should be kept with the business records. HMRC's suggested wording: "We are an end user for the purposes of section 55A VAT Act 1994 reverse charge for building and construction services. Please issue us with a normal VAT invoice, with VAT charged at the appropriate rate."
If the element of a supply that would fall under the reverse charge is 5% or less of the value of the whole supply, it can be disregarded and normal VAT rules applied to the whole thing. Two conditions matter: it is agreed between supplier and customer at the outset on overall contract values, not tested invoice by invoice, and it does not apply where the predominant element is zero rated.
Materials supplied with construction services are generally a single supply for VAT purposes, so the reverse charge applies to the full value of the invoice, materials included. Splitting a supply-and-fix job into a labour line under the reverse charge and a materials line with VAT on it does not work. Nor does putting labour and materials on linked contracts for the same site — HMRC treats them as one supply.
Work down in order. The first "no" is the answer.
| Step | Question | If no |
|---|---|---|
| 1 | Are both supplier and customer VAT registered in the UK? | Charge VAT normally. Stop. |
| 2 | Is the payment reported within CIS? | Charge VAT normally. Stop. |
| 3 | Are the services standard or reduced rated? | Zero rate it as normal. Stop. |
| 4 | Is the supply something other than an employment business providing staff? | Charge VAT normally. Stop. |
| 5 | Is the reverse charge element more than 5% of the contract value? | Disregard it if both parties agreed at the outset. Stop. |
| 6 | Has the customer stayed silent — no written end user or intermediary notification? | Charge VAT normally and keep the notification. Stop. |
| 7 | All six answered yes | Reverse charge applies to the whole invoice, materials included. |
A reverse charge invoice carries everything a normal VAT invoice carries, plus a clear reference that the reverse charge applies and that the customer must account for the VAT. The VAT amount should be shown, or at least the rate, so the customer knows what figure to account for — but it must not be included in the total charged.
| Line | Description | Amount |
|---|---|---|
| 1 | Groundworks and drainage, Plot 4 — labour | £8,400.00 |
| 2 | Materials supplied as part of the works | £3,600.00 |
| Net | Total excluding VAT | £12,000.00 |
| VAT | Domestic reverse charge @ 20% — not charged | £0.00 |
| Total | Amount due | £12,000.00 |
| Note | Reverse charge: VAT Act 1994 Section 55A applies. Customer to account to HMRC for VAT of £2,400.00 at 20%. | — |
Any of these wordings is accepted: reverse charge: VAT Act 1994 Section 55A applies; reverse charge: S55A VATA 94 applies; reverse charge: customer to pay the VAT to HMRC. If the software cannot print the VAT amount, customer to account to HMRC with the rate stated is acceptable.
Take the £12,000 invoice above. The two sides make quite different entries.
| Box | Subcontractor (supplier) | Contractor (customer) |
|---|---|---|
| Box 1 | Nil — no output tax on reverse charge sales | £2,400 output tax |
| Box 4 | — | £2,400 input tax, subject to the normal rules |
| Box 6 | £12,000 net sale | Nil — the purchase is not entered as a sale |
| Box 7 | — | £12,000 net purchase |
| Cash | Receives £12,000 | Pays £12,000, nets to nil on VAT |
The commonest posting error is the customer putting the net purchase into box 6 as well, which inflates declared turnover. The VAT payable is unaffected, so nothing looks wrong on the face of the return.
An older application of the same mechanism. Where a UK business receives a business-to-business service from a supplier outside the UK and the place of supply is the UK, the customer accounts for the VAT itself — acting, in HMRC's phrase, as if it were both supplier and recipient. Exempt services are outside it.
The entries are not the same as the construction version. For overseas services the full value goes into box 1 and box 6 as a sale, and into box 4 and box 7 as a purchase.
Before construction, the charge was introduced piecemeal against fraud in particular markets. At summary level:
Apart from phones and chips, none of these has a de minimis threshold.
Sage 50 Accounts from v26 onwards carries two dedicated codes: T21 for the CIS reverse charge at standard rate and T26 at reduced rate. Both are used by subcontractors on sales and contractors on purchases, and either can be set as a customer's or supplier's default. Overseas services use different codes again. Sage tax codes are configurable, so check the tax code list in your own installation rather than a remembered number — more on that in our reference on Sage VAT codes.
Xero provides dedicated domestic reverse charge rates at 20% and 5%, with separate rates for VAT on income and VAT on expenses, and they may need switching on in the VAT rate list first. Picking the income rate on a bill, or the expenses rate on a sales invoice, puts the figure on the wrong side of the return. Xero's reverse charge rates for overseas services are separate again and not interchangeable with the construction ones.
Three failures account for nearly all of it.
Charging VAT when the reverse charge applied. The supplier collects VAT it had no business collecting; the customer reclaims input tax that was never properly charged. HMRC can disallow the reclaim, leaving the customer out of pocket and chasing a credit note from a supplier who may no longer be trading. It repeats on every invoice on the contract.
Not applying it when it did apply. The customer has under-declared output tax in box 1. Where input tax is fully recoverable the net VAT is the same, so no tax is at stake, but the return is wrong and an error correction is needed.
Cash flow for subcontractors. This is the one that actually hurts. A subcontractor used to receive VAT on every invoice and hold it until the quarter end — a standing, interest-free working capital float. The reverse charge removes it. Gross receipts fall by a fifth overnight while the wage bill does not, and subcontractors buying materials with VAT on them can tip into permanent repayment positions. HMRC's answer is to apply to move to monthly returns through the online VAT account, which brings the repayment forward but does nothing about the lost float.
This is a general reference and not advice on a specific transaction. Whether the reverse charge applies turns on the facts of the particular supply and the written position between the parties, and where it is genuinely uncertain it is worth confirming before the first invoice is raised. We prepare VAT returns, management accounts, statutory accounts and Corporation Tax on Xero and Sage for owner-managed companies; we do not do audit or specialist tax advice, and those are referred to a specialist firm.
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