Reverse charge in construction industry

July 23, 2018

Reverse charge in construction industry

On 1 January 2017, the Act of 1 December 2016 was introduced on the Act amending the act on VAT and some other acts (Journal of Laws, item 2024), further referred to as: “the amending act”. This Act introduced a set of amendments in the Act of 11 March 2004 on VAT (Journal of Laws of 2016 item 710, as amended), further referred to as “the Act on VAT”.

The Art. 17 was amended defining entities considered as a tax payer in a certain transaction. Also the content of Appendix 11 was amended (concerning a list of goods referred to in art. 17, section 1 item 7). Also the Appendix 14 was added (concerning a list of services referred to in art. 17, section 1 item 8).

The purpose behind introduction of the act is tightening the VAT system and improvement of the tax collectability.

A tax liability date did not change but the entity obliged to settle the did change.

As a result of amendment of the art. 17 section 1 item 8 and addition of section 1h to art. 17 of the Act on VAT, if the 4 following conditions are met subsequently, purchasers become tax payers due to provision of construction works:

• the rendered service is one of the construction works listed in pos. 2-48 Appendix 14 to the Act on VAT,
• the service provider of the ta payer referred to in art. 15 whose sales are not relieved from tax pursuant to art. 113 section 1 and section 9,
• the service recipient is the tax payer referred to in art. 15, registered as an active VAT payer,
• the service provider renders services as a subcontractor.

Since January 2017, payers after considering the recipient status, have been invoicing construction services as follows:

• for natural persons not conducting business activity – a so called “domestic invoice”  – issued on general terms. A tax obligation of the seller starts with the date of service.
• for the general investor – a so called “invoice for construction services”. The tax liability date is the date of invoicing. The invoice shall not be issued later than 30 days from the date of service.
• for the general contractor, VAT payer – “invoice for construction services with reverse load”. A VAT payment obligation was shifted on the recipient.

Economical application

After introduction of amendments, entrepreneurs have met several practical issues and interpretation doubts.

The most common are:

a) Definition of subcontractor

The Act on VAT does not define this term. Therefore it shall be interpreted with the use of a common meaning resulting from linguistic interpretation.

„subcontractor – is a company or a person performing work ordered by the general contractor”.

The case becomes more complex in case of creating and settling groups of companies performing construction orders.

The Ministry has explained that depending on the solutions, members of the group of companies are subcontractors of the leader or direst contractors towards the ordering party. The Ministry explains that if a content of the agreement concluded by a group of companies says that each member is assigned with a particular scope of construction works, performs these works directly on behalf of the investor, settles the performed works separately with the investor, then it shall be acknowledged that each member is a direct provider of services ordered by the investor. The reverse charge mechanism is not applicable in this case, whereas general terms will be applicable here. Each tax payer shall issue an invoice with a VAT amount and settle it in his statement.

In other case referred to by the Ministry, one of the members represent the whole group of companies before the investor – in business contacts it is an entity issuing invoices for services executed by the group of companies, is responsible for the quality and timeliness of rendered services, collects payments, i.e. serves the role of a leader of the group of companies. In such case, as the Ministry explains, other members shall apply reverse charge, i.e. issue an invoice without VAT.

The Ministry reserves that all groups of companies have an individual character of business practice. Due to this fact, the evaluation related with VAT settlement obligation for services rendered by members, shall be made basing on the analysis of all circumstances occurring in each, particular and individual situation.

b) Comprehensive service – delivery of goods along with installation or assembly.

In such situation, despite of executing both actions within one contract (e.g. demolition of construction along with transportation service), appropriate tax rules shall be applied for each service individually or only for this service which is of the highest importance. Sometimes it happens that subcontractors offer general contractors a division of provision for delivery of materials (with a standard VAT settlement) and construction service (with reverse VAT).

c) Financial liquidity.

A lack of obligation of adding VAT to services sold by the subcontractors results in a necessity of temporary financing of a tax paid in a price of purchased goods and materials. The entrepreneur can apply to the tax office for a return within 60 days period, but it is related with a possible tax investigation and prolongs the time of return of the already paid VAT.

Major entrepreneurs try to shift forward the payment due dates for goods purchased from suppliers. There are also ideas concerning division and creation of new business entities. One specializing only in services without VAT and the other sells construction materials with VAT.

Some tax payers purchase construction materials in EU paying a net amount.

d) Polish Classification of Goods and Services

Tax payers which are not certain about classification of services they render, have a possibility of applying for an opinion to the Tax Office in Lodz. However, practically such an opinion may be worthless considering the goal which many entities would like to achieve. A key factor is that the Central Statistical Office does not consider VAT specific features when issuing its opinion. For CSO, a term of comprehensive services, i.e. services consisting of a series of partial benefits, including main benefit, considered in terms of VAT as one service – is unknown. Therefore, after obtaining a classification decision it is also worth to apply to the Head of the National Tax Information for issuance of interpretation of tax law regulations which can be useful in case of a possible tax investigation.

Positive results of the introduced solutions

• Improvement of financial liquidity of the general contractors who will receive invoices without VAT from subcontractors. Therefore he will bear net costs of his services.
• Tightening of tax system and limiting irregularities and frauds within this area.

Negative results of the introduced solutions

• Worsening of the financial situation – financial liquidity of many small and medium construction companies. Many companies try to shift costs resulting from reverse charge mechanism on private and public investors what results in increasing prices. Worsening of financial situation of small and medium companies resulted in a decrease of its number in public tenders for the benefit of large companies. A growing number of companies purchasing construction materials abroad, caused worse situation of local manufacturers and wholesalers.
• Interpretation issues (subcontractor, comprehensive service, classification of benefits) introduces uncertainty concerning methods of settlement between business entities exposing them to a real risk of tax irregularities and punitive sanctions.
• Increase of legal and tax service costs forced by the necessity of analyzing regulations, applying for individual tax interpretations, dividing entities, creating new entities, etc.
• Growing number of applications for VAT return, more tax investigations, increasing time of tax return.

Summary

After the analysis of results of the introduced solutions and time which has lapsed since introduction of amendments, it can be stated that the reverse charge brought more economical damages than benefits. These amendments have a negative impact on financial situation of small and medium construction companies. Turnover of construction wholesale stores located in border voivodeships on the south-west of the country decreased. Companies try to shift constantly growing costs of conducting business activity on investors, what results in growth of prices for construction services. Questions about for which services and when to apply a reverse charge procedure accumulate. Costs of legal and tax services related with a necessity of interpretation of imprecise tax regulations and necessity of adaptation of the existing agreements to the current conditions. Improper settlement of transactions covered by the regulation can expose entrepreneurs to additional costs and punitive sanctions.

Pursuant to announcements of the Ministry of Finance, from the beginning of the year 2019 we can except liquidation of the reverse charge in construction industry due to introduction of the VAT split-payment.

Tags definition of subcontractor, Polish Classification of Goods and Services, reverse charge in construction industry