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VAT Reverse Charge: Assessing the impact on cash flow

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Having already been delayed twice, the VAT reverse charge will finally come into force for those within the building and construction sector on 1 March 2021. This will see the way in which some companies operating within the industry change the way they handle, invoice and pay VAT.

Affecting certain construction services, as well as materials which are to be directly used as part of these services, the implementation of the VAT reverse charge rules means those who supply certain construction services will no longer be responsible for accounting for the VAT. Instead, the onus for handling and paying the VAT to HMRC will lie with the customer/main contractor. In simple terms, subcontractors will no longer collect VAT and this will be done instead by the contractor employing them.

This will transform the way the construction industry handles tax, and it could result in having a significant impact on cash flow.

Cash flow is king

While main contractors may notice a boost to their cash flow due to not having to pay VAT to subcontractors and then reclaim it from HMRC, subcontractors are likely to be negatively impacted.

As invoices which fall within the reverse charge rules will not include VAT, some subcontractors could see 20% being stripped from their incoming funds as a direct result of these changes, money which may have previously been used to assist with cash flow ahead of the quarterly VAT return. Cash flow is the lifeblood of any business, and once this starts to become squeezed the situation can quickly escalate.

Many subcontractors will not have sufficient retained profits and cash to fund this position, due to the unpredictable nature of their business.

If you anticipate that the upcoming VAT reverse charge could threaten to restrict the money flowing into your business, the prudent thing is to take action ahead of time before cash flow has a chance to become severely compromised. BTG Advisory can assist with financing or restructuring options to ensure your business is in the best possible position to deal with these changes.

Restructuring and refinancing

Many subcontractors will be able to adapt to these changes in the fullness of time, but some adjustment to how the business is funded in the short- to medium-term may be required while their cash flow catches up to the new way of operating. A process of restructuring can ensure the business is operating in the most efficient and cost-effective way possible.

Restructuring is not limited to distressed companies, rather it is a tool which can be implemented when a need for change has been highlighted. This could be a result of financial concerns within the business, but it may also be due to macro and micro-economic factors which have the potential to change the way a company does business, including political issues such as Brexit or a global crisis such as Covid-19, or the implementation of new tax policies, as is the case with the VAT reverse charge.

Liquidity issues can be mitigated by obtaining new flexible channels of funding, or else refinancing existing borrowing to ensure lending is being done in the most cost-effective way possible. Refinancing costly loans could result in a welcome cut in outgoings, while injecting new funds into the business through securing a new credit arrangement could immediately reinvigorate cash flow.

The combination of Brexit, Covid-19, and the VAT reverse charge has had a seismic impact on construction companies over the past 12 months. And, as the world in which you operate changes, it is important to ensure that your company is structured in a way which takes into account the changes to the economy and it is suited to both its present and future needs. 

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