The Construction Industry Scheme (CIS) is a government tax deduction scheme introduced in 1971 to clamp down on those workers in the industry trying to circumvent paying the correct tax (primarily income tax). The scheme has been updated several times to ensure that those within the industry are making the correct tax payments.
The scheme applies to payments made by businesses (confusingly, called Contractors) who are paying for construction work.
- Construction companies & property developers and;
- Any other type of business as long as that business/person has spent more than £1 million on construction work in the previous three accounting periods, Or a pro rata amount for new Contractors. This could apply to banks, local governments, NHS Trusts and retail businesses who have the need for construction work.
In essence, the CIS is a Tax deduction scheme which obliges Contractors to register with HMRC and deduct tax at source from payments due to be “made to construction workers going construction work (called “Sub-Contractors”). Deductions are not made from payments for materials.
The rate of tax deduction by the Contractor will depend on the tax status of the Sub-Contractor, who must also register with HMRC so that the Contractor can receive the appropriate information on how much to deduct. Under the scheme Contractors must deduct money payments and pass it to HMRC directly, thereby ensuring the correct tax is paid. Subcontractors with good tax records and who have registered can apply for “gross payment status”, so no tax deduction needs to be made by the Contractor and they will simply pay tax the normal time as part of self-assessment and suffer no cash low cost. Other Subcontractors who have registered with HMRC may have tax deducted at 20%. Those who have not registered at all with HMRC, will suffer the maximum deduction at source (30%).
In order to understand the CIS more fully we must define what is meant by the terms Contractor, Sub-Contractor and Employee.
- A Contractor is an independent business/business owner who pays subcontractors for construction work.
- Sub-contractors are businesses/people that carry out construction work for a Contractor. A Sub-contractor is a self-employed person whom Contractors pay to carry out construction work.
- Employee – an individual who works under a contract of employment or any other contract whether express or implied and can be oral or in writing. An employee has a long list of employment rights which the employer must honour.
The scheme doesn’t apply to payments made to employees of the Contractor as those are covered by Pay As You Earn (PAYE) system of deduction of tax at source. If the subcontractor is registered with the CIS and 30% if not.
What are the Advantages and Disadvantages of the scheme?
The advantages of the scheme are:
For the Contractor:
- They can be reassured that they will not be using the services of any subcontractor who is not paying the correct tax.
- They won’t be receiving any penalties by the government
For the Subcontractor:
- He knows he is competing on a level playing field with other subcontractors who are paying their taxes, and are not quoting lower fees to be paid on a cash basis
The disadvantages of the scheme are:
For the Contractor:
- The compliance cost-returns (even nil returns) – have to be filed once registered to avoid penalties
If you get the eligibility criteria wrong or fail to register for the scheme, then there can be large penalties incurred (up to £3000 per sub-contractor).
For the Subcontractor:
- The compliance cost
- Suffering the cash flow cost of tax being deducted at source. It’s best for compliant subcontractors to apply for gross payment status so they pay their taxes at the usual time.
In conclusion, the Construction Industry Scheme is the scheme which was established to restrict tax avoidance and evasion within the construction industry. It’s a scheme that needs careful compliance to avoid penalties and both Contractors and subcontractors do have to comply notwithstanding the compliance costs. For subcontractors, it’s important to secure gross payment status to avoid cash flow disadvantages. Both contractors and subcontractors should remember that where there are construction operations within the scheme, it should be checked whether the new domestic reverse charge for VAT (from 1st March 2021) also applies (whereby the subcontractor no longer charges VAT but the Contractor reverse charges the VAT instead).