The government believes it can raise £300m previously lost to fraud through a rule change for subcontractors claiming gross payment status via the construction industry scheme (CIS).
Under CIS, subcontractors that have gross payment status can receive payments with no tax deducted at source.
But the government says organised criminals have been exploiting this by collecting the money and then not paying the required tax.
From April, subcontractors with gross payment status will need to show that they are VAT-compliant.
Exchequer secretary Gareth Davies told Parliament: “The construction industry scheme requires contractors to withhold tax unless a subcontractor holds gross payment status.
“Most gross payment status-holders are legitimate and compliant construction businesses but, in recent years, gross payment status has been used by organised crime organisations to facilitate fraud.
“This allows unscrupulous actors to compete unfairly against legitimate businesses.”
He added that a measure in the new Finance Bill would add VAT to the list of tax rules that subcontractors need to show that they comply with. “This measure is predicted to raise around £300m over the next five years,” he said.
CIS, a standalone self-employment tax scheme, was introduced in the 1970s in a bid to prevent tax evasion.
Unions have called it a means of bogus self-employment, as employers are not required to pay standard rates of National Insurance for those paid through the scheme.
A consultation paper released in November said that HMRC compliance staff looking at labour fraud in construction had “identified evidence of consistent [gross payment status] fraud where organised criminal groups use false invoices to pass payments down contrived supply chains from contractors, down through multiple subcontractors. This causes losses to the exchequer of the CIS deductions and VAT.”
Tracey Wright, head of tax at law firm Osborne Clarke, told Construction News: “When CIS was introduced, the Inland Revenue (IR) and Customs & Excise (C&E) were separate entities, so the compliance test was on the tax dealt with by IR and not VAT, which was under C&E.
“Clearly we have had HMRC, the merged entity, for many years now and this is a change to bring VAT into the compliance test. It also brings in the right to remove gross payment status if there are VAT-compliance failures or fraud.”
She said those seeking to defraud the system might be caught more easily if they have to show they are compliant with VAT rules.
An HMRC spokesperson said that CIS applications would also go digital in future.
In 2021, the government introduced the domestic reverse charge, also designed to combat VAT fraud, which meant subcontractors covered by CIS would no longer collect VAT payments from customers and pass them on to HMRC, with only principal contractors doing so.
The move was described as hitting the short-term cashflows of subcontractors, but the Treasury said it would bring in £100m of extra revenue a year previously lost to fraud.