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How does the reverse charge in construction work?

The reverse charge in construction obliges the recipient of the goods or services to charge VAT and declare it to the Treasury

Every time we buy products or contract services, we pay taxes. However, at the time of the transaction, we are often not aware of it. Why is that? It is not up to us to declare it and pay it to the Treasury. But there are several situations in which this task does fall to the taxpayer, as in the case of the reverse charge in construction.

Value Added Tax, popularly known as VAT, is the most popular of the indirect taxes: those levied on consumption and are the same for everyone, regardless of their economic capacity. In 2022, the Treasury collected more than 75 billion euros thanks to this tax. A figure that set a record. But who collected them?

Usually, those in charge of collecting and transferring to the Tax Agency this tax are the suppliers of the goods or services. After all, it would not be operational for people to register the VAT on each product they purchase and then remit it to the Inland Revenue. However, there are some exceptions in which the consumers assume this obligation.

What is the reverse charge?

It is only possible to understand reverse charge in construction by first understanding what reverse charge is.

This mechanism reverses the roles of the supplier and the customer. In a normal transaction, the taxpayer (the one who pays the tax) is the customer, and the taxpayer (the one obligated to transfer the money to the active taxpayer) is the supplier. But when the reverse charge is activated, the customer is both taxpayer and the taxable person simultaneously.

This has many consequences. To begin with, the supplier will only collect the taxable amount, and the invoice he issues to the customer will not include VAT. But, in addition, he has to state this on the invoice itself, indicating in writing that the transaction has been carried out through reverse charge, following article 84.1.2º of Law 37/1992, of December 28, 1992, on Value Added Tax (VAT).

The beneficiary of the good or service is, therefore, the one who has to charge this tax to himself and later pay it to the Treasury. However, this is a rare situation: there are a series of conditions for this to occur. In all of them, the invoice recipient must be a professional exercising his activity. Under no circumstances could an ordinary person buying a product become the taxable person.

A look at the legislation

What legislation regulates this mechanism? As we have seen above, Law 37/1992, of December 28, 1992, on Value Added Tax directly affects these matters. And more specifically, Article 84 details all the cases in which it would operate.

One of these cases is the reverse charge in construction. This is regulated in letter f), where it is indicated that this figure will be activated in the execution of works, with or without the contribution of materials, as well as the assignment of personnel for their execution, when the object of the contract is the urbanization of land or the construction or rehabilitation of buildings.

The article also specifies that this only applies to contracts directly between the developer and the contractor or between the main contractor and other subcontractors. The rest of the contracts, even if they are related to the execution of works, would not work with the reverse charge in construction.

Construction work or land development are some of the cases in which the reverse charge comes into effect

Clarifying the terminology

To understand the reverse charge in construction, it is necessary to emphasize three of the concepts mentioned by the law: the execution of works, buildings and the urbanization of land.

Construction works are all those contracts in which the execution of work is commissioned in exchange for a consideration, whether to build, remodel, extend or improve a building.

Buildings are all those constructions permanently attached to the ground or other real estate that may be erected on the surface or underground. Some common examples of buildings are buildings, ports, airports, oil platforms, roads, highways, bridges, tunnels, and dams…

Finally, urbanization of land includes all works related to water drainage, water supply, electricity supply, telephone installations, gas distribution networks, streets, accesses and sidewalks.

An example of the reverse charge in construction

Suppose, for example, a construction company erecting a commercial building decides to subcontract the painting work. The painter issues an invoice to the construction company, which would fall under the reverse charge in construction, and would not have to include VAT.

At the same time, the builder issues an invoice to the developer who has commissioned him to carry out the work. And, as it also complies with the requirements of the reverse charge in construction, this second invoice does not include VAT either.

Who is then responsible for paying this tax? Although all the actors involved must register the operation, the construction company and the developer are the ones who have to charge the VAT and pay the corresponding amount to the Treasury. The former is for contracting the painting works, and the latter is for contracting the execution of the work.

Later, it is time for the taxpayers to face their tax obligations. And for it, they have to fill in form 303, which is delivered to the Tax Agency quarterly and through which the business people pay the VAT and deduct it if they are entitled to it. In addition, the invoice issuer also has to fill in certain boxes, but only for information purposes, as he is not liable to pay anything.

At the end of the year, all three must fill in form 390, which is considered the annual equivalent of the previous document and in which all the operations carried out during the year are recorded.

Although this mechanism is not very present in the daily life of ordinary citizens or savers who invest in alternative financing platforms, it does occur quite frequently in the construction sector.

Therefore, everyone in this sector must know how to act when faced with the reverse charge in construction since an erroneous declaration could lead to penalties by the authorities.

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