Should your charity choose a “design and build” contract?

Zero-rated building services

If you are a charity and are constructing a new charitable building from bare land, the building services you receive will be zero-rated. A condition of the zero-rating is that you must issue a certificate to your chosen builder to confirm your charitable use of the building. The zero-rating extends to materials supplied by your builder as part of their work. The zero-rating is important because if you are using the new building for your charitable activities, there is no scope to claim input tax on your construction costs because it is a non-business project.

Trap. If you provide building services to charities, be clear that zero-rating only applies if you are the main contractor working for the charity. Services provided by your subcontractors to you are always standard-rated. This is because only you will be issued with the necessary certificate from the charity to support your zero-rating.

Professional fees

Charities are often disappointed when professionals, such as architects, project managers, surveyors, consultants and supervisors charge 20% VAT on their invoices. But they are correct to do this because only direct construction services qualify for zero-rating, e.g. work carried out by plumbers, carpenters, bricklayers and electricians. Professional fees are always standard-rated.

As explained above, the VAT charged to your charity on these fees cannot be claimed as input tax, even if your charity is VAT registered, because the costs do not relate to your taxable sales. The VAT-inclusive amount of the fees is therefore the cost that you will charge to your balance sheet or project cost ledger.

Trap. If you cease to use the charitable building for its charitable activities within ten years of the completion date, either by sale, subletting or change of use, it might need to treat some of the zero-rated building services as taxable with a self-supply charge.

Design and build contract?

Tip. There is a possible solution to avoid a VAT loss on your charity’s professional fees and that is to engage your chosen building contractor on a “design and build” basis. This means that the professionals will be engaged by the contractor, and they will issue sales invoices to this contractor for their work. The contractor will claim input tax and make an onward zero-rated supply for design and build services to your charity. The design element follows the same VAT liability as the building work, i.e. it forms part of a single zero-rated supply.

Trap. The potential problem with this arrangement is that the professionals are being engaged by the builder - this might create a commercial conflict of interest in some cases. You will also need to ensure that the contractor does not apply a mark-up of 20% or more on the recharge of professional fees, otherwise your VAT saving will be lost.

Tip. To avoid a potential challenge from HMRC, the building contractor should ensure that the professional fees are treated as a cost component of the overall supply of building services and are not specifically supplied on to the customer.