What the domestic reverse charge means for a main contractor
The VAT domestic reverse charge (DRC) for construction services has been in force since 1 March 2021. Its effect on main contractors is the opposite of its effect on subcontractors: instead of subcontractors invoicing you with VAT and you paying them that VAT (then reclaiming it from HMRC on your VAT return), the DRC moves the accounting obligation to you. The subcontractor invoices you without VAT, and you account for the VAT to HMRC directly in your own return.
For most fully VAT-recovering businesses, the net cash effect is zero. You record the VAT as both output tax (box 1) and input tax (box 4) on the same return. The two entries cancel. However, the entries must still be made correctly, and getting them wrong, or missing a DRC supply entirely, can lead to VAT errors that HMRC will pick up on review.
This guide is written for the contractor audience: the party receiving the subcontractor's invoice. If you are a subcontractor trying to understand what to put on your invoice, read our complementary guide to VAT reverse charge for CIS subcontractors. For the general overview of how the DRC works across the supply chain, see the VAT domestic reverse charge construction guide.
The five conditions: all must be met
The DRC applies to a supply only when all five of the following conditions are satisfied. As the contractor, you are the customer in this analysis. If any condition is missing, your subcontractor should be charging VAT normally and you should be paying it.
| Condition | What it means for you as contractor |
|---|---|
| 1. Specified CIS service | The work must be a construction service caught by CIS: building, alteration, repair, extension, demolition, installation of heating, plumbing, electrical or ventilation systems, internal cleaning during construction, painting and decorating, and most civil engineering works. Design-only, surveying, and off-site manufactured components are excluded. |
| 2. Both parties VAT-registered | You and the subcontractor must both be registered for VAT. If either party is unregistered, normal VAT rules apply. |
| 3. Both parties CIS-registered | You and the subcontractor must both be registered under the Construction Industry Scheme. Verify your subcontractor's CIS status through the HMRC verification service before their first payment: this also satisfies one of the three due-diligence steps required from 6 April 2026 under Finance Act 2026. |
| 4. You are not the end user | The DRC applies only if you will supply the construction services on (for example, you are the main contractor packaging subcontract work into a larger contract). If you are consuming the building work yourself, you are the end user and the DRC does not apply. See the end-user section below. |
| 5. Standard-rated or reduced-rated supply | The work must attract standard VAT (20%) or reduced VAT (5%). Zero-rated supplies, most importantly new-build residential construction, are outside the DRC entirely. |
Keep written evidence that conditions 3 and 4 were satisfied at the time of each supply. If HMRC enquires, your file note or the subcontractor's written confirmation is far more defensible than a verbal understanding.
What you must do when the DRC applies
When you receive a valid reverse-charge invoice from a subcontractor, you take the following steps.
- Confirm the invoice is correct. A proper DRC invoice shows the net value of the work, no VAT charged to you, the VAT rate that would apply, the amount of VAT you are responsible for, and the reverse-charge legend (typically: "Reverse charge: customer to account for VAT to HMRC at the applicable rate on the VAT-exclusive price shown").
- Calculate the VAT you owe. Apply the stated VAT rate to the net invoice value. At 20%, a £5,000 net invoice carries £1,000 of VAT that you must account for.
- Make the VAT return entries. Record the £1,000 in box 1 (output tax due) and in box 4 (input tax recoverable, assuming full recovery). Record the net invoice value (£5,000) in box 7 (value of purchases). You do not adjust box 6 (value of sales) for this transaction.
- Pay the subcontractor the net amount, less any CIS deduction. The subcontractor is not owed the VAT element because you are accounting for it yourself. Apply the CIS deduction to the labour portion of the net invoice. See the worked example below.
VAT return entries: a summary
| VAT return box | What to record | Example (£5,000 net invoice, 20% VAT) |
|---|---|---|
| Box 1 (Output tax) | The VAT you are accounting for as recipient | £1,000 |
| Box 4 (Input tax) | The same VAT as recoverable input tax (if fully taxable) | £1,000 |
| Box 6 (Value of sales) | No adjustment for this DRC purchase | No change |
| Box 7 (Value of purchases) | The net value of the DRC purchase | £5,000 |
| Net VAT effect | Zero for a fully VAT-recovering business | £0 |
Worked example: contractor receives a £5,000 reverse-charge invoice
A plastering subcontractor (VAT-registered, CIS-registered, 20% CIS rate) carries out refurbishment work for a main contractor (VAT-registered, CIS-registered) on a commercial office block. All five DRC conditions are met. The subcontractor issues an invoice for £5,000 net: £3,200 labour and £1,800 materials.
VAT position
The subcontractor charges no VAT. The main contractor accounts for the VAT internally.
| Item | Amount |
|---|---|
| Net invoice (labour + materials) | £5,000 |
| VAT charged by subcontractor | £0 |
| VAT accounted for by contractor (20% of £5,000) | £1,000 |
| VAT in box 1 (output tax) | £1,000 |
| VAT in box 4 (input tax recovered) | £1,000 |
| Net VAT effect on contractor | £0 |
CIS deduction position
CIS applies to the labour element only. The labour is £3,200. The CIS deduction at 20% is £640.
| Item | Amount |
|---|---|
| Labour element of invoice | £3,200 |
| Materials element of invoice | £1,800 |
| CIS deduction (20% of £3,200 labour) | £640 |
| Payment to subcontractor (£5,000 minus £640) | £4,360 |
| CIS deduction remitted to HMRC | £640 |
The subcontractor receives £4,360. The contractor accounts for £1,000 VAT in their own return (net effect nil), remits £640 CIS to HMRC, and reports the payment on their monthly CIS300 return. For more on how CIS deductions and invoice splitting work, see our guide to CIS invoice splitting: labour and materials.
The end-user exception: when DRC does not apply to you
The most widely misunderstood aspect of the DRC is the end-user exception. Many contractors assume that because they are the "contractor" in CIS terms, the DRC automatically applies to supplies made to them. That is not correct. What matters is whether you will consume the building work yourself, not your CIS registration status.
You are the end user (and the DRC does not apply) if you are:
- A property owner commissioning work on your own building (whether owner-occupied, let, or used in your own business).
- A tenant fitting out or refurbishing your own leasehold premises.
- A property developer building for your own portfolio, to let or to sell as finished units. You are incorporating the construction services into a finished product you own. You do not sell construction services onward.
- A company constructing a new facility for its own business use.
In each case, your subcontractor should charge you VAT in the normal way. The DRC applies only where the customer is making an onward supply of construction services. A main contractor who has taken on a construction contract and engages subcontractors to fulfil it is not an end user: they are selling construction services onward to the principal. That is the scenario where the DRC applies between the main contractor and the sub.
Do not conflate the CIS distinction between contractor and subcontractor with the end-user test. They measure different things. A large property developer can be simultaneously a CIS-registered deemed contractor (for CIS purposes, because they spend over £3 million a year on construction work) and an end user (for DRC purposes, because they do not sell construction services onward). In that scenario, their subcontractors must charge VAT normally, even though the developer is in the CIS system.
How to handle an incorrect invoice from your subcontractor
Two types of error occur regularly in practice.
Subcontractor charges VAT when DRC should apply. The subcontractor has added 20% VAT to an invoice that should have been reverse-charge. You should not pay the VAT element and should not reclaim it as input tax (HMRC may disallow it). Contact the subcontractor and ask them to issue a corrected invoice with a reverse-charge legend. If VAT has already been paid by mistake, a credit note and revised invoice is the correct route. Keep records of the correction process.
Subcontractor issues no VAT when they should have charged it (DRC does not actually apply). This typically happens when the customer is the end user but the subcontractor applies the DRC anyway. In this case, the subcontractor should issue a corrected invoice charging VAT, and you should pay it. End-user status is worth clarifying in writing at the outset of a relationship to avoid this situation.
Coding DRC in accounting software
Most accounting software used by CIS contractors handles the DRC through a specific tax code or purchase type. The general approach is the same across platforms: you select the DRC tax code when posting the purchase, and the software automatically generates the offsetting entries in boxes 1, 4 and 7 of the VAT return.
- Xero: Use the "Reverse Charge Expenses" tax rate when coding DRC purchases. Xero posts the VAT to both output and input tax automatically.
- QuickBooks: Select "Domestic Reverse Charge" as the VAT code on the bill. QuickBooks generates the box 1 and box 4 entries without a separate manual step.
- Sage: Use the T21 tax code for purchases subject to the DRC. Sage 50 and Sage Accounting both apply the reverse entries automatically when T21 is selected.
- FreeAgent: Use the "Reverse charge" VAT rate when entering purchase bills. FreeAgent populates the relevant return boxes.
Always check that your software version is up to date and that the tax code is correctly set up in your chart of accounts before relying on the automation. Miscoded DRC transactions are a frequent cause of VAT return errors.
The 5% de minimis rule
Where an invoice mixes DRC-applicable CIS services with other supplies, the 5% de minimis threshold determines whether the DRC applies at all. If the value of the DRC-applicable element is 5% or less of the total invoice value, normal VAT rules apply to the whole invoice and the DRC is ignored.
Example: a subcontractor invoices you £18,000 for supply and installation of pre-fabricated structural steelwork. £17,200 relates to the off-site manufactured components (excluded from CIS and therefore from the DRC) and £800 relates to on-site fixing labour (a specified CIS service). The fixing element is £800 divided by £18,000, which equals 4.4%. Since 4.4% is below 5%, the de minimis applies and the subcontractor charges you VAT at 20% on the full invoice in the normal way. No DRC entries are needed.
If the fixing element were £950, the calculation would be £950 divided by £18,000, which equals 5.28%. Now the de minimis does not apply. The DRC applies to the CIS portion of the invoice. In practice this means the subcontractor would need to split the invoice into the DRC element and the normal VAT element, or restructure their invoicing to reflect the different treatments clearly.
April 2026 due diligence and the DRC connection
Finance Act 2026, which received Royal Assent on 18 March 2026, introduced tightened GPS anti-fraud rules in force from 6 April 2026. One of the three due-diligence steps required before every subcontractor payment is verifying the subcontractor's CIS status through HMRC's verification service. This step also satisfies condition 3 of the DRC five-condition test (both parties CIS-registered). The two compliance regimes now overlap: your monthly subcontractor verification routine directly reduces the risk of DRC errors as well as protecting your Gross Payment Status.
For the full picture on contractor monthly obligations, including CIS300 filing and the April 2026 nil-return reinstatement, see our guide to CIS contractor monthly responsibilities.
Practical checklist before processing a DRC invoice
- Confirm the work is a specified CIS service (not design-only or off-site manufacture).
- Confirm you are VAT-registered.
- Confirm the subcontractor is VAT-registered (check their VAT number on the invoice).
- Confirm the subcontractor is CIS-registered (verify with HMRC; record the verification reference and date).
- Confirm you are not the end user. If there is doubt, document your position in writing.
- Confirm the supply is standard-rated or reduced-rated (not zero-rated new-build).
- Check whether the DRC element of a mixed invoice exceeds 5% of the total. If not, normal VAT applies.
- Code the purchase correctly in your accounting software using the DRC tax code.
- Make the CIS deduction on the labour element and report the payment on your next CIS300 return.
If you are dealing with complex supply chains, mixed-use developments, or situations where end-user status is genuinely ambiguous, specialist CIS accounting support is the right approach. You can also use our CIS invoice splitter calculator to verify that your labour-materials split and deduction calculation are correct before payment.