The Construction Industry Scheme has long presented a headache for unwary landlords and tenants. From 6 April 2024 that is all set to change when the Income Tax (Construction Industry Scheme) (Amendment) Regulations 2024 come into force.
The new regulations amend the Income Tax (Construction Industry Scheme) Regulations 2005 and one of their policy objectives is “to simplify the criteria for payments from landlords to tenants being excepted from the CIS”.
An unintended headache
The CIS is a revenue protection scheme introduced to target the arena of cash-in-hand construction work. According to the government, it protects £8.6bn of tax revenue a year. The core feature is that it requires contractors to make deductions on payments made to subcontractors for construction work and account for it to HMRC. Deductions must be made at the rate of 20% or 30% (depending on the subcontractor’s CIS registration status) unless the subcontractor is registered to receive gross payments.
The issue was that the wide net cast by the CIS caught landlords and tenants in scenarios which many argue it was never intended to. Landlords were most at risk when they made contributions to tenants for works – a not uncommon scenario at the start of a tenancy. If the works went beyond an ordinary fit-out and the landlord would derive a benefit (for example an increase in the value of its interest) then the contribution payment often fell within the scope of the CIS. The compliance risk fell squarely on landlords, but tenants could also face unexpected cash flow issues as a result.
Since the introduction of the CIS, well-advised landlords and tenants have become adept at structuring new lettings so that the CIS did not bite – for example, additional rent-free periods or inducements without any tenant obligation to undertake works – but often the workarounds did not reflect the reality of the parties’ intentions and could leave landlords exposed if the works were not carried out. Of more concern was the number of normally tax-compliant businesses that inadvertently fell foul of the CIS, triggering penalties referable to the amount that should have been deducted.
An effective painkiller at last
Reform of the CIS was finally announced in the government’s Autumn Statement 2023, and the regulations enacted have evolved positively in response to feedback at the consultation stage. From 6 April 2024, payments made by landlords to tenants will be specifically excluded from the scope of the CIS if:
n the payment is for works obligations agreed in connection with a lease or an enforceable agreement for lease.
- the tenant that occupies or will occupy the property will carry out the works obligations itself or a third party will carry them out pursuant to a contract with the tenant.
- the payment relates to works intended primarily for the benefit and use of the tenant that occupies or will occupy the property under the lease.
The new regulations apply to payments made on or after 6 April 2024, regardless of when the underlying contract was entered into. This means that some payments will be due to tenants under older contracts which anticipated that tax would be withheld under the CIS. In those scenarios the parties should cooperate in order to take advantage of the simplification offered by the new regulations where possible. Where agreement cannot be reached, further advice may be required from a tax specialist as the application of the new regulations will depend on the circumstances of each case.
A residual health warning
The intention behind the new regulations is a welcome attempt at simplification and should remove most contribution payments from the scope of the CIS. However, care will need to be taken to ensure that payments do, in fact, fall within the new exemption. This is because there remains ambiguity around how works will be assessed to be “primarily for the benefit and use of the tenant”.
A tenant may agree as part of its fitting-out works to undertake work to the wider estate that will benefit others at least as much as the tenant – for example, resurfacing a car park. There may also be a longer-term benefit to the landlord from the tenant’s works, which might be considered to be the “primary” benefit. Each strand of the works will need to be assessed objectively to determine whether the exemption applies. Clear, unambiguous guidance from HMRC on such scenarios would be very welcome.
As a result, the new regulations still come with a health warning for the unwary landlord, but it is certainly a much less significant one.
Leigh Sayliss, chair of the Chartered Institute of Taxation’s property taxes committee, said of the new regulations: “We welcome the introduction of legislation aimed at removing the majority of landlord and tenant payments from the scope of the CIS, which is something we have been strongly calling for. We continue to press upon HMRC the need for clear guidance to the industry to enable the intended benefits of the new rules to be fully realised.”
For many years, tax advisers and their representative bodies have been calling on the government to reform the CIS. Some argued that all payments between landlords and tenants should be removed from its scope, but the government feared creating a loophole which could be exploited by those attempting to avoid the CIS.
The CIS therefore remains on the list of taxes to watch out for, but the government is to be commended for listening to the industry and introducing reforms that will reduce the administrative and financial burden on both landlords and tenants.
Laura Oliver is a partner in the real estate team and Malcolm Frost is a partner in the tax team at Clyde & Co LLP