CIS Payment and Deduction Statement (England & Wales)

The Construction Industry Scheme (CIS) is a tax deduction system operated by HM Revenue & Customs (HMRC) under the Finance Act 2004 ss.57–77 and administered through the Income Tax (Construction Industry Scheme) Regulations 2005. It applies to contractors who make payments to subcontractors for construction operations in the United Kingdom. Under CIS, contractors must register with HMRC, verify subcontractors' CIS registration status before making the first payment, and deduct an amount from each payment to a subcontractor. The deducted amount is then paid directly to HMRC as an advance payment towards the subcontractor's income tax and National Insurance Contributions (NICs) liability. A 'contractor' for CIS purposes includes not only traditional building contractors but also any business that spends more than £3 million on construction operations in any 12-month period (the 'deemed contractor' threshold under s.59 of the Finance Act 2004). Local authorities, housing associations, and large businesses can all fall within this definition. A 'subcontractor' is any person or business that carries out construction operations under a contract with a contractor. 'Construction operations' are broadly defined under s.74 of the Finance Act 2004 to include building, alteration, repair, extension, demolition, installation of heating, lighting, power, and telecommunications systems, internal cleaning of buildings during construction, and certain civil engineering works including roads, railways, harbours, and waterways.

The Construction Industry Scheme applies three possible deduction rates, determined by the subcontractor's registration status as verified by the contractor with HMRC prior to making payment. The first rate is 0% (gross payment status). This applies where HMRC has specifically authorised the subcontractor to receive payments gross, without deduction. To qualify for gross payment status under s.64 of the Finance Act 2004, the subcontractor must meet a three-part test: (1) they must be registered for CIS; (2) they must have a satisfactory compliance record — meaning all tax returns, VAT returns, and payments have been made on time for the previous 12 months; and (3) their annual turnover from construction operations must be above a threshold (currently £30,000 for sole traders, £30,000 per partner for partnerships, and £30,000 per director for companies). HMRC reviews gross payment status annually and can remove it if the subcontractor's compliance record deteriorates. The second rate is 20% (standard rate). This applies to subcontractors who are registered with HMRC for CIS but have not been granted gross payment status. Most registered subcontractors fall into this category. The deduction is 20% of the labour element of the payment (i.e. the gross payment minus materials costs). The third rate is 30% (higher rate). This applies where the subcontractor is not registered with HMRC for CIS, or where the contractor has been unable to verify the subcontractor's registration status.

The CIS deduction is not calculated on the full gross payment — it is calculated only on the 'labour element' of the payment, which is the gross payment minus the direct cost of materials. This distinction is established by s.61(3) of the Finance Act 2004 and is explained in detail in HMRC CIS Guide CIS340.

Materials that can be excluded from the deduction base include: the direct cost of raw materials used in the construction operations (bricks, timber, steel, concrete, etc.); the cost of consumables used up in the process (welding rods, drill bits, fixings); hire of plant and equipment where the subcontractor is acting as a labour-only subcontractor and the contractor supplies the plant; and fuel for plant used on site. However, the exclusion only applies to the subcontractor's actual direct cost of materials — the contractor cannot simply accept the subcontractor's invoice face value without scrutiny. HMRC expects contractors to take reasonable steps to verify that materials claims are genuine and not inflated.

Costs that cannot be excluded from the deduction base (and therefore attract the CIS deduction) include: the labour cost itself (including the subcontractor's own mark-up or profit on labour); plant hire that is arranged as a convenience to the client rather than a genuine third-party hire cost; and any element that represents the subcontractor's general overheads or management fee. The calculation is therefore: CIS deduction = (gross payment − materials cost) × deduction rate. The net payment to the subcontractor is then: gross payment − CIS deduction.

Under regulation 4 of the Income Tax (Construction Industry Scheme) Regulations 2005, a contractor who makes a payment to a subcontractor from which a CIS deduction has been made is legally required to provide the subcontractor with a written Payment and Deduction Statement. This obligation exists whether the deduction rate is 20% or 30% — it does not arise where the subcontractor has gross payment status and no deduction is made (although some contractors voluntarily provide a nil-deduction statement as good practice). The statement must be provided no later than the 19th of the month following the tax month to which the payment relates. For example, a payment made in the tax month of 6 April to 5 May must be accompanied by a statement provided no later than 19 May. The statement must contain, as a minimum: the contractor's name and Unique Taxpayer Reference (UTR); the subcontractor's name and UTR; the HMRC verification reference number (the number provided by HMRC when the contractor verified the subcontractor's status); the gross amount of the payment; the amount representing the direct cost of materials; the amount of the CIS deduction; and the net amount paid. Failure to provide a CIS Payment and Deduction Statement on time can result in HMRC imposing penalties on the contractor. More critically, without the statement, the subcontractor cannot demonstrate to HMRC what CIS deductions they have suffered, which makes it impossible to obtain credit for the deductions against their income tax liability or to claim a refund.

For a subcontractor who is an individual or sole trader, the CIS deductions suffered during the tax year are offset against the income tax and Class 4 National Insurance Contributions due on the subcontractor's trading profits, as calculated in their annual Self Assessment tax return. If the total CIS deductions withheld exceed the subcontractor's actual tax liability for the year, HMRC will issue a repayment. The subcontractor must complete the Self Assessment return by 31 January following the end of the tax year (5 April) and declare both the gross income (before CIS deduction) and the total CIS deductions suffered during the year. HMRC cross-checks the subcontractor's declared CIS deductions against the monthly CIS returns submitted by contractors, which is why accurate record-keeping and timely submission of statements are critical. For a subcontractor that is a limited company, the CIS deductions are offset against the company's PAYE liabilities (including employer National Insurance Contributions and any income tax deducted from employees' wages). The company uses the CIS deductions to reduce its monthly PAYE payment to HMRC. If CIS deductions exceed PAYE liabilities in any month, the excess can be carried forward or reclaimed from HMRC. Companies must submit a monthly Employer Payment Summary (EPS) to HMRC declaring the CIS deductions suffered, rather than the usual Full Payment Submission process. This requires the company to maintain accurate records of all CIS Payment and Deduction Statements received from contractors throughout the year.

The interaction between CIS and VAT is a frequent source of confusion for contractors and subcontractors alike. The important principle is that the CIS deduction is calculated on the VAT-exclusive amount — VAT is never included in the deduction base. Where the subcontractor is VAT-registered, the sequence is: the contractor pays the VAT-exclusive amount of the invoice (after CIS deduction) plus the full VAT amount separately. The VAT is not subject to CIS deduction regardless of the deduction rate applied.

However, from 1 March 2021, the domestic reverse charge for VAT applies to most construction services within the scope of CIS (with certain exceptions, including supplies to end users and intermediary suppliers). Under the domestic reverse charge regime introduced by HMRC, the subcontractor does not charge VAT on their invoice to the contractor — instead, the contractor accounts for the VAT directly to HMRC (as both output tax and input tax, effectively netting off). This means that for many CIS transactions, the subcontractor's invoice will show a zero VAT charge with a note that the domestic reverse charge applies, and the contractor must account for the VAT. The CIS deduction is calculated on the labour element of the VAT-exclusive invoice amount in the usual way.

Contractors and subcontractors who are uncertain about their VAT and CIS position should consult a qualified tax adviser or contact the HMRC CIS helpline on 0300 200 3210. Errors in the interaction between CIS and VAT can result in penalties from HMRC for both parties.