Design and build arrangements for VAT - maintaining integrity

As social housing providers – together with the charitable and not-for-profit sector, seek to optimise VAT supply chain efficiencies – the use of design, and build structures remains popular. But this means that there has been corresponding activity on the part of HMRC looking into the integrity of these structures. We have also identified that as HMRC personnel return from Covid or Brexit redeployment, the level of traditional HMRC VAT audit activity has increased exponentially. This HMRC “interest” can result in detailed investigations, with lengthy correspondence and in some cases the denial of VAT claims.

This article will explore the potential pitfalls of design and build arrangements alongside recommendations for preserving their integrity and protecting VAT recovery.

What is a design and build arrangement?

The construction of new homes is zero-rated for VAT purposes, as is the construction of new relevant residential buildings such as care homes and new relevant charitable buildings used for non-business purposes.

However, there are still circumstances where VAT is chargeable in the supply chain for these developments. As many of the building owners will not be able to recover this VAT, due to making exempt or non-business use of the property, this extra VAT represents a further financial burden.

In the case of new homes, only the supply and fit of building materials can be zero-rated. This means VAT may be incurred on the professional services of architects, surveyors, project managers etc. Where the building owner is a housing association making exempt supplies of residential letting this will be irrecoverable.

Similarly with new care homes or charitable buildings, the VAT on professional services will represent a sticking cost as the provision of residential care is a VAT exempt activity or in the case of a charity, the property may be used for non-business purposes, such as a place of worship.

To mitigate this, some organisations set up a separately VAT registered design and build company. This company is then interposed in the supply chain between the various suppliers and the property owner. Its remit is to provide a comprehensive design and build service. In order to do so it contracts directly with third party suppliers for the provision of professional and construction services and makes a single supply of zero-rated design and build services to the housing association/charity. The design and build company can recover VAT incurred on professional fees as relating to an onward taxable (albeit zero-rated) supply, thus the potentially irrecoverable VAT is “absorbed”.

Potential pitfalls

Design and build arrangements are generally recognised and accepted by HMRC, provided they are implemented effectively and based on sound commercial practices. Unfortunately, this often falls by the wayside, particularly when supplies are being made between associated entities, and more often than not, when there is a loss of corporate memory. This can lead to HMRC to challenge arrangements which, in their opinion, fall short.

As well as agreements between the design and build company and third party providers. Key features which are often overlooked include:

  • Ensuring that the contracts are in place. We would expect as a minimum for there to be:
    • Design and build agreement between the design and build company and the registered provider.
    • Funding agreement between the registered provider and the design and build company.
    • Service level support agreement between the registered provider and the design and build company .
  • That the design and build company has access to adequate funding.
  • Invoices are issued and payment made.
  • A percentage uplift is applied, so that a profit is realised in the hands of the D&B Co.
  • The transactions are included in the statutory accounts.
  • Any overheads or administration costs incurred by the main organisation are recharged back to the design and build company.
  • Day to day governance procedures are in place.

In essence the design and build company is required to act as if it is a third party supplier to its associated entity. Failure to attend to the arms-length detail of the arrangements leave it open to challenge by HMRC as a “sham”. It cannot be simply a paper trail.

Why getting it right matters

If HMRC consider that a particular arrangement does not reflect commercial practices, they may seek to “unravel” the supply chain, effectively removing the design and build company from the equation with the result that VAT on the professional services becomes an irrecoverable cost to the property owner. Additionally, penalties and interest may be imposed on what HMRC consider overclaimed VAT by the design and build company.


We strongly encourage organisations considering these arrangements to ensure the aforementioned commercial elements are in place to maintain the operational integrity of the structure. Regular reviews and provision of training for the staff involved in implementation, so the rationale behind the structure is understood, should give optimal protection against HMRC scrutiny.

Please get in touch with the RSM team if you wish to check whether there are any risks with your arrangements.


RSM is a leading provider of audit, tax and consulting services, with around 3,800 partners and staff in the UK. We're working with our tax advisors RSM to help shape government policy on taxation as it affects the sector and to keep housing associations informed of key issues.

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