The Construction Industry Scheme, usually called CIS, changes how many contractors pay subcontractors in the UK construction sector.
Instead of paying the full amount of an invoice, a contractor may have to deduct part of the payment and send that money to HMRC. The subcontractor then receives the balance and normally receives credit for the CIS deductions against their own tax liabilities.
The basic principle is simple. The accounting can become less simple.
Problems often arise because businesses apply CIS to the wrong amount, deduct from materials incorrectly, use the wrong rate, fail to verify subcontractors or cannot reconcile CIS statements with invoices and bank payments.
For contractors, mistakes can lead to incorrect returns and penalties. For subcontractors, poor records can mean missing tax credits or unexplained differences in the accounts.
This guide explains how CIS deductions work and what both sides should do to keep the figures correct.
What Is a CIS Deduction
Under CIS, contractors deduct money from certain payments made to subcontractors carrying out construction work and pay those deductions to HMRC.
The deduction is not an extra tax charged on top of the subcontractor’s income.
Instead, it normally acts as an advance payment towards the subcontractor’s tax and National Insurance position.
This distinction is important for bookkeeping.
Suppose a subcontractor invoices £5,000 before VAT and has £800 deducted under CIS. The business should not simply record £4,200 as turnover because that is what arrived in the bank.
The gross amount remains relevant as income. The £800 deduction is recorded separately as CIS suffered.
Otherwise, turnover and tax credits can both be misstated.
Who Has to Operate CIS
A business generally needs to register as a CIS contractor if it pays subcontractors for construction work.
CIS can also apply to businesses whose main activity is not construction. A business can become a deemed contractor where its construction expenditure exceeds £3 million within the relevant 12-month period.
Subcontractors can include sole traders, partnerships and limited companies.
Before making payments, the contractor also needs to consider whether the working relationship is genuinely one of self-employment. CIS does not turn an employee into a subcontractor simply because the business chooses to pay them through the scheme.
That classification issue can create PAYE and employment tax problems if handled incorrectly.
Our wider guide to CIS Accounting Explained: What UK Builders Must Know looks at the broader responsibilities involved in operating the scheme.
What CIS Deduction Rate Should Be Used
There are three possible outcomes when a contractor verifies a subcontractor.
| Status | CIS treatment |
|---|---|
|
Registered and successfully verified |
20% deduction |
|
Not registered or cannot be verified |
30% deduction |
|
Approved for Gross Payment Status |
No CIS deduction |
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Before paying a new subcontractor, the contractor should verify them with HMRC. HMRC then confirms whether the subcontractor should be paid gross or whether deductions should be made at 20% or 30%.
Contractors may also need to verify a subcontractor again if they have not included that subcontractor on a CIS return during the current or previous two tax years.
Using the correct details matters.
The subcontractor’s name, UTR and other identifying information should match HMRC’s records. A verification failure can otherwise result in the higher 30% deduction being applied.
CIS Is Not Usually Deducted From the Entire Invoice
This is one of the most common areas of confusion.
CIS is generally calculated on the relevant payment for construction work after excluding certain qualifying amounts, rather than simply taking 20% or 30% of the invoice total.
VAT charged by a VAT-registered subcontractor is excluded when determining the amount subject to the CIS deduction.
Certain direct material costs can also be excluded. HMRC’s guidance states that deductions are made only from the part of the payment that does not represent qualifying materials directly paid for by the subcontractor.
Qualifying exclusions can include direct costs for materials, consumable stores, qualifying plant hire and manufacture or prefabrication costs.
However, travel and subsistence are generally not treated as materials for this purpose.
Example of a CIS Deduction
Suppose a VAT-registered subcontractor invoices:
- Labour: £4,000
- Materials directly purchased: £1,000
- VAT: £1,000
Total invoice: £6,000
For CIS purposes, VAT is first excluded.
That leaves £5,000.
The £1,000 qualifying materials cost is then removed, leaving £4,000 subject to CIS.
At a 20% rate:
£4,000 × 20% = £800 CIS deduction
The contractor therefore pays:
£6,000 – £800 = £5,200
The contractor then pays the £800 CIS deduction to HMRC through the appropriate process.
The important accounting point is that the subcontractor has still generated £5,000 of net sales before VAT. The £800 is not a reduction in turnover.
Contractors Must Check Material Costs
A subcontractor cannot simply label a large part of an invoice as “materials” to reduce the CIS deduction.
HMRC expects contractors to check that material amounts are reasonable and to retain appropriate records. The contractor can request evidence of the subcontractor’s actual direct cost.
Only materials directly purchased by that subcontractor for the construction work can generally be excluded.
This becomes important where chains of subcontractors are involved.
If the contractor incorrectly excludes excessive materials, too little CIS may be deducted. HMRC can then pursue the contractor for the shortfall.
Good bookkeeping therefore needs to preserve the distinction between labour, materials, VAT and other invoice components rather than entering every subcontractor invoice as one undifferentiated figure.
What Must Contractors Do With CIS Deductions
Once a contractor has deducted CIS, the process is not finished.
The contractor needs to record the payment correctly, report it through the CIS system and pay the deduction to HMRC.
Monthly CIS returns must normally reach HMRC by the 19th of the month following the end of the relevant CIS tax month. A CIS tax month runs from the 6th of one month to the 5th of the next.
Late returns can generate penalties. The current penalty structure starts at £100 for being one day late and increases for longer delays.
A reliable monthly process should therefore be:
- Verify new subcontractors before payment where required.
- Record gross payments, qualifying materials and CIS deducted.
- Reconcile subcontractor invoices against actual payments.
- Submit the monthly CIS return by the deadline.
- Pay the amount due to HMRC and reconcile the CIS control account.
This regular reconciliation is much safer than trying to reconstruct a year’s CIS transactions when the accounts or tax return are being prepared.
Payment and Deduction Statements Matter
Where CIS has been deducted, the contractor must give the subcontractor a Payment and Deduction Statement.
The statement shows how much was paid and how much CIS was deducted.
It must normally be provided within 14 days after the end of the relevant tax month.
For subcontractors, these statements are important accounting records.
They provide evidence of deductions suffered and should be checked against invoices and bank receipts.
A useful monthly reconciliation is:
Gross payment due – CIS deducted = amount received
If those figures do not reconcile, investigate the difference immediately.
Waiting until the tax return is being prepared can make missing statements and disputed deductions much harder to resolve.
How Subcontractors Claim Credit for CIS Deductions
How CIS suffered is ultimately dealt with depends on the subcontractor’s structure.
For a sole trader or partner, the gross income and CIS deductions are normally reported through Self Assessment. HMRC then takes the CIS deductions into account when calculating the final tax liability.
Limited companies operate differently.
CIS deductions suffered by a company can interact with its PAYE liabilities and company reporting. This is one reason why CIS bookkeeping should be separated clearly from ordinary customer receipts.
The key principle is the same in either case: do not record only the cash received.
The accounts should show both the gross income and the CIS credit.
Otherwise, a subcontractor can understate turnover while also losing track of deductions already paid to HMRC on its behalf.
CIS Deductions Can Create Cash-Flow Pressure
Although CIS deductions are advance tax payments, they still reduce the cash arriving in the subcontractor’s bank account today.
That can matter significantly in construction.
A subcontractor may need to pay wages, suppliers, fuel and other costs before receiving payment from the contractor. If 20% is then deducted from the labour element, available cash can be considerably lower than the invoice value suggests.
Businesses should therefore forecast cash using expected net receipts after CIS, not simply invoice totals.
This is especially important during periods of rapid growth.
More jobs may mean more turnover, but they can also require additional materials, labour and working capital before invoices are paid.
Our planned guide Construction Cash Flow: Why Profitable Jobs Can Still Leave You Short of Cash explores this problem in more detail.
Common CIS Accounting Mistakes
Many CIS errors are not caused by complicated tax planning. They are caused by weak processes.
Typical examples include:
- calculating CIS on VAT when VAT should have been excluded;
- deducting CIS from qualifying materials incorrectly;
- recording only the net bank receipt as subcontractor turnover;
- failing to reconcile Payment and Deduction Statements with the accounts.
Another common problem is mixing contractor and subcontractor activity.
A construction company can operate as both. It may deduct CIS from subcontractors it pays while also suffering CIS deductions on payments it receives from larger contractors.
Those two balances need to be recorded separately.
Otherwise, the accounts can become difficult to reconcile and the business may not know whether CIS has been correctly reported or credited.
Pro Tip: Use Separate CIS Control Accounts
Where transaction volumes are significant, separate ledger accounts for CIS deducted from subcontractors and CIS suffered on income can make monthly reconciliation much easier.
Trying to manage both through one general tax account often creates unnecessary confusion.
How Livingstones Accountants Can Help With CIS
CIS is fundamentally a tax compliance system, but managing it properly depends on accurate accounting.
Contractors need reliable subcontractor records, correct deduction calculations and timely monthly returns.
Subcontractors need to ensure that gross income, CIS suffered and actual bank receipts reconcile. Livingstones Accountants supports construction businesses with bookkeeping, accounts, tax compliance, payroll and CIS-related accounting.
For contractors, this can include setting up processes that correctly separate labour, materials and VAT, reconciling deductions and maintaining the information required for monthly CIS reporting.
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For subcontractors, we can help ensure CIS deductions are captured properly rather than disappearing into the difference between invoices and bank receipts.
This becomes particularly important for businesses that both pay and receive CIS deductions.
Accurate accounts can show:
- how much CIS has been deducted from subcontractors;
- how much CIS the business has suffered itself;
- whether those balances agree with supporting records;
- whether the amounts have been correctly reflected in tax reporting.
That gives business owners a clearer tax position and reduces the risk of discovering missing statements or unexplained balances months later.
For builders and tradespeople, good CIS accounting also supports wider financial management.
If turnover, materials, labour and deductions are recorded correctly, management accounts become more reliable. Owners can then analyse job margins, cash requirements and profitability using figures that reflect the true economics of the business.
That is why Livingstones’ role goes beyond filing a CIS return.
The objective is to keep the scheme compliant while making sure the underlying accounts remain accurate enough to support both tax reporting and business decisions.
Conclusion
CIS deductions are not simply a flat percentage taken from every subcontractor invoice.
The contractor must first establish whether CIS applies, verify the subcontractor where required and use the correct deduction rate.
The calculation must also distinguish between labour, qualifying materials and VAT.
For subcontractors, CIS deductions should be treated as advance tax payments rather than a reduction in turnover. Payment and Deduction Statements should be reconciled regularly so that the correct tax credit is available later.
The best way to manage CIS is therefore through a consistent monthly accounting process rather than trying to correct the records at year end.
Frequently Asked Questions
The standard deduction rate is 20% where a subcontractor is registered for CIS and successfully verified.
A 30% rate normally applies where the subcontractor is not registered or cannot be verified.
Subcontractors approved for Gross Payment Status can be paid without CIS being deducted.
CIS is generally not deducted from qualifying direct material costs paid by the subcontractor.
However, contractors should check that claimed material costs are genuine and reasonable. Only appropriate direct costs can be removed before calculating the CIS deduction.
Where a subcontractor is VAT registered, VAT is excluded before the CIS deduction is calculated.
The contractor then calculates CIS on the remaining relevant amount after also considering qualifying materials.
No.
If you are a subcontractor, the deduction is normally an advance payment towards your tax position. Your accounting records should generally reflect the gross income rather than recording only the net cash received after CIS.
