Under construction: Tax investigations

In Rachel Reeve’s Budget on 26 November 2025, the Chancellor set out plans, among other things a to tackle fraud within the Construction Industry Scheme (“CIS”) and announced a technical consultation “aimed at simplifying and improving the administration of the scheme”.

With the tax gap currently standing at £46.8 billion, HMRC are looking across all sectors to try and raise funds. It’s not a surprise that there is significant interest by HMRC in the construction sector given the increased numbers of enquiries that we are seeing being made into businesses within the industry.

The types of tax enquiries that we are seeing in the construction industry are varied, but there are steps that businesses within the sector can take to best protect themselves.

VAT enquiries

What can seemingly start off as a few questions into a particular VAT return or a handful of invoices, can soon escalate to a full enquiry.

In particular, we have seen that HMRC are asking for a significant amount of documentary evidence to support claims for VAT which, in a historically paper heavy industry, can be difficult to pull together.

HMRC are also increasingly looking to apply the Kittel principle which sets out that the right to deduct VAT could be denied where the taxable person knew or should have known that the transaction was connected with fraudulent evasion of VAT.

For example, if Company A received VAT invoices from Company B, an agency used to source labourers, and Company B was committing VAT fraud, HMRC would ask Company A what checks they ran on the agency to ensure that the services provided were not “too good to be true”.

These checks can be as basic as checking Company B’s VAT registration number but we have increasingly seen HMRC take the position that Company A should have visited Company B’s premises, hold meetings with the individual directors of Company B or even had news alerts on the directors and/or Company B. A robust due diligence process is invaluable and keeping up to date and accurate records is necessary.

See here for more information on how to protect your business from HMRC input VAT claim refusals.

CIS returns

Whilst CIS remains the central framework for how contractors operate payroll / deductions for contractors, HMRC are increasingly challenging CIS returns and questioning if the payments were correct. HMRC are also likely to use CIS records and payroll inconsistencies as a source of information for broader fraud enquiries.

Further, HMRC have seemingly widened the Kittel principle to CIS payments and in efforts to tackle supply chain fraud in the construction industry, it is proposed that from 6 April 2026 if a business makes a payment that it knew or should have know was connected to fraud, HMRC will be able to:

• immediately remove Gross Payment Status (“GPS”) – those who have GPS status removed due to fraud or serious non-compliance will be prevented from reapplying for GPS for a period of five years;
• assess the business for the related tax loss;
• charge a penalty of 30%, which can apply to the business or its officers.

Other grounds for immediate GPS cancellation are where a business provides false information at registration for GPS, has fraudulently made an incorrect return or provided incorrect information, or knowingly failed to comply with a CIS obligation.

It is therefore important for businesses to ensure they carry out robust due diligence checks to avoid engaging with any suppliers involved in fraud.

Record keeping

Whilst it is difficult to keep track of paperwork in a busy business, HMRC have high expectations for taxpayers to maintain records.

Whilst HMRC officers are experts in their fields, they cannot be expected to understand every sector in which they have open enquiries and so it is important to ‘translate’ records in such a way that HMRC can understand them. This could be working through a transaction from start to finish and giving HMRC the relevant documents for each stage, or even marking up a document to explain what each entry means.

Summary

Given the Chancellor’s comments in the Budget, it is almost inevitable that going forward, HMRC will continue to increase investigations into the construction industry.

Whilst it is stressful when a brown envelope hits your doorstep, taking swift action can help avoid years of lengthy correspondence with HMRC. Completing a regular review of the business’ procedures and policies together with robust record keeping and due diligence checks can help move enquiries to a swift conclusion.