Retention Payments · CIS Tax
CIS Retention Payments: The Tax Trap Hidden in Your Contract
Most subcontractors know retention is frustrating — money withheld for months, sometimes years, while the contractor holds it as security. What far fewer know is that retention creates a specific tax problem if you declare it at the wrong time.
Retention is one of the most common features of UK construction contracts — and one of the least understood from a tax perspective. Most subcontractors either declare retention when they invoice for it, or when they finally get paid, without being entirely sure which is correct. The answer matters, because getting it wrong means either paying tax on money you haven't received yet, or reporting income in the wrong tax year and creating a mismatch that HMRC may question.
What Retention Actually Is — and Why It Creates a Tax Question
Retention is a percentage of each payment — typically 5% — that the main contractor holds back as security against defects in your work. You've earned it, you've invoiced for it, but you don't receive it until the defects liability period expires and the contractor is satisfied that the work has been completed properly. On larger contracts, this can mean waiting 12 months or more after practical completion before the retention is released.
The tax question is straightforward but important: when does this money count as income for your Self Assessment? In the year you raised the invoice for it? In the year the contractor agreed to release it? Or in the year the cash actually arrived in your account?
The answer depends on your accounting basis — and this is where many subcontractors are operating on assumptions rather than actual knowledge of what basis they're using.
Retention sits in a gap between work done and money received. That gap can span two or three tax years — and wherever the income falls on a tax return, HMRC expects it to be consistent and accurate.
CIS Tax Insights · 2026The Two Accounting Bases — and How They Handle Retention Differently
Most self-employed CIS subcontractors use one of two accounting methods for their Self Assessment. The method determines when income is recognised — and therefore when retention is taxable.
Cash Basis
Under the cash basis, income is recognised when you actually receive the money. This is the simpler method and the default for most sole traders with turnover under £150,000. Under cash basis, retention is taxable in the year the cash arrives in your bank account — not when you invoiced for it, not when the contractor agreed to release it, but when it's actually paid.
This is often the right outcome for subcontractors: you're not paying tax on money you haven't received yet, and the accounting is straightforward. The risk is if you forget to declare it in the year it arrives, particularly if retention from a contract completed two years ago finally gets paid out mid-year.
Traditional Accruals Basis
Under the accruals basis, income is recognised when it's earned — when you have the right to be paid, not when the cash comes in. For most subcontractors on the accruals basis, retention becomes taxable when the defects liability period ends and the contractor is obliged to release it, even if they haven't actually paid it yet.
This creates the more problematic scenario: you may owe tax on retention you haven't received, because the liability to pay it has been established even though the cash isn't in your account.
If you're a sole trader and haven't specifically chosen the accruals basis with your accountant, you're almost certainly on the cash basis — it's the default for most self-employed people. Check your most recent Self Assessment return or ask your accountant to confirm. The method should be consistent from year to year — you can't switch between them arbitrarily.
The Real-World Tax Problem: Three Common Scenarios
| Scenario | Tax Year Income Declared | Risk |
|---|---|---|
| Cash basis — declare when retention is paid out | Year retention arrives | Low — correct under cash basis |
| Declare in year of original invoice (wrong for cash basis) | Year work done | Paying tax on money not yet received |
| Forget to declare retention when it finally arrives | Never declared | HMRC income mismatch, potential enquiry |
The third scenario — simply forgetting to declare the retention when it finally arrives — is the most common problem in practice. A payment from a contract that finished 18 months ago, landing in your account in June, is easy to miss if you're not keeping systematic records of outstanding retentions.
When a contractor finally releases retention, they should deduct CIS at your applicable rate from that payment — the same as any other CIS payment. If a contractor pays out retention without deducting CIS and doesn't issue a deduction statement, that's a compliance problem for them — but you still need to declare the gross amount on your Self Assessment and account for the tax. Don't assume the absence of a CIS deduction means the income doesn't need to be reported.
When Contractors Won't Release Retention
Unreleased retention is one of the most persistent cash flow problems in construction. Contractors sometimes hold retention beyond the agreed period, dispute defects to avoid paying, go insolvent before releasing it, or simply go quiet when the defects period ends.
From a tax perspective, this creates a specific problem if you're on the accruals basis: you may have declared the retention as income (because you had the right to be paid) but never actually received it. If you ultimately write off an uncollectable retention debt, you can claim it as a bad debt — but this requires good records showing the amount was included in income in a prior year and is now uncollectable.
For cash basis users, the position is cleaner: if you haven't been paid, you haven't declared it, so there's nothing to write off. But you should still keep records of outstanding retentions so you can track them and declare them when they do arrive.
Your Retention Management Checklist
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Keep a Running Log of All Outstanding Retentions For every contract where retention is being held, note the contractor, the contract value, the retention amount, the expected release date, and whether it's been paid. A simple spreadsheet works fine. This log is what prevents retention payments from arriving in your account and being missed on your tax return.
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Confirm Which Accounting Basis You're Using Ask your accountant to confirm whether your Self Assessment is prepared on cash basis or accruals basis. This single fact determines when retention is taxable — and the answer should be applied consistently to every contract.
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Chase Retention Releases Formally and in Writing When the defects liability period ends, send a written request for retention release to the contractor — email is fine and creates a paper trail. If they don't respond within a reasonable period, follow up in writing again. This paper trail matters if you ever need to write off an uncollectable retention or pursue it through adjudication or court.
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Declare Retention in the Correct Tax Year If you're on cash basis, declare retention in the tax year the money arrives in your account — not the year you invoiced for it. Cross-reference your bank statements against your retention log at year end to make sure nothing has been missed. A payment that lands on 3 April counts in one tax year; the same payment on 7 April counts in the next.
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Request a CIS Deduction Statement for Every Retention Release When a contractor releases retention, they should provide a CIS payment and deduction statement for that amount. If they don't provide one, ask for it — you need it to reconcile your Self Assessment figures against HMRC's records. A retention release without a CIS statement creates a gap in your documentation that may need explaining.
Frequently Asked Questions
Do I pay CIS tax on retention at the same rate as regular payments?
Yes — when a contractor releases retention, CIS deductions apply at whatever rate applies to you (0% with Gross Payment Status, 20% with standard registration, or 30% if unverified). The retention release should be treated exactly like any other CIS payment, with a deduction statement issued by the contractor and the net amount paid to you. If a contractor pays you retention without making a CIS deduction, they may be in breach of their obligations — and you still need to account for the gross amount on your Self Assessment.
What if a contractor goes insolvent before releasing my retention?
This is unfortunately common and one of the major risks of retention in construction. If you're on the cash basis, you haven't declared the retention as income yet (since you haven't received it), so there's no tax to reclaim. If you're on the accruals basis and have declared it, you may be able to claim a bad debt deduction — but you'll need to show the debt is genuinely irrecoverable, which typically means the contractor entering formal insolvency proceedings. Your accountant can advise on the specific treatment for your circumstances.
Can I charge interest on retention that's paid late?
Under the Late Payment of Commercial Debts (Interest) Act 1998, you are entitled to claim statutory interest on late payments from business customers — including overdue retention. The rate is 8% above the Bank of England base rate. In practice, many subcontractors don't pursue this because of the relationship implications, but it is a legal right. Any interest you do receive would itself be taxable income in the year it's paid.
My contract doesn't mention retention but the contractor has been deducting it anyway. Is that legal?
Retention can only be withheld if the contract specifically provides for it. If your contract doesn't include a retention clause, the contractor has no legal right to withhold part of your payment — it should be paid in full. If this is happening, raise it in writing with the contractor immediately, referencing the contract terms. If the dispute can't be resolved directly, construction adjudication is a relatively fast and affordable way to enforce your contractual rights.
People Also Ask
When is CIS retention taxable — when invoiced or when received?
It depends on your accounting basis. Under the cash basis (the default for most CIS sole traders), retention is taxable in the year the cash arrives in your bank account — not when you invoiced for it. Under the accruals basis, retention becomes taxable when the defects liability period ends and the contractor is obliged to release it, even if they haven't paid yet.
Does a contractor deduct CIS from retention payments?
Yes — when a contractor releases retention, CIS deductions apply at your applicable rate (0% with Gross Payment Status, 20% with standard registration, or 30% if unverified). The retention release should be treated exactly like any other CIS payment, with a deduction statement issued by the contractor. If a contractor pays retention without making a CIS deduction, you still need to declare the gross amount on your Self Assessment.
What happens to retention if the contractor goes insolvent before paying?
If you're on the cash basis, you haven't declared the retention as income yet (since you haven't received it), so there's no tax to reclaim. If you're on the accruals basis and have already declared it, you may be able to claim a bad debt deduction — but you'll need to show the debt is genuinely irrecoverable, typically meaning the contractor has entered formal insolvency proceedings.
How long can a contractor hold retention in UK construction?
Retention is typically held for the duration of the defects liability period — usually 6 to 12 months after practical completion, though this varies by contract. Contractors can only withhold retention if the contract specifically provides for it. If your contract doesn't include a retention clause, the contractor has no legal right to withhold part of your payment.
Retention Is Yours — Make Sure You Declare It Correctly
Retention is money you've earned. The tax question isn't whether it should be declared — it absolutely should — but when. Get the timing right, keep a clear log of what's outstanding, and make sure every retention release comes with a proper CIS statement.
And if retention is sitting uncollected with a contractor who's gone quiet: chase it in writing, keep the correspondence, and speak to your accountant about your options. The money is yours — the defects period isn't a reason to forget about it, it's just a delay before you can claim it.
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This article is for informational purposes only and does not constitute formal accounting, legal, or tax advice. The tax treatment of retention payments depends on your accounting basis and individual circumstances. Always confirm the correct treatment with a qualified accountant before filing your Self Assessment return. Aligned to 2026/27 HMRC guidance.