VAT exemptions- supply of interests in land & property

Companies that are VAT registered are able to reclaim from HMRC the VAT that they pay on goods and services purchased for use in the course of business. If a VAT registered company is to reclaim the VAT that they pay on the purchase of a product or service, they must then charge VAT on any products or services that they subsequently sell or supply.

The idea behind paying VAT and then re-charging it to customers is that they generally balance each other out. If more VAT has been reclaimed by a company than paid, then this shortfall will need to be paid to HMRC. If a company has paid more VAT than they have reclaimed, then they should be entitled to a refund.

There are some goods and services which are generally exempt from VAT, one of which is the supply of interests in land and property. This means that VAT is not automatically charged on a sale or letting of a property. There are some exceptions to this rule when the standard rate (currently 20%), the zero rate (0%) or the reduced rate (5%) will apply:-

  1. An example of a standard rate transaction is the sale of a freehold interest in a commercial building that is not complete, i.e. before a certificate of completion is received.
  2. An example of a supply that may be zero rated is when a landowner converts a commercial building into a residential building and subsequently sells the whole or part of the property.
  3. An example of a reduced rate transaction is the conversion of a non-residential property into a care home and the costs associated with this when the property has not been lived in for two or more years.

At a glance, an exempt transaction may appear to be a positive thing; however, in the event a vendor makes an exempt supply of property they will be unable to reclaim the VAT on the purchase of any goods or services that are attributable to that supply (e.g. construction costs and repairs). This is likely to disadvantage a vendor if substantial development or refurbishment works have been carried out to the property. If, on the other hand, a company chooses to waive the exemption then they would be able to reclaim the VAT paid on any goods and supplies that they have paid for, by charging VAT on the sale price to any subsequent purchaser.

Landowners can therefor opt to waive the usual VAT exemption and treat their property as a supply that would attract VAT. This is the Option to Tax.

Examples of factors which companies should bear in mind when considering whether to opt to tax are as follows:-

  • Some companies within certain sectors (for example insurance, charitable and financial) are VAT exempt, and therefore unable to recover VAT. This would affect their ability to purchase property which is subject to VAT as they would find themselves paying VAT on the purchase price but unable to recover it.
  • An option to tax is a long term application as it cannot be revoked for 20 years after the original election is made. It will therefore be applied to future sales, purchases and supplies during this period. Similarly, if a company has not already opted to tax, if they purchase a property, they will have to consider whether they would like to waive the exemption.
  • Retrospective options to tax are not permitted and so a company should consider this very carefully before choosing to purchase an exempt property, or opting to tax.
  • A transfer may be capable of being treated as a transfer of a going concern if certain pre-requisites are satisfied. If this is the case and a transaction can be treated as the transfer of a going concern then the transfer is not subject to VAT.

VAT relating to companies and commercial property, along with the option to tax are complex areas and so should additional information be required in respect of any of the points raised above, legal advice should be sought. Please feel free to contact the Real Estate team.

Daniel York
Partner, Real Estate
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This reflects the law and market position at the date of publication and is written as a general guide. It does not contain definitive legal advice, which should be sought in relation to a specific matter.

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