By Laura Keatley, Senior Associate in the Commercial Property & Development team.
By default, commercial property is exempt from VAT but it is not as simple as that.
There are some exemptions, e.g. commercial property less than three years old is standard rated (20%). However an owner can elect to waive the exemption from VAT and choose to charge VAT on a property. This is known as the “option to tax”. Exercise of the option is a long term commitment as the option cannot be revoked for 20 years once exercised. Careful consideration should be given to the advantages and disadvantages.
- Input VAT cannot be recovered on an exempt property. Exercising the option may make commercial sense if VAT has or will be paid on construction costs, repairs or other works.
- Once the option to tax is exercised, VAT must be charged on any sale or letting (there are few exemptions). Some businesses cannot recover VAT in full (e.g. insurance, finance, education, government departments, bookmakers). An elected building may be harder to market or lead to concessions being requested by buyers or tenants. This is especially if Stamp Duty Land Tax (SDLT) would be charged on any lease or sale. SDLT is payable on the VAT inclusive rent or purchase price and therefore increases the tax significantly.
- If potential tenants/purchasers can recover VAT, VAT is less likely to be an issue. The tenant/purchaser may recover the VAT paid as input VAT and the requirement to pay VAT will be a matter of cash flow only.
- The option to tax is personal and does not automatically pass with the building. A buyer of an opted property must also exercise the option to tax if it wishes to charge VAT on rent/future sale proceeds.
- Retrospective options to tax are not permitted.
When considering buying or taking a lease of property it is important to find out the VAT status at an early stage. If VAT is payable there could be serious financial implications that you may not have factored into your budget.
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