Whether your property in the UK is commercial or residential, whether you rent property or buy it for sale, VAT is a key area to consider.
As a property investor, you might have a simple query like- How to avoid paying VAT? Do I need to pay VAT on rent? How to avoid paying VAT on commercial property? But the answers are not always simple and can depend on dozens of factors.
Property investors have a range of VAT rates applicable in their businesses (Standard rate - 20%, Reduced rate - 5%, Zero rate and Exempt). Different types of businesses where different rates are applicable are explained below:
VAT on Residential Lettings
Most of the landlords don’t need to worry about VAT. Why? Because residential letting is exempt from VAT. The exemption applies whether it is single-let, HMO (House in Multiple Occupations) or Rent2Rent residential letting.
However, serviced accommodation (example: Airbnb) is not exempt as it is treated as holiday accommodation and so standard rated.
VAT on Serviced Accommodation
Serviced accommodation is taxable supply, and 20% VAT is charged. If your business sells more than VAT registration threshold, you must register for VAT.
Business selling less than the VAT registration threshold (£85,000 for the tax year 2022/23) are not required but can voluntarily register. In the one hand, voluntary registration allows you to recover input VAT paid to suppliers.
But in the other hand, customers might be reluctant to pay extra VAT. So voluntary registration might not always be advantageous.
However, normal VAT on the serviced accommodation is not quite favourable to the Rent to Rent Service Accommodation. This has resulted on another hot topic of discussion, Tour Operators Margin Scheme (TOMS). Under TOMS, unlike in the normal scheme, VAT is payable on the margin of the business.
The recent tribunal judgment on Sonder Europe Limited Case which gave the property let out business as Serviced Accommodation a sigh of relief.
For the time being based on the judgment as per the above case, the TOMS VAT on Serviced Accommodation is a potential tax saving get away for the Rent to Rent Serviced Accommodation.
You Asked !
My VAT registered company provides holiday accommodation, and it also lets a residential property. Can I claim input VAT related to residential property?
Input tax is claimable only if it is directly related to taxable supplies. Rent received from residential property is not a taxable supply (it is exempt from VAT). So, you are not allowed to claim input VAT.
You can only claim input VAT on the cost related to serviced accommodation (because you charge VAT to guests of your serviced accommodation business).
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VAT on New Residential Development
New residential development is zero-rated so that you can claim back the VAT you paid to suppliers for the development work. If you spent £1.2 million on a property development project which includes £200,000 of VAT, you can claim back £200,000 VAT from HMRC. However, the rules around this are quite complicated, and so it doesn’t work as simple as this.
To be eligible for zero rating, the supply should be first grant of a major interest of dwellings, relevant residential properties or relevant charitable properties. Major interest means freehold or lease more than 21 years. Construction of dwellings, student accommodation and care homes generally qualify.
You Asked !
Whether I make exempt supply or zero-rated supply, no VAT is charged. Then what is the difference between two?
There is a huge difference between exempt and zero-rated supplies. If supply is exempt, no need to pay VAT and you cannot recover input VAT that you paid to your suppliers. But if supply is zero rated, no need to pay VAT but you can recover the input VAT you paid to your supplier.
As explained above, new residential development is a zero-rated supply, hence, no VAT liability to pay but you can recover input VAT incurred for property development.
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You Asked !
I am contractor carrying out construction services to build a residential property. How much VAT should I charge to my client?
The supply you provide qualifies for zero rate. So, you can invoice with 0% VAT to your client. But any materials supplied must be along with services. For example, if you just supply bricks and do not supply brick-layering services, this will not be zero rated. If you supply bricks as well as brick-layering services, then it qualifies for zero rating.
Another point to consider here is: zero rating only applies when you supply services as main contractor (i.e., providing directly to the person who intends to use the building (or part) for residential purpose). That means zero rating does not apply to sub-contractors who supply services to main contractors. Sub-contractors must apply VAT at standard rate.
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You Asked !
How should VAT be charged on construction services provided to mixed use properties?
Services related to residential part should be zero rated and services related to commercial part should be standard rated. For anything common (roof, foundation etc), there should be apportionment between residential part and commercial part.
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VAT on Property Conversion
Another area of generous VAT Relief for property developers is the conversion of properties.
1. VAT on Commercial to Residential Conversion
This is also zero-rated which means you can claim back the VAT you paid on the construction work.
Some examples: conversion of a pub to residential flats and conversion of a factory to residential property. The qualifying conditions for this are similar as for new-built residential above.
2. VAT on Residential Conversion (Change in Number of Dwellings)
Reduced rate of VAT at 5% is applicable on certain qualifying services supplied for residential conversion. This applies only when conversion changes number of dwellings in the property. For example, conversion of a three-bedroom house to two flats is eligible for reduced rate.
3. VAT on conversion into HMO (House in Multiple Occupation)
The conversion of single occupancy dwelling to multiple occupancy dwelling qualifies for reduced rate of VAT. So, if you convert a three-bedroom house to an HMO, the conversion work qualifies for reduced rate of VAT at 5%. Obtaining planning consent and building control approval is a must to qualify for reduced rate.
4. VAT on Commercial Property
Sale of freehold in an uncompleted or new commercial building is standard rated (20% VAT). If you sell newly constructed office building with freehold, you need to charge 20% VAT. However, lease of a commercial property or old commercial building (older than 3 years) are not taxable unless option to tax election is made.
Whenever there is an exempt supply of commercial land or buildings, the owner has the option of changing it to standard-rated supply by “option to tax” election. Doing this, the VAT paid by the landlord on regular expenses & building work can be recovered from HMRC. The option is made on building by building basis, not on the whole portfolio of properties. If you wanted to avoid paying VAT on commercial property, but couldn't, this is one way of claiming the VAT back.
Suppose you bought a new commercial building for £1 million. As this is standard-rated supply, the developer will charge you VAT of £200k. If you opt to tax, you can recover the VAT of £200k paid – otherwise, you will lose £200k. In this case, it is wise to elect for ‘option to tax’.
However, ‘option to tax’ might not always be the best option. Suppose you intend to rent the property. When you elect “option to tax”, you have to charge VAT in rent. Your tenants (like you) will only be happy to pay VAT as long as they can recover the amount as input VAT.
If your tenants run catering services business, that is a taxable supply, and they can recover input VAT. But if your tenant is a pharmacist, their supply is not taxable supply and will not be able to recover input VAT. Therefore, ‘option to tax’ can sometimes be detrimental to the business and should be elected cautiously.
You Asked !
Do I need to charge VAT while selling whole of my property business?
If a person sells his/her business itself (or a part of it capable of being separately operated), then no VAT should be charged (subject to certain conditions). Consequently, the seller does need to charge VAT on selling the properties. Such kind of sales is called Transfer of Going Concern (TOGC).
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Common VAT related Questions on Property Business
As we have already discussed VAT implications on various property transactions and TOGC, we can structure the arrangement in such a way that we can minimize our VAT liability.
Buying property along with business
When you are buying a commercial property from the seller who opted to tax, TOGC provisions can be applied on the sale of the property (provided all the necessary conditions are fulfilled).
This way, you will not have to pay any VAT on the purchase of the commercial property. It has a wider effect than just VAT.
By making this arrangement, there will also be a significant reduction in Stamp Duty Land Tax.
In conclusion, you can avoid VAT on commercial property by meeting conditions for TOGC status.
Recovering input VAT but not charging to customers- property development business
If you are a residential property developer, the sale of the residential property is zero-rated and is taxable turnover for VAT. When all or most of the sales are zero-rated, the property developer is not required to get registered for VAT even if the turnover exceeds the threshold limit.
So, the developer can choose not to register even if the sale exceeds threshold (currently £85,000).
Even though you will be avoiding many administrative activities by not having to register, it is always beneficial to register for VAT to claim back the input tax paid as long as the property developed is not for rental purposes.
Buying commercial property and using as dwelling
If you buy a commercial property which was opted to tax by the seller, you need to pay VAT. But if you intend to convert such property into residential, you can get rid of VAT on purchase of that property. You need to fill up VAT1614D form.
Currently, common rate of VAT for different businesses are:
Rent from residential property
Rental income from residential property is always exempt, except for Serviced Accommodation
Lease of commercial property
VAT would be charged if ‘opted to tax’
Sale of newly developed residential property
VAT implication applies but is charged at 0%
Sale of commercial property older than 3 years
Landlords can ‘opt for tax’
Sale of new commercial property (new means not older than 3 year)
VAT implications while selling a property differ depending on the type of the sale you make.
When you sell property in the normal course of business, you need to follow the standard rules (i.e., 0% for newly developed residential properties, 20% for commercial properties not older than 3 years and exempt in most other cases).
However, particular care should be taken when you sell property along with your whole business. If you are selling properties along with your business, there is a possibility that you do not need to charge VAT on the properties sold. This transfer is called transfer of going concern (TOGC).
But as discussed above, there are several conditions for the sale to qualify as a TOGC. Identifying whether the sale qualifies as a TOGC is crucial because it may lead to incorrect VAT charges. HMRC might penalize:
- if VAT is charged when the transaction qualifies for TOGC and
- if VAT is not charged when the transaction does not qualify for TOGC
Additionally, if the property you transferred was under Capital Goods Scheme (CGS). The responsibility to apply CGS now passes from you to the purchaser.
Though most of the sales and leases are exempt from VAT. There are some transactions which are not exempt. Below is the list:
- Certain sales are standard rated (commercial property not older than 3 years, holiday accommodations, facilities for parking vehicles, grant of self-storage facilities, rental of hairdressers’ chairs etc).
- Transactions which are elected for ‘option to tax’ are also not exempt.
- Transfer of property under TOGC might not be exempt and could be outside of scope of VAT.
- Sale of newly developed residential properties is zero rated.
Care should be taken when you purchase the property in particular situation.
Purchase as TOGC
In some cases, you do not need to pay VAT on purchase of property as transfer of going concern (TOGC). But the seller by mistake may charge VAT to you. Your business will not be able to recover such incorrectly charged input VAT from HMRC. So, it is critical to know rules on TOGC.
Electing “option to tax”
If VAT is unavoidable during purchase of property, you need to check recoverability of VAT you paid. If you buy a new commercial property, you pay 20% VAT. If you sell it after 3 years or let it out, you will be making exempt supply and VAT is not recoverable (unless you elect “option to tax”). So sometimes, “option to tax” might be a wise strategy to recover input VAT on purchase.
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