The world of VAT and tax can be confusing anyway, but certainly when you involve property interests it can get even more complicated, In actual fact, there is a fundamental difference that is often missed by parties which can suddenly unearth VAT liabilities and additional charges later on down the line.
Without going into too much detail at this stage, it’s best to understand this difference from two different perspectives. The first is related to the VAT status of the property interest itself, and the second for the people interests involved.
The Property Being VAT Elected
So firstly see the property interest itself as being an ‘asset’ when looking at VAT, which may or may not need to attract an additional Vat charge as it is transacted between two parties.
So think of it like any other item or service that another business may sell – whether that’s a grocer selling fruit and vegetables, or a solicitor selling legal services. HMRC basically have a list of what goods and services need to fall within the VAT world.
By default property is actually exempt from VAT, but there are cases when VAT is actually due. So this might depend upon the stage of construction, and as with commercial property you can actually decide to elect to waive this exemption and bring it into the VAT arena.
This might sound a little strange by deciding to incur VAT, after all whenever you receive any money from your property like rent you will then have to charge VAT on top as it is now a VAT-able asset. The advantage of this decision though is that in reverse you can claim the VAT back on anything you have to pay for the property.
So if you spend £10,000 for a new roof, a lot of contractors at that level will need to charge VAT on top and so £12,000 ‘gross’ charge with the VAT included. Even though that £2,000 VAT element is stated on their invoice, the property interest cannot reclaim that back if their property is not in the VAT world. So basically you have to pay £12,000 not £10,000, hence the benefit of bringing the property in the VAT world.
With residential property this tends to stay outside VAT election, which means that every VAT charge has to simply be passed on as an extra cost without accounting for in a VAT return. So if the same £10,000 new roof was for a residential apartment block where each of the 10 flat owners pay £1,000 each, then they have to end up paying £1,200 with no VAT breakdown or ability to get the £200 Vat back.
The Party Being VAT Elected
Now bring in the VAT status of the person or party involved. This might be an automatic yes or no when it comes to being VAT registered with HMRC, or it might be triggered by the amount of business and turnover they incur. This is based upon their own personal business status, with a property cost or income just being one of many other types of business activities.
So if you take an example of an electrician, this might grow from a small business start that does not attract VAT registration to one that does because their turnover has increased. This practically means that they have to begin charging VAT on their own charges, so a repair for £100 at a property will then incur a charge of £120 from the property landlord or tenant who has to pay this.
Likewise, they can then deal with any VAT charges they incur. So if they begin renting a workshop premises where the landlord charges £1000 + VAT rent, then out of the £1,200 gross rent they pay they can then claim the £200 back from HMRC.
Applying Both The Property & Parties VAT Statuses
So this is when things get tricky, and you bring these two different VAT perspectives together in any one property transaction. For different combinations of these you will get different results.
Let’s say you’re renting small business premises and a local electrician decides to take a lease here. Big issues like rent, length of lease, and utility costs might be looked at, but the VAT detail missed. If the property has been elected to waive the exemption then this means VAT needs to be raised on the rent.
Therefore if the local electrician isn’t yet registered for VAT, then that means they have to pay an extra 20% on the rent which they cannot claim back from HMRC even though it might be specified on the invoice. In effect, it’s like a 20% hike on the rental cost to them previously.
Now let’s look at the other side of the fence, where the earlier apartment block example needs a new roof at £10,000. In this case with it being residential property then it is not in the VAT world, so even though the contractor is VAT registered and places another £2,000 on the bill, it cannot be processed because the property is not permitted to.
This means the whole £12,000 is recharged to residents as a whole lump sum – even if the resident is VAT elected for their business let’s say (even though this should be for their home), then because the property is not in the VAT world not even the end payer cannot benefit from this
The Bottom Line
In short, you need to carefully use this double-edged VAT sword when it comes to property transactions.
Firstly understand what the status of the property is itself as a form of asset, just like within any other business. Secondly, consider what the status is of all the parties involved, and whether they need to charge VAT or can reclaim VAT.
Then work through the scenarios where VAT is incurred and when parties can easily process this as part of their VAT claim or not - meaning they effectively get stung with an extra 20% charge.