Readers' forum: Mixed use

It appears that both parties to this transaction are unusually well prepared for the pitfalls of VAT on land transactions – many traders would have proceeded blithely unaware of any of the potential problems that the client and the vendor are arguing about. The technical solution, however, is relatively simple. The client is right and the vendor is wrong. The following explanation may help the vendor to accept that VAT does not have to be charged; persuading the vendor of that fact may be harder than understanding the law.

 

VAT Notice 742A: Opting to tax land and buildings at section 11 deals with the transfer of opted property as part of a transfer of a going concern (TOGC), and explains the extra conditions that must be met for the transfer to be VAT-free. Paragraph 11.2 states first that the extra conditions must be met where “you have opted to tax the land or buildings being transferred and the option is not disapplied in relation to the transfer”. This on its own could be enough to resolve the point: the option is disapplied on the vendor’s transfer of the flat (as the vendor is clearly aware – £100,000 is 20% of the value of the commercial part, not the flat). So it would appear that the extra conditions apply only to the commercial property part that would otherwise be taxable rather than to the flat. However, the vendor may respond that the option applies to the whole building and is not disapplied in relation to the whole building; as there is a single transfer of a single property, it is not absolutely clear that the expression in the notice applies.

 

Paragraph 11.2 goes on to say that the purchaser must opt and notify “that their option to tax will not be disapplied under the anti-avoidance provision set out in VATA 1994, Sch 10 para 12 in respect of supplies they intend to make of the land or building”. This is the specific statutory cross-reference in the VAT (Special Provisions) Order SI 1995/1268, para 5(2B)(b). Schedule 10 para 12 is the disapplication in relation to grants with some element of circularity (grantor is connected to the grantee, or to the financier of the land) if the land is to be used for exempt purposes. The rule in SI 1995/1268 does not refer to disapplication of the option in general. The exclusion of the option in relation to parts of a building used as dwellings is found in Sch.10 para.5, not para 12. The client’s notification to the vendor is therefore correct, and the transfer should be treated as neither a supply of goods nor a supply of services.

 

The vendor should be encouraged to ask HMRC for a ruling on this. Alternatively, the client could include protection for the vendor in the contract – a promise to pay the VAT in addition if HMRC rule that the transaction should be charged to VAT, in which case the client will be able to recover that VAT charge in full because the rent paid by Middle Man’s practice will be VATable. The existence of such a contingency in a land contract may attract SDLT, so it would be better to seek a ruling from HMRC in advance. There is no doubt in the matter, after all – the law is unusually clear.

 

I would also be wary about paying something that is not properly output tax to a person who has already stated an intention to go abroad – if the vendor fails to account for the output tax to HMRC, the client will be left with an irrecoverable cost. It is not the same as buying and selling mobile phones in dubious circumstances, but the same problem could arise. 

 

Reply by Joe 90

An option to tax can be made for a building unless the entire property is for residential use. If a building has residential and non-residential parts, the option relates to the entire building, but its effect for VAT purposes applies only to the non-residential part.

Notification to HMRC of the option is usually made on form VAT 1614A. The address of the building being opted is given, but there is no requirement to specify any non-residential part of the property.

In VAT Notice 742A: Opting to tax land and buildings at section 3, HMRC list the supplies not affected by an option to tax, which includes buildings designed or adapted and intended for use as dwellings. It follows that, because the option cannot apply to the flat, there is no option that can be disapplied.

If all the conditions are met, the transfer of a going concern (TOGC) rules are mandatory for both the vendor and the purchaser placing the transfer of a business outside the scope of VAT. The vendor cannot impose any further conditions outside the TOGC rules.

The conditions applying to any business are:

• it is capable of separate operation after the sale has taken place;
• it is sold as a going concern;
• it is not part of a series of immediately consecutive transfers of a business; and
• the purchaser intends to carry on the same kind of business.

If the seller/transferor is a VAT-registered business, the purchaser must also be a taxable person for VAT purposes or become one as a result of the transfer.

If the transfer includes opted property (or non-residential property less than three years old), for the property to be included as outside the scope of VAT the following further conditions must be met:

• the purchaser must opt to tax the property and notify HMRC on or before the relevant date; and
• the purchaser must notify the vendor by the relevant date that the purchaser’s option to tax will not be disapplied (as provided by the anti-avoidance provision in VATA 1994, Sch 10 para 12).

The relevant date is the date of transfer or the date that any deposit is paid if earlier (unless it is paid to an independent stakeholder).

The option is for the entire property and so is the notification that it will not be disapplied.

Assuming that all the TOGC rules are met, the entire transaction should be outside the scope of VAT. Should any “VAT” be charged by the vendor – which will also increase the stamp duty land tax (SDLT) incurred – its recovery from HMRC is likely to be difficult if not impossible.

If the vendor accounts for the “VAT” (a risky assumption), HMRC might allow the client to recover it, but they are under no obligation to do so. Any such claim should be notified to them separately and not included on the VAT return which would likely lead to a financial penalty for an error.

It is clearly most unsatisfactory to put at risk the recovery of £100,000 in this way, as well as paying more SDLT than necessary. Unless the vendor can be made to see sense and accept that the transaction is outside the scope of VAT under the TOGC rules, Middle Man should be advising his client not to proceed.