Commercial Property in Insolvency and the Option to Tax
Supplies of land and buildings, including freehold sales, leasing and renting, are normally exempt from VAT. Whilst no VAT is payable on supplies, the person making the supply cannot benefit from the recovery of input VAT on their own expenses.
However, if the Option to Tax is exercised, any supplies of land or buildings will (usually) be standard rated for VAT and the supplier can recover input VAT on expenses. The supplier does not need to own the land or building in order to opt to tax.
Why would anyone opt to tax?
Primarily, in order to benefit from the ability to recover the VAT costs associated with developing or refurbishing the property, which can be substantial.
What is the effect of the option to tax?
Opting to tax creates an obligation to charge VAT not only on rents, but also on the eventual disposal of the opted property, unless the disposal qualifies as a transfer of a going concern. Most tenants of an opted property will be able to recover the VAT paid on rent, and so the impact of the option to tax is limited to the impact on the tenant’s cash flow. However, VAT exempt tenants will effectively suffer an irrecoverable uplift of 20% on rents.
What relevance does the option to tax have in insolvency proceedings?
An insolvency practitioner appointed over a company with an interest in property (including land) must ascertain from the company’s records, and confirm with HMRC, whether that property is opted to tax.
As the option to tax can only be revoked under very limited circumstances, a Liquidator, Receiver or Administrator may experience difficulty in marketing and selling a property which is opted to tax, particularly in a depressed property market. Office holders needing to sell an opted property within a limited timeframe may experience significant pressure from purchasers to reduce the price or offer other concessions. Whilst HMRC are aware that an option to tax may lead to difficulty in marketing the property in insolvency situations, there is no guarantee that they will consent to the revocation of the option.
However, the obligation to charge VAT on the disposal of the property does not apply when there is a bona fide transfer of a going concern. Consequently, an interest in an opted property may have a significant impact on the office holder’s strategy for an insolvent company, as a purchaser of the property as part of a going concern transfer will not be liable for VAT on the purchase.