VAT on Property - The New Legislation
Author:
Jane O'Hanlon
By now, practitioners will be aware that new VAT on property legislation is being introduced with effect from 1 July 2008. Rather than setting out the new rules and concepts introduced in the legislation, this article seeks to address specific queries that property owners and tenants are currently facing.
As at the time of writing, no Revenue guidance has been issued on the new VAT on property legislation. In particular, the question of how the new Capital Goods Scheme will interact with direct taxes has not been clarified. It is understood that the Revenue Commissioners will be publishing commentary in due course.
Set out below are a number of practical questions that practitioners may be facing. The specific scenarios outlined below cover potential issues arising both under the transitional arrangements and the new regime.
SURRENDER OF LEASE
A tenant entered into a 35-year lease ten years ago. What is the VAT position if the tenant wishes to surrender the lease to the landlord post 1 July 2008?
A surrender of the lease by the tenant to the landlord within 20 years of entering into the lease will constitute a supply of property for VAT purposes.
VAT applies on the surrender of the lease if the tenant was entitled to claim an input credit of the VAT charged on entering into the lease agreement. The landlord will take over the remaining Capital Goods Scheme (CGS) life of the property, in this case ten (i.e., 20 less 10) years. The tenant will be obliged to provide the VAT history of the building to the landlord together with details of the number of remaining intervals under the CGS. As is currently the case, the landlord will be required to account for the VAT arising on the reverse charge basis. The amount of VAT payable is calculated by reference to the VAT which originally arose on the creation of the lease as adjusted for the remaining CGS life of the property.
If the tenant was not entitled to deduct the VAT charged on entering into the lease, VAT is not chargeable on the surrender. However, the tenant and the landlord can jointly opt to tax the surrender of the lease. If the option to tax is made, the tenant will be entitled to recover a portion of the VAT under the CGS that was originally not recoverable on entering the lease agreement. The portion will be based on the remaining CGS life of the property. Therefore, in this case the tenant would recover 10/20 of the VAT charged on entering into the lease.
Therefore, if a tenant involved in a VAT exempt business is currently considering surrendering or assigning a lease, he should take advice to determine whether it would be of benefit to him to wait until post 1 July 2008 and opt to tax the surrender/ assignment. As noted above, it is of benefit but whether that benefit is available will depend on whether the landlord agrees to a joint option to tax.
EXISTING WAIVERS OF EXEMPTION
A landlord has waived his exemption from VAT on short leases. Therefore, he charges VAT at 21% on all rent arising on short term leases. What is his position after 1 July 2008?
On the basis that a letting is not between connected persons, a landlord can retain his existing waiver of exemption in respect of properties that he owns as at 30 June 2008. This applies for both residential and commercial properties. Therefore, the landlord will continue to account for VAT at 21% on the rents from those properties.
There are particular rules to deal with lettings between connected parties. The general rule is that where a landlord who has waived the exemption from VAT on short-term lettings has granted a short-term letting to a connected party with less than 90% recovery, the landlord will be regarded as cancelling the waiver of exemption if the VAT payable by the landlord in respect of those rents over a 12-month period is below a minimum threshold. However, this rule does not apply in certain circumstances. One such circumstance is where the landlord had the waiver of exemption in place on 18 February and on 1 July the letting has been in place since 18 February.
All short-term leases between connected parties should be reviewed by landlords without delay as VAT liability may arise if the threshold is not exceeded.
CHANGE OF USE OF PROPERTY
Five years ago, I acquired a freehold property which I occupy for the purposes of my business. The business has 100% VAT recovery. The business has now grown and a larger premises is required. I now wish to rent the property out post 1 July 2008. What are the VAT implications?
In order to avoid a clawback of VAT under the CGS, the business owner will be required to opt to tax the rent. The business owner can exercise the option to tax by including a clause in the lease agreement that states that VAT arises on the rent. There is no requirement to notify the Revenue Commissioners on the option to tax being exercised. The business owner will be required to issue the tenant with a VAT invoice for each rental payment. The business owner will also be obliged to file VAT returns and pay over the VAT arising on the rent on a bi-monthly basis.
If the business owner fails to opt to tax the rents, he will be required to make a payment to the Revenue under the CGS (i.e. a clawback of part of the VAT originally incurred on the purchase of the property). In this case, the payment will amount to 15/ 20 of the VAT recovered on the acquisition of the property.
SALE OF REVERSIONARY INTEREST
I own a number of commercial properties which are currently let out on leases to tenants. I am considering selling the reversionary interest in the near future. Should I sell prior to 1 July 2008?
The sale of a reversionary interest (i.e. where the property is subject to a long lease) will continue to be exempt from VAT under the new regime. Therefore, there is no benefit or downside to selling the reversionary interest pre or post 1 July 2008.
ADMINISTRATION
I own a number of commercial properties which are currently let out on leases to tenants. Do I need to do anything prior to 1 July 2008?
Every taxable person that owns a property will be required to have a capital goods record for every property owned by them. The record should include details such as the dates of acquisition and/or development/ refurbishment of the property, dates of occupations of a property, details of expenditure on acquisition, development, refurbishment and any associated services such as legal, engineering, etc. and details of the VAT recovery for each interval.
INTENTION TO MAKE TAXABLE SUPPLY
A landlord acquires a property and wishes to rent it out. He fails to rent it out for a period of two years. What implications does this have from a VAT perspective?
The CGS life of the property commences on the acquisition of the property. The landlord will be entitled to register for VAT and recover the VAT charged on acquisition of the building on the basis that he will opt to tax the rent when the property is let out.
For the first two years, the landlord will not be required to make an adjustment under the CGS. Where the property is not used for that period, the landlord’s entitlement to recover will be based on the intention on acquisition of the property. When the property is let out in year three, VAT at 21% will be charged on the rentals to the tenant.
JOINT OPTION TO TAX THE SALE OF FREEHOLD
An individual is in the process of purchasing a ‘used’ building. VAT is being charged on the purchase of the property by the vendor as both the vendor and purchaser have opted to tax the supply.
A ‘used’ building is a building that is not new. For this purpose, a building will be ‘used’ when five years have passed since it was completed. It will also be ‘used’ within five years of completion, if it has been occupied for two years and the first supply was not between connected persons.
Where the option to tax is exercised VAT will be charged on the actual consideration for the supply of the ‘used’ property. VAT will be accounted for by the purchaser, under the reverse charge mechanism. The 20¬year CGS life has recommenced in the hands of the purchaser.
BUY/SELL PRE OR POST 1 JULY 2008?
Is there any benefit to holding off on purchasing/selling a building until after 1 July 2008?
If a building was purchased and/or developed on or before 1 July 1988, the sale of the property could be exempt from VAT if it happens after 1 July 2008. If the sale occurs prior to 1 July 2008, VAT may have to be charged.
In addition, depending on whether the property is being purchased or leased by a partially exempt business, it may be beneficial to wait until post 1 July 2008. The specific circumstances of a particular case should be considered to determine whether it is of benefit to wait or not.
CONCLUSION
The questions posed above seek to highlight a number of the issues to be addressed in the context of the new VAT on property legislation. Practitioners should also be aware that VAT on Requisitions on Title need to be updated to reflect the new regime. In addition, legal documentation must be carefully reviewed to ensure that it is appropriately drafted.
Jane O’Hanlon, ACA, is in Purcell McQuillan Tax Partners, an independent tax consultancy practice.