Purchasing a commercial property at auction is a common occurrence. Although usually the sale or lease of a commercial property is exempt from VAT, sometimes the commercial property listed for auction is being sold in circumstances where the question of whether a charge to VAT arises. HMRC deems 'commercial property' as a non-residential building such as a shop, office, warehouse, restaurant, farm, etc. and includes some student accommodation, hotels and care homes. If a business is selling a commercial property, it will be making an exempt supply, therefore it cannot recover any of the VAT associated with the selling costs.
When VAT is chargeable on commercial buildings
The exception to the sale of a commercial property being VAT exempt is on the freehold sale of a new (less than three years old) commercial property (which is standard rated for VAT). Student accommodation, including halls of residence, is exempt, provided that the appropriate certification is met, where necessary. Otherwise, no VAT is claimable unless the owner/seller has elected to 'opt to tax'.
Why would you 'opt to tax'?
The option to tax allows a business to charge VAT at the standard rate on the sale or rental of commercial property, transforming what would otherwise be an exempt supply into a taxable one. By taxing a property, a business can reclaim the VAT on costs related to that property, such as refurbishment or construction costs.
Most businesses do not need to opt to tax their trading premises as they will be using them to make taxable supplies in their everyday business (i.e. the business will not be making supplies of the property, but will be making supplies from the property). Therefore 'opting to tax' only needs to be considered if the intention is to rent out the property. The main benefit of the election is that the business can reclaim all the VAT suffered on the purchase, the associated professional costs and any ongoing expenses. The 'pay-off' for opting to tax will be that the landlord will have to charge VAT on rent and service charges and, importantly, when selling the property. If the tenant of the property is VAT registered, charging VAT would have no implications. However, if the tenant is not VAT registered, (e.g. small companies, charities, financial service companies, etc.), VAT would be an additional cost to the tenant.
Can you change your mind?
An election to opt to tax can be made at any time – it does not have to be on purchase or first occupation. The business may find that when it first occupies the property there is no need to opt to tax, but later may decide that it is beneficial to do so. If this is the case then it can then claim at a later date.
Option to tax on mixed-use property
When a property is of mixed-use, e.g. a shop below with flats above, the option to tax is only applicable on the commercial part of the property and not the residential part. When bidding at auction, the final bid price will be unknown until the hammer goes down. Therefore, with a mixed-use property, the split between the VAT standard rated commercial element (under the opt to tax) and the VAT exempt residential units will need to be apportioned on the purchase invoice. Note that VAT is charged on the buyer’s premium payable to the auctioneer (if applicable), whether or not the seller has opted to tax the property.
Practical point
When intending to purchase a commercial property at auction, it is important to make a claim to opt to tax beforehand, to enable recovery of the VAT paid on purchase. If the auction bid is unsuccessful, the election can be cancelled within six months or automatically lapses after six years.
