HMRC has recently issued guidance to confirm the VAT exemption for management services for freehold owners of residential property.
One of the most confusing issues relating to property is the VAT liability of the care, maintenance and repair of “common” areas of residential property. For example, if you live in a block of flats, this typically includes looking after the elevators, corridors, internal and external doors. If you rent a house on an estate with communal gardens or other facilities for the use of the residents, chances are that you’ll be required to pay a service charge of some sort towards the costs.
HMRC has always accepted that the provision of such services to tenants or leaseholders by the landlord are VAT exempt, because the services are part of the supply of the right to occupy the property, which is exempt from VAT. Such management charges are usually set out in the lease and form part of the underlying supply of the property.
In 1994, HMRC extended this exemption to services provided to freeholders paying service charges provided by owners of shared residential estates. This was, and remains, a concession: ESC 3.18 (VAT Notice 748, Extra-statutory concessions http://tinyurl.com/ybxfvudb).
The VAT treatment of such services not only determines whether VAT is charged to the owners of the dwellings, but also whether the freeholder of the common areas can claim VAT on related costs. Under normal VAT rules, businesses cannot claim VAT on the cost of goods and/or services used to make exempt supplies. If following the concession, the freeholder can’t claim VAT on related costs, including VAT charged by third party service companies who carry out the maintenance and upkeep of the property concerned.
A bit of confusion…..
Since the concession was introduced, there has been some confusion in the sector about how it applies. In particular, the VAT liability of services by third party service companies.
The contracts are carried out in various ways and in many cases, the owners of the dwellings have no direct contact with the freeholder. Usually, the freeholder appoints a service company or other third parties to carry out the services; or employs a warden or caretaker to do the day to day work. Sometimes, the management company issues invoices for the service charges and collects payment directly from the residential property owners. It may also buys goods and materials to carry out the duties under the contract; e.g. materials for repairing damaged property, plants and sometimes equipment on behalf of the freeholder.
The contract is between the landlord and the service company/other suppliers and as such, the services supplied are liable to VAT at 20%. However, there has been some confusion about this issue because some management companies have been treating these service charges as VAT exempt and making other common VAT accounting mistakes.
The issue was considered by the Upper Tribunal in 2015; in a case that confirmed that the exemption applies only to services supplied by the freeholder to the residential property owners, not by management companies or other suppliers even if they collect payment and deal directly with property owners on behalf of the freeholder.
HMRC guidance “could be clearer”
The Tribunal commented that one reason for the confusion was that HMRC’s guidance on the subject – as set out in VAT Notice 742: Land and property, section 12 – was somewhat unclear. HMRC has now revised the guidance to confirm the correct position: http://tinyurl.com/y9mnxuv8. It has also issued Revenue and Customs Brief 6 (2018) http://tinyurl.com/y8jdv5wv and Information Sheet 07/18 http://tinyurl.com/yaymovfk explaining that the correct concessionary rules be applied from 1 November 2018.
This is by no means a particularly major development from a technical perspective, although it is a major issue for property management companies as they must ensure that they correct apply ESC 3.19 from 1 November. But what I think is more interesting is the fact that HMRC appear to have taken note of the comments made by the Tribunal and issued the guidance discussed above to clarify the issue. This doesn’t happen often!