When should property developers start thinking about VAT? One thing I’ve learnt from property developers is that property development is a very complicated business. Even experienced developers have to run a very tight ship to balance the many financial demands, including tax, the CIS, dealing with the bank or other investors, as well as the planning office, getting the construction work done, managing the contractors etc. It’s a very long list. And I’m often asked at what stage in the process property developers should start thinking about VAT.
There is a very logical reason for doing it AS EARLY AS POSSIBLE in the process:
VAT is a transaction tax which means that you have to decide whether to charge it every time you make a sale of goods or services, or receive any payment; or whether you can claim it every time you buy goods or services or make any payment.
Once a sale or purchase is made, or payment received or given, it is usually too late to change the VAT liability. You have to understand how the rules apply and make decisions WHEN THE TRANSACTION OCCURS to avoid costly mistakes.
So how does that relate to property development?
In any case, whether your development is big or small, start VAT planning before the earlier of the three key events explained below:
One: Before any sale or lease or payment for property.
This is probably the most important because the VAT liability of the income can affect how much – if any – VAT the developer can claim on his costs. Income from many property transactions – including short term residential lets – is exempt from VAT and you can’t normally recover VAT on any costs relating to exempt income. And if you receive ANY income, however small, whether a peppercorn, a penny or any goods or services in place of money, it counts as “exempt income” for VAT purposes.
Identifying the best time to receive the income can help to minimize any irrecoverable VAT. In certain situations, it may be possible to plan your business transactions in a different way so that your income is taxable, not exempt. But either way, you need to do this before you receive the income.
Two: Before you start incurring expenditure, especially if you’re buying land or buildings
There are two particularly important reasons for this. The first is to ensure that you don’t pay more VAT than you have to pay, for example if you’re buying a commercial property to convert to residential; or you’re paying a contractor to carry out some work that might qualify for the reduced rate or the zero-rate. This is particularly important if your sales or rental income will be exempt and you can’t recover VAT on related costs.
If you are entitled to reclaim VAT from HMRC, because your sales income is zero-rated (or standard rated for commercial property), you want to make sure that you’re claiming as much as possible and that you claim it as quickly as possible. This can apply to the sale of certain new and converted residential properties. You’ll want to register for VAT as soon as possible to claim VAT on costs to help with your cashflow, especially if you’re relying on VAT refunds from HMRC to pay for other costs. You could also be entitled to claim VAT on speculative or abortive costs, including professional fees.
Three: At the planning stage
In some respects, this could be the most important event, because the design and end use of the property affects how much VAT you pay for construction services and how much VAT you can claim from HMRC.
I’m not for a minute suggesting that you take a VAT consultant along with you to view properties or to meetings with your architect or the planning office, but sometimes small changes in the design of a property can make the difference between paying VAT at 20%, 5% or 0% or whether you can claim any of the VAT from HMRC.
Adding irrecoverable VAT at 20% to the cost of any property development could mean the difference between making a decent profit or losing money on the project,. And even if you CAN recover the VAT, you need to make sure you’re not being overcharged VAT and include VAT cashflow in the initial budgeting and financial planning for the project so that you’ve enough cash to fund VAT payments. I’ve seen more than one development put on hold for weeks or months because developers were relying on VAT refunds which took months to arrive, or, worse, find out that they are not eligible for the refund.
Make sure that you’re not in this situation. VAT is a difficult subject, but if you include VAT in your financial planning from the start, you can minimize your VAT costs and manage the process in an organized manner. And dealing with it at the right time will also help to keep your stress levels down during a very busy and hectic time!
If you want to know more about about VAT planning for property developments, along with the important VAT liability and VAT recovery rules, see my new “Guide to VAT and residential property development” .
Marie