The “option to tax” is just that: a business has the choice of whether to charge VAT on the sale, lease, or rental of a building or a piece of land and to claim back the VAT cost (input VAT) on the expense of the development of the land or property. If the business decides to do this, it must be certain to charge VAT on the rental (or sale) of the land, which means that the business must decide at board level, before starting the development if reclaiming Value Added Tax is a viable commercial decision.
The decision whether or not to reclaim VAT or charge VAT to the tenant or purchaser of the property must be made before works begin. The “option to tax” could cover only an area of land being developed, but it must be specified in the application to HMRC from the outset. In effect, the “option to tax” might work for a commercial development where the tenant would normally pay VAT, but it would probably not work for a domestic tenant, because normally VAT would not be charged for a domestic dwelling. The “option to tax” must be made founded on good commercial reasons. For the same reason if you plan to sell the land or building the “option to tax” could affect the sale price.
What are the advantages of taking the “option to tax”?
Opting a building or a piece of land means that VAT charges incurred in development of the land or property can be reclaimed. For example, the £20,000 VAT spent on renovating a property cannot normally be reclaimed unless the developer took the “option to tax”. Once this option has been taken, all the supplies used to develop the land or buildings are normally standard rated, and any VAT incurred is recoverable.
However, it is important to bear in mind that the “option to tax” cannot normally be revoked for at least 20 years; a kind of “cooling off” period means it can be revoked within the first six months of taking the “option to tax” providing no VAT has been reclaimed, but ideally once the decision has been made it should then be cemented.
Agreeing and declaring the “option to tax”?
The decision to declare the “option to tax” should be made at board level, with a written record of the meeting(s) and the date the decision was made noted in the minutes. HMRC will probably want to see the paperwork relating to the decision. HMRC should be notified within 30 days of the decision being made on form VAT 1614A with maps or plans associated with the property. HMRC then acknowledge receipt normally within 15 days of the application.
Example:
A business buys a commercial property and the board looks at the “option to tax”. The building has not previously been opted to tax. The business (now the developer) develops it to rent out to another commercial tenant who has already agreed to pay VAT on each quarterly payment for at least the next 20 years.
Having ratified the decision with the board and noted it in the minutes, an application is made to HMRC within the 30-day time frame. The business has had no previously exempt supplies and so does not need to seek HMRC’s permission to make the option and simply submits VAT1614A. The landlord reclaims the input VAT of £20,000, and after renovating the building, rents the property to the tenant as agreed with VAT on the invoice for the rental fee.
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