Acquiring investment property
This alert is intended to highlight certain VAT issues relating to the purchase and management of property which is subject to a lease(s). In general VAT should not be chargeable on the sale of such property. Depending on the circumstances this VAT free treatment is based on exemption from VAT and/or “transfer of business” relief applying. VAT free treatment does not apply in all situations but exceptions are few. Accordingly if there is any suggestion of the vendor charging VAT or of a “joint option to tax” to apply, an investor should review thoroughly the VAT treatment and implications. The VAT position of the rental income and subsequent transactions can vary as outlined below. In the circumstances considered below it is assumed that VAT is not chargeable on the sale to the investor.
Property subject to VAT free lease
This concerns property subject to a lease where VAT did not apply upfront on the capitalised value of the rent and VAT does not apply to the on-going rent. The investor will not be obliged to account for VAT on the rental income. Also, VAT should not apply to a surrender of the lease, the grant of a new lease or a sale of the property. The investor could consider opting to apply VAT to the lease or a subsequent lease or sale but this is unlikely to be of much benefit unless the investor carries out work on the premises and incurs a material amount of VAT on the expenditure. In such circumstances the exercise of an option to tax would entitle the investor to recover the VAT incurred.
In the event the investor carries out "major development" it could result in making a subsequent sale subject to VAT. Such work involves adapting the property for a "materially altered use" or the cost of which exceeds 25% of the value of the property.
Property subject to VAT “legacy lease”
This concerns property subject to a lease of ten years or greater granted prior to 1 July 2008 (commencement of the "new" VAT regime). Under the rules applying at the time VAT would have arising upfront based on the capitalised value of the rent. The investor will not be obliged to account for VAT on the rental income. Also, VAT should not apply to a sale of the property.
VAT could apply to the surrender of the lease if the tenant was entitled to recover any element of the VAT arising when the lease was granted and, at the time of the surrender, less than twenty years have elapsed. Where VAT is applicable the amount is determined by reference to the amount of VAT arising on the grant of the lease subject to a time apportionment based on a twenty year life. For example; if a 30 year lease was granted in 2000 and €100k VAT arose, a surrender in 2015 would give rise to a €25k VAT liability. The investor will be obliged to self-account for the VAT arising on the surrender and will be entitled to recover the VAT if the property is subsequently used for the purpose of activities which are subject to VAT. This includes leasing the property and exercising an option to tax such that VAT applies to the rent.
The potential implications of carrying out "major development" outlined above equally apply in this scenario.
“New” property subject to lease with “option to tax” exercised
This concerns property constructed or which was subject to "major development" within five years prior to the purchaser by the investor. In some circumstances a two year time limit can operate for "new" status to apply. For VAT "capital goods scheme" purposes, the investor is considered to have incurred and recovered VAT on the purchase of the property. A potential VAT clawback can arise if, at any stage within the next twenty years, the property is not used for the purpose of vatable activities.
In order to avoid a potential VAT clawback, the investor will need to register for VAT and account for VAT on the rental income received in respect of the lease to which the property is subject. The investor will also need to exercise an option to tax any subsequent lease to the extent that rental income will arise within twenty years of the purchase.
On the basis that the lease acquired with the premises contains an appropriate VAT related clause, the investor will be entitled to collect the VAT from the tenant. However the investor should ensure the VAT related clause does not place a time limit on the option to tax. In some circumstances a twenty year time limit from the commencement of the lease could apply whereas the capital goods scheme clawback time limit for the investor is twenty years from the date of the purchase. This could mean that the investor would not be entitled to collect VAT for all of the relevant twenty years.
Other property subject to lease with “option to tax” exercised
This concerns property which is not "new" which broadly means it was constructed more than five years prior to the purchase by the investor. For VAT "capital goods scheme" purposes, the investor is considered to have stepped into the shoes of the vendor. The investor will need to register for VAT and account for VAT on the rental income. The investor will also need to receive from the investor a record of VAT incurred and recovered on related expenditure. This is called the "capital goods scheme record".
Similar to the investor scenario outlined immediately above, there is a potential VAT clawback for the investor and the investor will need to ensure appropriate VAT clauses are in place. However the time limit concern outlined above in respect of the "new" property scenario should not apply in this case as the relevant twenty year time period for the investor is the same as that applicable for the vendor.