When dealing with commercial property, business owners face a crucial choice concerning Value-Added Tax (VAT). Although the sale and rental of commercial property are usually VAT-exempt, VAT can be charged on these transactions. This option is commonly referred to as the “option to tax.”

What is the Option to Tax?

The option to tax allows a business to choose to charge VAT on the sale or rental of commercial property. This decision doesn’t affect residential buildings or the residential parts of mixed-use buildings. It’s a choice that can have significant financial implications, so it’s important to understand how it works.

Why Choose to Opt to Tax?

The main reason a business might choose to opt to tax is to recover VAT on costs associated with the property. For example, if you’re spending money on renovations or maintenance, opting to tax allows you to reclaim the VAT on these expenses. However, it also means you’ll need to charge VAT on rent or sale proceeds, which could make your property less attractive to non-VAT registered tenants or buyers.

The 20-Year Rule

Once you’ve opted to tax, the decision is generally binding for 20 years. This is a long-term commitment, so it’s crucial to consider the implications carefully. There is a six-month cooling-off period at the start, during which you can withdraw the option with HMRC’s written consent. After this period, you’re committed for the full 20 years.

Revoking the Option After 20 Years

After 20 years, you have the opportunity to revoke your option to tax. However, there are conditions you need to meet:

1. The ‘Relevant Interest’ Condition: This means you (or a relevant associate) have disposed of your interest in the property. However, if there’s an overage (additional payment) due on the property after revoking the option, this condition won’t be met.
2. The 20-Year Condition: The tax option must have been in place for at least 20 years, and it must always be met.
3. The Capital Goods Scheme Condition: The property should no longer be covered by the capital goods scheme. This only applies to recent large refurbishments.
4. The Valuation Condition: You shouldn’t have granted the property for below market value in the past ten years.
5. The Pre-Payment Condition: This relates to future supplies connected to the property after the option is revoked.

If you meet the first condition, you don’t need to worry about the others. If you don’t meet the first condition, you need to meet all of the remaining four.

Practical Considerations

When considering whether to opt to tax or revoke an existing option, keep these points in mind:

• Future Plans: Consider your long-term plans for the property. The option to tax is a significant commitment, so think about how it aligns with your business strategy.
• Tenant Considerations: If you’re renting out the property, remember that charging VAT could make it less attractive to non-VAT-registered tenants.
• Revocation Timing: You can only revoke the option from the current date forward. HMRC won’t backdate the revocation.

The option to tax on commercial property is a powerful tool that can help businesses recover VAT on property-related expenses. However, it’s a long-term decision with significant implications. By understanding the rules, considering your business’s specific circumstances, and planning carefully, you can make an informed decision about whether opting to tax is right for your commercial property. Remember, while this guide provides an overview of the key points, tax laws can be complex and subject to change. You can consult with our qualified tax accountants for advice on Option to Tax on Commercial Property tailored to your specific situation. With careful planning and expert guidance, you can navigate the option to tax process effectively, ensuring it aligns with your overall business strategy and financial goals.