Pub Conversion Projects – Should I Be Paying Value Added Tax (VAT)?

Purchasers acquiring redundant public houses for re-development into residential accommodation will often accept, without query, that the VAT treatment proposed by the vendor is correct. However, this approach should never be accepted without further investigation.

Typically VAT will be applied to part, or all, of the agreed purchase price, on the basis that the vendor has previously opted to tax.  Often this VAT can be reclaimed in full by the buyer, on the basis that they fully expect to sell the converted residential properties by way of a zero-rated taxable supply.  But in some cases the addition of VAT can be problematic; if for example the developer intends building up a rental portfolio.  Even where VAT is expected to be recoverable in full there will still be cash flow and funding implications to consider.  At a time when bank funding is tight even short periods of delay or uncertainty in securing a reclaim from HMRC will be unwelcome.

Furthermore the amount of Stamp Duty Land Tax (SDLT) payable will increase because this is calculated on the gross price; effectively SDLT is paid on top of the VAT.  And this increase in the SDLT liability could be disproportionate if the addition of VAT means the overall purchase price breaches the next SDLT threshold!

Common Situations

E3 Consulting recommends that the purchaser should always look critically at the treatment applied by the vendor, and consider whether it is indeed appropriate.  In doing so the following points should be considered:

• Many public houses include a flat over which the vendor’s option to tax is rendered ineffective.  Typically in these cases it is normal industry practice for VAT to be charged on 90% of the sale price, with 10% allocated to the existing residential element and exempt.  This is in accordance with the ‘Brewers Society agreement’, an informal arrangement generally accepted by HMRC.  However, in many cases this apportionment will be inappropriate, for example where the pub is on the ground floor of the premises, and the flat constitutes the entire first floor. In such circumstances there is merit in seeking to negotiate a different percentage split with the vendor.   

• A vendor’s option to tax might also be dis-applied if the purchaser certifies that part or all of the building is intended for conversion to residential use.  A purchaser is able to adopt this approach unilaterally in advance of the sale price being legally fixed (typically exchange).  Thereafter certification is only possible with the agreement of the vendor, who for VAT reclaim reasons of their own may be unwilling to co-operate.  It therefore makes good commercial sense to recognise this point early in negotiations, so the implications can be fully explored.  If the benefit to the purchaser outweighs the anticipated cost to the vendor then a practical solution might be to accept some negotiated increase in the purchase price.

• A further approach worth considering is revocation.  Since 1 August 2009 it has been possible to remove an option to tax that has been in place for 20 years.  This approach will certainly require the co-operation of the vendor, as it is they who will need to notify or seek permission from HMRC.

• Depending upon the precise circumstances opportunities may exist to contrive the removal of an option to tax under HMRC’s own anti avoidance rules. 

• In some cases it may be possible to avoid a VAT charge arising through treating the transaction as a VAT free transfer of a business as a going concern, or TOGC.  Typically this might be appropriate where the purchaser will continue trading the premises as a pub for a period of time prior to re-development – e.g. whilst awaiting planning approval.  Or similarly, it is being acquired for the time being with the benefit of an existing tenancy. 

Timely Advice

The above is a very brief overview of some of the opportunities that are available.  In each case a number of specific yet important points of detail exist, so careful analysis of the facts for each specific project is required.  It cannot be stressed enough that early advice should always be sought, as any delay can drastically reduce the options available.

If you are contemplating a residential conversion project and would like to discuss its VAT implications please contact Mark Peters or Alun Oliver at E3 Consulting.