Don’t forget the VAT

Veronica Donnelly takes a closer look at Value Added Tax and explains why people really need to understand what it’s all about

In these times of recession, we are all aware that businesses are looking to banks for support and banks are looking to securitise their money. Everyone is looking for efficiencies and savings. So it continues to amaze me that applications for funds are submitted on the basis of business models which have expenditure understated, or in some cases overstated, by as much as 20 per cent.

VAT is so often disregarded until the deal is done and the finance has been agreed instead of being built into the cash flow models and business plans. Admittedly not helpful is the mix of legislation and HMRC interpretation of the law, which can make agreement to the VAT treatment less than straightforward. Property VAT law relies on a mixture of rules, certificates and agreements as to usage calculations. But for all that, there are really only two outcomes which should concern us with regard to VAT: cash flow and residual cost.

Take a standard building project. Normally we would expect that VAT is incurred at 20 per cent, recovered on a monthly basis and, provided the cash flow is managed, the overall effect on the finance is negligible. But what if the building project is a nursing home? The construction costs can be zero-rated if the owner is able to provide a certificate stating that the use is a relevant residential purpose. If he fails to meet the test either because, for example, the home will not be used solely for the correct purpose, or the build is an extension rather than an entirely new build then VAT is incurred at 20 per cent and is generally not recoverable by the nursing home. The budget may now be understated by up to one-fifth. Certificate or not, there is also still no VAT recovery on fitting out costs and any budget needs to reflect this.

Equally there are issues with commercial buildings where a bank or person financing the deal agrees to take on a tenancy of the building. In this case HMRC’s antiavoidance rules kick in and the VAT on the build costs might become irrecoverable.

This needs to be known before the costings are agreed if the figures are to make any sense.This should not be all doom and gloom, however. Conversely, there are opportunities to reduce the VAT cost in certain regeneration type projects.

Where an empty commercial building is being converted into flats, the sale of the flats will be zero-rated and any VAT incurred will be fully recoverable. But if a residential building is being refurbished and will retain the same accommodation within, then zero-rating is not likely but there may be an opportunity to incur the VAT at 5 per cent rather than 20 per cent. As this VAT is likely to be irrecoverable it is even more important to reduce the overall cost. The rules can be complex, being a mixture of focus on previous use, length of time the building has been empty and new intended use. Add to this the opportunity to improve VAT recovery under ‘design and build’ contracts and you probably need an expert to look at the tax position to make sure that you have picked up all the possible savings.

And that expertise really is the key. In my experience, a lot of people dabble in VAT. Fine if you have a black-and-white choice between zero rate or standard rate on a purchase of goods or services, but where case law can define legislation, the real test is knowing the question to ask. Ask anyone building a new house if the build cost is zero rated or standard-rated and you are likely to get a fairly immediate answer of zero-rated. 99 times out of 100 that is probably the right answer. But if the planning permission has been granted with any restrictions on disposal or use of the property then VAT case law has determined that the build may not meet the definition of a dwelling and so the build cost will be standard-rated. Not only is the original budget now wrong but the builder could incur penalties for making the error.

Any competent VAT specialist can highlight the opportunities for VAT savings and quantify the VAT cost. This is not about VAT planning, rather it is good housekeeping and a sensible approach to making every penny count. At 20 per cent of budget it makes sense to invest a bit of time to get it right.

Campbell Dallas LLP is a leading independent firm of Chartered Accountants in Scotland. The firm is the Scottish associate of UHY International. For more information or advice please contact Veronica Donnelly on 0141 942 0722 or email veronica.donnelly@campbelldallas.co.uk
www.campbelldallas.co.uk

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