Take care with conversions
The Upper Tier Tribunal (UTT) decision in regards the cases of Languard New Homes Ltd and DD & DM MacPherson, which were heard together, has demonstrated how vitally important it is for a developer to consider the VAT implications of the way in which he reorganises the space in the conversion, into a dwelling or dwellings, of a property which originally contained both commercial and residential parts.
In both cases the businesses bought property, a pub and a shop respectively, which contained both commercial and residential parts and converted the properties into separate dwellings which they intended to sell once complete.
In converting the properties each of the newly created dwellings incorporated at least some of the property that was formerly used for residential purposes.
The UTT decided that, as each newly created dwelling included a part or parts of the existing property that were previously used as residential accommodation, he newly created dwelling could not be considered to be a “new dwelling” as defined in the VAT Act 1994. Therefore, the sale of each newly created dwelling was exempt from VAT, not be zero-rated and as a result the VAT incurred on the conversion could not be claimed.
This ruling is clearly correct in the reading of the words of Group 5 of Schedule 8 of the VAT Act 1994. However, it does highlight how, in considering different options at the planning stage of a conversion project, a business could save itself from losing the ability to claim any of the VAT it incurs on the project.
A business buys a former public house which contains a ground floor consisting entirely of the bar/commercial area and a first floor consisting entirely of the living accommodation used by the landlord.
If the business converts the former pub vertically and creates 2 semi-detached 2 floor dwellings, each incorporating both the ground and first floor of the existing building then, under the VAT Act 1994, neither of the newly created dwellings will be “new dwellings” and thus their sale will be exempt from VAT.
However, if the same business had split the former pub horizontally, creating two separate apartments; the first using only the ground floor former commercial part of the pub, the second using only the upper floor former landlord living accommodation, then:
- the upper apartment, which utilises the former residential part of the property, cannot be a “new dwelling” under the VAT Act.
The sale of this apartment cannot therefore qualify for zero-rating and thus is exempt. As a result, any VAT incurred on its creation not claimable; BUT
- the ground floor apartment, which only utilises former commercial parts of the property, is a “new dwelling” under the VAT Act.
The sale will therefore qualify for zero-rating and the VAT incurred on its creation will be claimable.