Option to tax: how it works on commercial property

Most supplies of land and buildings in the UK are exempt from VAT. That sounds helpful, but exemption has a cost: if you cannot charge VAT on your income, you generally cannot reclaim the VAT you pay on related costs such as refurbishment, professional fees or the purchase itself.

The option to tax is the mechanism that changes this. By opting, an owner elects to make their supplies of a particular property standard rated instead of exempt. VAT at 20% is then charged on rent and on any future sale, and the owner can recover input VAT on costs linked to that property. The option attaches to the opter, not to the building, so a new owner is not bound by the previous owner's choice.

The usual motive is VAT recovery. If a landlord buys, builds or refurbishes commercial property and cannot charge VAT on the rent, the VAT on those costs is a real, unrecoverable expense. Opting to tax lets them charge VAT on rent and, in doing so, unlock recovery of the VAT they have paid out.

Common reasons to opt include:

• Recovering the VAT paid on the purchase price of an opted building
• Recovering VAT on a significant refurbishment or fit out
• Recovering VAT on ongoing running and professional costs

The trade off is that VAT is then charged to tenants and buyers. Where those tenants are themselves VAT registered and can reclaim it, the option is broadly cost neutral to them. Where a tenant cannot recover VAT, such as some financial businesses, charities or small unregistered occupiers, the added 20% is a genuine extra cost and can make the space harder to let. It is a commercial judgement, so confirm the numbers with your accountant before opting.

When a seller has opted to tax, they must add VAT at 20% to the sale price. On a commercial building this can be a large sum. A buyer who is VAT registered and intends to make taxable use of the property can usually reclaim that VAT on their next VAT return, but only after they have paid it at completion.

That timing gap is the practical problem. The VAT is due when you complete, yet the VAT refund from HMRC arrives weeks or months later. The purchase price itself is typically funded by a commercial mortgage or by cash, and lenders will not usually stretch to the VAT on top. This is the exact gap a VAT bridge is built to cover, which we return to below.

There are two stages. First you make the decision to opt. Second you notify HMRC, normally within 30 days of the decision, using the relevant option to tax form. HMRC acknowledges the notification rather than granting permission, although permission is required in a limited set of cases, for example where the property has been used for exempt purposes in the past.

A few points worth knowing:

• An option covers the specific land or building you identify, and can extend to the land it sits on
• Notification is usually made by email or post to HMRC's option to tax team
• You should keep the notification and HMRC's acknowledgement on file, because buyers, tenants and their solicitors will ask to see proof

Because the rules on scope and permission carry nuance, confirm your specific position with your solicitor and accountant before you rely on an option being valid.

Opting to tax does not override every situation. Several supplies stay exempt or fall outside the option's effect:

• Residential use. An option to tax has no effect on a supply of a building intended for use as a dwelling or for certain relevant residential purposes. This is why plain residential lettings are not caught.
• Transfers of a going concern. Where a let property is sold as a genuine transfer of a going concern, no VAT is due if the conditions are met, even though the seller has opted. For a TOGC to apply on opted property the buyer normally has to opt to tax and notify HMRC before the relevant date, so the mechanics need care.
• Certain other supplies that the legislation specifically protects from the option.

Getting this right changes whether VAT is payable at all, so it should always be checked by your advisers on the facts of the deal.

Yes, but not freely. Once notified, an option to tax is generally locked in for the long term. There are three main routes out:

• The cooling off period. You can revoke within six months of the option taking effect, provided no tax has become due and no grant has been made under it, among other conditions.
• The property is no longer held. An option can lapse automatically where you have not held an interest in the property for more than six years.
• The 20 year rule. After the option has been in place for more than 20 years, you can revoke it, subject to HMRC's conditions.

Outside those windows the option simply continues. Because revocation can trigger VAT and clawback consequences, treat it as a decision to plan with your accountant rather than a form to file lightly.

When you buy an opted commercial building, you pay the agreed price plus 20% VAT at completion. You reclaim that VAT on your VAT return, and the HMRC VAT refund typically lands within one to three months. In the meantime you have to find the cash for the VAT.

A VAT bridging loan funds exactly that amount. It is short term finance, drawn at completion and repaid when the refund arrives, with the refund itself acting as the planned exit. The loan sits alongside your main purchase funding, interest is usually rolled up over a short term so there are no monthly payments to service, and an arrangement fee applies. Because you are only borrowing the VAT rather than the whole price, the sums and the repayment are contained.

VAT bridging on commercial property is not regulated by the Financial Conduct Authority, and nothing here is tax or financial advice. If you are buying an opted property and want the VAT covered from completion to refund, we can talk you through the options.