VAT and Commercial Property: Complete Guide

If you get VAT wrong on a commercial unit, you can accidentally add 20% to the price, lose input VAT on an 80k refurb, or turn an exempt sale into a standard-rated one at the last minute.

1. The default: exempt from VAT

For most small commercial units, the default is simple:

The sale or lease of a non-new commercial property is exempt from VAT unless you have opted to tax.

Exempt means you do not charge VAT on the rent or sale price, but you cannot recover VAT on related costs (solicitors, agents, refurb, repairs, professional fees), except where those costs relate to other taxable supplies in your business.

"New" commercial buildings (completed within the last 3 years) are standard-rated at 20% on freehold sale by default.

For a straight BTL mindset: think of exempt as "like residential rent" from a VAT point of view. No VAT out on rent, but VAT is a real cost on your builders, surveyors and professional fees.

2. Option to tax: what it does in practice

The option to tax is an election under VATA 1994 Schedule 10 that turns your otherwise exempt supplies of that land or building into standard-rated taxable supplies.

What that means day-to-day:

You charge VAT at 20% on rent and most sales of that opted property.

You can recover input VAT on costs that relate to that property, subject to normal partial exemption rules.

Once it is in place, the option ties to the land itself, not just a specific lease. It normally lasts 20 years before you can look at revocation.

When it usually makes sense for you:

You are buying a opted or new commercial building and paying VAT on the price. If you do not opt yourself and charge taxable rent, you may not be able to recover that VAT.

You plan a heavy refurb with VAT-bearing costs. On an exempt let, that VAT is dead money. On an opted let, you can reclaim it if your tenants are making taxable supplies and your overall business is not heavily exempt.

Your tenant is VAT-registered and using the premises for fully taxable business, so the VAT on rent is fully recoverable input tax for them.

When it usually does not make sense:

Small tenants who are not VAT-registered: the 20% VAT on rent is a hard cost to them and can make your unit unlettable compared to an exempt competitor.

Mixed-use where the main value is in the residential element: you cannot opt the residential part and may cause partial exemption headaches.

Forum myths to kill:

"Just opt to tax every commercial property, then you can always reclaim VAT." If your tenant cannot recover VAT, you have just made your unit 20% more expensive to occupy than the one next door.

"Opting is just a box to tick later with your accountant." The timing, the first exempt supply, and whether HMRC's permission is needed matter a lot.

3. How you actually opt: process and cooling-off

HMRC's rules on opting to tax land and buildings are in VAT Notice 742A.

Key points:

You decide to opt and notify HMRC, usually using form VAT1614A.

You must notify within 30 days of your decision for it to be treated as valid from that decision date. If you miss that, you may need to agree a later effective date or seek HMRC's permission.

As at 2024, HMRC no longer send acknowledgement letters as standard; you keep evidence of sending and your own decision date.

Cooling-off:

If you opt and then change your mind within 6 months, and you have not yet made any taxable supplies (for example no VAT-charged rent received, no VAT-charged sale completed), you can revoke under the cooling-off provisions in VAT Notice 742A.

After that, you are broadly locked in, except for the 20-year revocation route.

HMRC permission:

If you have already made exempt supplies of that property, HMRC permission may be needed to opt, to stop people gaming past input tax.

That is why you cannot just let it exempt for a few years, then casually opt when you want to do a refurb.

4. Anti-avoidance: connected parties and Capital Goods Scheme

HMRC are alive to landlords using the option to tax to create artificial input tax recovery within groups or families.

Two main blocks:

Connected persons: Under VATA 1994 Schedule 10 and VAT Notice 742A, your option can be disapplied where you make exempt or partly exempt supplies to a connected person who will not use the building entirely for taxable business.

Capital Goods Scheme (CGS): Commercial property with a VAT-inclusive cost over GBP 250,000 falls into a 10-year adjustment period. If use changes from taxable to exempt or vice versa, you adjust input tax over the remaining years, giving HMRC a clawback or extra recovery.

Examples where the option is disapplied or bites:

You opt to tax a building and rent it to your own partly exempt business or to a connected charity. HMRC can switch you back to exemption for those supplies and block input tax.

You buy a GBP 1m opted building, recover GBP 200k VAT as you fully let it on taxable rents, then later sell it exempt to a non-taxable buyer or use it for your own exempt activity. CGS can force you to pay back a chunk of that VAT.

Forum myth: "Just put the property in a different company and charge VAT rent to move input tax around your group." In practice, connected-party and CGS rules mean HMRC can disapply your option and claw back VAT.

5. TOGC: selling an opted commercial property

Without TOGC treatment, selling an opted commercial building means 20% VAT on the sale price if it is not "new" but you have opted.

Transfer of a Going Concern (TOGC) can turn that into a VAT-free transfer. Broad conditions (from VAT Notice 742 / 700/9 and practice):

You are selling a business as a going concern, not just bare land: so usually a let investment with tenants in place.

The buyer is or becomes VAT-registered.

The buyer opts to tax the property and notifies HMRC before the transfer (or at completion with agreement), so they will also make taxable supplies.

There is no significant break in the letting business; the buyer just steps into your shoes.

If TOGC applies:

The sale is outside the scope of VAT: no VAT charged on the price.

No extra SDLT on the VAT element because there is none.

If TOGC does not apply and you are opted:

The sale is standard-rated at 20%, which can kill deals with non-recovering buyers because they are effectively paying 120% of the price.

For PropertyKiln, you want a clear decision tree: "Selling an opted property? Ask: (1) Is there a letting business? (2) Is the buyer VAT-registered and opting? (3) Can you structure as TOGC?"

6. Capital Goods Scheme and 20-year revocation

CGS and revocation are long-tail VAT issues that bite when you change the use of a building or sell it.

Capital Goods Scheme (CGS):

Applies to commercial property with a VAT-inclusive cost of GBP 250,000 or more (purchase and major works combined).

You spread input VAT recovery over 10 intervals, adjusting each year based on the proportion of taxable vs exempt use.

If you move from taxable letting to exempt letting, or vice versa, you may have to repay some previously recovered VAT or gain extra recovery.

20-year revocation:

An option to tax normally cannot be revoked for 20 years from the effective date.

After 20 years, you can apply to HMRC to revoke the option, subject to conditions (for example property no longer used in your business).

In practice, most landlords will sell long before this point, so you care more about TOGC and CGS than revocation.

Forum myth: "You can always just revoke the option if you want to sell to a non-VAT buyer." You usually cannot do that before 20 years, and even after that it needs HMRC agreement.

7. Mixed-use: shop and flat, partial exemption and apportionment

For small landlords, the classic mixed-use problem is the shop with flat above.

VAT treatment:

Residential rent and sales are exempt or zero-rated depending on the situation; you cannot opt to tax the residential element.

Commercial part (the shop) can be opted and standard-rated, or left exempt.

HMRC say you must apportion consideration and costs between taxable and exempt elements on a "fair and reasonable" basis.

What that means in practice:

You might opt the ground-floor shop only, charge VAT on the shop rent, and recover a proportion of input VAT on shared costs (roof, structure) through partial exemption.

You must pick a method (for example floor area, rental values) that can be defended, and apply it consistently.

Forums often miss that with mixed-use:

You cannot just "opt the whole building" and reclaim all VAT. Residential parts stay exempt or zero-rated.

You have partial exemption calculations to do, which can get messy quickly once you have more than one property.

8. Worked example: opt to tax or not?

Scenario:

You buy a small commercial unit (no flat) for GBP 200,000 plus VAT, so the price is GBP 240,000 with GBP 40,000 VAT.

You spend GBP 80,000 plus VAT on refurb, so GBP 96,000 with GBP 16,000 VAT.

Total VAT on the project: GBP 56,000.

You plan to let it at GBP 18,000 per year to a VAT-registered tenant using it for fully taxable supplies.

If you do not opt:

Your rent is exempt.

You cannot recover the GBP 56,000 VAT on purchase and refurb (assuming no other taxable business use).

Effective investment cost is GBP 296,000. Your gross yield on GBP 18,000 rent is 6.1%.

If you opt to tax (and notify correctly using VAT1614A):

You charge your tenant GBP 18,000 + 20% VAT = GBP 21,600 per year.

They reclaim the GBP 3,600 VAT as input tax, so the VAT does not cost them cash.

You recover the full GBP 56,000 input VAT on purchase and refurb (subject to CGS if over GBP 250k and partial exemption if relevant).

Your effective net cost is back to GBP 240,000 (excluding VAT). Your gross yield on GBP 18,000 rent is 7.5%.

Bottom line: for a fully taxable tenant, opting has effectively boosted your yield by 1.4 percentage points and removed GBP 56,000 of dead VAT cost.

If instead your tenant was a small, non-VAT-registered hairdresser:

On an opted property, their rent bill jumps from GBP 18,000 to GBP 21,600 with no recovery.

They will either demand a lower base rent or simply walk to a landlord next door who has not opted.

That is why your "Should I opt?" guide must always ask who your likely tenant actually is, before touching any forms.

9. What forums get wrong about VAT on commercial

You will see the same bad advice repeatedly:

"Commercial property is always plus VAT." Wrong: default is exempt, and only new commercial or opted properties are standard-rated at 20%.

"Just opt, you can always change it later." Wrong: the option sticks for 20 years, and early revocation is highly restricted.

"TOGC is automatic so you never pay VAT on investment sales." Wrong: miss one condition (for example buyer not opting in time) and the deal is suddenly plus 20% VAT, with knock-on SDLT and funding issues.

"Apportionment on mixed-use is just guesswork." Wrong: HMRC expect a fair and reasonable method backed by evidence; a lazy apportionment is an easy enquiry win for them.

For PropertyKiln, your value is not teaching accountants what Schedule 10 says. It is giving you a simple framework:

Who is likely to occupy the unit?

Will they recover VAT?

How much VAT are you actually spending on purchase and works?

Are you trying to build a clean, saleable investment with TOGC potential or just a one-off project?

Answer those four and you usually know whether you should opt, stay exempt, or walk away from the deal.

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