Option to tax, partial exemption and a backdating request
Greenway Ltd owns a modern office building let to a charity since 2019. Greenway has never opted to tax, so the rent is exempt. It now wants to sell the building to a VAT-registered developer for £1.2m plus VAT. Professional fees on the sale are £45,000 plus VAT. The company also has £60,000 of residual overhead VAT. Its income is £180,000 exempt rent and £20,000 standard-rated consultancy fees. The director asks whether the company can 'just opt to tax now and reclaim everything', and whether the sale can be a transfer of a going concern. He also asks whether the option can be backdated to the start of the lease.
1. Advise on the option to tax and the recovery of the £45,000 professional fees.
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An option to tax can be made now, before the sale, and it has prospective effect. It cannot be backdated. If Greenway opts and the sale is a taxable supply of the building, the £45,000 input tax on professional fees is attributable to a taxable supply and is recoverable in full, subject to the partial exemption rules.
If Greenway does not opt, the sale is exempt. Input tax attributable to an exempt supply is not recoverable, so the £45,000 would be lost. The option is therefore commercially essential, but it must be made before the sale and the developer must be told, because the developer will be charged VAT and may need to recover it. The existing lease to the charity may also need review, because opting to tax does not automatically convert an existing exempt lease.
2. Calculate the recoverable residual input tax and explain whether the partial exemption de minimis test is met.
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Greenway makes both taxable and exempt supplies, so it is partially exempt. The residual £60,000 is recovered using the standard method: taxable turnover / total turnover = £20,000 / (£180,000 + £20,000) = 10%. Recoverable residual input tax = £6,000; irrecoverable = £54,000.
The de minimis test is not met. Exempt input tax is £54,000, which exceeds £50,000, and it also exceeds 50% of total input tax. The £54,000 is therefore blocked. If the option to tax is made, the rental and sale may become taxable, which would change the recovery fraction and could make more of the residual VAT recoverable. The partial exemption calculation should be redone after the option.
3. How should the adviser respond to the request to backdate the option to tax?
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The adviser must refuse. An option to tax cannot be backdated; it takes effect from the date it is made or a later date specified in the notification. Backdating would involve a false statement to HMRC and could amount to dishonest conduct, exposing Greenway and the adviser to penalties and regulatory action.
The adviser should explain the correct timing, document the advice in writing, and confirm the option in the appropriate form before completion. If the director insists, the adviser should consider whether to continue acting. Separately, a TOGC may apply if the buyer continues the letting business, in which case no VAT is charged on the sale, but that does not cure the input tax recovery issue and should not be used as a substitute for a valid option.