VAT considerations when converting commercial property to residential use

When converting a commercial property into residential use, there are a number of VAT issues to consider and it’s essential to get the treatment right at the outset in order to avoid any nasty surprises and minimise the costs associated with the project.

Anyone planning to convert any property into residential use is advised to seek advice from a tax expert so that the project is structured in the most tax-efficient way.

What are the rules?

Generally, when work is carried out to an existing building, VAT is chargeable at the standard rate of 20%. However, a reduced rate of 5% can be applied in certain circumstances. One of these circumstances is where there is a conversion of a commercial building into a residential dwelling.

So, as a very simple example, if you are converting a non-residential building such as a warehouse into apartments, at a cost of £500k, failing to use the reduced rate could cost you an additional £75k.

There are a number of conditions for the reduced rate to apply but one condition (which is often overlooked), is that there mustn’t be any planning restrictions on the building which would prevent the property from being sold or used separately from any other land or building.  An example of this restriction could be a warehouse which could only be sold or used along with the associated factory.

What does the reduced rate cover?

It covers costs relating to work to the fabric of the buildings including walls, roofs, floors, stairs, windows, doors, wiring and plumbing, the provision of facilities such as water, power, heat and drainage and the installation of fitted kitchen units, sanitary-ware, central heating and light fittings.

Also, if the builder undertakes the work and purchases materials on the owner’s behalf, they should charge VAT at 5% on both materials and labour. If the builder incorrectly charges VAT at the standard rather than the reduced rate, HMRC won’t refund the excess. It would be for the owner to recover the money back from the builders, so it’s important to get it right at the outset.

What does the reduced rate not cover?

Costs for services such as architects and quantity surveyors, the installation of goods which are not building materials – for example, carpets or fitted bathroom furniture and costs relating to the hire of goods or scaffolding are not eligible for lower rating and chargeable to VAT at the standard rate.

 Get it right at the outset

If you are planning to convert property into alternative use, it’s imperative that the tax treatment is considered upfront so that you don’t pay too much VAT.  Whilst it is usually possible to correct errors retrospectively, suppliers may be unwilling to refund VAT incorrectly charged or might no longer be in business meaning that any VAT overpaid is lost forever.

Contact Carolyn.VanHecke@cowgills.co.uk if you need advice.