Update on option to tax

HM Revenue and Customs (HMRC) has made changes to the option to tax notification process which may have an impact on organisations undertaking non-residential property transactions.

Background

Supplies of non-residential property such as the lease or sale of retail units, office accommodation, warehouse units or factories are ordinarily exempt from VAT unless the property is less than three years old. This means that VAT on associated costs cannot be recovered. An option to tax allows an organisation or an individual to charge VAT, which in turn enables VAT on costs associated with those supplies to be recovered.

Provided the customer receiving the supply is also making taxable supplies and can recover the VAT charged, there should no negative impact of opting to tax. Where an opted property is included as part of a transfer of a business as a going concern (TOGC), an option to tax is required in order to make sure the transfer is VAT free.

Opting to tax a property for VAT purposes is a two-stage process. Businesses must make both the decision to opt and then notify HMRC of their decision. Failure to complete either step will invalidate the option. It is therefore important that businesses retain both the evidence of making the option to tax decision and its notification to HMRC.

Making the option to tax

The first stage is making the decision to opt. This may take place at a board meeting or similar, or less formally. When you have decided to opt to tax, you should keep a written record, showing clear details of the land or buildings you are opting to tax, and the date you made your decision. If you have previously made exempt supplies of the land or building concerned, you may need HMRC’s permission before you can opt to tax.

Notification

HMRC must be notified of an option to tax within 30 days of the decision being made.

Historically, when HMRC were notified of an option to tax, they would undertake validity checks and issue a formal acknowledgement letter which would include the details of the property that had been opted, together with confirmation of the effective date of the option to tax.

From 1 September 2022, HMRC stopped undertaking validity checks and replaced the acknowledgement letters with a simple receipt letter, confirming an option to tax notification had been received and recorded by HMRC.

This process has changed. From 1 February 2023, HMRC will stop issuing option to tax receipt letters. Under the new arrangements, where option to tax notifications are sent to HMRC by email, the only evidence of the date of notification that will be received by the notifier will be HMRC’s automated response email (which must be kept on file). The automated response email is simply a receipt acknowledgement. We recommend that in the header of the notification email you state the following:

• Full address of the property.
• Effective date of option to tax.

This information will then be replicated in the HMRC automated response.

The onus for evidencing that an option to tax has been made, as well as ensuring that the correct steps having been followed to exercise and notify an option to tax, will continue to be the responsibility of the person notifying HMRC of an option to tax. We are aware that the system has experienced some teething problems. We recommend that for the time being, when emailing HMRC, that you also copy in another member of your organisation. This is an additional means of evidencing that the option to tax has been notified, as we are aware of instances where an automated response email has not been generated.

In addition, as HMRC will no longer check the validity of option to tax notifications, it is crucial that all relevant information is held, recorded and kept on permanent file should HMRC wish to later inspect this or raise any associated future queries. In addition, care must be made to ensure that the option to tax notification is sent by someone who is authorised to do so. 

Where notifications are sent to HMRC by other means, such as post, you will need to obtain and keep copies of alternative evidence of submission to HMRC (for example – copies of special /recorded delivery tracking and delivery information), along with copies of all related correspondence with HMRC. Currently, HMRC will not provide any automated or other form of response for postal notifications.

Where HMRC’s permission to opt to tax is required, the process remains unaltered and you should receive formal approval that permission has been granted.

Evidence of previous options to tax

HMRC has announced that it will no longer be accepting requests to check their records for evidence of previous options to tax, except in certain specific circumstances, namely:

• Where the effective date of the option to tax is likely to be more than six years ago.
• Where someone has been appointed as a Land and Property Act Receiver, or an Insolvency Practitioner to administer the property.

Any requests falling within the above specific circumstances will need to include a letter or deed of appointment of the role of the person making the request, as well as other details (i.e. name of the opter, VAT registration number (if any), full address of the land/property including postcode, the effective date of the option to tax (if known), the date VAT was first charged on the opted land/property, and the date the property was acquired and/or a loan was taken out by the opter on the relevant property). 

Summary

Whilst these changes appear to speed up and streamline the option to tax notification process, HMRC’s formal option to tax confirmations have formed the basis of evidence of an option to tax in relation to property transactions and have been included as required evidence in legal drafting. These changes are likely to impact future property transfers such as sales of property freeholds or leases in which proof of an option to tax needs to be provided to the buyer. Where property transactions occur, the option to tax records are likely to be subject to additional scrutiny between the parties where no formal acknowledgement letter from HMRC is held, which could result in unwelcome delays, cost and commercial implications if the records are incomplete. This policy change is a reminder of the importance of keeping business records safe for at least six years, and in the case of option to tax documents, for as long as possible following that.

RSM is a leading provider of audit, tax and consulting services, with around 3,800 partners and staff in the UK. We're working with our tax advisors RSM to help shape government policy on taxation as it affects the sector and to keep housing associations informed of key issues.