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HMRC internal manual

VAT Land and Property

From
HM Revenue & Customs
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Option to tax: how are rent adjustments following sales and purchases treated?

When a tenanted building is sold, or a lease assigned half way through a rent period, a rent adjustment is usually made between the vendor and the purchaser at the point of completion of the transaction. This is because rent is paid at the beginning or at the end of a rent period. Some of the rent paid at the beginning (to the vendor) will relate to occupation while the purchaser is the landlord; and some of the rent paid at the end (to the purchaser) will relate to occupation when the vendor was landlord.

In consultation with the Law Society and the British Property Federation it was agreed to treat these rent adjustments as outside the scope of VAT. You may find the following examples helpful:

Example 1

A landlord (L1) sells the freehold of an opted property for £1M to a landlord (L2) in the middle of a rent quarter:

  • L1 receives the rent of £30,000 plus £6,000 VAT from the tenants for the rental period in advance and correctly declares the output tax of £6,000 on his VAT return. However half of the rent is due to L2 who will own the property for the second half of the rental period. The amount of £15,000 will normally be deducted from the amount payable to L1 on completion of the sale of the property. The adjustment is outside the scope therefore no VAT adjustment is required.
  • L2 receives the rent of £30,000 plus £6,000 VAT for the rental period in arrears. L2 should declare the total output tax of £6,000 on his VAT return (if L2 has also opted to tax the property). However half the rent is due to L1 who has owned the property for the first half of the rental period. The amount of £15,000 will normally be added to the amount payable to L1 on completion of the sale of the property. For VAT purposes the consideration for the sale of the property is the full value of the supply before any rent adjustment is made. L1 must account for £200,000 output tax on the sale of the property. This form of adjustment also takes place when a tenant assigns his lease to a third party.

Example 2

A tenant (T1) assigns his lease of an opted property to a tenant (T2) in the middle of a rental period:

  • T1 has paid the landlord £30,000 plus £6,000 VAT and subject to the normal rules may reclaim the tax as input tax on his VAT return. However half the rent is due from T2 who will occupy the property for the second half of the rental period. The amount of £l5,000 will normally be added to the amount payable to T1 by T2 on the date of the assignment. The adjustment is outside the scope of VAT so T2 is unable to reclaim any input tax in respect of the adjustment.
  • T2 is to pay the landlord £30,000 plus £6,000 VAT in arrears and subject to the normal rules may reclaim the tax as input tax on his VAT return. However £15,000 is payable by T1 and will normally be deducted from the amount payable from T2 to T1 on the date of the assignment. In this case T1 is unable to reclaim any input tax in respect of the adjustment.