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HMRC internal manual

VAT Land and Property

HM Revenue & Customs
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Statement of Practice

Copy of the Statement of Practice agreed with the Law Society on variations to leases

This Statement of Practice deals with a situation where there is a potential conflict between land law and VAT legislation. Under land law, the variation of a lease can sometimes require a deemed surrender of the old lease and the grant of a new lease. HMRC recognises that in certain circumstances, which are explained in this Statement of Practice, the economic reality of the situation is that the original interest granted to the tenant continues and the variation of the original lease does not in itself result in any supply of the surrender of the old lease or the grant of a new one.

This Statement of Practice does not apply to situations where a surrender and re-grant actually occur rather than being deemed to occur by operation of the law. Furthermore, as made clear in this Statement of Practice, a consideration may attach to a supply or supplies that result from obligations under the new lease. These supplies are quite separate and the consideration, whether monetary or otherwise, cannot put value on the surrender of the original lease and the grant of the new one.

Where there is no monetary consideration paid by the lessor to the lessee

Where there is no monetary consideration passing from lessor to lessee as a result of or in connection with the variation, then HMRC policy is that there is no surrender of the old lease for non-monetary consideration when:

  • the new lease is for the same building (or the same part thereof) but the new lease is for an extended term;
  • the new lease is for a larger part of the same building than the old lease but the term is for the same or an extended term; or
  • the new lease is for the same land and for an extended term.

Where the surrender and re-grant involves ground leases or building leases ie leases granted on condition that the lessee will undertake development, very often the negotiations between the parties will result in the demolition of an old building and the construction of a new one or partial demolition and reconstruction or enlargement. HMRC may find that the terms of the new lease will be more favourable to both the lessee and lessor but do not consider this in itself indicates that the old lease was surrendered in consideration of the grant of the new one.

However, if the lessee receives a direct benefit in return for undertaking the construction works (eg a rent-free period, or reduced rent for a period) HMRC are likely to see a consideration passing from the lessee to the lessor in return for the benefit. In cases where there is doubt you should agree the position with HMRC.

Where there is monetary consideration

Where monetary consideration passes from lessor to lessee, HMRC would normally regard the monetary consideration as the sole consideration for the surrender. Where monetary consideration passes to the lessor from the lessee, HMRC would normally see this as consideration for the grant of the new lease which would be exempt subject to the lessor’s election to waive exemption (option to tax).

However, the circumstances may indicate that the payment is consideration for the lessor’s supply of the acceptance of the surrender of an onerous lease from the lessee, (sometimes known as a reverse surrender). From 1 March 1995 we say these payments are for an exempt supply, unless an option to tax is applicable. When the payment received by the lessor is seen as consideration for the grant of a new lease, there would be no surrender by the lessee.