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HMRC internal manual

VAT Partial Exemption Guidance

Guidance for specific trade sectors: land and property: part-exchange houses: use of inputs

It has become increasingly common for house builders to take customers’ existing houses in part-exchange for the new homes they are buying. The usual situation in which these costs are incurred is where a builder, who has constructed new dwellings, offers, as an incentive to a potential customer, to take the customer’s existing home in part-exchange for a new dwelling. When the house builders sell these houses they make an exempt supply.

Attribution of costs incurred

The main point at issue is whether the input tax incurred on the costs of acquiring the part exchange home can be attributed only to the future intended exempt sale of that home(and restricted in full) or to both that intended exempt supply and to the zero-rated sale of the new home (and, treated as residual input tax).

The most common kinds of costs that might be incurred, by a business in these circumstances are:

  • legal fees;
  • valuation report;
  • structural report;
  • sundry costs (such as checking and closing down the gas, electricity or water systems);
  • estate agents;
  • remedial costs (i.e. repair or maintenance costs) known about at the time of purchase.

Generally we would accept that the first four items on this list could be used in making both the zero-rated supply of the new dwelling and the ultimate exempt sale of the part-exchange house and that the input tax incurred on these items can properly be treated as residual input tax to be apportioned by means of the business’s agreed partial exemption method.

Exempt input tax

We consider that any input tax incurred on the costs of remedial works and estate agents is attributable exclusively to the intended exempt sale and must, therefore, be restricted in full, subject to the normal de minimis limit.

In some cases it is possible that input tax will be incurred on services such as those of valuers and solicitors specifically in connection with the sale of these houses. This will be directly attributable to the exempt supply and is non-recoverable, subject to the normal de minimis limit.

Part exchange houses: incidental outputs

If the business is using the current standard method, the question arises whether the consideration received for the exempt sales should be included in the outputs based calculation used to apportion the business’s non-attributable input tax i.e. are the sales incidental real estate transactions? (See PE32000 - Exclusions from the standard method)

There is no simple answer to this question, as the answer will depend on the facts of each individual case. However if the house builder advertises that it will take existing homes in part -exchange for new houses, this would suggest that the sales of the existing houses are either part of the business’s main house building business or else a separate business of selling used houses. They would not then be incidental real estate transactions.

Conversely, where a house builder does not normally accept existing houses in part-exchange but does so exceptionally in order to dispose of a new house that has proved hard to sell, the sale of the existing house would be an incidental to its main business. The consideration for the sale would then be excluded from the apportionment calculation.

Where house builders use special methods, the incidental criterion may not arise, but you should consider whether the method fairly apportions non-attributable input tax to reflect the use of the business’s general overheads in dealing with the sale of part-exchange houses. On some occasions the supply of part exchange houses may well be distortive even if they are not incidental. In such situations a special method would be appropriate.