SPEED READ To structure property transactions for VAT, have regard to issues such as the VAT status of the parties, the nature of the property, its location and the timing of the supply as they are the building blocks of efficient structuring. The key to a robust structure is a well-drafted contract that is properly implemented and is not contrary to the purpose of the directive even if it results in a tax liability that is lower than it would otherwise be. The concept of abuse is still developing and it is necessary to keep an eye on developments such as the Weald Leasing case.
There are as many ways to structure a property transaction as there are to skin a cat which is a worrying thought for advisers and cats alike. Transactions can take many forms and different structures may have different VAT consequences.
This article will not catalogue the different types of property transaction that are possible but will consider the VAT treatment and consequences of different structures in the context of property transactions generally and suggest how a structure, once chosen, can be made as robust as possible.
The VAT treatment of a property transaction is determined by the parties, the subject matter of the supply, its location and timing and these are the building blocks used in structuring a property transaction.
Generally, the location of a property determines the place of supply of that property and related services and, therefore, the VAT regime that will apply. Other than the choice of whether to buy property in a particular country or not, there is no scope for using the place of supply rules to structure a property transaction and it is not considered further.
Before examining some structures, it is useful to consider the VAT classification of property ownership and the various activities which that might involve. The distinction between trading and investment has traditionally been seen as less important for VAT than in the direct tax context.
Nevertheless, cases such as EDM (Case C-77/01, [2004] ECR I-4295) and Kretztechnik (Case C-465/03, [2005] ECR I-4357) show that the mere acquisition and holding of assets (in those cases securities) is not an economic activity.
In Kretztechnik, the ECJ held that if the mere acquisition and holding of shares or securities is not an economic activity then the sale of such shares cannot be an economic activity either. The ECJ contrasted such activities with transactions carried out in the course of a business trading in securities.
The same analysis should apply to property transactions. It follows that not all sales of properties by businesses fall within the scope of VAT. Simply buying and selling properties on an occasional basis and otherwise than in the course of a business trading in properties does not amount to exploitation of an asset intended to produce revenue on a continuing basis.
Provided the member state has not exercised its option to treat the occasional seller as a taxable person, the sale of properties in such circumstances is not within the scope of VAT. It follows that it is neither an exempt nor a taxable supply and it has no effect, beneficial or adverse, on the seller's input tax recovery.
The legal status of the parties to the property transaction is an important consideration in structuring a property transaction. The use of companies, partnerships, limited partnerships, joint ventures, trustees or nominees all provide different opportunities.
Clearly the use of a company to hold property opens up the possibility of a choice between disposing of a property by way of simple asset sale, transfer as a going concern (if tenanted and subject to relevant conditions being met) or a share sale. Each has different VAT consequences. Interestingly, the ECJ in Skatteverket v AB SKF (Case C-29/08) accepted that a of sale shares could be a TOGC.
This raises the interesting possibility in the UK that the sale of the shares in a property holding company might not be an exempt supply but a TOGC and the input VAT would, following Abbey National v C & E Comrs (Case C-408/98 [2001] STC 297), have a link to the seller's economic activity as a whole and be deductible accordingly. Further, as the TOGC of shares would not involve a grant of land, the extra conditions in the VAT (Special Provisions) Order, SI 1995/1268, would not apply.
A similar issue to the status of the parties is whether they are connected persons either for the purposes of the provisions relating to transactions at an undervalue or for the purposes of the anti-avoidance provisions. Weald Leasing (Case C-103/09; Advocate General's Opinion due on 18 November 2010) shows how this can be circumvented but at risk of being found to be abusive.
Assuming that the supply is within the scope of VAT and is neither a supply of shares nor a TOGC, the most important consideration in structuring a property transaction is the VAT status of the property. The VAT liability of the supply and the impact on the ability to recover associated input tax (as well as the impact of VAT on the SDLT charge) must be taken into account.
The existence of an option to tax in relation to the property is not necessarily the end of the story as there are a number of ways in which the option can be lost (not always without cost).
In other cases, an exempt or potentially exempt supply may be calamitous (eg of a new residential property) and it would be necessary to insert a zero-rated supply to a connected person to ensure that input tax is not lost unnecessarily.
Everyone involved with property transactions will be aware of the anti-avoidance legislation contained in VATA 1994 Sch 10.
It must be considered in particular where a partly exempt business grants a lease in a building or enters into a sale and leaseback of a property and the partly exempt business either occupies or intends to occupy the property at a later date.
The legislation also applies where a person constructs or purchases a building with finance provided by a bank, or a connected person, that intends to occupy the property. In the latter cases, there are now exclusions where the occupation by the bank is not more than 10% and ATMs are also disregarded.
The timing of transactions is really a matter of applying the time of supply rules to ensure efficient cash flow management. Timing can be important where large amounts are involved, as is commonly the case in property transactions even when interest rates are at an historic low. The Weald Leasing case raises the issue of whether deferring an irrecoverable input tax charge can be seen as an abuse.
The case concerned equipment leasing rather than property but the considerations are the same. In the author's view, the mere deferral of a VAT charge by leasing as opposed to outright purchase can never be abusive but the use of very low rentals spread over an extended time could be.
Even if an efficient structure can be devised, it is of no use unless it is robust enough to deter or withstand any challenge. The most common challenges are, first, that the structure does not achieve what it is intended to achieve and, second, that the structure does do what it is supposed to do but the result is abusive and falls to be redefined.
The best way to counter both types of challenge is to ensure that the structure is designed and implemented with them in mind from the start.In brief, the counter to the first challenge is to ensure that the structure is documented clearly and implemented in a way that is consistent with the intended aims.
The High Court in A1 Lofts Limited v HMRC ([2009] EWHC 2694 (Ch)) provided useful guidance on the correct way to analyse the true nature and consequences of the relationship between the parties to a transaction.
In A1 Lofts the issue was whether the appellant supplied a complete loft conversion or merely provided project management services with individual tradesmen making separate supplies to the homeowner. The Tribunal found that there was a supply of the complete loft conversion and A1 appealed.
In the High Court, the Judge concluded that the correct approach of a Tribunal (or anyone trying to analyse what was going on) was as follows: ‘They ought first to have construed the contract; and they should then have asked themselves whether in the light of the facts that they found, the written contract represented the true contract between the parties or was a sham or was otherwise superseded by some different contract.
Once they had determined the legal rights and obligations of the various parties, they would then have been in a position to classify them for the purposes of VAT. ... Absent a finding of sham or departure from the written arrangements, the construction of the contracts is likely to be the finishing point as well as the starting point.’
The Judge in A1 Lofts also reviewed cases such as C&E Comrs v Reed Personnel Services Ltd ([1995] STC 588) and concluded that the contract does not necessarily determine the classification of the supplies for VAT purposes where, for example, the single contract may provide for multiple supplies which fall to be classified. It follows from this that the contracts are not conclusive but are extremely important in determining the nature of the transaction and its VAT consequences.
It is difficult to advise how a challenge based on abuse can be successfully countered when the principle is still developing.
Cases such as Atrium Club Ltd ([2010] EWHC 970 (Ch)) show that the Courts are prepared to interpret concepts such as tax advantage quite broadly in order to prevent perceived VAT abuse.
Newey t/a Ocean Finance (2010] UKFTT 183 TC00487) shows that, even where the essential aim of arrangements was to obtain a tax advantage, it is not abusive for traders to conduct business in particular way to reduce tax liability and something more must be found if arrangements are to be regarded as contrary to purpose of VAT Directive.
The case of Weald Leasing currently before the European Court of Justice is expected to throw more light on this area.
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Greg Sinfield is a Partner at Hogan Lovells, specialising in VAT and other indirect taxes. He advises on a broad range of transactions across the corporate, commercial property and financial services sectors and deals with different types of related litigation including appeals in relation to VAT and the other indirect taxes. Email: greg.sinfield@hoganlovells.com; tel: 020 7296 5415.
