The option to tax (“OTT”) – some frequently asked questions

This Insight seeks to answer a few of the more common questions asked about the OTT. (Since 2008 the VAT Act has not referred to the “election to waive exemption”.) The Insight does not cover the exclusions from the OTT or the anti-avoidance rules but does deal with the temporary relaxations to allow for the special circumstances of the Covid-19 pandemic.

What is the option to tax?

The OTT was introduced in 1989 following the imposition of VAT on new commercial construction work, and everything within this Insight relates solely to commercial property. When a building is sold or let there is a VAT exempt supply, unless the sale is of the freehold in a “new” commercial building (“new” meaning unfinished, or within three years of the issue of the architect’s certificate of practical completion). The OTT turns these exempt supplies into supplies taxable at the standard rate. That generally enables the “opter” to recover more input tax.

Who can opt to tax?

In theory, anyone can opt to tax any building. But it has no practical effect unless you have an interest in the building you are opting to tax. Where the beneficial and legal interest in a building is split, it is the beneficial owner who may opt to tax.

HMRC has recognised that a disgruntled employee could play havoc by maliciously notifying a bogus option to tax. Its response is only to accept notifications made by an “authorised signatory”. Notice 742A at paragraph 7.6 provides a list of acceptable authorised signatories for the most common types of entity.

When is opting to tax a good idea?

The usual reason for opting to tax is to recover input tax. For example:

  • A developer who builds new warehouses and grants long leases could recover the VAT on his construction costs only by opting to tax.
  • A landlord who refurbishes an office block may decide to opt to tax to recover the VAT on his refurbishment costs.

The opter must consider the impact on his prospective or existing tenants or purchasers. If financial sector tenants, for example, are a real possibility, opting to tax might drive down the net rents that could be obtained. This is because such a tenant may not be able to recover all (or any) of the VAT on the rents.

What can you opt to tax?

If you opt to tax a building, that option covers the whole building and land within its curtilage. If you opt to tax land, the option covers all existing and any future buildings on that land. If you acquire an interest in only part of a building, your OTT will still cover the entire building. But that has no practical effect unless you later acquire more of the building while the OTT is still valid.

One common misconception is to think in terms of buildings as being opted, whereas it is only the supplies made by the person who has opted to tax that are covered by an OTT. So, if a head landlord, for example, has opted to tax, his OTT will have no impact on the supplies made by any tenant who has in turn sublet the building. However, in practice, an intermediate landlord would normally also need to opt to tax to recover the VAT charged by the head landlord.

Can you backdate an OTT?

It depends on how you ask this question. There are two parts to the OTT, the first is the decision and the second is telling HMRC. You should normally tell HMRC within 30 days of the effective date of the OTT, but HMRC has always had the discretion to allow a longer period. In response to the Covid-19 pandemic, HMRC has made notifying an option to tax more straightforward. It has extended the 30 days to 90 in relation to decisions to opt to tax made between 15 February 2020 and 31 July 2021 and will allow notification by email to optiontotaxnationalunit@hmrc.gov.uk .

In 1995 HMRC made clear the circumstances in which it will accept a belated notification. The fact that VAT has been charged on rents is usually fairly persuasive.  What HMRC won’t accept is a retrospective OTT. Whereas belated notification means you opted but forgot to tell HMRC, a retrospective OTT would mean you didn’t opt but you want HMRC to act as if you had. Not surprisingly, its policy is to refuse such requests.

Can you get out of an option to tax once you have made it?

You can “revoke” an OTT either:

  • Within 6 months if you have changed your mind and you haven’t accounted to HMRC for any output tax nor claimed any input tax.
  • After 20 years have elapsed.
  • After 6 years from ceasing to have an interest in the property.

The future

At the time of writing, HMRC is conducting a major review of the VAT exemption for land and property and some of the more significant ideas on which it has requested feedback would involve major changes to the OTT. Any changes would most likely involve complex transitional anti-avoidance measures, making retirement an ever-dimmer prospect for the writer and his colleagues!

Download pdf version

To discuss how this may affect your clients or your business, or to talk about a VAT issue in general, please get in touch.
Get in touch
This year we are sponsoring
Request Information