VAT on Property - Rent to Buy Schemes
- Background
- How the scheme works
- Option to purchase
- Letting of residential property
- Treatment of payments under the scheme
- Adjustments of deductibility for exempt letting
- How is a sale treated if an option to buy is exercised?
1. Background
These schemes have various names - 'Rent to Buy', 'Homemaker', etc., but can broadly be described as an attempt by property developers to attract potential purchasers into buying a house by structuring the agreement using an initial period of renting with an option to purchase at the end of the letting period.
There are many variations of these schemes and, as such, the exact treatment of the arrangements for VAT purposes can only be established by the facts of each individual case. However, this section provides a general indication as to how to treat some of the variations of this scheme from a VAT viewpoint.
2. How the scheme works
These schemes vary but the common elements include –
- There may be an upfront payment.
- The prospective purchaser may rent the house for a defined period of time at the end of which (or during which) he/she can exercise an option to purchase the property at an agreed price or simply not exercise the option.
- The final price paid will generally be net of the upfront payment and some or all of the rental payments.
In such cases, a multiple supply occurs for VAT purposes. There is the granting of an option to purchase the house at an agreed price and the granting of a lease to allow the prospective purchaser to occupy the house. The consideration for these supplies must therefore be apportioned between these two supplies.
3. Option to purchase
The VAT treatment of the granting of an option to purchase a property mirrors that of the underlying supply. For example, if an option is granted to purchase undeveloped land the grant of the option is exempt from VAT because the sale of the land would be exempt from VAT. Similarly, if the option relates to the potential supply of a property that would be subject to VAT, then the granting of such an option is subject to VAT at the rate at which the supply of the property would be - the reduced rate of VAT.
4. Letting of residential property
The letting of property is exempt from VAT in accordance with paragraph 11(1) Schedule 1 VAT Consolidation Act 2010. The landlord's option to tax cannot apply to the letting of residential property as per Section 97(4) VATCA 2010.
Some of these schemes have advertised the period of occupation as a 'caretaker' agreement. Revenue does not accept that the agreement which allows the prospective purchaser to exclusively occupy the house for a defined period is anything other than a letting agreement for VAT purposes.
5. Treatment of payments under the scheme
Unless refundable at the end of the letting period, any upfront payment is treated as a payment in respect of the granting of an option to purchase the property. This option payment is not a deposit for VAT purposes and is subject to the same rate as the supply of the property – subject to the reduced rate of VAT.
The monthly payments made by the prospective purchaser represent consideration for the letting of the property and, in some cases, consideration relating to the option to buy the property. Any amount payable per month up to the market rent of the property (the rent that a similar house in the area would fetch on the open market) is treated as consideration for the exempt letting. Any amount in excess of this market rent is treated as consideration for the option to purchase the property.
6. Adjustments of deductibility for exempt letting
As the property is being used for an exempt purpose during the period when it is rented, the lessor is obliged to make an adjustment where he/she has claimed VAT deductibility in relation to the acquisition or development of the property.
Note: for the purposes of this section, a reference to the person who developed the property also includes a person connected to the developer. Where a residential property is rented by the person who has developed the property, the provisions of Section 94(8)(c) VATCA 2010 apply. This subsection provides that the normal full claw-back rule that would arise on the diversion of a property to an exempt letting does not apply. Instead, the developer is liable to repay 1/20 of the VAT deducted on the acquisition and development of the property at the end of the second and each subsequent CGS interval for as long as the property is rented. When the property is eventually sold it will always be subject to VAT by virtue of Section 94(8)(b).
7. How is a sale treated if an option to buy is exercised?
Assuming the vendor is the person who developed the property, the sale will always be subject to VAT. When the prospective purchaser exercises the option to buy the property, then if a discount is given for the option/rental payments already made this amount will not be treated as consideration for the taxable sale. Some of these schemes allow a discount against the sale price for all the rent paid, while some only give a discount for part of this amount.
The examples below illustrate how these rules operate in practice.
Example 1
Dev Co Ltd built a housing estate. It is offering houses to prospective buyers under the 'Rent to Buy' scheme. The cost of building each unit was €160,000 + VAT [1] of €21,600. The sales price of the house under the scheme is €300,000. The offer breaks down as follows
| € | |
|---|---|
| Initial Payment | 6,000 |
| 24 x €1000 monthly payments | 24,000 |
| Payment on exercise of option | 270,000 |
VAT treatment of initial payment.
The initial payment represents consideration for the granting of the option to purchase the property at an agreed price. This €6,000 is subject to VAT at the reduced rate.
Assuming the price is VAT inclusive, this means the VAT chargeable would be €714 [2].
Monthly Payments
The monthly payments represent consideration for the letting of the property and, in some cases, additional consideration for the option. The way to determine how to apportion the consideration is to compare the monthly amount paid to the rent that a similar house would fetch in the same area.
In this case there are a number of similar houses in the area advertised for rent at €800 per month. This would be accepted as the market rent. This means that consideration relating to the exempt letting is €800 and the consideration relating to the option is €200. There is no VAT chargeable on the €800 as it relates to an exempt letting. The €200 is liable to VAT at the reduced rate. Assuming this is VAT inclusive, this means VAT of €24 is chargeable.
CGS Adjustment of Dev Co's deductibility
Dev Co must also adjust its deductibility as the property is being used for an exempt purpose. At the end of the second CGS interval Dev Co must calculate the amount of VAT to be paid in accordance with Section 64(3)(a) as follows -
C – D (C = reference deduction amount, D = interval deductible amount, see Example 6 in CGS – Main Provisions)
1080 [3] – 0 = €1,080 VAT payable by Dev Co at the end of its second CGS interval.
Purchaser exercises option to buy
At the end of the 24 months the purchaser exercises the option to buy. A discount on the purchase price of €300,000 is given by reducing the price by the money paid to Dev Co from the option and rental payments which is €30,000 (€6,000 + €24,000)
VAT is chargeable on the final sales price of €270,000 at reduced rate. Assuming the amount is VAT inclusive, this means VAT of €32,115 [4] is chargeable on the sale.
Purchaser does not exercise option to buy
If the purchaser does not exercise the option to buy there are no further VAT implications in relation to the transaction between Dev Co and that person.
Dev Co's obligations on onward supplies etc.
If Dev Co sells the property to a third party (following the non-exercise of the option with the previous prospective buyer) it is obliged to charge VAT on the sales price. If Dev Co enters into another Rent to Buy scheme the same rules apply as above.
Note: As the initial CGS interval will have already elapsed, Dev Co would be obliged to repay 1/20 of the VAT deducted at the end of the CGS interval in which it has rented the property under the scheme and at the end of any subsequent CGS interval during which the property is rented.
[1] Assume all VAT costs at the reduced rate
[2] €6,000 / 113.5 x 13.5 = €714
[3] €1,080 represents 1/20 of the VAT deducted (€21,600) by Dev Co on the development of the house.
Example 2
Dev Co Ltd built a housing estate. It is offering these houses to prospective buyers under the 'Rent to Buy' scheme. The cost of building each unit was €100,000 + VAT [5] of €13,500. The sales price of the house under the scheme is €200,000. The offer breaks down as follows.
| € | |
|---|---|
| Initial Payment | 2,000 |
| 36 x €500 monthly payments | 18,000 |
| Payment on exercise of option* | 183,600 |
*Under this particular scheme, a discount on the sales price is given for the €2,000 initial payment and for €400 of the €500 paid per month, which is €14,400.
VAT treatment of initial payment.
The initial payment represents consideration for the granting of the option to purchase the property at an agreed price. This €2,000 is subject to VAT at the reduced rate. Assuming the price is VAT inclusive, this means the VAT chargeable would be €238 [6].
Monthly Payments
The apportionment of the monthly payment is determined in the same way as Example 1. In this case there are a number of similar houses in the area advertised for renting at €500 per month. This would be accepted as the market rent. This means that consideration relating to the exempt letting is €500 and the consideration relating to the option is nil. There is no VAT chargeable on the €500 as it relates to an exempt letting.
CGS Adjustment of Dev Co's deductibility
Dev Co must also adjust its deductibility as the property is being used for an exempt purpose. At the end of the second and third CGS intervals Dev Co must calculate the amount of VAT to be paid in accordance with Section 64(3)(a) as follows -
C – D
C = reference deduction amount
D = interval deductible amount (see CGS –Main provisions)
675 [7] – 0
= €675 VAT payable by Dev Co at the end of its second and third CGS intervals.
Purchaser exercises option to buy
At the end of the 36 months the purchaser exercises the option to buy. A discount on the purchase price of €200,000 is given by reducing the price by the money paid to Dev Co from the option and €400 per month for rental payments which is €16,400 (€2,000 + €14,400 [8])
VAT is chargeable on the final sales price of €183,600 at the reduced rate, currently 13.5%. Assuming the amount is VAT inclusive, this means VAT of €21,838 [9] is chargeable on the sale.
Purchaser does not exercise option to buy
The treatment is the same as above in Example 1.
[5] Assume all VAT costs at the reduced rate, currently 13.5%.
[6] €2,000 / 113.5 x 13.5 = €238
[7] €675 represents 1/20 of the VAT deducted (€13,500) by Dev Co on the development of the house.
[8] €14,400 represents the discount given for €400 of the €500 monthly rental payments over 36 months
Updated: September 2011