How does VAT work on commercial property?

Learn how VAT applies to commercial property in the UK. Understand when it’s charged, what the “option to tax” means, and how to recover VAT on purchases and expenses.

At Towerstone Accountants we provide specialist property accountant services for landlords property investors and individuals dealing with property tax and reporting obligations across the UK. This article has been written to explain How does VAT work on commercial property in clear practical terms so you understand how the rules apply in real situations. Our aim is to help you make informed decisions avoid costly mistakes and know when professional advice is worthwhile.

VAT on commercial property is one of the most complex areas of the UK tax system, and it is an area where assumptions regularly lead to expensive mistakes. I am often asked about this by landlords, investors, developers, and business owners when VAT appears unexpectedly on a purchase, a rent invoice, or a refurbishment bill.

Unlike residential property, commercial property sits in a grey area for VAT. Sometimes VAT applies, sometimes it does not, and sometimes it can be switched on deliberately. The correct treatment depends on how the property is used, what transactions are taking place, and crucially, whether an option to tax has been made.

In this article, I am going to explain clearly and practically how VAT works on commercial property in the UK. I will cover purchases, sales, rent, refurbishment costs, the option to tax, VAT recovery, and common pitfalls. I will also explain why early advice is often far more valuable than trying to correct VAT issues after the event.

By the end, you should have a solid understanding of how VAT applies to commercial property and why careful planning is essential.

What counts as commercial property for VAT purposes?

Commercial property generally includes property that is not used as a dwelling.

Common examples include:

  • Offices

  • Shops and retail units

  • Warehouses and industrial units

  • Factories

  • Pubs and restaurants

  • Garages and storage units

  • Commercial land

For VAT purposes, HMRC looks at actual use, not just how the property is described.

Mixed use properties, which include both residential and commercial elements, follow different rules and require apportionment, but in this article I am focusing on purely commercial property.

The default VAT position for commercial property

The most important thing to understand is this.

Commercial property is VAT exempt by default.

This means that, unless something changes that default position:

  • No VAT is charged on the sale

  • No VAT is charged on the rent

  • VAT on related costs is usually not recoverable

Many people assume commercial property is automatically subject to VAT. That is not the case.

However, this default position can be overridden.

Why VAT exemption matters

VAT exemption sounds attractive, but it often causes problems.

If a transaction is VAT exempt:

  • You do not charge VAT

  • You cannot normally reclaim VAT on costs linked to that exempt supply

For commercial property owners, this often means:

  • VAT on legal fees cannot be reclaimed

  • VAT on professional costs cannot be reclaimed

  • VAT on refurbishment costs may be blocked

This is why many commercial landlords consider opting to tax.

The option to tax explained

The option to tax is the mechanism that allows VAT to be charged on commercial property.

Once an option to tax is validly made:

  • VAT is charged on rent

  • VAT is charged on sale

  • VAT on related costs is usually recoverable

Opting to tax changes the VAT status of the property from exempt to taxable.

Why landlords choose to opt to tax

Landlords usually opt to tax for one main reason, VAT recovery.

Opting to tax can allow VAT to be reclaimed on:

  • Purchase costs

  • Legal fees

  • Surveyor fees

  • Refurbishment and build costs

  • Ongoing repairs

For properties with significant VAT on costs, this can make a huge financial difference.

When opting to tax can be a bad idea

Opting to tax is not always beneficial.

Charging VAT on rent or sale can be problematic if:

  • Your tenant is not VAT registered

  • Your buyer cannot reclaim VAT

  • The VAT makes the property less attractive

  • The tenant’s business is VAT exempt

In these cases, VAT becomes a real cost to the tenant or buyer, which can affect demand and pricing.

This is why opting to tax should never be done automatically.

How to opt to tax a commercial property

Opting to tax is a formal process.

It involves:

  • Making a decision to opt

  • Notifying HMRC within strict time limits

  • Retaining evidence of the option

Once made, the option to tax usually lasts at least 20 years, so it is a long term decision.

Failure to notify HMRC correctly can invalidate the option, leading to serious VAT problems later.

VAT on the purchase of commercial property

VAT on a purchase depends on whether the seller has opted to tax.

If the seller has not opted to tax

In this case:

  • The sale is usually VAT exempt

  • No VAT is charged on the purchase price

  • VAT on purchase costs is usually not recoverable

This often surprises buyers who expect VAT on commercial property as standard.

If the seller has opted to tax

If the seller has opted to tax:

  • VAT is charged at 20 percent on the purchase price

  • The buyer may be able to reclaim VAT, subject to use

  • Cash flow planning becomes important

The VAT can be substantial, so funding and timing matter.

Transfer of a Going Concern

In many commercial property transactions, VAT can be avoided through a Transfer of a Going Concern, often referred to as a TOGC.

This can apply where:

  • A property is sold with tenants in place

  • The buyer intends to continue the letting business

  • Both parties meet the conditions

If a TOGC applies:

  • No VAT is charged on the sale

  • The buyer effectively takes over the VAT position

This can significantly reduce cash flow strain, but the conditions must be met precisely.

VAT on commercial rent

The VAT treatment of rent mirrors the position on sale.

Where there is no option to tax

If the landlord has not opted to tax:

  • Rent is VAT exempt

  • No VAT is charged

  • VAT on costs is usually not recoverable

Where the landlord has opted to tax

If the landlord has opted to tax:

  • VAT is charged on rent at 20 percent

  • Tenants who are VAT registered can usually reclaim it

  • VAT on costs is usually recoverable

This is common where tenants are VAT registered businesses.

VAT on service charges

Service charges follow the VAT treatment of the rent.

This means:

  • If rent is VAT exempt, service charges are usually VAT exempt

  • If rent is VATable, service charges are usually VATable

This often catches landlords out when service charges are invoiced separately.

VAT on refurbishment and development costs

Refurbishment costs are a major VAT risk area.

If the property is VAT exempt:

  • VAT on refurbishment is usually not recoverable

If the property is opted to tax:

  • VAT on refurbishment is usually recoverable

This is often the deciding factor when choosing whether to opt to tax.

For major projects, the VAT position should be reviewed before work begins.

Partial exemption issues

If a business makes both VAT exempt and VAT taxable supplies, partial exemption rules may apply.

This can affect:

  • How much VAT is reclaimable

  • How VAT is apportioned

  • Ongoing VAT calculations

Partial exemption frequently arises where:

  • A landlord has both opted and non opted properties

  • A property has mixed use

  • A business uses property for both taxable and exempt activities

This area is technical and often misunderstood.

VAT on the sale of commercial property

When selling commercial property:

  • VAT is charged if the property is opted to tax

  • VAT is not charged if it is not opted

  • TOGC treatment may apply

The VAT history of the property matters, especially if VAT has been reclaimed previously.

Capital Goods Scheme

Commercial property can fall under the Capital Goods Scheme.

This scheme requires VAT recovery to be reviewed over several years if:

  • The use of the property changes

  • The VAT status changes

  • The property is sold

Failure to consider this can result in unexpected VAT repayments to HMRC.

VAT and property used by the owner

If a business owns commercial property and occupies it itself:

  • VAT recovery depends on the business’s VAT position

  • Opting to tax may still be relevant

  • Partial exemption may apply

Owner occupation does not remove VAT complexity.

Common VAT mistakes with commercial property

Over the years, I see the same mistakes repeatedly.

These include:

  • Assuming VAT always applies

  • Opting to tax without considering the tenant

  • Failing to notify HMRC correctly

  • Ignoring TOGC rules

  • Reclaiming VAT incorrectly

  • Missing Capital Goods Scheme adjustments

These mistakes are often very expensive.

Why HMRC focuses on commercial property VAT

HMRC pays close attention to commercial property because:

  • VAT amounts are large

  • Errors are common

  • Decisions have long term impact

Commercial property VAT is a frequent trigger for enquiries and assessments.

Record keeping and documentation

Good records are essential.

You should retain:

  • Option to tax notifications

  • Purchase and sale contracts

  • VAT invoices

  • Lease agreements

  • Evidence of TOGC conditions

These documents may be needed many years later.

How I advise clients on commercial property VAT

In practice, I advise clients to:

  • Review VAT before agreeing any deal

  • Consider the tenant and buyer profile

  • Model VAT recovery versus VAT cost

  • Document decisions clearly

  • Get advice early

VAT planning after contracts are exchanged is often too late.

Why timing matters so much

The most important VAT decisions are often made before anyone realises VAT is involved.

Once a contract is signed:

  • VAT positions are hard to change

  • Cash flow implications are locked in

  • Mistakes are difficult to unwind

Early VAT input can change the structure of a deal and its profitability.

Final thoughts

VAT on commercial property is not straightforward, and it is rarely something that should be dealt with on assumptions or rules of thumb. Commercial property is VAT exempt by default, but the option to tax can change everything, for better or worse.

In most cases, the key questions are:

  • Has the property been opted to tax

  • Should it be opted to tax

  • Who bears the VAT cost

  • Can VAT be recovered

Answering those questions early is the difference between a well planned transaction and an expensive mistake.

In my experience, commercial property VAT problems rarely arise because someone tried to be clever. They arise because VAT was considered too late, or not at all. If you are buying, selling, letting, or developing commercial property, understanding how VAT works is not optional. It is a core part of protecting your investment and your cash flow.

You may also find our guidance on What is the difference between commercial and residential property tax and What is the Construction Industry Scheme and how does it affect developers useful when exploring related property tax questions. For a broader overview of property tax reporting and planning topics you can visit our property hub which brings all related guidance together.