How does VAT work on mixed use properties?

Learn how VAT applies to mixed use properties that combine residential and commercial elements. Understand how to calculate, apportion, and recover VAT correctly under HMRC rules.

Mixed use properties are buildings or developments that contain both residential and commercial elements, such as a shop with flats above or a warehouse with an adjoining home. These properties can be attractive investments, but they also bring added complexity when it comes to VAT.

The challenge is that residential and commercial property transactions are treated differently for VAT. This means owners and landlords must separate the two elements to ensure VAT is charged and reclaimed correctly.

This article explains how VAT works on mixed use properties in the UK, how to split costs between residential and commercial areas, and how to stay compliant with HMRC’s VAT rules.

Understanding mixed use property

A mixed use property combines residential and non-residential parts within a single building or site. Examples include:

  • A shop or office on the ground floor with flats above.

  • A pub or restaurant with staff accommodation.

  • A development site containing both houses and retail units.

  • A large property with commercial outbuildings and a private residence.

Because VAT treatment differs between residential and commercial property, understanding which parts are taxable and which are exempt is the first step.

VAT on the residential element

Residential property transactions are usually exempt from VAT, meaning no VAT is charged on rent or sale, and you cannot reclaim VAT on associated costs.

However, there are exceptions. VAT can apply to residential property in certain cases:

  • The construction or sale of a new residential building is normally zero-rated, allowing the developer to reclaim VAT on building costs.

  • The conversion of a non-residential building into dwellings may also qualify for zero-rating or a reduced rate (5%) on construction services.

  • Routine maintenance, repairs, and property management of residential units are exempt, meaning VAT cannot be reclaimed on these costs.

In short, most ongoing residential lettings are VAT exempt, but development and first sales of new dwellings can involve zero-rated VAT.

VAT on the commercial element

Commercial property is generally exempt from VAT unless the owner has opted to tax. When an option to tax is in place, VAT at the standard rate (currently 20%) must be charged on rent or sale, but VAT on associated costs can be reclaimed.

There are also situations where commercial property is automatically standard-rated for VAT, such as:

  • The first sale or lease of a newly constructed commercial building.

  • The sale of a property where VAT has been opted.

If the landlord does not opt to tax, the commercial rent or sale will be exempt from VAT, and the owner cannot reclaim VAT on related costs.

How VAT works when both elements are present

For a mixed use property, the VAT position depends on how the residential and commercial parts are used. You cannot apply a single VAT treatment to the whole building. Instead, VAT must be apportioned between the two parts.

For example:

  • The residential portion (flats) is usually VAT exempt.

  • The commercial portion (shop or office) may be VATable if the landlord has opted to tax.

This separation affects both the VAT charged on income and the VAT reclaimed on costs.

Apportioning VAT on costs

When costs relate to both residential and commercial parts, you must split the VAT between them on a fair and reasonable basis. HMRC allows flexibility, but your chosen method must reflect the actual use of the property.

Common apportionment methods include:

  • Floor area dividing costs based on the proportion of space used for each purpose.

  • Rental value splitting costs based on the relative rental income from each part.

  • Construction cost dividing expenses based on the build cost of each section.

For example, if a building is 60% commercial and 40% residential by floor area, you may be able to reclaim 60% of the VAT on shared costs such as roof repairs or professional fees.

You must retain clear evidence of your calculations and apply the same method consistently each year.

VAT on property purchase

When buying a mixed use property, the VAT treatment depends on how the property is used and whether the seller has opted to tax the commercial part.

  • If no option to tax applies, the sale may be exempt from VAT, meaning no VAT is charged.

  • If the seller has opted to tax, VAT may be charged on the commercial element only.

  • The sale of a mixed use property may qualify as a Transfer of a Going Concern (TOGC) if it includes a tenant and meets HMRC’s conditions, allowing the transaction to proceed without VAT.

Because mixed use properties include a residential element, they are generally treated as non-residential for Stamp Duty Land Tax (SDLT) purposes, meaning commercial SDLT rates apply. This can reduce SDLT compared to a purely residential purchase.

VAT on letting mixed use property

If you let out a mixed use property, VAT rules apply separately to each part.

  • Residential rents are VAT exempt.

  • Commercial rents may be VATable if you have opted to tax.

If the property has shared services (for example, common hallways or heating systems), you must apportion the VAT on expenses relating to those shared costs.

It’s important to avoid charging VAT incorrectly to residential tenants, as residential rents must not include VAT even if the property’s commercial areas are taxable.

Development and conversion projects

VAT becomes particularly complex in development or conversion projects involving mixed use buildings.

For example:

  • If you convert a commercial building into both shops and flats, construction work for the flats may be zero-rated, while work for the shops is standard-rated.

  • Professional fees, design costs, and materials that apply to the entire project must be apportioned between zero-rated, standard-rated, and exempt activities.

Getting this wrong can lead to lost VAT recovery or unexpected liabilities. Developers should maintain detailed project records and seek professional VAT advice early in the process.

Recovering VAT on mixed use properties

Recovering VAT depends on how much of your activity is VATable. If part of your income (such as residential rent) is VAT exempt, you may be partially exempt.

This means you can only reclaim VAT on expenses that relate to your VATable activities (for example, the commercial parts of the property).

You must perform a partial exemption calculation each VAT period to determine how much VAT can be reclaimed. HMRC’s rules require consistency, so it is essential to use the same calculation method across accounting periods.

Example: how VAT might apply

Imagine you own a building with a ground-floor shop and two flats above. You have opted to tax the building so that VAT applies to the shop rent.

  • You charge VAT at 20% on the shop rent because it is commercial.

  • You do not charge VAT on the flats’ rent because residential lets are exempt.

  • You can reclaim VAT on maintenance costs for the shop but not for the flats.

  • For shared costs such as roof repairs, you can reclaim a portion of the VAT based on a fair apportionment method, such as floor area.

This ensures you remain compliant with HMRC while recovering as much input VAT as possible.

Record keeping and compliance

Mixed use property VAT requires meticulous record keeping. You must:

  • Keep detailed invoices showing which costs relate to each property part.

  • Record apportionment calculations and methods.

  • Store evidence for at least six years in case of HMRC review.

Both Xero and QuickBooks can help automate VAT tracking and apportionment, but you should always review transactions manually before filing your VAT return.

Professional advice for mixed use VAT

Because of the complexity involved, professional advice is highly recommended when buying, letting, or developing mixed use property. A property accountant or VAT specialist can help you:

  • Determine whether to opt to tax.

  • Calculate and apportion VAT accurately.

  • Manage partial exemption rules.

  • Handle VAT on property purchases and sales.

The bottom line

VAT on mixed use properties is more complicated than for purely residential or commercial buildings. Each element must be treated separately, and VAT must be apportioned fairly between taxable and exempt areas.

By understanding how HMRC’s rules apply, keeping clear records, and seeking expert guidance, you can manage VAT correctly, reclaim what you are entitled to, and avoid costly errors. Whether you are a landlord, investor, or developer, careful VAT planning will help protect your profits and ensure full compliance.