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VAT: HMRC disagreed with its own guidance

An option agreement over land was broken when the seller backed out and paid the would-be buyer £1.4m. HMRC wanted a slice of the action as VAT on the deal.  

4th Aug 2020
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Option agreements are contracts that allow for a developer to have the option to purchase land from a seller during an option period. They are commonly used pending approval of planning permission whilst allowing for a site to be promoted for development and investment.

The question for the FTT in Landlinx Estates Ltd v HMRC (TC0776) was whether the release from an option agreement (essentially the seller backing out) was an exempt supply of land for VAT purposes.

Ending the agreement

Landlinx signed an option agreement as a buyer for a site known as Loxwood Nurseries. The seller granted Landlinx the option to buy the property within two years on the condition of planning permission being granted. For VAT purposes there was no option to tax, so transactions concerning the land should have been exempt from VAT.

A few months after planning permission was granted, the parties formally agreed to release the obligations between them, terminating the option agreement, provided the seller paid Landlinx £1,425,000.

VAT treatment

Landlinx treated that receipt of £1,425,000 as consideration for an exempt supply for VAT purposes. HMRC decided that the Landlinx had made a taxable supply in respect of the receipt of the £1,425,000 and issued a VAT assessment for £237,500.

Law

Schedule 4, VATA 1994 states that “the grant, assignment or surrender of a major interest in land is a supply of goods”. Article 14 of the VAT Directive states that 'supply of goods' shall mean the transfer of the right to dispose of tangible property as owner.

Article 135(1)(j) of the VAT Directive exempts the supply of a building and the land on which it stands. This is implemented via Group 1, Schedule 9, VATA 1994, which exempts “the grant of any interest in or right over land”. The statutory notes state: “grant” includes an “assignment or surrender”.

VAT Notice 742 confirms that granting the right to purchase an interest in land or a building within a specified time is an exempt supply. HMRC’s VAT Land and Property manual  (VATLP20000) states: “A person who is granted an option to purchase property acquires the right to buy it at a future date for a specified price.  That right is an interest in land. The grant of an option is an exempt supply…”

HMRC’s argument 

This appears to have been formulated in the following steps:

  1. The grant of an interest or right over land is exempt;
  2. The grant of a major interest in land is a supply of goods;
  3. A supply of goods requires the transfer of the right to dispose of tangible property;
  4. The grant or surrender of an option does not confer the right to dispose of the property;
  5. The grant or surrender of an option is not a supply of goods;
  6. The grant or surrender of an option is not a grant of a major interest or right over land;
  7. Therefore, the grant or surrender of an option is not exempt.

Furthermore, contrary to their guidance, HMRC argued that until the option was exercised, the option did not transfer ownership rights therefore Landlinx was not surrendering or transferring ownership of the property.

Taxpayer’s arguments

Landlinx referred to the case of Hanuman Commercial Ltd which held that the grant of an equitable interest in land can fall within the VAT exemption. As a matter of English law, a call option, protected by a notice or charge, grants an interest preventing the grantor from selling the property unencumbered to a third party.

Furthermore, referencing the case of Lubbock Fine, where a transaction fell within the scope of an exemption, its obverse release for consideration will also fall within the exemption.

Responding to the supply of goods syllogism, Landlinx argued that Article 15(2) of the VAT Directive permitted EU member states to treat certain supplies of immovable property as tangible property and the UK had done so historically by treating call options as interests in land.

Decision

The tribunal held that as a matter of English land law an option creates an equitable interest in land which can be protected by a notice. The release of an option should be treated synonymously with a grant of an option following Lubbock Fine. Therefore, applying the words of Item 1 (with the note to Group 1), the release by Landlinx of the option was a “surrender” of an interest in land.

The first tier tribunal disagreed with HMRC, deciding that the exemption was not limited to the supply of goods. Article 135(1)(j) does not apply only to supplies of the major interest but also to lesser or derivative interests in the land and buildings. The provision’s purpose is to exempt immovable property generally subject to specific exceptions such as supplies before first occupation. The production process occurs before first occupation; the first sale is the point of consumption. In Landlinx, the property had already been consumed so the exemption applied.

On HMRC’s view, the granting of an option for an initial premium that was then exercised would be treated differently to an outright sale. This is irreconcilable with fiscal neutrality.

Comment

HMRC disagreed with its own guidance. One may question if there is a reason for this beyond revenue raising.

One commentator posited that HMRC had a fear of EU infringement proceedings. This may be correct but seems odd as HMRC’s cognitive dissonance arose not on a recent restatement of the law but on an unsound reading of the 30-year old CJEU judgment in the 1990 Safe case. It is especially odd as the UK has now left the EU. Regardless, VAT practitioners appreciate a creative argument, and HMRC’s was certainly that.

My view

The tribunal is right to deem the exemption to apply generally to supplies of buildings and land. Primarily because the wording of Article 135(1)(j) is broad, and secondly for the sake of legal certainty: with different forms of property ownership across the EU, exceptions would be unwelcome.

The decision conforms with the approach taken in the recent case of News Corp where the upper tribunal held that exemptions must be construed in a manner which is consistent with the objectives which underpin them and not to deprive them of their intended effects. Moreover, strict interpretation is not restrictive interpretation.

On a practical note, conveyancers should take advice on VAT clauses in documents relating to land transactions to avoid disputes such as in CLP Holding. This is especially important if HMRC are pressing to change the position for some transactions of interests in land where the VAT liability may differ from that at the time of the supply.

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