Andrew Needham looks at how businesses should treat the VAT on aborted projects.
It is quite common for a business to start a project, and then it either cannot progress for reasons outside the business's control or the intended use changes.
However, what happens to the VAT that has been reclaimed on the start-up or development costs if the project does not proceed as envisaged?
Reclaiming the VAT
If a business starts a project with the intention of making taxable supplies, it may recover the VAT on the set-up and any other related costs based on those intended taxable supplies.
This applies equally to a new start-up business and an existing business with a new project.
What if the project cannot proceed?
If the project does not proceed for reasons beyond the business's control or because it changes its mind and either does not proceed or does something else with the asset, it will have to consider the position of the VAT that has already been claimed.
The treatment of the VAT claim will depend on the exact circumstances of the situation.
Example 1: Aborted housing project
A business buys a plot of land on which it is charged VAT, with the intention of building houses on it. It incurs planning, architects’, surveyors’ and legal costs on taking the project forward and recovers the VAT on its VAT return as it goes along as it is intending to make a zero-rated taxable supply of new houses.
The local council decide that they will build a new bridge to ease traffic congestion and issue a compulsory purchase order on the land for use as an access road. They have to sell the land as an exempt supply. What happens to the VAT they have claimed?
In the ECJ case Belgium v Ghent Coal Terminal NV [1998] STC 260, the Court stated that where the change of use is for reasons beyond the control of the business, there should be no clawback of the VAT that was originally reclaimed. HMRC has accepted this decision. The Ghent Coal Terminal case confirmed the general principle that the right to recover input tax arises at the time costs are incurred based on the intention at that time of the use to which the goods or services acquired will be put.
If that intention is later frustrated so that no use can be made of the goods or services acquired, no adjustment is required to the initial claim for input tax.
Example 2: A change of plan
We have similar circumstances where a business buys some land and obtains planning permission to build houses and reclaims the VAT as it intends to make a zero-rated taxable supply. The housing market drops off and the business receives an offer for the land, which now includes planning permission.
The business decides to cut its losses and sell the land as it is and makes an exempt supply.
In Example 2, the business has made a conscious decision to do something else with the asset, so there is a change of intended use within six years of acquiring the land and it is caught by VAT Regulations 1995, SI 1995/2518, reg 108 and is required to make an adjustment to the VAT already reclaimed and pay it back to HMRC (this would be subject to the input tax exceeding the partial exemption de-minimis limits, which it almost certainly would).
Example 3: New business not going ahead
A business decides to start a new business venture and incurs accountancy and legal fees in investigating its viability, on which it recovers VAT. The business decides not to proceed with the venture.
The costs are treated as a general overhead of the business, and provided the business is fully taxable, the VAT is fully recoverable and no adjustment is necessary.
Practical tip
If a business abandons a business project, it will need to consider the effects on previously recovered input tax to ensure there is no overclaim of VAT.
