If you are developing housing in Scotland, then you will need to contend with the so called "indirect" or "transaction" taxes: VAT and Land and Buildings Transaction Tax (LBTT). Careful planning can reduce both the LBTT charges and irrecoverable VAT payable over the transaction as a whole, result in fewer hiccups along the way, and can allow the parties to price these costs in appropriately.

This article sets out some of the key VAT and LBTT points for housing builders to consider.

VAT in Scotland – (Mostly) The Same.

The VAT treatment of developments in Scotland is largely the same as the rest of the UK.

Buying a bare site

When buying bare land for development of housing in Scotland housebuilders will pay no VAT on the price if the seller has not opted to tax the land.

If a seller has opted to tax the land, the housebuilder will pay VAT on the price.

But, if the land is developed for housing and the conditions for a zero rated sale of the site are met, then the housebuilder will be able to charge VAT on the sale to housebuyers at zero percent, which enables VAT recovery against the land price and professional fees. It is not necessary to opt to tax the land in order to achieve VAT zero rating; the zero-rating rules take precedence.

The cost of sub-contracted construction works should also benefit from zero rating when new dwellings are being constructed from scratch (or – if there is an existing building – where only the façade is being retained).

Buying a building for conversion

Unlike bare sites, if a developer is looking to refurbish an existing commercial building into housing, then it may be possible to disapply any seller option to tax and treat the transaction as a VAT exempt purchase (which saves on LBTT). However, this would require negotiation in advance with the landowner as there are various certification and timing requirements around disapplication. Construction works on a residential conversion are generally subject to VAT at 5% rather than the zero rate, and therefore the domestic reverse charge may also apply to downstream contractors.

VAT can be recovered in the same way as above, provided the rules are followed.

Partly completed dwellings

In some cases, it may be preferable to sell a part completed site, for example, if dealing with certain bodies such as registered social landlords. To the extent that that site consists of partly completed dwellings then the sale can be zero rated. According to HMRC practice, to qualify for zero rating on this basis a building needs to have progressed beyond the foundation stage. Traditionally this is the first brick above the foundations level (the "golden brick"), though HMRC are actively considering more modern and modular construction techniques in the context of golden brick. Note, where a project consists of multiple detached dwellings (such as a housing estate) then each building needs to have reached golden brick for the whole to get zero rating.

Residential Property Developer Tax (RPDT) – Same in Scotland.

The RPDT is a 4% levy which is charged on the trading profits of companies (and groups) which arise from residential property development in the UK. It will be charged for 10 years on accounting periods starting on 1 April 2022 with some straddling and anti-avoidance provisions included. The funds raised by the RDPT are intended to contribute towards the cost of remedying unsafe cladding on residential buildings.

The types of residential development activities caught by the tax are widely defined and include for example seeking planning permission and marketing. There are details on how profits should be defined and the current threshold of annual profits triggering the need to pay RPDT is £25m. For more details see the UK Government's RPDT Manual.

LBTT – Different in Scotland

LBTT is Scotland's land transaction tax (akin to SDLT in England and Northern Ireland and LTT in Wales). LBTT is a fully devolved tax and the primary legislation, rates and bands are set by the Scottish parliament.

The commercial rates of LBTT and SDLT levied on a bare site purchaser are not that different with the highest rate for both being 5% on a price over £250,000. Reliefs also exist for acquiring houses in part exchange for a new build.

However, there are some significant differences between LBTT and SDLT. Here we highlight three of them.

Building under Licence

Where housebuilders don't buy sites from the landowners, but instead develop them out under licence, the LBTT rules are slightly different from the SDLT position. For SDLT purposes, a housebuilder acting under licence won't pay SDLT on the value of the land provided that they do not take possession of more than 90% of the site at one time. For LBTT there is no hard and fast 90% rule, instead an LBTT charge could arise on the developer if they take possession of a "significant amount" of the site – with significant given it's ordinary meaning. A safe rule of thumb for building under licence is to restrict possession to less than 50% of the site at any given time.

Sub-Sale Reliefs

This is relevant where a developer buys land and immediately sells the whole or part of the site to a third-party developer. Unlike for SDLT in England, there is no general sub-sale relief in Scotland. Instead, there is a targeted development sub-sale relief which is subject to stricter conditions including the sales and purchases taking place at the same time and the land being developed within 5 years.

As the conditions around LBTT development sub-sale relief are stricter than those applying in SDLT, parties seeking to rely on the relief need to take care that they fall within the rules when planning transactions. If the sub-sale rules are not followed, each developer buying land will be liable to pay LBTT on the full price they paid for the site.

Additional Dwelling Supplement

There are also differences when buying a site on which houses have already been built, including to the golden brick stage. In Scotland, the Additional Dwelling Supplement (ADS) charged at 6% in Scotland may apply and in England, the equivalent HRAD levied at 3% will apply. However, if there are 6 or more houses on the site being bought at the same time, a developer can benefit from Multiple Dwellings Relief (MDR). In Scotland, claiming MDR will remove the 6% ADS charge but in England, HRAD will continue to be payable even when claiming MDR and so a developer in Scotland will generally pay less tax on a partially built out site.

However, if a housebuilder is buying a development plot with one or two existing houses on it (as well as some non-residential land) – such as a farm – they will be liable to pay the ADS on the price attributable to the existing houses if there are fewer than six. This is not the case under SDLT where the HRAD would be switched off due to the inclusion of the non-residential land.

The net effect of the differences between LBTT and SDLT is that, although LBTT is often seen as a higher tax than SDLT, it can often work out cheaper for Scottish projects.

The above is a very short summary of the taxes which are relevant to residential development in Scotland. Tax is a complex area and so further advice should be sought for specific circumstances. Please contact one of our tax team if you would like more information or specific advice.