If you have to make a major claim against your buildings insurance, VAT will be an important aspect of the rebuild cost.
The amount of VAT to be included within a buildings sum insured depends on the way in which the building is used and whether or not the person or company taking out the insurance is able to recover VAT. The way in which VAT is applied to rebuilding works will affect your sum insured so RMC directors should take advice from their insurer or broker and make sure they understand the HMRC rules.
Zero rating
The cost of rebuilding a block of flats which needs to be substantially reconstructed – as opposed to repaired – following a major incident, is zero rated for the purpose of VAT. This means that VAT does not need to be added to the rebuild cost when your insurer calculates the sum that your block is to be insured for. Roads and boundary fences also qualify for zero rating, as do garages.
However, there are various aspects of rebuilding works that cannot be zero rated. These include the following:
- Detached buildings comprising swimming pools, tennis courts, stables and other leisure (as opposed to residential) facilities.
- Landscaping, fish ponds, rockeries and garden walls unless the work is closely connected to the construction of the building, as defined in the relevant HMRC Notice.
- Fees and demolitions.
What this means is that if the cost of fees, demolitions and any relevant works that are standard rated add up to, say, 25% of the total rebuild cost, VAT will need to be added to this amount only and not to the total cost of rebuilding.
Clients often assume that if a residential building is more than 80% destroyed when compared to the sum insured, the repair cost will be subject to VAT and at the current 20% rate, the sum insured will be exceeded and consequently VAT should be added in total. However, the reality is that a severely damaged building (eg: 80%+ destroyed) would be more cost effective to demolish and rebuild, rather than repair.
Guidance from HMRC is contained in VAT Notice 708. It explains that a building is zero rated for VAT when it is built from scratch with the proviso that before work starts any pre-existing building is demolished completely to ground level (although cellars, basements and the slab may be retained). A zero rated building is also allowed to make use of a single facade (or double facade on a corner site) provided the existing building is demolished completely (other than the retained facade) before work on the new building is started so long as the facade is retained as an explicit condition or requirement of statutory planning consent.
In terms of repaired damage on residential buildings where VAT is irrecoverable, it is usual practice for insurers to pay the VAT element up to the sum insured – the sum insured being based on the total rebuild cost from scratch as opposed to the repair cost.
Are you VAT registered?
While most owners of residential buildings are not VAT registered, some are. If the building owner is VAT registered and able to recover VAT, there is no need for VAT to be included within the rebuild calculation including fees and demolitions etc when setting the building sum insured. Therefore it is important to let your insurer know if this is the case.
Where a block of flats includes commercial units, for example where there are retail shops on the ground floor, the position is slightly different. Here the rebuild cost of the flats would be zero rated while the shops would be standard rated, as commercial use does not qualify for zero rating. If the property owner is not VAT registered, VAT will need to be added to the commercial part of the building only; albeit the total cost of fees, demolitions and any relevant structures would be subject to VAT at the standard rate.
For all buildings, in arriving at the insurable amount, the most important consideration is to ensure the base amount net of VAT is correct and then to add VAT as appropriate.
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This is a simplified summary and for guidance only – professional advice should always be taken on VAT matters and when setting the declared value or sum insured of your block.
