Ian Graham, Mike Gaskell and Joseph Acton examine the use of ‘golden brick’ arrangements by registered providers of social housing.
Why implement a golden brick arrangement?
Briefly, to eliminate VAT on the development land purchase price in a situation where a Registered Provider of social housing (RP) is unable to recover VAT on its costs.
The scenario is as follows: an RP builds a new residential development for use as rented accommodation. The RP cannot recover VAT on its costs associated with the development. This could include items such as professional fees, but in all likelihood the largest item would be VAT on the land purchase price if the seller has opted to charge VAT (the option to tax). A golden brick arrangement will eliminate the cost of VAT on the land purchase price.
How does a golden brick arrangement work?
The arrangement works by converting the land purchase from a VATable transaction – resulting from the seller's option to tax – into a VAT-free transaction. Just as importantly, the seller's priority from a VAT point of view, the ability to recover VAT on his related costs, is unaffected.
From a VATable transaction to a VAT-free transaction
The VATable transaction: the seller has opted to tax the development site. If no action is taken, the site purchase price will be subject to VAT.
The VAT-free transaction: a freehold or long leasehold (more than 21 years) sale of newly built residential accommodation is zero rated for VAT purposes provided the sale is by the person constructing the accommodation. In that case, the buyer will not pay VAT on the purchase price and the seller will be able to recover VAT on his related costs even though he has not charged VAT on the sale.
The above rule takes precedence over the seller's option to tax.
How does a golden brick arrangement fit into this?
The rule mentioned above operates provided the construction of the accommodation has progressed to a certain level, called the "golden brick" level.
Briefly, the RP buys a partly completed development from the seller and then builds out to completion after the purchase. The seller thereby becomes the person constructing the development, so the above rule applies.
When is golden brick level reached?
Golden brick level is reached when there is building "clearly under construction".
In practice, this means that before the sale to the RP, construction work must reach above foundation level (the "golden brick" above foundation level).
This is usually when walls begin to be constructed upon the foundations. These walls need not be above ground level. However, simply digging and concreting foundations is not sufficient.
Once the seller has built to golden brick level, as described above, he will sell the partly completed development to the RP. That, in short, is a golden brick arrangement.
For example, the development consists of a residential block with an underground car park. Golden brick level is reached when there is a course of bricks above the car park foundations. The same applies if the ground floor is non-residential – just above the foundations of the non-residential element represents golden brick level.
Some practical points
Is a golden brick arrangement an acceptable tax planning technique?
Undoubtedly yes. It is supported by case law, and is even referred to HM Revenue & Customs (HMRC) public guidance. It does not need to be reported to HMRC as a tax avoidance scheme.
Upfront payments to the seller
The golden brick arrangement can allow for upfront payments to the seller before the sale takes place. This would enable the seller's cashflow cost – which might otherwise be passed to the RP – to be minimised.
Controlling the construction phase
The RP will wish to control the construction phase priorto sale i.e. when golden brick level is reached. This is possible, although the RP must not get too close to the seller's decision making. Final decisions must be made by the seller, but the RP can have a significant input.
Using the RP's building contractor
The RP may have a building contractor lined up, whereas the seller may not have the necessary expertise or desire to be involved in the construction phase. In this case, it is possible for the seller to enter into a construction contract with the RP who, in turn, will sub-contract to the RP's intended building contractor.
Golden brick can be adapted to phased developments.
Mixed use developments
By this we mean development for mixed renting and sale, or even a mix of residential and commercial use. The golden brick arrangement can be adapted to meet these situations.
In particular, the RP will also have person constructing status, thus enabling it to grant zero rated shared ownership leases of the completed development.
The golden brick arrangement will include appropriate collateral warranties in favour of the RP in relation to the golden brick works.
Who takes the VAT risk?
As the law currently stands, the golden brick arrangement is effective for VAT purposes to eliminate the VAT cost for the RP. But the law and/or HMRC practice could change – who takes the risk of this? It will be a matter for negotiation, but the price of the seller agreeing to enter into a golden brick arrangement may be that the RP must take the risk of a change of law and/or HMRC practice.
Stamp Duty Land Tax (SDLT)
SDLT is potentially payable by the RP on the cost of the golden brick works. However, in many cases, SDLT charities or public subsidy relief will be available to the RP. In other cases, the additional SDLT cost must be allowed for.
Is there any other way round the VAT problem?
For example, if the seller will not collaborate in a golden brick arrangement, or funding cannot be obtained without an up front, pre-golden brick transfer of the site to the RP.
In this situation the RP can potentially disapply the seller's option to tax. This may result in an increase in the site purchase price to compensate for the seller's irrecoverable VAT cost, but this would most likely be significantly less than the RP's irrecoverable VAT cost on the site purchase price if no action is taken.
Alternatively, it may be possible to run the development through a wholly owned trading subsidiary of the RP which would build to golden brick level and sell on to the RP. This raises a number of tax and other issues, but could be worth exploring in some cases.