Spain: VAT on Residential Property under Construction

Published on 28 February 2022

With real estate activity in Spain resurging slowly but surely, and as we are starting to overcome the pandemic, it is becoming exceedingly popular to invest in buildings or “fincas” with an eye to restoring and/or renovating them for subsequent sale. This Spanish variant of “house flipping” is also increasingly in demand by foreign investors, especially in coastal areas.

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Due to the mechanics of these types of transactions, in order to avoid over-taxation resulting from the establishment of purchase options or lack of sufficient security in advance payments on account, it is frequent for notarised sale and purchase agreements to contain conditions precedent (condiciones suspensivas under Spanish law). This is to say, the sale does not take effect until the established condition is fulfilled or possession of the real estate is postponed.

Such arrangements attempt to ensure that the property is not transferred until the construction work is completed and that VAT not accrue, given that buildings under construction are taxed at 21% as opposed to the reduced rate of 10% applicable to housing. It must be recalled that while construction works are in progress, neither the habitability certificate (cédula de habitabilidad) nor the so-called “licence of first occupancy” (licencia de primera ocupación) is available; this means the building cannot yet be considered as “housing” for VAT purposes.

This is all well and good; however, certain measures taken by the tax inspectorate and rulings by Spanish courts have contradicted the notion that specific conditions or the postponement of the effective delivery of the real estate asset (i.e. delivery as in property transfer) preclude the accrual of VAT. This may lead to highly negative consequences for both the property seller and purchaser due to failure to file the corresponding tax return and/or the fact that the transaction would now be subject to a VAT rate of 21%. That is, the final price would be 11% higher because the reduced rate for residential property would not be applicable.

As far as conditions precedent are concerned, it should also be taken into account that in many cases, the courts reclassify them as conditions subsequent (condición resolutoria under Spanish law). This means that the purchase agreement becomes fully effective at the time of signing and only if the condition in question were fulfilled would the agreement be rendered void. As a result, VAT accrues at the time of execution of the public deed. Problems also arise with conditions guaranteeing part of the purchase price, as the tax authorities regard this as no hindrance to considering that the transfer of the property has taken place. Furthermore, the sale of the property with a notarised arrangement for the seller to retain possession or deferral of delivery to a later point in time (generally when the habitability certificate is obtained) does not prevent VAT from accruing pursuant to the tax authorities’ criteria.

Therefore, it is highly recommended that a thorough review of any and all terms and conditions of agreements to be raised to public document status be performed and, first and foremost, that the appropriate safeguards be established to ensure that each party assumes any tax-related risks that could correspond to it during the normal course of this type of real estate transaction.