Intelligent tax savings in Spain – by waiving the VAT exemption

In the following, we will explain how the tax law figure of waiving VAT exemption in real estate transactions in Spain can offer considerable tax savings potential. To this end, I will explain what is meant by the so-called waiver of VAT exemption, what conditions must be met for this option to be available, who is eligible for this option, how it is implemented and what the legal and tax implications are. My explanations are based on the current Spanish legal situation (August 2024) and take into account Law 37/1992 of December 28 on Value Added Tax (LIVA) and its implementing regulation (RIVA).

Brief introduction to the linguistic features IVA (Impuesto sobre el Valor Añadido)

Before we look at the details, we should briefly discuss the linguistic peculiarities. In Spain, the term VAT, i.e. Impuesto sobre el Valor Añadido (IVA for short), is used consistently. The term VAT is also used internationally, e.g. in the USA or Great Britain when the term VAT stands for “value added tax”.

In Germany and Austria, on the other hand, the correct tax term is “sales tax”. In Switzerland, until January 1, 1995, the relevant tax was officially known as goods turnover tax (WUSt). In the meantime, however, it is also referred to as VAT in Switzerland.

Turnover tax and value added tax: two names, one concept

First of all, it is important to understand that despite these different terms, the same tax is meant in each case.

In Germany, but also in Austria, the terms sales tax and VAT are often used interchangeably in everyday language.

Although “sales tax” is the official term under tax law, “value added tax” has established itself as a colloquial term.

This double designation can certainly lead to confusion, but essentially describes the same tax principle.

The basic principle of Spanish value added tax (IVA)

VAT (or sales tax in Germany and Austria) is a consumption tax levied on the sale of goods and services. It is added to the net price and borne by the end consumer. In Germany, the regular tax rate is 19%, while a reduced rate of 7% applies to certain everyday goods. In Spain, a general VAT rate of 21% applies. In addition, Spain has reduced VAT rates of 10% and 4% (and in some cases 5% and 0%).

The VAT or sales tax route: a transitory item for companies

For companies, value added tax or sales tax is a so-called transitory item. This means that although it is collected by the company, it is not recognized as revenue. Instead, it is forwarded to the tax office. This system works as follows:

A company sells a product and adds VAT or sales tax to the net price.
The customer pays the gross price, which includes VAT or sales tax.
The company pays the collected VAT or sales tax to the tax office.

The role of input tax – why sales tax is also called VAT in Germany

In order to understand why people in Germany also speak of a “value added tax” (although it is officially a sales tax), you have to consider the concept of input tax.

Input VAT is the VAT that a company pays when purchasing goods or services for its business operations. It can deduct this from the VAT it charges on its own sales.
This means that only the “added value” that the company creates through its activities is effectively taxed. This explains the colloquial term “VAT” and illustrates why the tax is merely a pass-through item for businesses.

Example for illustration (with the German VAT rate of 19%)

Let’s assume that a German furniture manufacturer buys wood for €1000 (net) plus €190 VAT. He processes the wood into a cupboard, which he sells in Germany for € 2000 (net). He adds € 380 German VAT to this.

German VAT on sales: € 380
Less German input tax from purchase: € 190
Amount to be paid to the German tax office: € 190

The furniture manufacturer has therefore only paid tax on its added value of €1000 (sales price minus purchase price).

Significance for consumers and companies

For consumers, VAT is an invisible but omnipresent burden. They pay the full amount of tax on every purchase, without the possibility of reclaiming it.

For companies, on the other hand, VAT is associated with administrative effort, but is financially neutral. They must calculate, declare and pay the tax correctly, but benefit from the input tax deduction.

The system in Spain works in exactly the same way. The only difference is that here the term IVA, i.e. value added tax, is used, thus avoiding the “confusion” caused by the term sales tax.

VAT and its actually neutral character for companies

VAT is therefore an indirect consumption tax that is levied at every stage of the production and distribution chain for goods and services. However, as we have just seen, it is neutral for companies.

VAT exemptions and their impact on real estate transactions

Although the principle of VAT neutrality is essential for the proper functioning of the system described, there are certain transactions that are exempt from VAT by law. These exemptions were introduced for various reasons, e.g. to protect certain sectors or to simplify the tax system. However, the existence of these exemptions can lead to market distortions and affect the neutrality of VAT, especially in areas such as the real estate sector.

Taxation on the sale of real estate in Spain

As with almost all transactions, the sale of real estate is also subject to taxes. Put simply, either VAT or land transfer tax must be paid on the property value/purchase price.

If the purchase is subject to Spanish VAT, there is no real estate transfer tax. If, on the other hand, the purchase is exempt from VAT, property transfer tax is payable.

In other words, a transaction exempt from VAT is then generally subject to real estate transfer tax.

As the levying of property transfer tax is the responsibility of the individual Autonomous Communities of Spain, which are allowed to determine the tax rate, the general property transfer tax levied in Spain ranges from 4% in the Basque Country to 11% in Catalonia (in addition to several subjective, local concessions, there are also Autonomous Communities which apply a progressive tax rate depending on the value of the property, so the final tax rate depends on numerous factors).

If the sale of a specific property leads to taxation under the application of real estate transfer tax due to a VAT exemption, the acquiring company understandably pays real estate transfer tax instead of VAT and cannot immediately pass this on neutrally as part of the input tax deduction.

In the following section, I would like to explain which cases are affected by a VAT exemption and therefore lead to taxation by means of real estate transfer tax.

Real estate transactions in which Spanish law provides for VAT exemptions

Transfer of rural land, agricultural land and other land that does not have the status of building land:

This exemption applies to the transfer of land that is not urbanized and has not been classified as building land. The reason for this tax exemption is to avoid the collection of VAT if land has not undergone a value-enhancing conversion process. However, this tax exemption can be problematic if the purchaser of the land is a company or a self-employed person who intends to build on or develop the land. In this case, the purchaser pays real estate transfer tax and no VAT, but must later regularly charge VAT to the final purchasers. This breaks the system of tax neutrality described above, as the VAT transferred to him is not a genuine transitory item. After all, it is added to the real estate transfer tax first paid by the selling entrepreneur.

Second and subsequent transfer of buildings:

This tax exemption applies to the transfer of real estate that was already the subject of an initial transfer, i.e. that was sold by the original developer or builder after construction or renovation. The reason for this exemption is that the value added to the building has already been taxed on the first supply, so it would be inefficient to tax it again on subsequent transfers.

Although these tax exemptions serve to avoid double taxation and simplify the system, they can lead to companies being unable to deduct the VAT paid on the purchase of properties.

So why can waiving the VAT exemption make tax sense and save money?

In order to mitigate the negative effects of the VAT exemption in the real estate sector, the Spanish legislator has introduced the option of waiving the exemption. This option makes it possible, under certain conditions, to subject real estate transactions that would normally be exempt from VAT to VAT despite this exemption.

What are the advantages of waiving the VAT exemption for real estate transactions?

• Input tax refund: The main benefit for the buyer is that they can deduct input tax on the purchase of the property, as with any other purchase made by a company. This reduces the immediate cost of the purchase and can improve the overall profitability of the investment.
• Tax neutrality: In a broader sense, waiving the tax exemption helps to ensure that VAT is levied on added value at every stage of the production and distribution chain. This avoids market distortions and unnecessary price increases.

What are the conditions for waiving the VAT exemption?

Conditions for waiving the tax exemption:

• Taxable persons: Both the seller and the purchaser must be entrepreneurs or self-employed persons and registered in the VAT system, i.e. entered in the VAT register. This means, among other things, that the turnover generated by the taxable person must be in the context of an economic activity. Therefore, if a natural person who is not an entrepreneur or self-employed person acquires a property, they cannot waive the tax exemption, even if the seller is an entrepreneur or self-employed person.
• Right to deduct input tax: The purchaser must be entitled to deduct input tax in full or in part. Before January 1, 2015, the acquirer could only waive the tax exemption if he was entitled to full input tax deduction. However, Law 28/2014 introduced the possibility of waiving the VAT exemption even if the purchaser is only entitled to a partial input VAT deduction. The scope of application of the waiver of VAT exemption has thus been significantly expanded.
• Verifiable notification: The transferor must notify the transferee of the waiver of the tax exemption in a verifiable manner. This notification must be made before or at the same time as the transfer of the property. This is usually done by including a corresponding clause in the public deed of transfer.
• Declaration by the acquirer: The acquirer must declare in writing that he is liable for VAT and is entitled to deduct input tax. This declaration can be included in the public deed of transfer or in a separate document.
• Please note: In order to reduce the risk of tax evasion, the Spanish legislator has stipulated in the cases described in Article 20, paragraph 1, numbers 20 and 22 of the VAT Act (LIVA) that if this exemption is waived in these normally VAT-exempt transactions, a special regulation comes into force: the tax liability is transferred from the seller to the buyer. This shift of the tax liability is generally referred to internationally as the “reverse charge procedure” in comparable cases. The legal basis for this can be found in Article 84, paragraph 2, letter e, second half-sentence of the Spanish Value Added Tax Act (LIVA).

In cases where the VAT exemption is waived, the recipient of the service, in this case the buyer, must declare the VAT incurred in connection with the transaction and which is then deductible, due to the so-called “inversión del sujeto pasivo” and thus the exchange of the tax liability.

Practical cases of waiving the VAT exemption

The following examples will serve to illustrate how the waiver of VAT exemption works in Spanish real estate transactions:

Example 1: Transfer of a developed property

• A property developer (the seller) sells an agricultural property to another property developer (the buyer).
• The property is exempt from VAT as it is not building land.
• However, it is in the interest of the purchaser to waive the tax exemption in order to be able to deduct the VAT incurred on the purchase.
• To this end, the two entrepreneurs include a clause in the public deed of sale in which the seller declares his waiver of the exemption and the purchaser declares that he is liable for VAT and has the right to deduct input tax.

In this case, the waiver of the tax exemption allows the purchaser to deduct the VAT incurred on the purchase of the property, which reduces the cost of his investment.

Example 2: Transfer of a building for renovation purposes

• A company that owns an old building (the transferor) sells it to another company whose business purpose is the renovation or modernization of buildings (the transferee).
• The transfer of the building would be exempt from VAT as a second transfer of a residential building.
• However, it is in the interest of the purchaser to waive the tax exemption in order to be able to deduct the VAT on the purchase and the renovation work.
• Both entrepreneurs include the corresponding clause on the waiver of tax exemption in the purchase contract.

In this case, the waiver of the tax exemption not only benefits the buyer, as they can deduct the VAT paid on the purchase, but can also have a positive effect on the market, as it provides an incentive to renovate properties.

What needs to be considered when pursuing the waiver of VAT exemption?

It should be noted that waiving the VAT exemption for real estate transactions is a strategic decision that should only be taken after careful analysis of the specific circumstances of the specific transaction. It is important to check that all requirements are met and to ensure that the waiver of VAT exemption is documented in an appropriate manner.

Ideally, this should already be set out in the private preliminary contract, and in any case repeated at the latest at the time of notarization, or set out in writing there for the first time.

Your lawyer or tax advisor can help you formulate the appropriate clause, or you can discuss it with the notary.

The corresponding clause could look like this (on the left is the Spanish version and on the right is a translation into German):

The following aspects, among others, must be taken into account:

Tax implications: The waiver of the VAT exemption may have an impact on other taxes such as real estate transfer tax and stamp duty (ITP and AJD). In some Autonomous Communities, the waiver of VAT exemption may result in the application of a higher ITP and AJD rate.

• Organizational complexity: The waiver of VAT exemption requires compliance with a number of formal and procedural requirements that make the transaction more complex.
• Impact on the price: Although the waiver of VAT exemption allows the purchaser to deduct input VAT, it can also have a (negative) impact on the final price of the transaction. It is possible that the seller will pass on part of the VAT to the buyer, especially if the buyer does not have a strong negotiating position. This with the motivation to also benefit somewhat from this advantage.

Result: It is easy to save taxes when buying real estate in Spain if you meet the requirements

The instrument of waiving the VAT exemption for real estate transactions can generate significant savings and allows some legal transactions to be returned to tax neutrality, which would otherwise be lost if the real estate transfer tax were applied and could lead to market distortions on a large scale. This option is therefore a valuable means of reducing the tax burden and improving the profitability of an investment quickly and comparatively easily.