VAT cuts in construction, who would get the benefit and why?

VAT is an end user tax, the ‘cost’ to businesses is zero. That fact is often overlooked in all debates about VAT, a business has input and output VAT, if they take in more than they charge they send the balance to Revenue, if they pay out more than they take in they are in a refund situation.

So why would dropping the VAT rate make any difference at all if the cost to the business doesn’t change as a result of it?

The normal implication is that the end user would benefit because you would have a ‘cost plus’ that would result in a lower end price, which intuitively makes sense until you consider the other issue of bottom up costs and obvious capacity for additional profit taking.

What that means is there are bottom up costs like various levies, regulations, and carry costs that make the break even point higher than it might naturally be, certainly higher than it ought to be if you go by international standards. If current costs are above break even a lower VAT rate won’t make a difference because the cost will still be higher than the sales price can achieve (except for the most marginal cases).

The second point is that profit taking would be the most likely outcome due to scarcity issues with new homes. Here’s a simple example, currently a property is selling for €340,000. Within that sum there is VAT of €40,440 (340,000/1.135 to get the ‘net’ sum of €299,559).

If the VAT rate changed to 9% the property would most likely still sell for €340,000 but now the VAT would only be €28,073 which is an exchequer cost but the difference likely doesn’t ‘pass through’ to the end user.

Second hand homes don’t have VAT so this would also be a proxy for ‘achievable prices’, meaning it would take a fool to lower the price when there is money on the table for the taking.

Think about it like this, if you go to buy a pair of pants do you think about the ‘net’ cost or just the ‘price’ you are set to pay? Personally I have never bought a pair of jeans and thought about the VAT rate on them, I just think about how much it will take for me to own them.

The only places this might work are in the places that don’t need it, mainly outside of the cities where the issue of supply is worst.

If you had a developer in Westmeath able to say they were dropping the price due to a VAT cut that might attract attention, but a city developer won’t do that, indeed this cut may still mean many sites are not economical for development.

Then there is the smart idea of saying it would apply ‘below certain price limits’ such as €300,000 but that belies that tetchy ‘bottom up’ cost issue we already discussed, because it isn’t as if lots of new houses are currently selling for €308,000 where the VAT cut could be passed on and make them come in below 300k.

The cost of finance alone as well as over-runs, costs of carrying through lengthy objections and so much more mean this idea in the main is just a way of de-funding the state. Hardly a solution is it?

One Comment

  1. Rob

    Why is no-one questioning construction inflation given there is no current skills or materials shortage?

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