Real estate VAT, indemnities

Real estate indemnities and VAT: the dividing line between a taxable service and compensation

An indemnity paid in connection with a real estate transaction does not automatically fall outside the scope of VAT. The test is the direct link laid down by article 256 of the CGI, as interpreted by the Court of Justice of the European Union: if the amount remunerates an individualised service rendered to the party paying it (surrendering a lease, holding a room, agreeing to an early exit), it falls within the scope of the tax; if it compensates a loss (unlawful occupation, a breach suffered), it falls outside the scope. Lease termination, occupation indemnities, rental guarantees, hotel no-shows: each configuration calls for its own analysis. The firm secures the characterisation, the invoicing and the right to deduct for each party.

Secure the treatment of your indemnities See the Real estate VAT practice
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— In brief
Test
Direct link between the amount paid and an individualised service (CGI art. 256, CJEU case law)
Lease termination
The indemnity in principle follows the VAT regime of the lease itself (taxable or exempt)
Unlawful occupation
An indemnity paid by an occupant with no right or title compensates a loss: outside the scope
No-show, deposits
A service paid for but not used: taxable; deposits retained after cancellation: outside the scope
Stakes for the payer
VAT wrongly invoiced on a genuine indemnity is not deductible
— 01

Indemnity or consideration: a characterisation that does not depend on the words of the contract

Article 256 of the CGI subjects to VAT supplies of services for consideration made by a taxable person acting as such. The case law of the Court of Justice derives from it a constant requirement: there must be a direct link between the service rendered and the amount received, that is, a legal relationship in which reciprocal performance is exchanged, the amount constituting the effective counter-value of an individualisable service supplied to the recipient.

Applied to indemnities, this test leads to a distinction that is simple in principle and delicate in practice: an amount that remunerates an undertaking to do, not to do or to tolerate something (giving up the performance of a lease, agreeing to an early exit, keeping a room available) is the consideration for a service and falls within the scope of the tax. An amount that compensates the loss suffered as a result of a breach or an unlawful situation remunerates nothing: it falls outside the scope of VAT.

The characterisation chosen by the parties does not bind the tax authorities: an amount labelled an indemnity may be recharacterised as an additional price, and vice versa. The Court of Justice thus held, in MEO of 22 November 2018 (C-295/17) and Vodafone Portugal of 11 June 2020 (C-43/19), that lump sums due on early termination of a contract, where they correspond in substance to what the operator would have received had the contract continued, are the remuneration for the supply and not an indemnity.

The firm deliberately takes on a limited number of engagements in order to guarantee the direct involvement of its partners in every matter, and systematically assesses whether its involvement is warranted before accepting any engagement.

— 02

Real estate indemnities, case by case

01

Early lease termination: paid by the landlord or by the tenant

Since the CJEU's Lubbock Fine judgment (15 December 1993, C-63/92), the termination indemnity in principle follows the regime of the lease itself.

  • Indemnity paid by the landlord to the tenant who agrees to vacate the premises: consideration for the surrender of the lease, treated like the letting (exempt if the lease was exempt, taxable if the lease was subject to VAT, in particular under an option)
  • Indemnity paid by the tenant to the landlord who agrees to an early exit: consideration for the service rendered by the landlord, with the same logic of symmetry
  • Amounts corresponding to the rents remaining due: a strong risk of characterisation as remuneration for the supply, in line with the MEO and Vodafone Portugal judgments
  • An indemnity compensating a distinct loss (wrongful termination, damage): outside the scope, provided it can be demonstrated
02

Occupation indemnity: occupant with no right or title

Unlawful occupation involves no exchange of performance: the indemnity that compensates it falls outside the scope of VAT.

  • Occupant with no right or title (expired or terminated lease, de facto occupation): the owner consents to nothing, the owner suffers it; the indemnity set by the court or by the contract compensates a loss
  • Absence of a direct link: no service voluntarily rendered to the occupant, hence no supply for consideration within the meaning of article 256 of the CGI
  • Vigilance in ambiguous situations: a prolonged and remunerated tolerance by the owner may tip the relationship into a letting, taxable or exempt depending on the rental regime
  • Practical consequence: no VAT to invoice, and for the occupant no VAT to deduct, even if an invoice mentions the tax
03

Rental guarantees and contractual indemnities

Security deposits, penalties and indemnity clauses are analysed according to their actual function, not their label.

  • Security deposit: a mere security as long as it is refundable, outside the scope; its retention is analysed according to what it covers (unpaid rents: follows the regime of the rents; repair of damage: compensatory logic)
  • Late-payment penalties and default interest: compensation for the loss arising from late payment, in principle outside the scope
  • Rental guarantees granted by a seller or a developer: case-by-case analysis, as the amount may, depending on the circumstances, constitute a price supplement or reduction rather than an indemnity
  • Cancellation clauses: the option to withdraw against an agreed amount follows a compensatory logic where the amount offsets the loss caused by the withdrawal, subject to recharacterisation as the price of the service
04

Hotel no-shows and unused services

The line drawn by the CJEU between deposits and the price of a service paid for but not used structures the whole subject.

  • Deposits retained by the hotelier after the client cancels: a fixed termination indemnity, outside the scope (CJEU 18 July 2007, Société thermale d'Eugénie-les-Bains, C-277/05)
  • A client who has paid the price of the night and does not show up (no-show with prepayment): the service was kept at the client's disposal, the retained price remains subject to VAT, in line with the CJEU's Air France-KLM judgment (23 December 2015, C-250/14 and C-289/14) delivered for unused airline tickets, a solution transposed to the hotel sector by the Conseil d'État on 9 October 2024 (Sté Hôtelière Paris Eiffel Suffren and Sté AccorInvest)
  • The operative test: does the amount correspond to the price of the agreed service, or to a fixed compensation distinct from the price
  • A quantified stake for the hotel sector: adjustments over several years of retained amounts, with penalties where applicable
— 03

Our approach

The firm acts upstream, at the drafting of indemnity clauses (commercial leases, termination agreements, hotel booking conditions, rental guarantees), and downstream, in audits and litigation, when the tax authorities recharacterise an indemnity as taxable income or refuse the deduction of VAT wrongly invoiced. The analysis covers both sides of the transaction: the position of the payee (whether or not to invoice VAT) and that of the payer (whether or not to deduct the tax charged), in coordination with the general rules of real estate VAT.

  • Indemnities and VAT
  • Lease termination
  • Occupation indemnity
  • Hotel no-show
  • Direct link (CGI art. 256)
— FAQ

Real estate indemnities and VAT: your questions

Is a commercial lease termination indemnity subject to VAT?

It depends on the regime of the lease. Since the CJEU's Lubbock Fine judgment (15 December 1993, C-63/92), an indemnity paid to bring a lease to an early end in principle follows the VAT regime of the letting itself: if the rents were subject to VAT (in particular under an option for business premises), the indemnity is too; if the letting was exempt, so is the indemnity. The amount in fact remunerates a service, the surrender of the contract, within the meaning of article 256 of the CGI. Only an amount compensating a loss distinct from the mere surrender of the lease can qualify for out-of-scope treatment.

Does the indemnity paid by an occupant with no right or title bear VAT?

No, in principle. Where the occupation is unlawful (expired or terminated lease, or purely de facto occupation), the owner supplies no service to the occupant: the owner suffers a situation to which no consent was given. The occupation indemnity, whether set by the court or provided for contractually for the post-lease period, compensates a loss and falls outside the scope of VAT, for want of a direct link within the meaning of article 256 of the CGI. The solution is reversed if the owner durably tolerates the occupation against remuneration: the relationship may then be recharacterised as a letting, taxable or exempt depending on the applicable rental regime.

Are amounts retained by a hotelier in the event of a no-show taxable?

A distinction must be drawn. Deposits retained after the client cancels constitute a fixed termination indemnity, outside the scope of VAT: this is the solution of the CJEU's Société thermale d'Eugénie-les-Bains judgment (18 July 2007, C-277/05). By contrast, where the client has paid the price of the room and does not show up, the hotelier has performed the service by keeping the room available: the retained price remains subject to VAT. This line, drawn by the CJEU for unused airline tickets (Air France-KLM, 23 December 2015, C-250/14 and C-289/14), was transposed to prepaid hotel services by the Conseil d'État in two decisions of 9 October 2024 (Sté Hôtelière Paris Eiffel Suffren and Sté AccorInvest).

Can a lump sum due on early termination be recharacterised as a taxable price?

Yes, and it is a frequent risk. In MEO (22 November 2018, C-295/17) and Vodafone Portugal (11 June 2020, C-43/19), the CJEU held that lump sums due on early termination, where they reproduce in substance the amounts the supplier would have received had the contract continued, constitute the remuneration for the supply, subject to VAT. Transposed to real estate, an early-exit lump sum calibrated on the rents remaining due under a taxable lease presents a strong risk of taxation, whatever its contractual label.

Is a lease security deposit subject to VAT?

No, as long as it keeps its function as a security: a deposit refundable at the end of the lease is the consideration for no service and remains outside the scope of the tax. The question arises upon its retention by the landlord: if it is set off against unpaid rents, it follows the VAT regime of those rents; if it offsets damage or a loss, it follows a compensatory logic. The drafting of the exit statement and the allocation of the amounts retained directly condition the tax treatment.

Can the payer of an indemnity deduct the VAT invoiced to it?

Only if the VAT was legally due. If the amount constitutes a genuine out-of-scope indemnity, the VAT mentioned on the invoice is due by its issuer under article 283, 3 of the CGI, but it opens no right to deduct for the party paying it: deduction presupposes a tax relating to a genuinely taxable transaction. A payer who deducts VAT wrongly invoiced is exposed to a reassessment, together with late-payment interest. Before paying, it is therefore essential to validate the characterisation of the amount and, where appropriate, to obtain a corrected invoice.

How can an indemnity clause be secured for VAT purposes?

By making the drafting match the economic reality intended. A clause meant to compensate a loss must identify that loss, distinguish it from the price of the service and avoid any calibration on the amounts that would have been invoiced had the contract continued. Conversely, if the amount in reality remunerates a service (surrender, tolerance, making available), it is better to accept taxation and provide for the corresponding VAT clause, which preserves the right to deduct of a taxable payer. In case of serious doubt, an advance ruling may be considered before the transaction.

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