Posted 3 months ago by Tracy
Capital allowances give businesses tax relief on qualifying capital assets that are used in their business.
As HMRC puts it:
"Capital allowances allow businesses to write off the costs of capital assets, such as plant or machinery, against their taxable income. They take the place of commercial depreciation, which is not allowed for tax."
Broadly speaking, under the capital allowances regime businesses may have purchases that qualify for 100% upfront tax relief. If upfront relief is not available, then relief may still be available by means of writing down allowances in pools such as the main rate or special rate pool.
Capital allowances can be claimed by a variety of business structures, including sole traders and companies.
The amount of capital allowances that a business can claim depends on a variety of factors, such as:
Recently, some significant changes have been made to capital allowances, which could provide more upfront tax relief to certain businesses.
The annual investment allowance, known as the AIA for short, is a tax relief that allows businesses to claim tax deductions for qualifying capital purchases up to an annual threshold.
Essentially, it’s a way for businesses to get fast tax relief in the year of a qualifying asset’s purchase.
Note that if a business spends more than the AIA on qualifying purchases, tax relief should still be available on the excess through writing down allowances in the main and/or special rate pools.
Under the new changes, which have been in effect since 1 January 2019, the AIA has been increased substantially, from £200,000 to £1,000,000.
This increase is only temporary and will apply for two years, ending on 31 December 2020.
This isn’t the first time that the AIA has been changed. In the 2014 Budget, the amount of AIA was temporarily increased to £500,000. However, for the most part, the amount of AIA available to businesses in recent years has been £200,000. So, this is the first major increase to the AIA in a while.
Generally speaking, AIA can be applied to purchases of plant and machinery.
While there is a ream of exceptions to this rule, the main exception that businesses should be aware of is cars (i.e. car purchases do not qualify for the AIA).
Although the increase in AIA is certainly generous, it’s worth bearing in mind that there are transitional rules in place if your business has a chargeable period that overlaps with either the date of the increase in the AIA or the date on which the AIA reverts back to £200,000.
A few examples have been provided below to highlight the issues businesses with a straddling year-end face.
A business has a year-end of 31 March. For the year ended 31 March 2019, it should have an AIA entitlement of £400,000 (being nine months of £200,000 (£150,000) and three months of the increased £1,000,000 allowance (£250,000)).
A business has a year-end of 31 March. For the year ended 31 March 2021, it should have an AIA entitlement of £800,000 (being nine months of £1,000,000 (£750,000) and three months of the reinstated £200,000 allowance (£50,000)).
It’s not just the amount of the allowance that can vary for businesses with straddling year-ends; the timing of qualifying capital purchases can also have an impact on how much AIA can be claimed.
Returning to example 1, let’s say that the business purchased a qualifying piece of plant for its business on 30 November 2018 that cost £250,000. That business wouldn’t actually be entitled to claim the AIA on the full £250,000, as £250,000 is more than the maximum claimable amount prior to the 1 January 2019 increase. This means, if the business had made that purchase in January 2019 instead, it would have been able to claim the full £250,000.
As these examples illustrate, capital allowances calculations can get complicated very quickly, so it’s best to speak to capital allowances (also known as "tax depreciation") experts to help you.
Generally, businesses that are planning on purchasing qualifying capital assets that cost more than £200,000 stand to gain the most from these recent changes. Equally, businesses with straddling year-ends that are also planning large qualifying purchases could do well from the increased allowance.
Nevertheless, as £1,000,000 is a huge amount of money to invest in capital assets for the vast majority of small and medium-sized enterprises, it’s fair to say that the majority of SMEs that buy qualifying capital assets during this two-year increase should be able to benefit from the AIA in some way.
Aside from changes to the AIA, there have also been changes to the special rate pool.
Specifically, the writing down allowance for the special rate pool has been reduced from 8% to 6%. The reduced rate of 6% has been in effect since 1 April 2019 for companies and since 6 April 2019 for sole traders and others that are subject to income tax.
The writing down allowance for main pool assets remains at 18%.
As with the annual investment allowance, if a business has a chargeable period that straddles the date of change then a hybrid rate may apply.
HMRC states that:
"Special rate expenditure includes expenditure on long-life assets, thermal insulation, integral features and expenditure incurred on or after 1 April 2018 on cars with CO2 emissions of more than 110 grams per kilometre driven."
It’s worth noting that the reduction in the writing down allowance to the special rate pool won’t ultimately impact the amount of tax relief a business should be entitled to. A business should still receive tax deductions for that special rate pool asset, but the relief will be spread out over a longer period of time compared to when the allowance was set at 8%.
Although the reduction in the writing down allowance may not have a significant impact on many SMEs, it is worth being aware of if you are claiming writing down allowances for assets in this pool.
As the above suggests, claiming the right amount of capital allowances can be hard to keep track of, so it’s always a good idea to speak to a chartered accountant, tax lawyer, or chartered tax adviser to make sure you’re claiming capital allowances correctly.