Capital allowances - will reform bring stability?

Why we are “reforming” again?

In the 2022 Spring Statement, the government acknowledged that when the temporary first year capital allowance reliefs introduced to encourage investment post the COVID-19 pandemic (the Super deduction and the SR allowance) come to an end in April 2023, the UK’s capital investment incentives may appear uncompetitive in comparison with other international economies. The Treasury is clear that the uncapped Super deduction and the SR allowance will not continue (on grounds of cost and the forthcoming increase in corporation tax rates) and is consulting on capital allowance reforms designed to make the UK place to invest for businesses – so there will be more change from April 2023.

But it won’t be all give away – the Chancellor has stated that “value for money” from the tax reliefs that will be available remains a top priority. However, triggering a step change in business investment may be difficult to achieve without eye-catching rates of relief similar to the super deduction to grab the attention of companies. So there is a tricky balancing act ahead for the Chancellor.

What do other countries do?

All OECD countries offer incentives to invest in plant and machinery in some form - most are not as generous as the super deduction, but “full expensing” (i.e. immediate write-off for tax) is offered by some countries in various ways, and this is obviously attractive. The Treasury policy paper cites some interesting research by the Tax Foundation showing the UK is some way down the international table of attractiveness for capital investment without the current super deduction.

It is also a factor that, while all countries’ tax systems change and evolve, few countries change tax depreciation and incentives rules as rapidly and frequently as the UK – here, annual changes have become the norm.

What does business want?

As cycles for business investment tend to be long term (five to seven years or more), capital allowances are not always a big influence on investment decisions (as companies can’t always be sure what the rules will be by the time they actually invest – let alone in five to seven years’ time). A stable regime that is simple to apply and provides certainty for a number of years and full expensing as much as possible, one of the options being proposed, is likely to be most appreciated by companies, and may allow more accurate forecasting of post-tax costs for projects.

In BDO’s response to the consultation, we have highlighted the need for stability of capital allowances over at least five years, and a long-term plan for UK investment incentives that will give businesses the confidence to take the relief into account in their investment decisions. Responses from other business and professional organisations make similar points, and we can only hope that the Chancellor will be able to divorce business investment policy decisions from short-term political considerations.

Win-win reforms?

Beyond the detail of the various options the government proposed (see our consultation response), we believe that the reforms should be aiming to create business investment incentives that are simple, bring certainty for the long term, and offer businesses an attractive financial benefit (but without being a blank cheque from the Exchequer).

What could that look like? The UK already has a simple and powerful tool to incentivise business investment –the Annual Investment Allowance (AIA) that allows businesses to fully deduct capital expenditure on plant and machinery up to a set limit each year. The AIA is due to return to £200,000 a year in 2023/24 – a relatively small sum in business terms. We believe that a significant increase in the AIA that is fixed for at least five years would be an attractive incentive to stimulate investment and the economy. An annual allowance of say £5m would effectively offer full expensing to most SMEs and also be attractive to some large companies – bringing considerable simplification, as it is already well understood. The cost of offering this may be high, but it is not uncapped, so can be budgeted for.

There is an argument that offering a high AIA devalues other first year allowances (FYAs) offered across the capital allowances spectrum. However, there would still be scope for the government to offer specific 100% FYA investment - for example, in low-carbon/net-zero equipment to help large businesses (i.e. those that invest more than £5m a year), to keep working towards the UK’s net-zero target.

If these two reforms were backed up with a broader road map for UK businesses taxes over the next 10 years, then we believe this would, over time, build the UK’s reputation as a good place for businesses to invest.

Helping you plan ahead

It remains to be seen whether short-term political imperatives will dominate the autumn Budget announcements, or whether a strong longer-term plan for business investment incentives will emerge. Whatever reforms are announced, capital allowances are here to stay in some form, and we can help you ensure that you plan for and benefit from the reliefs that are made available.

For help and advice on all capital allowance issues, please contact Steve Watts.