Unexpected changes to capital allowances

12 November 2018

The Finance Bill 2018-2019 includes some significant changes to capital allowances that were unexpected and some will have an immediate impact.

Annual investment allowance

The 100% Annual Investment Allowance (AIA) for qualifying expenditure on plant and machinery will increase to £1m for 2019 and 2020. As the new allowance takes effect from 1 January 2019, any businesses that operate on a different year-end will need to be aware of the transitional rules.

For accounting periods that straddle 1 January 2019, the current £200,000 and the new £1m allowance must be apportioned to calculate the maximum qualifying expenditure. The total AIA is apportioned on a calendar basis – for example a business with a 30 June year end will have a total available AIA for the year ending 30 June 2019 of £600,000 (being six months x £200,000 plus six months x £1,000,000). However, it’s not quite that straightforward.

Because eligibility for the AIA hinges on when costs are incurred, careful thought is needed in planning and timing expenditure. For example, the maximum AIA for expenditure incurred in the period 1 July to 31 December 2018 will be the current annual limit of £200,000, which if used will have the effect of limiting the allowance available for expenditure between 1 January 2019 and 30 June 2019 to £400,000.

The full £1m AIA will then be available for expenditure in the year to 30 June 2020, with apportionment again applying the following year as the AIA is expected to revert to its previous level.

Any plant and machinery expenditure that does not qualify for relief under the AIA rules (or ECA - see overleaf) will only obtain relief at the much lower writing down allowance rates.  You should ensure that all qualifying plant and machinery expenditure is identified and that relief is claimed under the AIA and/or the ECA in the most beneficial way.

Structures and buildings allowance 

Since the withdrawal of Industrial Buildings Allowances (IBA) ten years ago there has been no tax relief available for expenditure on buildings. The new Structures and Buildings Allowance (SBA) seeks to redress this, albeit at a very low rate of straight-line writing down allowance of 2% a year for 50 years.

The new relief is restricted to ‘qualifying expenditure’ on non-residential buildings with a ‘qualifying use’, incurred on or after 29 October 2018, for contracts entered into on or after that date.

What is included in SBA?

SBA will be subject to consultation before draft legislation is published in respect of the specific details. While these terms have yet to be defined in detail, initial indications are that there will be a move away from the convoluted and very nuanced usage classes of the old IBA regime.

The new approach will include only a very broad-brush requirement that the structures or buildings be in use simply for any trade, profession or vocation. HMRC has confirmed in a Technical Note that structures and buildings include offices, retail and wholesale premises, walls, bridges, tunnels, factories and warehouses.

One of the main issues to consider is in relation to the commencement conditions and whether a construction project was contracted into on or before 29 October 2018 particularly if certain preparatory works commenced prior to this date. There will also be anti-avoidance provisions to prevent manipulation of the commencement rules.

As may have been expected, expenditure on land and dwellings, and associated legal and stamp duty costs, has been excluded.

UK tax legislation contains many definitions of a ‘dwelling-house’ depending on the context and tax or relief in point. HMRC will consult on the terms of the definition for SBA purposes before the final legislation is published. This will be particularly relevant for providers of student accommodation and serviced apartments, for example. HMRC has already confirmed that no relief will be provided for workspaces within domestic settings, such as home offices.

As an allowance for capital expenditure, the SBA will not be available to property developers who hold their projects as trading stock. When a developer sells a building, the buyer may well be able to claim the SBA once the building is brought into use. A valuation will be needed to identify that element of the purchase price that relates to the land on which the building sits.

Improvements and repairs to existing structures will also fall within the SBA regime. There will not be a pooling system as for plant and machinery allowances, but expenditure will need to be noted separately and will receive the allowance for 50 years – even if this goes beyond the expiry of the 50 years applicable to the original construction cost.

Other considerations

Obviously, a tax relief that lasts for 50 years will place a significant emphasis on adequate record keeping, especially in view of the intent to transfer the benefit of the relief between tenants and landlords, and buyers and sellers, as the circumstances of the building’s usage and ownership change over time.

One possibly unintended consequence is the implied withdrawal of Land Remediation Relief (LRR) for removing asbestos or similar contaminants from existing commercial properties. The LRR legislation in CTA 2009 precludes a claim on expenditure that could otherwise be eligible for capital allowances regardless of whether or not those capital allowances are actually claimed.

It has been a common misconception that claiming capital allowances would reduce the base cost for Capital Gains Tax, which has never been the case – until now. Any claims to SBA will reduce the base cost taken into account when calculating the capital gain. This will have the effect of reducing the value of the SBA by the CGT rate – currently 19% (20% for individuals), bringing the net benefit of the SBA to 1.62% (1.6%).

One final point to note is that the SBA cannot be covered by the Annual Investment Allowance, which remains for plant and machinery expenditure only.

Enhanced capital allowances

The 100% Enhanced Capital Allowances (ECAs) and first year tax credit for loss making companies for purchases of energy or water-saving plant and machinery on the energy and water technology lists are abolished from April 2020. These allowances were well-intentioned, but the regime had become so complex that for many taxpayers the administrative burden of making a claim outweighed any perceived benefit. Ironically, these allowances were a very inefficient means of encouraging energy-saving objectives. However, it is disappointing to note that no replacement has been announced, leaving no meaningful fiscal incentive for investment in energy-efficient plant.

ECA expenditure incurred on qualifying items up to April 2020 will still be eligible. You should consider the projects and eligible expenditure that may be incurred in the period to April 2020 to ensure that any available ECAs are claimed before they are withdrawn.

Qualifying expenditure will still obtain writing down allowances at the 18% main rate and 8% special rate (now reducing to 6%). Furthermore, much of the qualifying expenditure will be covered by the extended AIA (see above).

Special rate pool

The annual deduction for Special Rate plant and machinery such as long-life assets, integral features and cars emitting more than 110g/km CO2 will reduce from 8% to 6% from April 2019. For accounting periods that span April 2019, a hybrid rate will apply to the writing down allowance for the year.

Read more on the Finance Bill 2018-19