A Guide to Capital Allowances,…

A Guide to Capital Allowances, Annual Investment Allowance, and the Super-Deduction

As a partner in a business or a sole trader, you don’t have to pay Corporation Tax. However, by offsetting certain specific purchases, you can reduce the amount of personal taxes you are entitled to pay.

The taxation rules related to these allowances are pretty complex. It is always better to seek help from an experienced accountant to make sure you don’t pay more taxes than necessary. Regardless of your business format, it is also important to claim the right amount of tax relief.Capital

Capital Allowances

Although capital allowances are a broad term covering many areas, it primarily applies to the investments your company makes in terms of assets that have a life of more than 12 months. It’s called capital expenditure. It is crucial to note that capital expenditure is quite different from your businesses’ day-to-day expenses.

Capital allowances are available on qualifying capital expenditures such as plant and machinery incurred on specific assets solely used for business purposes. Most accountants don’t realize just how broad the definition of ‘plant and machinery’ is and how limited companies can avail of increased tax breaks using the new ‘super deduction’ tax relief.

Plant and Machinery

It is pretty easy to define machinery – any mechanical items are considered as machinery. It even includes items such as lifts, automatic doors, and more things that people don’t usually associate with machinery.

On the other hand, a plant might mean different things for different companies, based on their business structure. It doesn’t have a generic definition, and it is essential to look at the definition of a plant on a case-by-case basis. Initially, demountable partitions, amusement park rides, suspended ceilings, sports surfaces and more had been classified as plants by the HMRC.

HMRC states that businesses can claim capital allowances on assets that they maintain to use in their business. Examples include:

  • Machinery
  • Equipment
  • Vehicles used for business purposes

This tax relief is highly useful for small to medium-scale businesses since they can claim capital allowances on assets such as computer equipment, laptops, servers, furniture used for their businesses.

How to Claim Capital Allowances

Claiming capital allowances for your business is a fairly straightforward process. All you have to do is identify assets that qualify for allowances and notify them to the HMRC. You have to make sure it’s reported when you file for Corporation Tax returns for your company. If you are self-employed, include the qualifying assets claim when filing your Self-Assessment Tax Return at the end of the year.

Using the information provided by you, HMRC will calculate the tax relief amount you are eligible for. HMRC will also consider your tax status – whether you are paying Corporation Tax, personal tax, the tax amount you’ve paid, and more.

Another point to note is that as a limited company, you can claim tax relief for assets you owned even before you started your business, provided you are using these items for business purposes. However, it is always safe to consult a qualified accountant or a tax expert before making any claims for allowance.

If you sell the assets you had claimed allowances for, you might have to repay a part of the tax relief you received earlier.

Annual Investment Allowance

Regardless of the size of the business, the HMRC lets companies claim a part of their expenses on plant and machinery under the Annual Investment Allowance plan. The permanent limit set by the HMRC on 1st January 2016 was £200,000. However, an increased temporary limit of £1 million came into effect from 1st January 2019 until 31st December 2021.

According to the AIA or the Annual Investment Allowance, companies can claim a 100% Capital Allowance (up to the annual limit) on the business’s plant and machinery expenditure.

Suppose your business invests in specific machinery that qualifies to be considered as AIA. You can deduct 100% of the purchasing cost of the asset from your profit. It can be done even before you have calculated how much tax is payable on the profit. The assets and equipment that qualify to be considered as AIA can gain total tax relief on the face value of that asset. Additionally, the purchases that don’t qualify for the AIA will receive standard tax relief based entirely on the pool they belong to.

If your business is Value Added Tax registered, you can then claim Annual Investment Allowance on the entire asset cost minus any VAT amount you reclaim on that item. Also, if your business is not VAT registered, you still can claim AIA on the entire cost of the asset, but you should also include the VAT.

While most businesses can claim AIA based on their investments in plant and machinery, here are a few exceptions to the standard. You can’t claim AIA on these:

  • Items purchased for another reason before you began using them for your business.
  • Cars
  • Items that were given to you or your business – those you didn’t have to buy

If you cannot use the AIA, your company might still be eligible to avail of another type of allowance called the ‘Writing Down Allowance’ or the WDA. Your business can claim WDA at special or primary rates, which means the tax relief for the assets will be deferred to upcoming tax periods.

These are the rules pertaining to WDA:

  • In case you have already availed the AIA on several items that exceeded the AIA limit.
  • The items you have selected do not qualify for AIA – such as cars, gifts and previously purchased assets.

Super-Deduction Tax Relief

A ‘super-deduction’ tax relief was implemented for limited companies recently. However, this new Corporation Tax relief is not applicable for sole traders who can continue using AIA.

For qualifying plant and machinery expenditure, you can receive 130% tax relief – for the first year – from 1st April 2021 till 31st March 2023 under the new super-deduction tax relief scheme. Besides, limited companies can also take advantage of a 50% first-year allowance for special rate assets.

Typically, most plant and machinery expenditures are eligible to receive 100% tax relief under the company’s AIA. But the super-deduction tax relief of 130% is a massive bonus for limited companies.

Suppose a business is purchasing an asset (that qualifies for tax relief, such as a business computer) for £1000 after 1st April 2021. This business will now receive a super-deduction of £247. Under the earlier AIA scheme, the company would have enjoyed corporation tax relief of only £190.

If external finance firms invest in plant and machinery for your company via the hire-purchase arrangement, you can still claim super-deduction. However, you would be required to provide proof of payments for asset acquisition and evidence that your business will eventually be the legal owners of these assets. Your business cannot claim the new tax for lease arrangement of assets or purchase of second-hand assets.

Wrapping Up

The Capital Allowance tax rules are complex. Filing tax relief under AIA and Super-deduction can be overwhelming for many businesses. It is essential to seek expert advice regarding these taxation rules so that companies can take advantage of appropriate tax relief schemes.

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