Tax Factor
05 August 2010
Property Capital Allowances
Capital allowances are the tax equivalent of depreciation. Businesses can claim them at varying rates of up to 100%, and there are opportunities for property investors and traders as well as for the owners of premises generally.
In part one of this series, we look at the basics of how capital allowances work, and the major changes that the Finance Act 2008 brought in.
What are capital allowances?
They are a tax deduction that can be claimed by a business. The amount of the allowance varies depending on the nature of the asset in question. Not all capital assets qualify for allowances.
As far as properties are concerned, following the overhaul of capital allowances by the Finance Act 2008, the main assets that will attract tax relief are:
- Plant and machinery used in the business, such as air conditioning systems, furniture, etc.; the rate of relief is 20% on the reducing balance basis; and
- Integral features, such as cold water systems and electrical systems; the rate of relief is an allowance of 10% a year on the reducing balance basis, and further details on these are given below.
Following the Finance Act 2008, industrial buildings allowance (IBAs) and its cousins the hotel allowance and agricultural buildings allowance are all being phased out by 2011. These used to allow for the cost of a qualifying building to be written off over 25 years.
Just to add a further layer of complexity, there is also an Annual Investment Allowance that allows the first £100,000 (increased from £50,000 with effect from 1 April 2010 for companies and 6 April 2010 for other businesses) of qualifying costs to be relieved at 100% and for a first year allowance of 40% to be claimed by businesses on assets bought in the 12 months to 31 March 2010 (5 April for unincorporated businesses) if that expenditure is on plant and machinery (i.e. not assets that count as integral features).
How are they claimed?
The claim is made as part of the business’s tax computation, so is included in either a corporation tax return for incorporated businesses (such as companies) or in a self-assessment return for sole traders and partnerships. Particular care needs to be taken when completing tax returns during the next few months for periods ending before 1 April 2010 for incorporated or 6 April 2010 for unincorporated businesses as the availability of the temporary First Year Allowance (FYA) for that year of 40% also needs to be taken into account.
Example
A company running a nursing home spends £100,000 on a new central heating system and £50,000 upgrading the cold water system in the year to 31 March 2010.
Because the AIA can be used to cover costs that qualify for both general plant and machinery allowances and integral features, it is best to allocate this against the cold water system, so 100% of that cost is deductible.
As the expenditure was incurred before 1 April 2010 the £100,000 spent on the central heating system qualifies for the temporary 40% FYA. The tax relief is therefore £40,000, and the balance of £60,000 is then carried forward so in 2011, a writing down allowance of 20% will be claimed.
In the year to 31 March 2010, the company can claim total allowances of (£50,000 + £40,000) against tax – in essence, it has claimed 60% of the total costs of those assets against its tax liability.
If the AIA had been allocated against the general plant additions, the claim would be lower:
- 10% on the cold water system: £5,000
- £50,000 on part of the central heating: £50,000
- 40% FYA on the £50,000 spent on the central heating not covered by the AIA claim: £20,000
Total allowances would then be £75,000, a reduction of £15,000.
Integral Features – Special Rate Pool (10% Writing Down Allowance)
This was introduced in the Finance Act 2008 and provides opportunities to claim tax relief on assets that previously have not qualified for capital allowances. The items shown in bold below highlight these new areas.
- Electrical systems (including lighting systems)
- Cold water systems
- Lifts, escalators and moving walkways
- Space or water heating systems, powered systems of ventilation, air cooling or air purification, and any floor or ceiling comprised in such systems,
- External solar shading
- Active facades (subsequently omitted in Finance Bill 2008 – the exterior wall is not allowable and the interior wall is part of the air conditioning system so attracts 10% rate)
The potential to claim for electrical systems is also in part new. Historically, claims for wiring, distribution boards, etc. have been limited to specialist installations that were needed for particular pieces of plant, such as heavy industrial equipment. Normal 240v/13 amp wiring was excluded, so the new definition gives additional scope for claims.
Where the whole or more than 50% of an integral feature is replaced in a 12 month period, this expenditure will also be treated as a 10% integral feature and a repairs deduction will be denied. Careful management of repairs and refurbishment works is therefore essential to ensure that maximum tax relief will be available.
Thermal insulation installed in an existing building will attract 10% rate. This was previously only available to industrial buildings, but is still denied in respect of private dwellings, so residential landlords will not benefit from any relief.
In part two of this series, we will look at claims for allowances on second-hand buildings.
