There is an oft-used phrase among those in the accountancy profession that no one should ‘let the tax tail wag the investment dog,’ meaning investment decisions should not be made solely for tax reasons. But that said, if a practice wants to survive and grow, it will need to invest. Premises are key to this and if it follows the rules set down in law much of the investment can be offset against tax.
Differences in treatment
Understandably, businesses may take the opportunity to carry out improvements at the same time as repairs. But to Helen Thornley, a technical officer at the Association of Taxation Technicians, there are distinct differences between repairing and improving business premises, each of which can have huge tax consequences.
She says that ‘the question of whether expenditure is a repair or an improvement is a classic tax problem. Relief for building repair costs is generally given against revenue in the period that the cost is incurred. In contrast, money spent on improvements to premises is considered to be capital and the business will only get relief when it sells or otherwise disposes of the premises.’
Yen-Pei Chen, manager of Corporate Reporting and Tax at the Association of Chartered Certified Accountants, agrees. She says replacing or fixing something to get premises back into working order is fine as a repair, ‘but do anything further and you could stray into capital expenditure.’
She gives an example cited by HMRC of a shop owner who had a new front put in when he took over premises: ‘The replacement of a shop front would normally be deductible as revenue expenses, but the fact that the shop owner adapted the front to his specific needs makes it an improvement, and therefore capital expenditure.’
Capital allowances and expenditure
If a firm ends up with capital expenditure – say plant and equipment – and cannot set that expenditure against taxable profit, it may still get tax deductions in the form of capital allowances.
The key to this relief comes in the form of the Annual Investment Allowance (AIA), which allows businesses to claim tax deductions upfront on the full amount of qualifying expenditure in the year it is incurred.
For incorporated businesses, there was also a new first-year allowance called the ‘super-deduction’, introduced in the 2021 Budget, which allows a business to claim tax relief of £130 for every £100 spent. However, qualifying business would need to act fast. Companies who have bought new equipment between April 1, 2021 and March 31, 2023 when the super-deduction was available may wish to consider using this relief in preference to the AIA for expenditure that qualifies. But there are other pitfalls to watch out for, according to Chen. For an item to qualify as plant and machinery, it must be kept ‘for permanent employment in the business’. This excludes stock or expendable equipment with a life of less than two years; and function as ‘an apparatus employed in carrying out the activities of the business’ and not as part of the premises in which the business is carried on.
For Chen, the basic principle that should keep firms on the straight and narrow is that anything that can reasonably be expected to form part of a building – for example, walls, partitions, ceilings, floors, doors, windows and lighting – should be considered premises and not plant.
Tax allowances
Integral features
To reclaim some of the cost of repairs, firms need to pay attention to what the system actually permits. As Thornley points out, until relatively recently, there were no tax reliefs for the acquisition, construction or improvement of buildings. However, she says: ‘Since 2008, relief for what are known as integral features within the building has been available through the system of capital allowances.’
Just as with plant and machinery, the law is very prescriptive and there is a fixed list of integral features. Thornley says it comprises lifts, escalators and moving walkways; space and water heating systems; air-conditioning and air-cooling systems; hot and cold water systems (but not toilet and kitchen facilities); electrical systems, including lighting systems; and external solar shading.
Here is where matters get murky, suggests Thornley. ‘The problem is that most businesses do not spend more in a year on qualifying plant or integral features than the AIA. If they do, then any expenditure exceeding the AIA will be eligible for writing down allowances instead. For integral features, the writing down allowance is 6%, compared to 18% for most other qualifying plant; although for incorporated businesses, there is a 50% first-year allowance for special rate assets (which includes integral features) until March 31, 2023.’
It’s for this reason that, where a business does spend more than the AIA, it makes sense to allocate the AIA against integral features first because they get a lower writing down allowance and it takes much longer to get relief for the costs incurred, says Thornley.
Structures and Buildings Allowance
The 2018 Budget saw the introduction of the new Structures and Buildings Allowance (SBA), giving a 2% flat rate annual allowance on commercial structures and buildings over a period of 50 years. This was then increased to 3% from April 2020. Chen says: ‘The new SBA is available to offices, retail and wholesale premises, walls, bridges, tunnels, factories and warehouses, as well as renovations and conversions started after October 29, 2018.’ However, she warns that buildings covered by the SBA do not for the AIA.
Parting advice
Rather than amalgamating all costs under a one-line item called ‘fittings’ in the tax return, businesses have a much better chance of claiming capital allowances successfully if they break down costs into specific headings; lighting and electrical wiring for air conditioning, for example. Time spent categorising expenditure can pay dividends.