Capital Allowances - what lies ahead?
This blog was previously published on LinkedIn on 12th December 2017.
Capital allowances rules are frequently seen as an unnecessarily complex tax relief. They recently came under tough criticism from businesses in the Office of Tax Simplification (OTS)’s review, entitled “Simplification of the corporation tax computation”. The OTS published a call for evidence and the consultation period has just closed. They aim to publish a report with recommendations in Spring 2018.
By way of background, capital allowances are the means by which businesses obtain tax relief for depreciation of fixed assets. Depreciation is not a permitted tax deduction when calculating corporation tax; relief is instead given in the form of capital allowances by allowing the businesses to deduct the capital allowances from accounting profit to calculate the taxable profit. The allowances can only be claimed on certain specified types of fixed asset, the main one being plant and machinery. There are specific rates of allowance for the different asset classes.
One of the OTS’s recommendations from the initial review was to replace capital allowances with a deduction for accounts depreciation so as to align the tax position more with the accounts, thus removing the need for separate calculations. This would also simplify deferred tax calculations.
As a result, the OTS announced a period of consultation to inform their review of whether it is feasible to replace the current capital allowances system with a depreciation based system. Such a change would remove the necessity to classify assets for capital allowances purposes, with the treatment of depreciation of tangible assets for tax purposes flowing directly from that calculated in the accounts.
This is a subject which has been reviewed previously by the OTS. However it was found to be more complex to administer than the existing capital allowances regime. It remains to be seen what their recommendations will be this time round.
Although a depreciation based system would remove administrative burdens placed on companies to classify the assets when claims are made, there are various issues which need consideration:
- There will be a requirement for a more robust depreciation system which cannot be manipulated. This may include strict percentages for different types of assets and a restriction on changing methods of depreciation, for example, from straight line to writing down method, etc.
- A further complexity will be buildings which may be depreciated over a long useful life, but which may contain assets of a shorter life which are eligible for capital allowances, for example, heating and ventilation systems.
- How will the existing capital allowance pools carried forward be written down in future years? Will the write downs be claimed over a limited or unlimited period of time?
- Deferred tax calculations will need to be reworked and will most likely distort the movement in deferred tax in the year of transition. Like the FRS102 transition period, we expect there will be a requirement for a recalculation of the deferred tax for a year or two prior to the year of transition, if time permitted this.
- There will continue to be a requirement to keep track of the depreciation on the non-qualifying assets to ensure no future relief is obtained on currently non-qualifying assets.
There will be a need for a transition period which the OTS acknowledges but how this would be done will need to be addressed.
French Duncan’s capital allowances team have extensive expertise in this field and can assist our clients throughout the capital allowances process. Replacing the current system, if the Government chooses to do this, will be a major step and our team will be well placed to guide our clients through the new landscape.