Norton Rose’s Judy Harrison comments on the impact of
changes to the rules on capital allowances.
government is currently consulting on introducing changes to three
areas of the rules on capital allowances. A capital allowance is a
special tax reduction given to companies in order to incentivise
them to invest in fixed assets.
The three areas of the rules that
will be affected are the anti-avoidance rules contained in Chapter
17 Part 2 Capital Allowances Act 2001; equipment which qualifies
for the Feed-in Tariff scheme (FITs) or the Renewable Heat
Incentive scheme (RHIs); and fixtures.
Chapter 17 contains a series of
anti-avoidance rules which are triggered where there is a relevant
transaction, for example, a sale, hire purchase or conditional sale
of an asset.
The rules are also triggered where,
looking at the wider transaction, one of the following conditions
are met: the sole or main benefit is to obtain capital allowances,
there is a sale and leaseback, or the relevant transaction takes
place between connected persons, or companies that are part of the
The consequence of these rules
applying is the buyer’s qualifying expenditure, or expenditure that
qualifies for a capital allowance, is restricted to the disposal
value brought into account by the seller, or if no disposal value
is brought into account by the seller, usually to market value.
The changes being consulted on
- Changes to the definition of
relevant transaction to put it beyond doubt it includes hire
purchases, when debt is novated, or transferred, from the buyer of
an asset to a third party, and other form of transfer. It does not
appear that the definition of relevant transaction will be extended
to cover leases.
- Replacing the sole or main
benefit test with a purpose test which applies where the main or
one of the main purposes of a transaction is to obtain
- To clarify the definition of
‘market value’. As mentioned above, where the seller does not bring
a disposal value into account, the buyer’s qualifying expenditure
is usually restricted to market value. ‘Market value’ shall be
defined so any arrangements which reduce the value of the asset are
taken into account and any arrangements which increase the value of
the asset are ignored.
- Removing the exclusion for
manufacturers and suppliers of equipment.
The most potentially problematic of
these changes is the introduction of a purpose test. There is
little case law on how a purpose test should be applied despite
being a feature elsewhere in legislation. This could potentially
have a significant impact on finance leasing, as the availability
of allowances, could be said to be a significant driver. It is
hoped the UK government will provide confirmation that traditional
leasing transactions will not be caught by the purpose test.
Equipment qualifying for
FITs or RHIs
FITs and RHIs were introduced to
encourage householders and businesses to generate electricity and
heat in an environmentally friendly way. At present, where a
business acquires plant or machinery which it uses to generate
payments under FITs or RHIs, the business would normally be
entitled to claim capital allowances on the cost of the equipment.
Depending upon the type of equipment acquired, those allowances can
be available at 100%, 20% or 10%.
The government is proposing to
reduce the rate of allowances to 10% – falling to 8% in April 2012
– for expenditure on equipment which could qualify for either FITs
or RHIs and to abolish any current entitlement to enhanced capital
The consultation document expressly
gives the example the reduced allowances will also apply to
equipment which is not actually eligible for FITs or RHIs – for
example, where the installation has not yet been accredited by
industry regulator Ofgem. It is hoped when draft legislation is
published, the exact details of the equipment covered will be
When a building is sold that
contains fixtures such as a piece of equipment, the capital
allowance rules state the purchase price must be apportioned on a
just and reasonable basis between the land and the fixtures.
The buyer and seller have the
option – subject to an anti-avoidance rule – to agree the
apportionment between themselves. The intention of these rules is
that where both the buyer and seller qualify for capital
allowances, the buyer’s new capital expenditure will be equal to
the seller’s disposal value.
HMRC, the UK’s customs and tax
department, have become aware of buyers not pooling their
expenditure on fixtures until many years after they acquired the
In order to combat this, the
government are proposing that (1) buyers must include new
expenditure on fixtures within their capital allowances pool within
a short time – either one or two years – of acquiring the
equipment; and (2) buyers and sellers must agree how to apportion
the sale price between land and fixtures and notify HMRC in
Failure by a buyer to pool the
expenditure in time or to notify HMRC of the apportionment will
result in the buyer losing its entitlement to allowances on the
Depending upon the conclusions on
this point, the government may instead amend the anti-avoidance
rule in section 197 Capital Allowances Act 2001, which restricts
the ability of a buyer and seller of fixtures to agree that the
price paid for the fixtures is less than their notional
written-down value in certain circumstances. If these changes are
made, they will restrict the ability of buyers and sellers to
apportion the sale price between land and fixtures as they see
Each of the changes being consulted
on will generate additional revenue for the UK Government – which
inevitably means there will be additional costs for taxpayers.
A number of the changes to the
anti-avoidance rules are targeted at specific transactions which
have been disclosed to HMRC. It is hoped the government balances
the need to finance assets against preventing avoidance when
deciding the form the purpose test finally takes. The fixtures
changes will increase the administrative burden on the sale of a
building which contains fixtures.
It is not entirely clear whether
the proposed increase of a seller’s disposal value will also
increase the expenditure incurred by the buyer (a tax neutral
result) or whether the buyer’s expenditure will be lower than the
seller’s disposal value (which would result in an overall tax
cost). The closing date for comments on each of these proposals is
Judy Harrison is a tax lawyer
in Norton Rose’s London office