Is it capital or is it a repair?
Capital v repairs
Broadly speaking where expenditure brings into being an asset that is not held for resale and that will be used in the business for more than 24 months it is likely to be capital expenditure.
Sometimes clients use de minimis limits and will write off all expenditure less than a certain amount. Technically this is incorrect, but often HMRC will allow this so long as the limit isn't set too high. Examples of acceptable amounts may be £100 for small businesses, £250 for medium sized businesses and £500 for larger businesses.
With the new Annual Investment Allowance (AIA), this distinction is no longer as important because there is 100% tax relief available regardless of whether the expenditure is capitalised or not. General rules are that revenue expenditure is allowable unless specifically prohibited and capital expenditure is not allowed unless specifically provided for.
What is a repair?
Case law says that when a whole asset is replaced it is capital. If less than the whole is replaced the classification changes and it is considered a repair. This is an area that can give rise to many questions, especially in distinguishing between repair of an item or replacement of an item.
If part of a roof is repaired, this is classified as a revenue repair. But what if the entire roof is replaced? Is that regarded as an entirety in its own right, or as part of a larger item i.e. the building that it is over? Recent decisions suggest that even the replacement of an entire roof can be a repair. Why? Because the roof is part of the building.
Another example is the replacement of a whole machine. This is a capital item. But any repairs to the machine, even if very extensive, will be a revenue expense.
New rules, brought in with effect from April 2008 to deal with fixtures integral to buildings, detail that money spent on the acquisition of an asset, getting rid of a disadvantageous asset or improving an asset is capital, but routine maintenance costs to restore an asset to its normal function are not. The general rule is that repairs are allowable but alterations are not. This however does cause some problems due to technological advances or changes in technique.
HMRC now accept that where repairs are undertaken on an old building, and as a result of such changes in technology, technique, modern materials and methods some structural alterations are made to accommodate these advances, the expenditure will be revenue if all that the work achieves is to reinstate the old building.
This means that for instance where single glazed windows are replaced by double glazed windows, wooden beams are replaced by steel girders or lead pipes are replaced by copper or plastic pipes, although these are improvements in the general sense of the word, for tax purposes they are regarded as a repair.
In some cases, where repairs are necessary, the opportunity is taken to improve the asset. Where this happens, it is not permitted to deduct the cost of the notional repairs i.e. the cost of repairing the asset had there been no improvement.
However, where at the same time capital expenditure is undertaken, together with separate repair expenditure, the repair expenditure remains allowable if it is clearly identifiable from invoices that have been received.
To conclude:
- Broadly expenditure on an asset expected to be used in the business for more than 24 months is capital
- With very high limits currently for 100% allowances on capital expenditure, treating items as either revenue or capital has the same effect in most cases
- For tax purposes revenue expenditure is allowed unless specifically prohibited and capital expenditure is not allowed unless specifically provided for
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