The Chancellor's budget day announcement of a new style of capital allowance, which will allow companies to reduce their taxable profits by 130% of the cost of new equipment, attracted a lot of interest. However, it has also raised a number of questions in relation to how it works and, importantly, which businesses can take advantage of it.
The super deduction defined
Very simply, the super deduction is a temporary allowance that gives a greater and faster level of tax relief on qualifying expenditure incurred in the 2-year period between 1 April 2021 and 31 March 2023. For most expenditure on plant and machinery, it works by treating the company as if it had spent an extra 30% on the item and then allows tax relief on the whole of that uplifted amount in calculating the tax bill for the year of expenditure. So, with a 19% tax rate, the super deduction is designed to reduce a company's tax bill by some 24.7% of the actual cost of the qualifying item(s).
However, the allowance is not available to all businesses; instead, it is only available to those which are subject to corporation tax—typically limited companies. This means that clinics operating as sole traders and partnerships will not be able to claim it, and nor will it be available to a company that is ceasing activity.
Only certain expenditure qualifies
The super deduction only applies to items that are treated, for tax purposes, as plant and machinery. For many businesses, this is likely to cover most of their expenditure, and simple examples of plant and machinery include anything from a laptop to a consulting table. In contrast, a building, structure or something intangible such as a franchise cannot be plant or machinery and will not be eligible for the super deduction.
» With the complexities set down in tax law, it is not hard to see that it is essential for any aesthetic clinic operating as a company to take appropriate professional advice in advance to ensure that the super deduction or the special rate allowance work as expected «
A special provision in the legislation means that any expenditure incurred as a result of a contract that was entered before 3 March 2021 (budget day) will be ineligible, as the expenditure is treated as made before 1 April 2021 regardless of when payment was required.
Additionally, in relation to contracts entered on or after 3 March 2021, the general rule is that capital expenditure is treated as incurred as soon as there is an unconditional obligation to pay it—even if payment is not required until a later date (Croner-i, 2021). That said, there are also special rules on timing in relation to various circumstances.
Some items of plant or machinery are specifically excluded from eligibility for the super deduction. Common examples include cars, all used and second-hand assets and plant or machinery that is leased out by the purchasing company to another.
There are other types of plant and machinery that are not eligible, but which can benefit from accelerated allowances. This will be detailed later.
The practical effect of the super deduction
Before delving into the effects of the super deduction, all businesses (whether limited companies, partnerships or sole traders) are already entitled to an annual investment allowance (AIA), which enables them to get tax relief on the whole of their qualifying expenditure for the year of purchase, up to an annual limit.
Until 31 December 2021, the AIA limit is £1 million, but it is scheduled to reduce to an annual limit of £200 000 from 1 January 2022 (HM Revenue and Customs, 2021). The higher limit means that a company spending £500 000 on plant or machinery before 1 April 2021 will (without the super deduction) get a tax reduction at 19% on that amount—so £95 000. If that same level of expenditure was incurred after 31 March 2021 and qualified for the super deduction, the tax reduction would instead be £500000 x 130% which, at 19%, gives a tax reduction of £123 500, so £28 500 more.
The Chancellor's budget day announcement of a new style of capital allowance has attracted a lot of interest
At higher levels of qualifying expenditure, the super deduction will create a disproportionately greater benefit. If, for example, a company's actual expenditure in a year is £5 million, the tax reduction (without the super deduction) on that for the year of expenditure is £326 800 (being the maximum AIA limit of £1 million at 100%, plus the balance of £4 million at 18%, with both being relieved at the 19% tax rate). It would take another 7 years to write off 75% of that £4 million. In contrast, a company incurring that same level of expenditure with the benefit of the super deduction gets a tax reduction of £5 million times 130%, which, at 19%, gives a tax reduction of £1 235 000. In this case, the super deduction is creating an additional tax reduction of £908 200 in the year of expenditure.
So, it is easy to see that the super deduction both increases and accelerates the tax relief on qualifying expenditure and that the effect is more marked at higher levels of expenditure.
A separate special rate allowance may help
As already noted, some items of plant and machinery are not eligible for the super deduction. This includes all items of capital expenditure that are treated as ‘special rate’ assets. These assets include integral features of a building (items such as heating, lighting and power systems and air conditioning), long life assets (items that have an expected useful life of at least 25 years—these tend to be big ticket items), thermal insulation and solar panels.
Under the general capital allowance legislation, the annual writing down allowance on these items of plant or machinery is just 6%, rather than the normal 18%. This means that these ‘special rate’ assets are written off more slowly for tax purposes.
If a company incurs qualifying expenditure on these types of assets in the 2-year period starting on 1 April 2021, they cannot qualify for the 30% value boost explained above, but the company is entitled to new special rate allowance. This provides tax relief for the year of expenditure on 50% of the actual cost, instead of just 6%. Unlike the super deduction, this does not increase the value of tax relief over the life of the asset, but it does significantly accelerate the relief.
So, if, for example, the company spends £400 000 on such assets in a year, it would (ignoring the availability of any AIA, see above) normally take over 22 years to get tax relief on 75% of the cost. By allowing half of the cost to be written off in the year of expenditure, the special rate allowance provides tax relief on 75% of the cost in 11 years.
The end of the 2-year period
During the budget, the Chancellor also announced that the rate of corporation tax will increase from 19% to 25% from 1 April 2023—the day after the 2-year super deduction period ends. For companies with a 31 March 2023 year end, that creates no particular complication, but, for a company with a year end after that date, it means that some of its profits are taxed at 19% and some are taxed at 25%. Without special provision, that would mean that a company with, for example, a year end of 31 December 2023 that had incurred super deduction expenditure before 1 April 2023 would get tax relief at 19% for 3 months and 25% for 9 months on 130% of the cost. The super deduction legislation prevents this with some slightly odd arithmetic, but it does produce the correct answer: an effective tax saving of fractionally over the 24.7% rate referred to above.
If, after 1 April 2023, a company would still be paying corporation tax at 19% because its annual profits did not exceed £50 000, it is possible that the super deduction would not work so effectively for its accounting period that ended after 31 March 2023. That issue would not arise in its previous accounting period.
Super deduction, the special rate allowance and tax losses
Another feature of the capital allowances regime is that they can reduce a company's taxable profits and can, therefore, either create or increase a loss for tax purposes.
Companies can normally carry back losses from one accounting period to the previous accounting period, so that the profits of that previous period are reduced. This enables a repayment of corporation tax for the previous period. Due to the COVID-19 pandemic, the Chancellor has announced that losses arising in a company's accounting period that ended between 1 April 2020 and 31 March 2022 can be carried back for 2 further years.
Such a loss carry back could enable a company that had depressed profits to still receive early tax relief. However, it would be important to consider the alternative of carrying the loss forward, particularly if that might result in tax relief at 25% instead of 19%.
Other things to consider
An important consequence of both the 130% super deduction and the special rate allowance is that part of the tax reduction will be clawed back if the relevant asset is subsequently sold. This needs to be borne in mind if such a disposal is likely.
Unsurprisingly, there are specific anti-avoidance provisions to prevent abuse of these significantly more generous tax reliefs. These provisions typically target arrangements that include artificial (non-commercial) steps.
In summary
With the complexities set down in tax law, it is not hard to see that it is essential for any aesthetic clinic operating as a company to take appropriate professional advice in advance to ensure that the super deduction or the special rate allowance work as expected. The opportunity now exists for companies to invest very tax-efficiently over the next 2 years with backing from the Chancellor.