Capital or revenue?
You would expect the cost of repairing machinery used in your business to qualify for a tax deduction without question. However, HMRC argues that depending on the nature, timing and extent of the repairs, tax relief should be spread or might not be allowed at all. The issue is whether the expense is a day-to-day cost, so-called “revenue expenditure”, or “capital expenditure” which creates an asset for long-term use.
Where the repairs relate to machinery or other equipment, the tax outcome is less critical than where it relates to land, building or other structures as it only affects the timing of tax relief and not whether or not it is given. Nevertheless there can be significant tax consequences.
Example – In April 2019 Acom buys a high-spec used car (which has CO2 emissions of over 200g/km) for £35,000 for one of its directors. However, it requires major work to restore it to tip-top condition – this will cost £8,000. Acom expects to claim this as a revenue expense, but HMRC guidance suggests that it should be classed as a capital cost. The difference in the timing of tax relief is either a full tax deduction for the expense for the accounting period it’s incurred, or just 6% of the cost per year (down from 8% with effect from April 2019) on a reducing balance – meaning that it will take 22 years before Acom receives even 75% of the tax relief it’s entitled to.
Trap – In its Capital v Revenue Expenditure Toolkit HMRC encourages inspectors to challenge repair expenses incurred on newly acquired machinery etc. The Toolkit justifies challenges based on court rulings, but HMRC disingenuously chooses only cases which support its view.
Tip – If you repair an asset only after using it in your business for a reasonable amount of time, HMRC’s argument for capital treatment won’t stand up. Stick to your guns, as even the court decisions it uses to support its view don’t apply if equipment has been in full use before the repair was made.
Condition of the equipment
HMRC’s case is stronger if the purchase price of the machinery etc. is significantly reduced because repair work is needed. There’s no definite figure or percentage for what counts as significantly reduced. Instead, as a rule of thumb, if the machinery etc. shows the usual wear and tear you would expect for its age and usage, it’s fair to claim repairs as revenue expenditure.
Tip – For repairs to machinery etc. (apart from cars, items you owned before your business commenced and those received as gifts) it might not be worth spending yours or our time arguing the toss with HMRC between revenue and capital treatment. That’s because you can get tax relief in full for the year in which the expenditure is incurred another way, i.e. by claiming it as part of your annual investment allowance.