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Capital Allowances

The Chancellor has announced that the enhanced 40% first year capital allowance first announced in his 1997 Budget will be made permanent for all small and medium sized businesses. It is estimated that more than 99 per cent of all businesses will qualify. The aim of the increased first year allowance is to help a business grow by investing in certain business assets and this relief will be of considerable interest and importance to directors of small private limited companies and, of course, the self employed.



The allowance is available in respect of expenditure by these businesses on machinery and plant, other than cars and certain other assets. The rate of capital allowances will be 40 per cent for allowances in the first year.



Before the increase in the first year allowance announced in 1997, capital allowances were given on machinery and plant at the rate of 25 per cent a year on the reducing balance basis. This meant that relief of 25 per cent of the cost was given for the year in which the equipment was bought, 25 per cent of the balance remaining was given for the following year and so on.



Capital allowances were given at 6 per cent a year on machinery and plant with an expected working life of 25 years or more (“long life assets”). But this does not generally apply to businesses spending less than £100,000 a year on long life assets which excludes nearly all small and medium-sized businesses.



Under the July 1997 Budget proposals, expenditure on machinery or plant incurred during the 12 months ended 1 July 1998 by small and medium-sized businesses qualified for a first year allowance at double the normal rate of writing-down allowance, that is 50 per cent in general or 12 per cent where, exceptionally, the long life asset rules apply. Last year relief at 40% was given for the 12 months ending on 1 July 1999. The Chancellor has now announced that this 40% relief will continue permanently.



The 40% rate applies to the first year for which allowances are due. For subsequent years, allowances will be due on the balance remaining at 25 per cent, or 6 per cent where, exceptionally, the long life asset rules apply, as before.



The 40% rate applies to businesses which are small or medium-sized using the Companies Act definitions. These are broadly that a business satisfies two of the following conditions:-



– turnover not more than £11.2 million,



– assets not more than £5.6 million, and



– not more than 250 employees



or was small or medium-sized for the previous year.



In the case of companies, the company must be small or medium-sized for the year in which the expenditure is incurred to qualify for the 40% rate. If the company is a member of a group, the group must be small or medium-sized.



The 40% rate also applies to businesses carried on by individuals and partnerships made up of individuals provided the business would qualify if it were carried on by a company.



Exclusions from the 40% rate



The 40% rate does not apply to expenditure on machinery and plant for leasing, cars, sea-going ships and railway assets or to expenditure which is excluded from the rules on long life assets under the transitional rules (broadly long life assets bought on or after 26 November 1996 under a contract entered into before that date).




Other changes to the capital allowance system



A deregulatory package of measures to modernise the capital allowances system has been introduced. This will make the legislation on capital allowances clearer and easier to use and will give business fairer and simpler rules.



The main changes are to:



– abolish the requirement to notify expenditure on which machinery and plant capital allowances may be claimed



– remove the requirement to put expenditure on cars costing less than £12,000 into a separate pool for capital allowances



– give capital allowances to oil companies on machinery and plant used under an oil production shared contract



– encourage investment in machinery and plant by making it easier to finance investment through leasing



– set out a clear code for giving machinery and plant capital allowances to non-residents



– extend the herd basis to shares in production animals and confirm that capital allowances are not due.


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