All too often, capital allowances are left until the last minute. This is surprising given that they can form an important part of a property transaction. Considered early, there is an opportunity for capital allowances to add value. Legislative changes, some of which came into force in April 2012 and the remainder of which come into force in April 2014, are now highlighting the need to act early.
When a property is purchased, a buyer acquires not only the land and buildings but also the fixed plant and machinery in those buildings. Usually expenditure on a property purchase will be capital expenditure and the Capital Allowances Act 2001 (the 2001 Act) entitles taxpayers to claim capital allowances in respect of certain, but not all, capital expenditure.
Capital allowances are a form of tax relief for property owners, occupiers and investors. They are available for expenditure on certain plant and machinery, energy- and water-saving technologies, buildings and structures (such items can represent a significant proportion of a property’s value/price). Qualifying expenditure can be subject to different rules/rates of allowances. Accordingly, expenditure of the same type is generally “pooled” together. Expenditure on fixed plant is either allocated to a “general pool” (to which an 18% written down allowance applies) or a “special rate pool” (to which an 8% written down allowance applies).
If claimed (they are not given automatically), capital allowances provide the claimant with an annual tax deduction that reduces the claimant’s taxable profits and the tax that the claimant pays. Accordingly, allowances act as an effective way of reducing the after-tax cost of acquiring property.
It is possible for the seller and buyer to make a joint capital allowances election, known as a “section 198 election” (but note this is only possible if the seller has claimed capital allowances). Such elections fix a portion of the property price to fixtures in the property qualifying for plant and machinery capital allowances. Generally, the election will bind the buyer and seller as well as HMRC.
Before April 2012, the sale contract could (but did not have to) deal with capital allowances; a value for the fixed plant could be agreed by the seller and buyer by way of a section 198 election (typically recorded in the sale contract).
Although the amount was open to negotiation, it was in the seller’s best interest to apportion a nominal amount of £1 to the fixtures in the main pool and £1 to the fixtures in the special rate pool.
Alternatively the sale contract could remain silent on capital allowances. In this case, the seller and the buyer would each agree the value for the fixed plant with their respective HMRC officer, such value representing a just and reasonable apportionment between the land and buildings on the one hand and the fixtures on the other.
The capital allowances legislation relating to fixtures within buildings was amended by Schedule 10 to the Finance Act 2012. This introduced:
The fixed-value requirement is that the part of the price apportioned to fixtures in the building must be fixed either by:
The pooling requirement is that the seller must have “pooled” its expenditure on fixtures before a property is sold. It must either:
These new rules mean that it is no longer an option to allow the sale contract to remain silent; buyers cannot leave the issue of capital allowances to be sorted out after their purchase. The fixed-value requirement and the pooling requirement must be satisfied before a buyer can claim plant and machinery capital allowances on fixtures in an existing commercial property. If capital allowances are not dealt with in the sale contract, the buyer may be unable to claim capital allowances or pass them on to a future buyer. Capital allowances must now be actively considered up front in a transaction.
Buyers (especially those with capital allowances advisers) are unlikely to accept the standard responses to pre-contract enquiries of “not applicable”, “none available”, etc. They will want full capital allowances information, including:
From April 2014, a buyer will also require evidence that the “pooling requirement” has been met. This means that sellers need to pool their fixtures expenditure (even where they have not and do not wish to claim allowances themselves). Sellers should budget for the additional costs (getting capital allowances advice, etc) that are likely to be incurred in dealing with this requirement.
In order to avoid unnecessary cost and delays, prudent sellers will get their capital allowances information in order prior to sale. It is really too late to deal with capital allowances in replies to standard enquiries. The better approach would be to ascertain the capital allowances position well before this point. The seller should ensure that before signing heads of terms for the sale of their property, they have gathered all the relevant capital allowances information together and given it to their solicitor. They should leave enough time to do this and put their surveyor/capital allowances advisors and solicitor in touch with one another. A favourable capital allowances position could be reflected in the sales brochure and be a selling point, rather than a nuisance.
Section 198 election: if the seller and buyer opt to make a section 198 election, it is important that the election is irrevocable and in the correct form. If it does not contain all the statutory information, or if it is otherwise deficient, it may not take effect as a valid election. The parties’ solicitors should be able to provide a valid form of section 198 election.
The sale contract: the parties must address the capital allowances position in the sale contract. Failure to do so may mean that the buyer cannot claim capital allowances. Even if the buyer is tax exempt and cannot claim capital allowances, they still need to consider the capital allowances position. If they do not, it may prevent a future buyer from claiming capital allowances and could affect their chances of selling on the property and the price they obtain for it.
Pre-sale checklist: review your current portfolio:
Practical points about the section 198 election:
The buyer’s entitlement to claim equates to approximately £2m of allowances, based on the following:
The seller will have to calculate the claim on the 2010 refurbishment and pool these into the accounts and provide a section 198 election to transfer the amount to the buyer.
This article was published in Estates Gazette in January 2014.