Budget Notes

BN06 CAPITAL ALLOWANCES: INDUSTRIAL BUILDINGS ALLOWANCES, ENTERPRISE ZONE ALLOWANCES AND AGRICULTURAL BUILDINGS ALLOWANCES

Who is likely to be affected?

1. Businesses claiming industrial buildings allowances (IBAs), enterprise zone allowances (EZAs) and agricultural buildings allowances (ABAs).

General description of the measure

2. Budget 2007 announced a business tax reform package including the gradual withdrawal of IBAs and ABAs over four years.

3. On 17 December 2007, it was announced that the special IBAs commonly known as enterprise zone allowances (EZAs) would also be withdrawn from April 2011, and that EZAs (which primarily provide a 100 per cent incentive allowance) will not be subject to the phasing-out rules applying to industrial and agricultural buildings allowances.

4. Legislation will be introduced in Finance Bill 2008 to give effect to these changes. The legislation will also provide that balancing charges in respect of EZAs will be retained for a limited period.

Operative date

5. The phased withdrawal of industrial and agricultural buildings writing-down allowances (WDAs) will have effect for chargeable periods ending on or after 1 April 2008 for businesses within the charge to corporation tax and 6 April 2008 for businesses within the charge to income tax.

6. The withdrawal of EZAs will have effect on and after 1 April 2011, for businesses within the charge to corporation tax, and 6 April 2011, for businesses within the charge to income tax.

Current law and proposed revisions

Industrial buildings allowances

7. IBAs are available under Part 3 of the Capital Allowances Act 2001 (CAA).

They were introduced in 1945. Their scope was subsequently increased to include buildings and structures like tunnels, bridges, foreign plantations, highway concessions, qualifying hotels, and commercial buildings in Enterprise Zones.

Enterprise zone allowances

8. Special rates of IBA, for a wider range of commercial buildings constructed in enterprise zones were introduced by the Finance Act (FA) 1980. These allowances are known as enterprise zone allowances (EZAs).

Agricultural buildings allowances

9. ABAs are available under Part 4 of CAA and were introduced in 1946.

ABAs are generally very similar to IBAs, although not identical. For example, ABAs are only available where the first use of the building is for the purpose of husbandry and, subject to changes made in FA 2007, balancing adjustments only occurred when the parties to the transfer of a relevant interest made an election.

Writing-down allowances (WDAs) and initial allowances

10. In general, the annual rate of WDAs for a person who constructs either an industrial or agricultural building, or buys it unused, is 4 per cent of the qualifying expenditure (the construction cost or purchase price) on a straight-line basis. There is an exception for qualifying expenditure on buildings in enterprise zones (EZA expenditure) which attracts an initial allowance of 100 per cent and, where the full initial allowance has not been claimed, a WDA of 25 per cent per annum, on a straight-line basis. In all cases, the allowances are given to the holder of the "relevant interest" who has incurred the qualifying expenditure on the building.

Balancing adjustments and recalculated WDAs

11. Prior to Budget 2007, when a person ceased to have the relevant interest in an industrial or agricultural building within 25 years of first use (typically when the building was sold or a leasehold interest came to an end) there was a balancing adjustment (giving rise to either a balancing charge or a balancing allowance) based on any difference between the residue of qualifying expenditure (RQE) and the proceeds from the event. The person acquiring the building would then be entitled to a recalculated WDA, based on the expenditure that had not yet been written off (taking into account the balancing adjustment) divided by the remainder of the 25-year period. For example, if the remainder of the 25-year period was 10 years and the RQE after the sale was £10,000, the buyer would be entitled to a recalculated WDA of £10,000/10 = £1,000 p.a.

12. To prepare the way for final abolition, Budget 2007 announced the withdrawal of balancing adjustments and the recalculation of WDAs. Broadly speaking, this meant that the person acquiring the relevant interest in the building would effectively "stand in the shoes" of the person who had disposed of his interest, and so would effectively be entitled to the same amount of WDAs as the previous owner.

Proposed revisions

13. This measure:

•    provides that Parts 3 and 4 of CAA are repealed with effect from 1 April 2011 for corporation tax purposes and 6 April 2011 for income tax purposes;

•    gives the detailed rules on the phasing out of the WDAs for expenditure on industrial and agricultural buildings for the transitional periods to 31 March or 5 April 2011;

•    withdraws EZAs in part 3 through the repeal of Part 3 with effect from 1 April 2011 for corporation tax purposes and 6 April 2011 for income tax purposes, but balancing charges, in respect of qualifying enterprise zone expenditure, under sections 314 or section 328 of CAA, will be retained for a limited period;

•    introduces an anti-avoidance provision, counteracting disclosed schemes aimed at exploiting the legislation withdrawing balancing adjustments and the recalculation of balancing allowances in FA 2007, in order to claim multiple WDAs.

Phasing-out rules

14. For the transitional periods

•    between 1 April 2008 and 31 March 2011 (for businesses within the charge to corporation tax) or

•    between 6 April 2008 and 5 April 2011 (for businesses within the charge to income tax) the basic calculation of the amount of IBA and ABA WDAs will be unchanged (subject to the effective withdrawal of balancing adjustments and the recalculation of WDAs in respect of balancing events occurring on or after 21 March 2007: see paragraphs 11 and 12). The amount of the WDA (whether original or recalculated) is to be stepped down by 25 per cent for each financial or tax year.

15. For those transitional chargeable periods the amount of WDA is the percentage of the WDA shown in column 3 of the following table:

Financial year beginning 1 April 2007 and earlier financial years Tax year 2007-08 and earlier tax years 100 per cent
Financial year beginning 1 April 2008 Tax year 2008-09 75 per cent
Financial year beginning 1 April 2009 Tax year 2009-10 50 per cent
Financial year beginning 1 April 2010 Tax year 2010-11 25 per cent
Financial year beginning 1 April 2011 Tax year 2011-12 0 per cent

16. Where the chargeable period of a business falls in more than one financial or tax year, the WDA is to be apportioned on a strict time basis between the financial or tax years in order to determine the amount of the writing-down allowance that may be set-off against profits.

Enterprise zone allowances

17. The amount of any initial allowance will not be restricted provided it relates to qualifying capital expenditure incurred by the EZA claimant on or before 31 March 2011 (for corporation tax) or on or before 5 April 2011 (for income tax). However, where a business's chargeable period spans the relevant date and the claimant claims a WDA, the amount of the WDA will be restricted on a time basis.

18. For EZAs, the measure will also provide that where a business disposes of a building within seven years of first use, in respect of which either an initial allowance or WDA(s) have been claimed, then the business will potentially be liable to a balancing charge, notwithstanding the repeal of Part 3 of CAA with effect from 1 April 2011 (corporation tax) or 6 April 2011 (income tax). Furthermore the special rules in sections 327 to 331 of CAA relating to certain capital value realisations will continue to have effect on after 1 or 6 April 2011.

Anti-avoidance rule

19. Finance Bill 2008 will also include an anti-avoidance rule that will limit the amount of a WDA on a time-apportioned basis, where property qualifying for IBAs is transferred or sold between connected parties and the purpose, or one of the main purposes, of the sale or transfer is the obtaining of a tax advantage.

Draft legislation

20. Draft legislation and explanatory notes have been published today on the HM Revenue & Customs website.

Further advice

21. If you have any questions about this change, please contact Joy Guthrie on 020 7147 2610 (email: Joy.Guthrie@hmrc.gsi.gov.uk) or Malcolm Smith on 020 7147 2555 (email: Malcolm.Smith3@hmrc.gsi.gov.uk). Information about Budget measures is available on the HM Revenue & Customs website at www.hmrc.gov.uk