Capital allowances on sales and purchases of second-hand buildings Retailers who incur capital expenditure on fitting out leased property will generally be able to claim capital allowances. Last year's Finance Act changed the rules.

Richard Croker reports on the current rules relating to textures

It is not only property investors who should be interested in capital allowances. Retailers who are owner-occupiers or who incur capital expenditure on fitting out leased property will, generally, have the opportunity to claim capital allowances. Last year's Finance Act changed the rules governing capital allowances on plant and machinery fixed to property - in particular on sales and purchases and all should be aware of the degree of flexibility these rules now offer.

25% of total expenditure on plant and machinery is available as tax relief, in the first year. A further 25% of the written down expenditure is available in the next year, and so on. With corporation tax rates at 31%, a net saving of 7.75% of the expenditure can be made in the first year.

Sales and purchases: Qualifying cost of fixtures

The general rule is still that the cost of fixtures for capital allowance purposes is restricted to the disposal value (if any) brought in to account by a vendor. Thus, where the vendor is a taxpayer, the maximum capital expenditure incurred by the purchaser on eg. the shop fittings he acquires will be the disposal value brought in by the vendor for his capital allowance purposes.

However, under the old rules, where the vendor was a non-taxpayer (eg a trader or a pension fund) no restriction applied and capital allowances were potentially available on significantly more than the historic cost of the fixtures. The new rules remove this possibility.

In future, capital allowances will be restricted to the disposal value brought in to account by the vendor or, if the vendor did not qualify for capital allowances, the disposal value brought into account by the last person who sold the fixtures and did claim capital allowances. These new rules only apply where there has been one or more sales on or after 24th July 1996 which required a disposal value to be brought into account. Where the last such sale was before this date the old rules still apply and thus there will be many cases where investors have the opportunity to "step up" the capital allowance base. Where it is not, purchasers (even those who do not intend to claim themselves) need information from the vendor to determine the level of future claims - failure to secure that information could prohibit future claims by the buyer or his successor.

New election rules

Example 1:

X develops a distribution centre for a tenant in 1990. It sells the property to a pension fund in 1994 (subject to the lease) and in the process brings into account a disposal value. In 1997 the lease is surrendered and the pension fund sells the property to Y, an owner/occupier.

The last sale of the property for which a disposal value was brought into account was before 24th July 1996. The old rules thus apply. Given that the vendor is a non-taxpayer, Y may claim capital allowances solely by reference to the rules concerning just apportionment in section 150 CAA 1990.

Example 2:
Where in the above example the sale between X and the pension fund occurs on or after 24th July 1996 the new rules apply. The maximum capital allowances available to Y are restricted to the disposal value brought into account by X on the sale to the pension fund.

Prior to the FA 97, it was in practice possible for the vendor and purchaser to agree an allocation of the purchase consideration to fixtures which would generally be accepted by the Revenue. This practice was not always easy to reconcile with the legislation which requires a "just apportionment". The practice led to disputes between taxpayers and the Revenue and uncertainty for vendors and purchasers. The FA 97 introduced an election procedure which binds the Revenue, the vendor and the purchaser.

Under the new rules, the vendor and purchaser may elect to agree a fixed amount which is allocated to fixed plant and machinery. This amount is limited to the lower of the full purchase price of the land interest acquired and the original capital expenditure by a vendor. An election may only be made where the vendor has claimed capital allowances and is required to bring a disposal value into account. However it is possible to make an election even though the purchaser is not able to claim capital allowances (on account of being a non-taxpayer).

The effect of these new rules is that where the vendor has claimed and the purchaser intends to claim capital allowances the maximum purchase price which may be allocated to fixtures is the vendor's original cost (or, if less, the full purchase price). This will usually result in a balancing charge falling on the vendor.

Of greater interest is the fact that it is now open to the parties to elect to allocate a nominal amount of consideration to fixtures. Where the purchaser is a non-taxpayer, this enables the vendor to keep the benefit of the remaining capital allowances and sweetens the deal for him. The old "just apportionment" rules are irrelevant. This can be useful on eg sales to a developer for demolition or surrender to a landlord - in most cases the normal consideration apportioned to plant allows the retail tenant to continue claiming on the balance of expenditure he incurred on fixtures and fittings even though he no longer owns the property.