The capital allowances annual investment allowance (AIA) gives a 100% deduction against profits for qualifying costs in the year they are incurred. The amount of the AIA has seen many changes over the years, and has been set at the current amount of £1m since 1 January 2019.
The amount of the AIA is due to change again on 1 January 2021, when it will drop to £200,000. Firms with accounting periods straddling that date need to plan ahead to avoid being caught out by a nasty quirk in the tax rules.
For accounting periods straddling 1 January 2021, the AIA will be calculated by reference to the number of days falling before and after the change. For example, a firm preparing its accounts to 30 April 2021 will have an AIA of £736,986 (245 days at £1 million and 120 days at £200,000).
You might think, therefore, that the AIA may be claimed on up to £736,986 of qualifying expenditure incurred in the year ending 30 April 2021. But when is tax ever this straight forward?
The rules state the AIA of £736,986 may only be claimed on expenditure incurred in the period 1 May 2020 to 31 December 2020. For expenditure incurred in the period 1 January 2021 to 30 April 2021, the AIA is limited to just £65,753, being the proportion of the reduced £200,000 AIA applicable to that period.
Any expenditure in excess of the AIA will receive a writing down allowance of 18% or 6%, depending on the nature of the cost, which means it will take many years for tax relief to be given in full.
If you are planning substantial capital expenditure in the latter part of an accounting period that straddles the change, you may wish to consider accelerating that expenditure to maximise the tax relief.