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Being a bear of very little brain, I am drawn to tangible objects that exist in three dimensions. My Master’s degree was in Real Estate, and I think it was the first word of the title that attracted me most; a refreshing mental sorbet after the extreme hypotheticals posed by my undergraduate modules in Economics.

Like Economics, much of tax law can be abstract and nebulous so it was fortunate for my career that I found Capital Allowances. These are a part of the tax system designed to incentivise investment in productive assets that are, at least in the majority of cases, actually physically real.

Using taxes as a policy tool to encourage or discourage activities is far from new. Its effectiveness (along with the law of unintended consequences) was powerfully illustrated in 1696. This was when the Window Tax first led to property owners bricking up windows in an early example of tax avoidance. (Whether this chapter of tax history spawned the phrase “daylight robbery” remains the subject of speculation.)

More recent governments have sought to use the behavioural effects of tax policies in a more deliberate and targeted fashion. ‘Sin taxes’ on cigarettes and alcohol are a prime example. The obverse can be seen in the Capital Allowances regime, introduced post-war to encourage and support rebuilding the country’s economy.

One of the most long-standing forms of Capital Allowance is the Plant and Machinery Allowance. Compared to the low (at times even zero) rate of relief given for buildings, Plant and Machinery Allowances give tax relief for the investments made by a business in the equipment it uses in its trade.

Any form of tax relief is attractive to businesses, but there is a valid underlying rationale at work here: whereas accounting depreciation must be added back before calculating taxable profit, Capital Allowances compensate for the depreciation of assets over time – though naturally at a rate chosen by the government not the individual taxpayer.

Over the years, Capital Allowances have proven popular with Chancellors, who enjoy having a variety of knobs and levers to play with. The most recent Capital Allowances Act was passed in 2001, and the regime has since then been tinkered with in every subsequent budget. Most recently, the 2023 Spring Budget replaced the expiring Super-Deduction with something called Full Expensing.

In a recent speech, the Managing Director of the IMF, Kristalina Georgieva, applauded the move:

“…we strongly support the emphasis on structural reforms to sustainably boost the UK’s growth potential. The authorities are already making important efforts in this regard. The increase in childcare support and the introduction of a capital investment allowance in the Spring budget should positively affect labor supply and business investment, respectively.”

‘Full Expensing’ simply means that for some taxpayers, qualifying plant and machinery can now be fully written off in the first year, creating what is effectively a 25% cut in the cost of the investment.

Clearly, it’s even more important than ever that investment appraisals factor-in the value of tax relief, and this is where we run into problems. Machinery is fairly straightforward, but the legislation is structured in such a way as to leave considerable room for interpretation as to what constitutes plant.

As a result, a large body of case law has built up over the years, and continues to grow.  A recent case concerned a hydroelectric power station.  The taxpayer, SSE plc, claimed Capital Allowances on the cost of constructing the facility at Glendoe in the Scottish Highlands. I’ll spare you the details, but it all boiled down, in the end, to the definition of the words “tunnel” and “aqueduct” in the legislation, how narrow that definition should be, and whether Parliament intended thematic connections between listed items to be inferred. The Supreme Court ruled unanimously in favour of the taxpayer, with the result that the expenditure is allowable, and the power generating plant is indeed “plant” within the meaning of the legislation.

Zooming out to a macro level, we see how fortunate it is that the Glendoe case tessellates so perfectly with the bigger national and even global picture in terms of energy security and environmental aims. Surely green energy generation is exactly the sort of thing tax policy should be used to support.

Why then were HMRC so keen to fight the case? Perhaps they genuinely were seeking clarity for taxpayers. Less charitably, it seems likely that there is pressure to maximise revenues. Expensive furlough schemes and other Covid-related costs must be funded somehow.

HMRC thereby find themselves at the frontline of the conflict between two of the government’s ideological imperatives: the Net Zero agenda, and its commitment to economic responsibility – the latter in word if not in deed.

Personally I don’t see how this tension will be resolved this side of a General Election, but for now at least there is a little more certainty on what is the right sort of expenditure to capitalise on available tax reliefs.

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