In his March 2021 Spring Budget, then Chancellor of the Exchequer Rishi Sunak introduced the capital allowances ‘super-deduction’, a temporary incentive to encourage capital investment by companies as part of efforts to stimulate renewed UK business activity after the coronavirus pandemic restrictions.

Looking to the future

In view of the scheduled end, on 31 March 2023, of the period in which the super-deduction can be claimed and the temporarily enhanced annual investment allowance is available, HM Treasury published a policy paper on 9 May 2022 exploring options for potential reforms to the UK capital allowances regime. The consultation closed on 1 July 2022, with the Government expected to provide a summary of stakeholder feedback and announce its intended response in the Autumn Statement 2022.

It is a widely held view that UK businesses lag behind their international competitors when it comes to capital investment, and this is holding back productivity and growth in the UK economy. Unsurprisingly, therefore, the paper focuses on the need for reform to the capital allowances regime to ensure not only that UK businesses are incentivised to be bold and commit to capital investment, but also that the regime is attractive and competitive internationally to attract inward investment into the UK.

Considering the options

The key areas considered in the consultation are:

• the importance of capital allowances in investment decisions;
• the impact of the super-deduction on investment decisions;
• potential options for reform of the current system of capital allowances, as set out in the Spring Statement 2022.

The importance of capital allowances in investment decisions

Feedback from businesses confirms that the availability and timing of capital allowances does play an important part in investment decisions, particularly in capital intensive sectors such as infrastructure and renewables. However, rather than simply seeking the highest rates at which tax relief is available, businesses crave certainty over the long-term more than anything else to help them manage the broad post-tax and cash flow effects of investment decisions. Where investment is uncertain or may take place in different jurisdictions, businesses also look for an appropriate incentive to invest in the UK. Our view is therefore that a clear road map for the capital allowances regime for the next five to seven year period is needed to ensure confidence in the tax cash flow considerations factored into the investment appraisal process.

The impact of the super-deduction on investment decisions

There have been mixed reports in the press on the effectiveness of the super-deduction on investment decisions. Nevertheless, the super-deduction has generally been gratefully received by companies that have benefitted. In particular, the uncapped nature of the super-deduction is viewed as a significant positive, but there are concerns around the lack of certainty the short two-year investment window creates, and the fact that it was introduced with immediate effect, thereby unnecessarily rewarding existing committed expenditure it did not encourage whilst narrowing the overall incentive effect. Andrew Bailey, Governor of the Bank of England, recently stated that the super-deduction was ‘not at the moment having the impact that was expected’. Does the use of the phrase ‘not at the moment’ mean a significant splurge of capital expenditure is on its way in the next six months, as companies seek to exploit the relief? Only time will tell.

Potential options for reform of the current system of capital allowances

The options for reform of the current system identified in the consultation broadly comprise:

• increasing the permanent level of the annual investment allowance (AIA);
• increasing the rates of annual writing down allowances (WDA);
• various enhanced first year allowances (FYA) options, effectively replacing the super-deduction; and
• full expensing.

There is much to consider given the number of options. In our response to the consultation, we outlined our view that a balanced approach is needed, measuring the cost to HM Treasury against the need for investment. In summary, we believe there needs to be a base-line capital allowances regime with a degree of permanence, which includes:

• uncapped FYAs of, say, 50 per cent of qualifying expenditure for main pool plant and machinery and, say, 25 per cent for special rate pool plant and machinery;
• improved rates of annual WDAs to better reflect commercial depreciation, increasing from 18 per cent to at least 20 per cent for main pool plant and machinery, and from 6 per cent to at least 10 per cent for special rate pool plant and machinery;
• an increased permanent AIA of, say, £500,000 per year, with potential scope for unused AIA to be carried forward;
• additional incentives for ‘green’ investments, such as a 100 per cent FYA; and
• a payable capital allowances credit for certain loss-making businesses.

Our view is that such a base-line regime could be complemented with short-term time-limited additional incentives, at appropriate times, to stimulate investment, although we believe these should be available for at least three years to reflect the time lag between identifying an investment need or opportunity and the expenditure being incurred on large scale capital investments.

Further announcements

This consultation comes at a critical time and provides an opportunity to be bold and innovative in refreshing and modernising the UK capital allowances regime into a highly competitive, investment friendly system that provides longer term certainty and builds towards the high-wage, high-skill, high-productivity economy the Government has stated it is aiming for.

Further consultation on specific details is possible, but all will be revealed in the Autumn Budget.

For more information, please get in touch with Paul Smith or your usual RSM contact.