Revenue versus Capital Expenditure; Capital Allowances

Lightfoot Football Club has an outdated spectator stand which desperately needs to
be brought up to date to cater for modern spectator expectations and thus to secure
the future of the club. Lightfoot’s Board has recently taken the decision to demolish
the old stand and to replace it with a new one. The Board regards this expenditure as
being in the nature of ‘repairs’. However, Lightfoot’s Finance Director has some
reservations and the Board has therefore asked him to approach you, the Club’s tax
adviser, for further guidance.

Required:
Write a letter to Lightfoot’s Chairman which:
1. Outlines the framework within which Her Majesty’s Revenue and Customs
assesses whether expenditure is of the nature of revenue expenditure or
capital expenditure and whether, if capital expenditure, it represents
expenditure on plant and machinery. You should identify the different tax
treatment of the expenditure in each case.
2. Applies this framework to the case of the football stand and which identifies the
potential benefits and risks associated with the treatment of the new stand as
‘repairs’.

Use case law where appropriate to illustrate your answer.

Suggested approach to answering this question:

1. Identify relevant case law

2. Consider definition of
a. revenue vs capital expenditure and
b. plant vs other types of capital expenditure ie whether expenditure could
be classified as plant and therefore be eligible for ‘plant and machinery’
capital allowances.
3. Use cases from 1 to support your analysis in stage 2
4. Compare these definitions with Lightfoot’s situation in relation to the football
stand
5. Identify the tax treatment if the expenditure is
a. revenue,
b. plant and machinery
c. other capital expenditure
6. Consider and conclude with advice to Lightfoot including an assessment of the
risk they take if they persist in treating the expenditure on the stand as revenue
expenditure.
Function v setting test:

Assume now that the new spectator stand for Lightfoot Football Club is considered to
be a capital rather than revenue expenditure. However, as the expenditure was not
necessary toward complying with statutory safety requirements (Lymer and Oats, pg.
245), the stand does not automatically qualify as plant and equipment. The
determination of whether an asset is a qualifying asset represents a key step in
determining whether a firm is entitled to claim capital allowances for plant and
machinery. However, there is no statutory definition of plant in the Capital Allowances
Act, 2001. Considerable reliance is therefore placed on case law for guidance. A key
case in this respect is Wimpy International v Warland (1988) which identifies three
types of asset which are NOT to be considered as plant and equipment. One such
category is commonly referred to as the ‘function versus setting’ test.

Required:

Identify the other two types of asset which are excluded from the definition of plant
and machinery.

Discuss the function versus setting test and, using examples, show how it has been
applied by the courts identifying areas of potential difficulty for firms when attempting
to reconcile sometimes apparently conflicting decisions.

Suggested approach to answering this question:

1. Refer to Wimpy International v Warland (1988) and the other two types of asset which
are excluded from the definition of plant and machinery [not used for carrying on the
business And assets with useful life less than 2 years].
2. Explain the function v. setting test
3. Consider relevant case law: See Lymer and Oats, pgs. 244 - 245
4. Conclude with an assessment of the difficulties in identifying whether something
performs a ‘function’
 Deductible Trading Expenses
You are the accountant and tax adviser for Lizzie, a self-employed barrister,
specializing in criminal law. Lizzie duly claims the expenditure on her robes and wig
against her taxable profits. However, Lizzie is a very colourful character who, outside
her chambers, dresses largely in gold and silver outfits with touches of fluorescent
pink and orange. Lizzie hates the dark clothing she has to wear to go to court and so
keeps a dark suit and white shirt in her locker at work. She travels to work in her gold
and silver outfits and changes into her dark suit only when she walks across from her
chambers to court. When she returns from court she immediately changes back into
silver and gold. She has recently approached you to enquire whether she would be
able to claim the cost of her dark suit and white shirt as business expenses.

Lizzie has recently been working on a case which requires her to stay away from home
for periods of a week at a time. Lizzie is very picky about her food and when she is at
home she makes her own salad lunch of parma ham, quails eggs, rocket and herb
salad and baby plum tomatoes topped off with a balsamic vinegar and olive oil
dressing. She estimates that the cost of this lunch is £2.50. However when she is away
from home she has to buy an equivalent salad, preferably from Waitrose, and this
salad costs her £5.50. Lizzie resents having to pay the extra (after all, her income is
under pressure given recent governments cuts in legal aid to her clients) and would
really like to claim at least the additional £3 per lunch as a tax deductible expense

Essay question:

Write to Lizzie explaining the principle of ‘duality of purpose’ and, with reference to
relevant case law, advise her as to the extent to which she can claim clothing and
lunch expenses against her income for the purpose of computing her taxable trading
profits.

Approach to developing an answer

1. An explanation of ‘duality of purpose’

2. The identification and brief description of relevant case law (L&O, pgs 203 –
204)
3. A summary of the issues to be considered
4. Advice to Lizzie.
 Badges of Trade

As Winston’s business has grown and their family has grown up, Wilfreda has been
able to devote more time to her hobby of painting. She has been able to develop her
skills through regular attendance on courses on artistic painting, sometimes combining
this with the opportunity to visit places such as Rome and Provence. As her technique
has developed she has become more successful and now holds exhibitions in her
home town as well as showing paintings in the London art gallery of a contact who has
also become a friend. Sales of her paintings are becoming more frequent. She
generally asks for between £500 and £1500 for each painting, though she isn’t
commercially minded about pricing and her London friend has indicated that she
should ask for more. Wilfreda has no other income at present but is considering the
possibility of doing some part time work in her husband’s company, WW Cleaning Ltd.

Required:

As Wilfreda’s tax adviser prepare a note for Wilfreda on the tax issues arising from her
interest in painting. Include in your note advice about legitimate ways in which Wilfreda
can reduce her tax liability if her interest in painting is deemed to be a trade.

1. Identify the significance of ‘trading’ from a tax perspective

2. Outline the six badges of trade and their meaning
3. Apply to Wilfreda’s case
4. Draw a conclusion for Wilfreda outlining the key issues
5. Summarise the rules, re: deductible expenses and suggest the type of
expenses that Wilfreda would be able to claim against her income if her
painting is deemed to be a trade.