Finance leases & Capital Allowances

Finance leases & Capital Allowances

Didn't find your answer?

If a company has purchased assets (commercial vehicles) under finance leases I understand they are denied capital allowances on the basis that they do not have ownership.

The assets are capitalised in the balance sheet like any other owned asset, with the corresponding liability reported as a liability and the finance lease interest charged to the profit and loss account.

How therefore is tax relief obtained by the company on these assets ??

I have read that "where the accounts have been prepared in accordance with accounting standards the accounting treatment will be acceptable for tax purposes and no adjustments to profit need be made. Where accounts have not been prepared in accordance with accounting standards, for tax purposes the rentals are deductible in computing profits under the accruals concept."

So what exactly does this mean ?? my understanding is simply that the interest/finance costs charged to the profit and loss account will be allowed together with the depreciation charge on the assets (HMRC BLM32505). But surely on this basis the tax relief can be manipulated and accelerated through the depreciation rate adopted which commonly is 25% reducing balance and so does not correlate to the finance lease term of say 5 years. Or should the depreciation rate be consistent with the finance lease i.e. 20% straight line ??

However according to HMRC BLM00525 the gross rentals (interest plus capital repayments) are deductible in the hands of the finance lessee which conflicts with the idea that tax relief is obtained on the depreciation charge and interest/finance costs.

How would this be correctly accounted for on the CT computation as ordinarlly the depreciation charge is added back as disallowable, and how would you include the gross rentals (if indeed this is correct) in the computation as these cannot be picked up automatically.

Would gratefully appreciate clarification as to the correct form of tax relief i.e. depreciation and interest/finance costs or gross rentals (interest + capital), and how this is practically claimed.

Many thanks.

Replies (17)

Please login or register to join the discussion.

avatar
By User deleted
12th Oct 2012 23:23

A long question with a short answer

Provided that depreciation is calculated correctly (asset depreciated over shorter of economic life and term of lease) you simply claim a deduction for the depreciation and finance charge in the P&L. Yes, you could accelerate tax relief by increasing depreciation rate (provided there was commercial rationale for doing so) but it wouldn't affect the total relief available. Yes, strictly it is interest and capital that is deductible - the point being that depreciation will normally equate to the capital element of the payments, and HMRC will therefore accept the depreciation charge  as deductible.

Thanks (3)
avatar
By pdorrington
15th Oct 2012 19:13

Not Quite That Simple ......

So following on from BKD's reply (thank you) which I understand, my situation is a bit more complex .........

If a client acquires the vehicle 'chasis' under a finance lease but then custom builds it into an 'on the road' vehicle what happens then ?? the client is capitalising the 'chasis' purchase price (under finance lease) and their own builds costs, so the depreciation and finance interest is NOT equal to the gross finance lease repayments (capital and interest).

Should these be separated for CT purposes i.e. add own build costs to Capital Allowances main pool and claim WDA, and allow finance interest and only a proportion of depreciation (on 'chasis') as a tax allowable deduction for CT purposes ??

Many thanks.

Thanks (0)
By George Attazder
15th Oct 2012 21:06

If that's a finance lease for tax purposes...

... then I'll eat my cat!

How on earth is your client going to return the leased asset (the chassis) to the lessor (without their "build") at the end of the lease?

Does the "lease" contain any provision (whether or not it involves the exercise of an option) that would allow your client to retain ownership of the asset (whether or not for the payment of a fee) at the end of the lease?

Thanks (0)
avatar
By pdorrington
16th Oct 2012 23:33

Confused ...........

HMRC accept (BLM00325) that not all leases that include an option to purchase are HP contracts (which are eligible to capital allowances).

BLM00330 refers to contracts containing a provision giving the hirer an option to purchase as HP or lease purchase contracts.

So in providing completely confusing (and sometimes contradicting) legislation as to what constitutes a HP agreement or other type of lease and whether they do or don't qualify for capital allowances, HMRC then seems to refer to the following overriding legislation :

CAA01/S67 applies to a lease contract where :

the expenditure is incurred under a contract providing that the lesses shall or may become the owner of the plant or machinery on the performance of the contract, andthe lessee incurs capital expenditure on the provision of plant or machinery for the purposes of a qualifying activity

So it would seem therefore that where a finance lease (or any type of lease) satisifes the above conditions you are eligible to claim capital allowances ??

CAA01/S67 refers to CA23310 and specifically HP or lease purchase contracts. So does CAA01/S67 simply provide clarity to the eligibility of capital allowances for HP or lease purchase contracts or can this be adopted for ANY type of lease (including a finance lease) where the conditions are satisifed ??

Or am I missing something here ??

 

Thanks (0)
By George Attazder
17th Oct 2012 09:45

Lease purchase...

... is an oxymoron. The guidance you seek is at BLM39010, specifically the pre-penultimate paragraph.

A lessor of an asset (other than land) generally won't permit the lessee to carry out any alterations to the asset that cannot be readily undone.

Should I throw Felix on the barbie?

Thanks (0)
avatar
By shahih
25th Jul 2013 13:36

finance lease and deferred tax

what would you report as deferred tax liability on finance leases as a deferred tax asset?

 

I understand it is the obligation under finance leases: within one year and one to five years added together multiplied by the tax rete?

 

many thanks

Thanks (0)
avatar
By Accountant 001
14th Mar 2016 16:13

Loss on Leasehold Vehicle

 

Thanks (0)
avatar
By petestar1969
24th Mar 2023 10:34

I have this situation too.

I inherited a client and three of their vehicles were treated as being under a finance lease with depreciation and interest being allowed as expenses.

That's fine.

BUT

In the year I'm looking at the vehicles were all sold and outstanding finance cleared.

The result is a big profit on disposal. Is that profit on disposal taxable?

Thanks (0)
Replying to petestar1969:
By Ruddles
24th Mar 2023 12:07

Assuming that they were correctly treated as finance leases in the first place, yes.

Who sold them/received the proceeds?

Thanks (0)
avatar
By FrogHappy
26th Jul 2023 12:44

Following on this thread, I also have a client who has financed some vehicles with a finace lease rental agreement.

I understand the accounting and tax treatment up to the point when the contract ends and the taxpayer decides to take ownership of the vehicles.

What happens at that point?

Is the taxpayer then eligible to claim capital allowances for any remaining balance that hasn't yet been accounted for (and allowed for tax) through the depreciation up to that point?

Or does the taxpayer have to continue to claim depreciation for the rest of the asset's life? Surely not?

Or will the finance company issue some kind of invoice at that point for the purchase at which point athere is effectively a disposal and repurchase, on which the taxpayer then accounts for a loss/profit on disposal and claims capital allowances on any purchase cost?

Thanks

Thanks (0)
Replying to FrogHappy:
By Ruddles
26th Jul 2023 14:45

If the contract has ended (ie run its full term) and has been accounted for correctly there should be no depreciation left.

And if it is a genuine finance lease the taxpayer cannot unilaterally "decide to take ownership of the vehicles".

You should account for the termination of the lease as you would normally, recognising any profit or loss on 'disposal'. Capital allowances can then be claimed on expenditure incurred to 're-acquire' the assets. So your last paragraph is correct.

Thanks (1)
avatar
By FrogHappy
26th Jul 2023 15:07

Thanks
I believe this is a finance lease, but these companies don't make things very easy to understand in their documents.
Client has told me that the log books for the vans are in the client's name which first led me to believe ownership had passed to them and so this would be more of a HP agreement.
However, client has told me the finance company gave them two options to structure the deal:
1. Pay all the VAT upfront, or
2. Pay the VAT monthly.
He opted for option 2 and the finance company sent over a payment schedule/invoice showing the net monthly payments and the VAT monthly.
The contract describes it as a "Fixed Term Hire Agreement".
The invoice describes each monthly payment as a "Lease Rental".
Anyone any thoughts?

With regards the depreciation, if a company has an existing policy of writing down vehicles using a reducing balance basis, would they not use the same for these vehicles too? If so, the depreciation will not exactly mirror the cost of the asset over the contract term, so there will be some value/balance remaining at the end that would need adjusting for.
Or are you suggesting that these vehicles should be depreciated exactly over the term of the contract? If so, I cannot see where that is specifically required in the legislation. All I can see is that you should follow the normal adopted policy for assets owned outright.

Thanks (0)
Replying to FrogHappy:
By Ruddles
26th Jul 2023 15:39

It sounds like a lease. A lease is a lease is a lease. How it should be accounted for (finance or operating) would depend primarily on the financials - how does the NPV of the rentals payable compare to the fair value of the asset?

But you end up with the same deduction, overall, for tax purposes.

Depreciation policies are not legislated for. But you might want to have a look at 20.12 of FRS102 (assuming that is the appropriate Standard).

Thanks (1)
avatar
By FrogHappy
26th Jul 2023 16:03

Client has now found another document which does state this is a finance lease! The payments do also align with the asset cost and a the interest rate applied.

The client's understanding is that he was/is purchasing these assets. Given that the log books are in the client's name already, then that also surely gives certainty that the lessee will obtain ownership at the end of the term. There is also no baloon payment or any mention of an option to purchase fee.

Therefore, following 20.12 it would appear that we depreciate using the normal adopted policy for this class of asset, which is currently on a reducing basis.

If I'm correct, then at the end of the contract term, we would have a residual value because the accumulated depreciation would be less than the total cost to date. So if there is effectively a deemed disposal and repurchase at that point, there would be an allowable loss on dispoal for tax purposes, and zero capital allowances because there is no purchase fee at the end.

Do we agree?

Thanks (0)
Replying to FrogHappy:
By Ruddles
26th Jul 2023 16:16

Agreed. Sort of.

If it has been accounted for as a finance lease then yes any residual depreciation is effectively an allowable loss on disposal. And of course if there is no further expenditure in order to acquire the asset there can be no capital allowances.

A couple of observations, though:

The logbook (V5) is nothing more than a record of the registered keeper. It does not indicate current or future ownership, although as we all know it is a very common misunderstanding.

If there is no balloon payment, or option to purchase fee, does the fixed term hire agreement actually say that ownership will/may pass without payment to the hirer at the end of the lease? (No fixed term hire agreement that I have ever seen included such a clause.)

Thanks (1)
avatar
By FrogHappy
26th Jul 2023 16:36

Thanks

I take on board your points regarding the log book etc.

I can't see anything myself in the contracts specifically regarding how ownership passes, but the client is adamant he has bought them (subject to meeting the payment terms of the contract). Perhaps there may be a shock to come for him, but from the explanations provided to me from the client, I am going to treat this as there being a reasonable expectation that the asset will be acquired.

Thanks for your input, greatly appreciated.

Thanks (0)
Replying to FrogHappy:
By Ruddles
26th Jul 2023 16:45

You are welcome. I will finish by saying that it would be an extraordinarily poor hire agreement that did not make provision for either the transfer of the asset to the lessee or its return to the lessor.

Thanks (0)