Neil Warren examines a case in which the costs of a new racing car engine did not qualify as capital expenditure with VAT flat rate scheme.
How good is your knowledge about claiming input tax on capital expenditure if you use the FRS? Your initial thought might be to shout out: “It’s OK if it costs more than £2,000” but there is more detail that needs to be appreciated:
- The £2,000 figure includes VAT (£1,667 excluding VAT) and it only applies to capital expenditure on goods and not services. So if you arrange for a builder to build an extension at your office, this is a supply of construction services and not goods.
- The input tax opportunity does not apply if the asset is being used to generate income by being hired or rent out, or if it will be consumed within one year of purchase (VAT Notice 733, para 15.7).
Racing car expenditure
The case of RPD Building Ltd (TC6740) considered whether the cost of parts, labour and consumables to build an improved engine for a racing car it owned qualified for input tax recovery under the £2,000 limit. HMRC highlighted seven different reasons why a claim was blocked:
- The racing car was not used for the purpose of the business (a construction company undertaking general building projects);
- Many of the costs included ‘labour’ which is input tax blocked as a service;
- Consumable items are not capital expenditure goods eg oil and parts
- The engine did not qualify as capital, it was replacing another engine in the vehicle, albeit the new one gave a superior performance;
- Purchase invoices from the two main suppliers were made out to the company director and not the company;
- Many of the invoices were for less than £2,000, even though the overall project obviously exceeded this figure.
A successful input tax claim by both FRS and non-FRS users needs to overcome many hurdles. In reality, the company’s appeal would fail if just one of the seven arguments put forward by HMRC was accepted by the judge.
Needless to say, this happened, and the appeal was doomed by one sentence the judge made: “I agree with HMRC that the asset in question is the car, not the engine.” The spending on the engine did not qualify as capital expenditure goods.
Note – you might be wondering why a construction company owned a racing car. It argued that the vehicle was a ‘promotional tool’ and a vital way of generating business.
I was interested how the tribunal considered some of the other arguments put forward by HMRC and it was by no means a 7-0 victory.
HMRC’s reference to the input tax block on motor cars (which applies if a car is available for private use) was a red herring. There was no supply of a motor car to RPD, only supplies of parts and labour linked to the engine.
Despite the fact that purchase invoices from the two main suppliers were made out to the director personally, he was able to show from bank statements that the invoices had been paid by the company. The tribunal seemed to think that this should be acceptable alternative evidence in the absence of a proper tax invoice (VIT31200 – HMRC input tax manual). This is a very controversial interpretation.
The tribunal also highlighted a particular quirk of input tax recovery with the £2,000 FRS limit, namely that no input tax apportionment is needed if there is some exempt or private use of the goods. This is supported by HMRC’s guidance (VAT Notice 733, para 15.8).
Alternative Dispute Resolution (ADR) success
I know that many advisers are a bit cynical about HMRC’s ADR service (“one HMRC officer just agrees with another”) but it is worth mentioning that the company had partial success with the ADR process before the case reached the tribunal. It separately claimed input tax on the cost of a trailer, which was also disallowed by the visiting officer. The ADR process reversed this part of the assessment.
But, sorry everyone, not even Lewis Hamilton could have given you a victory with the racing car expenses.
About Neil Warren
Neil Warren is an independent VAT consultant and author who worked for Customs and Excise for 14 years until 1997.