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HMRC internal manual

Business Income Manual

HM Revenue & Customs
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Capital/revenue divide: general themes: recurrence

Not confined to ‘one-offs’, can and does recur

In his classic definition (see BIM35010) Viscount Cave begins by referring to expenditure made ‘once and for all’. This does not mean that for expenditure to be capital it must take the form of a one off payment. Viscount Cave was addressing an earlier definition of capital expenditure given by Lord Dunedin in Vallambrosa Rubber Company Ltd v Farmer [1910] 5TC529.

Vallambrosa owned a newly planted rubber estate. Trading had commenced on Vallambrosa’s new estate, about 1/7th of which was productive - rubber trees do not yield rubber until they are about six years old but they still require attention during those unproductive years. Expenditure of a revenue nature was incurred each year mainly on superintendence; weeding and pest destruction for the whole estate while only 1/7th yielded income. The Crown argued that 6/7ths of the expenditure:

  • was not referable to profits reaped within the year, and
  • represented capital improvement of the estate.

The first part of the Crown’s argument was rejected as absurd. The Lord President, Lord Dunedin, saying at page 535:

‘Supposing a man conducted a milk business, it really comes to the limits of absurdity to suppose that he would not be allowed to charge for the keep of one of his cows because at a particular time of the year…that cow was not in milk and therefore the profit which he was going to get from the cow would be outside the year of assessment…’

On the Crown’s second point, the court held that the whole of the expenditure was maintenance of a revenue nature and there were no grounds for regarding it as capital. Lord Johnston said at page 536:

‘It appears to me that, as at present worked, the trade, manufacture, adventure or concern of the company is the cultivation and production for sale at profit of rubber and other tropical products. For this purpose land had to be acquired, cleared, and drained, roads made, and buildings erected, before the cultivation began. What was expended for these purposes was I think capital expenditure, and not, in the sense of the Income Tax Act, money laid out and expended for the purposes of the trade, &c. But once the cultivation began with the planting, expenditure on cultivation, production, and marketing was I think revenue expenditure for the purposes of the trade, &c.’

The unproductive trees did not increase their value because of the weeding. Rather the expense prevented them from decreasing in value. You should also note the distinction drawn between expenditure incurred before cultivation began (such as acquiring and clearing the land) and the costs (weeding, etc) arising after commencement of cultivation. The pre-trading expenditure was capital and no relief was available.

The Lord President, Lord Dunedin, at page 536 made an early attempt at defining capital expenditure:

‘…but in a rough way I think it is not a bad criterion of what is capital expenditure as against what is income expenditure to say that capital expenditure is a thing that is going to be spent once and for all, and income expenditure is a thing that is going to recur every year.’

But this is too simplistic and on its own is not particularly useful.

Expenditure of a recurring nature on the acquisition of assets which are fixed capital remains capital. For example, a haulier may acquire a lorry for use in their trade under a deal that allows them to pay the consideration, net of interest, over (say) 36 monthly instalments. The consideration remains capital.

In CIR v Adam [1928] 14TC34 a contractor entered into an agreement with a landowner allowing the contractor to dump 80,000 cubic yards of material on the land at a rate of 10,000 cubic yards per year. In exchange for the right to dump the material the contractor agreed to pay the landowner £3,200, payable in half-yearly instalments of £200. Lord President Clyde at page 41 commented on the form of the transaction:

‘A great deal has been said about form and substance. I think that, in a question of this sort, both form and substance must be considered; because the form of the transaction by which the respondent acquired the right to dump waste soil may bear very materially on the question of the capital or revenue character of the outlay made to acquire it. Suppose that the consideration for the right had been an annual rent of the site stipulated for as such, it would, I think, have been difficult to displace the view that the rent was a proper revenue charge. But (the contract taking the form it does) it is equally difficult to put out of view the fact that the consideration is not a rent but a capital price.’

The expenditure on acquiring the right to dump was capital notwithstanding that it was payable by instalments. The expenditure was not deductible. This despite the fact that, had a different route been chosen, the costs may have been allowable. As ever the specific facts are critical and the taxation consequences lie where they fall.