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HMRC internal manual

Business Income Manual

Capital/revenue divide: tangible assets: the entirety

The basic position is that the cost of repairing an asset is normally an allowable revenue expense but the cost of replacing the asset as a whole is normally capital expenditure and not allowable as a deduction. To determine whether an item of expenditure is a repair or replacement, therefore, you must first identify the asset concerned.

It is worth beginning with the definition given by Buckley LJ in Lurcott v Wakely & Wheeler [1911] 1 KB 905 at page 924:

‘Repair is restoration by renewal or replacement of subsidiary parts of a whole. Renewal, as distinguished from repair, is reconstruction of the entirety, meaning by the entirety not necessarily the whole but substantially the whole subject-matter under discussion.’

More recently in the Privy Council case of Auckland Gas Co Ltd v CIR [2000] 73TC266 at 270 Lord Nicholls of Birkenhead said that the terms should be seen in their everyday meaning:

‘Their Lordships therefore turn directly to the question whether the work constituted repair or replacement. In this context these words are not technical expressions with a special meaning. Rather, they bear an ordinary, everyday meaning. They connote repair, or replacement, of a tangible object.’

He went on to emphasise that the starting point was to identify the asset:

‘In order to decide whether work constitutes repair or replacement, the first step is to identify the object to which the test of repair or replacement is being applied. Frequently this is a straightforward exercise and the answer is obvious. To take a homely instance, replacement of a worn washer on a household tap is normally regarded as a repair of the tap even though one of its parts has been wholly replaced. The tap has been repaired by the replacement of one of its component parts. Similarly with a car: replacement of a spent battery or a corroded exhaust system will normally be regarded as a repair of the car. The car has been put into working condition again. It often happens that, with improvements in technology, a replacement part is better than the original and will last longer or function better. That does not, of itself, change the character of the larger object or, hence, the appropriate description of the work.’

The first step is therefore to identify the ‘entirety’ or ‘subject-matter’. This is a question of fact and degree. There are no clear tests to be applied. It is simply a question of what amounts to a separate asset. Lord Nicholls outlined the limitations of this approach:

‘Some objects do not lend themselves so readily to this exercise in characterisation. The nature of some objects and their component elements is such that replacement of one or more components will not necessarily be regarded simply as a repair of the larger object. This is particularly so if the replaced element differs from the damaged original in such a way as to change the character of the whole. A house is a simple example of this. Demolition and rebuilding of a dangerous flank wall of a house would normally be regarded as repairing the house. The answer might not be so obvious if an entire derelict wing of a large house were demolished and rebuilt, especially if the new construction were substantially different from the original. Questions of degree may arise in such cases.’

In effect each case has to be looked at on its own facts. Although Lord Nicholls recognised that there comes a point where:

‘repair may not be the appropriate description of work even though it falls far short of being a replacement of substantially the whole of the relevant subject-matter.’

Where extensive work is carried out on an asset, it is possible that although parts of the original asset remain, the character of the asset has changed. Guidance on this can be found at BIM35460.

At one time it was suggested that you had to look for the ‘single profit-earning undertaking’ but this idea has now been discredited (see the comments of Vinelott J in Brown (HMIT) v Burnley Football and Athletic Co Ltd [1980] 53TC357 at BIM35490).

Finally the fact that replacing the whole asset is cheaper than repairing it is not relevant in determining whether expenditure is on repairs (Lord Nicholls of Birkenhead in the Privy Council case of Auckland Gas Co Ltd v CIR [2000] 73TC266 at page 274 - see BIM35470).