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Too Much
Income Tax?
A Fifth of the Cost of a New Vehicle and an Annual Amount for Wear and Tear May be Set Against Income in Completing Tax Returns
IFEEL it is necessary to refer once more to the Income Tax Act, 1945, and its effect on the amount of tax payable by operators of commercial vehicles. An article on this matter appeared in "The Commercial Motor" dated June 28, 1946.
In some correspondence with a friend whom I had already advised to take the steps necessary to obtain the allowance which I am about to describe, I set out the details in full. He was a man in control of a fairly big business, and I was, therefore, surprised to receive a letter from him, later, saying that his auditors had checked the information 1 had given him and found it to be incorrect. In their view there was no provision for any of the allowances that I mentioned. 1 replied simply that he should suggest to his auditors that they read the Income Tax Act, 1945.
He was surprised at the result, and I was pleased to receive a letter from him a few days later, stating that his auditors had climbed down completely and admitted that they knew nothing of the Act.
This is not an isolated case. I have, in the course of the past 12 months, come across many instances relating to auditors having connections with big concerns—buyers and users of machinery and plant of all kinds—who were not acquainted with the Act.
Discussing this particular aspect with a friend, a chartered accountant, he told me that part of the reason for ignorance of the law relating to income tax was that this was an isolated Act, made public some time before it was due to apply. As a rule, he said, auditors and accountants are concerned with the Finance Acts, in none of which was reference made to this particular Act; hence the oversight. Personally, I think the explanation is weak, because reference to the subject is made in the explanatory memoranda issued by the income-tax assessor with every copy of the form on which the ordinary income-tax payer is expected to make his return of income and claim for allowances.
In paragraph 4 of those memoranda the income-tax payer is informed that he may claim certain allowances in respect of capital expenditure. So far as machinery, or plant is concerned, reference is made to three items: (a) The initial allowances, (b) the annual allowance, (c) the balancing allowance. Operators should refer to them for confirmation.
The initial allowance is something new: it is an independent amount and should not be confused with depreciation or wear-and-tear allowance. I quote from the above memoranda: "You may claim a deduction of .1 of the capital expenditure incurred after April 5, 1946, on the provision of machinery or plant for the purposes of a trade. . . ." " Machinery or plant" covers motor vehicles acquired for the purposes of a trade, including haulage.
Deduction from Income Any operator who has bought a new or used vehicle since April 5 last year can, when making his return of income, claim as an allowance by way of deduction from his declared income 1 of the amount expended. If, for example, he has bought a vehicle for £1,600, he can claim an initial allowance and deduct £320 from his income.
Sub-paragraph b in this important paragraph 4 of the memoranda relates to the "annual allowance." Here, again, quoting from the memoranda: "You may claim a deduction in respect of wear and tear of machinery or plant used for the purposes of a trade, etc., provided that the machinery or plant belongs to you _ , . and that the burden of the wear and tear will in fact fall directly upon you."
In the case of an A-licensee, the deduction in respect of wear and tear is 31f per cent. of the value of the vehicle, as it declines year by year as the result of the deduction of this 31i per cent. It is here, again, that confusion arises.
Assuming that the operator has purchased since April 5, 1946, a vehicle costing £1,600, wear-and-tear allowance al 311 per cent, is, in the first year, £500. The total allowance, therefore, in respect of this particular vehicle for the first year of its use, is £320 for the initial allowance of 20 per cent, of the purchase price, plus £500, which is 311 per cent. of that amount, making a total of £820.
Many operators make a mistake when they imagine that they are not entitled to claim both these allowances and are inclined to claim only the 311 per cent. thinking that they are in that way taking the better of the alternatives. That is not so. They should claim both.
It is necessary to look to the future and consider what the allowances will be year by year. I have set these out in Table L In calculating subsequent allowances it must he borne in mind, as I have already stated, that the 311 per cent. wear and tear is calculated on the declining value of the vehicle. As at the end of the first year the operator has been allowed £820, the value of the vehicle for the second year's computation of allowance is £1,600, less £820 (£780).
In the second year there will be no initial allowance of 20 per cent., but there will still be an allowance of 31f per cent. of £780, which is £244, as set out in Table I.
For the third year, £244 must be deducted from the previous £780, giving £536 as the value of the vehicle, on which the 31i per cent, must be calculated. The allowance is thus £168, and so on for following years, as in Table I, which I have compiled down to the ninth year for a purrbse which will shortly become clear. It is important to note, however, that in the ninth year the vehicle's value is still £56. The total of allowances up to the ninth year is £1,544 and that amount, added to the value of the vehicle (£56), produces the original cost of £1,600. Even by the ninth year, however, the income-tax accessor has not allowed an amount equal to the value of the vehicle and that will, in effect, never happen. There will always be a small amount left even after several years have elapsed.
What Happened Before 1946
For purposes of explanation 1 have set out in Table lithe position before 1946. In those days there was no initial allowance. That has been granted to encourage operators and users of machinery and plant to replace their stock, to expedite the return to normal of the production capacity of this country.
Thus, again taking as an example a vehicle costing £1,600, the allowance in the first year would be 25 per cent. of £1,600, which is £400, plus (£80), a total of £480.
In calculating the declining value of the vehicle, however, in order to arrive at the allowance for the next year, it was not the practice to deduct the whole amount of £480 from the initial value, but only the £400, so that for the second year the vehicle would be assessed at £1,200. The allowance at 25 per cent, would be £300 plus I (£60), making a total of £360, and so on, as set out in Table 11.
Here is a curious feature, a point which is not widely appreciated. It will be observed that by the seventh year the operator has been allowed, as deduction from income, the full sum spent on the vehicle, whereas, according to the present assessment, as 'in Table I, that period has not been attained at the end of the ninth year and will never actually be reached. Therefore, this concession of 20 per cent, whilst excellent, having in mind its purpose, is not on of which the operator need hesitate to take advantage. In Tables III and IV I have set out corresponding figures as they apply to B and C licensees and to 'operators of passenger vehicles. They have the same initial allowance as operators working under A licences (20 per cent.), but the wear-and-tear allowance, instead of being 31i per cent., is only 25 per cent.
In pre-1945 days, as readers will no doubt recall, the allowance for such operators was at the rate of 20 per cent., plusI, comparing with an allowance of 25 per cent., plus is.
It now remains to deal with the third item, the "balancing allowance." This, as a matter of fact, may be an allowance or a charge, depending upon circumstances. Fully to explain, it seems desirable to refer to the state of affairs which existed before this Act came into force.
I will ask the reader to refer to Table II. Assume that during the fourth year the particular vehicle exemplified in that table was, before 1946, sold for £475, and was replaced by another vehicle. In that case, the income-tax assessor would allow the difference between £675 and £475 (£200) against income; it would be the equivalent of a further amount of wear-and-tear or depreciation allowance. On the other hand, if, before the passing of this 1945 Act, that vehicle had been sold for £875, there would be no debit against the operator, because of the profit thus made. That would be treated as a capital appreciation.
The Present Position
Now matters are entirely different. In the first place, it does not matter whether the vehicle is replaced by another or not. Turning to Table I and assuming that the vehicle which, in the fourth year, was worth £368, is in that year sold for £168, then, as in the previous case, there would still be a "balancing allowance" of £200 in favour of the operator. He could set that down as an allowable expense. On the other hand, supposing that he sells that vehicle for £568, he must make a return of that extra amount in the paragraph of his statement of income entitled "Any other income." That is a balancing charge and he must pay tax on that £200.
A third point needs to be noted, although as time goes on it becomes of less importance. Suppose this same vehicle, which in its fourth year is worth £368, was sold for £1,700 —that is, for £100 more than its first cost. The balancing charge would not be the difference between £368 and £1,700, but onlY the difference between £368 and £1,600. This means that the income-tax collector aims to get back from the operator the full amount of allowance which has been made on wear and tear. As he has retrieved it he ceases to be concerned. In this case, the extra £100, obtained by selling the vehicle in excess of its purchase price, is treated as a capital increment and is not taxable.