OPINION: A subject that creates debate is whether expenditure on repairing and reinstating assets is deductible, writes Murray McClennan in Taxing Times.
It is an area where it can be difficult to determine the correct treatment. It is tempting for taxpayers and their advisers to classify expenditure, particularly on buildings, as repairs and maintenance (and therefore deductible), rather than capital expenditure (which is non-deductible).
Inland Revenue has published an interpretation statement on the deductibility of repairs and maintenance expenditure. The statement notes that the courts have adopted a two-stage approach:
1. Identify the relevant asset that the test of repair or replacement is being applied to. Is the item being repaired or replaced part of a larger asset, or is it a single asset? For example, is the purchase of a new or reconditioned engine for an existing tractor a repair or a replacement? In my view, the tractor is the asset, so the cost of the engine is a repair; and
2. Ascertain the nature, extent and cost of work undertaken. This will involve determining whether the work remedied wear, and that is generally deductible, or whether the asset has been improved or substantially changed.
As a general rule, expenditure that merely restores an asset to its original condition on purchase probably is deductible. It becomes more difficult to determine the correct treatment where new technology or new improved materials are used to restore the asset. Provided the work does not alter a substantial part of the asset, such expenditure may be deductible.
Expenditure on renewal, replacement or reconstruction of a substantial portion of an asset that goes beyond repair, generally will be capital in nature and non-deductible.
» Murray McClennan is director of Tax Central Ltd, a specialist tax consulting firm.
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