Contractors’ Questions: When can I expense private, business and capital spending?

Contractor’s Question: To have some idea of the expenses I might be able to claim, an accountant I am thinking of engaging says I should work out how much capital, business and private expenditure I expect to incur. What activities or costs are likely to fall within each of these three categories? And isn’t it possible that some costs I incur may arise from business and private spending combining? If so, what would that mean in terms of the expenses which the taxman would allow? 

Expert’s Answer: As a self-employed individual, you are liable to Income tax and National Insurance on your taxable profits under the Self Assessment system and rules.

Your taxable profits will be your self-employed income after deducting allowable expenses incurred in relation to your self-employment business.

The expenditure you will incur is likely to fall within one of three categories:  Capital, Business or Private.  Whether the expenditure will qualify for tax and if so how the relief will be applied will depend on which of these categories the expense falls into.

Capital Expenditure

Capital expenditure is generally items that you purchase and own and which are used in your business to help earn profits.

The most common capital expenditure you are likely to incur is the purchase of, or alterations to, your business premises, vehicle, computers, machinery or office furniture.

Tax relief is not available on all types of capital expenditure, but only on assets which are considered Plant & Machinery. What may be considered ‘plant & machinery’ is a difficult area and it is best to obtain professional advice from your accountant in this area.

Note: The cost of purchasing capital items are not deductible expenses against self-employment income. A deduction may be available under Capital Allowance rules for any business use of the asset only. Again, the rules in this area are quite complex depending on the type of asset, so it is best to obtain professional advice in this respect. 

If you do incur expenditure on what you believe to be capital items that are used in your business, ensure you retain copies of all purchase invoices/agreements which can then be reviewed by your professional adviser to determine whether it qualifies for tax relief.

Business Expenditure

Tax relief is available on business expenditure which is 'wholly and exclusively' incurred for carrying on and earning the profits of your business i.e. the sole purpose for the expenditure must be a business purpose.

Where there is some private benefit from the expenditure, you may still be eligible to get tax relief for the amount spent for your business, provided the private benefit was incidental and not the reason for the expenditure - or you can clearly identify and separate the expenditure between business and private purposes.

In addition to meeting the ‘wholly and exclusively’ test, tax relief will only be available provided the business expenditure is not capital expenditure or an expense which is specifically not allowable, such as expenditure on entertaining.

Tax relief for eligible business expenditure is given by allowing a deduction for the expense from your self-employment income.

Private Expenditure

Expenditure you spend on your day-to-day living expenses and your normal household expenses is private expenditure i.e. it has no business purpose for being incurred. 

Private expenditure also includes any amounts you take from your business as a wage, which is referred to as your 'drawings', or the private part of any expenditure that is for both business and private purposes.

Note: Private expenditure is not eligible for tax relief and you can not claim a deduction for such expenditure from your self-employment income. 

Expenses incurred for both business and private spending

Expenditure incurred for mixed private and business purpose is non-allowable expenditure. An example would be the cost of travelling to town to bank the business takings and do your private shopping at the same time.

If you can separate the expenditure between business and private purposes, the business part is allowable. So, if you use a car separately for business and private purposes, the proportion of the expenses that relates to:

• business use is allowable
• private use is non-allowable

You normally work out the allowable business and non-allowable private proportions based on the mileage covered for each.  You should keep detailed mileage records to support a claim for business use.

The expert was Paul Spindler, a technology partner at Kingston Smith LLP, the chartered accountancy firm.