SE Question on software and tax.

Corda1983

Hi Everyone,

I've got a question on being self-employed as a music composer I'd like to ask. I'm just sorting out my tax return for 10/11 and have some queries on capital allowance and whether the software I have bought and use would count as such.

I know that the music studio computer and speakers/headphones etc. I use would be classed as a capital allowance, but the software is trickier to classify. It's basically a bunch of sample libraries, so legally speaking you receive a CD/DVD with a sample library on the disc, but the actual cost is spent on the license to use the sounds on the disc for commercial purposes.

Because of this there is zero re-sale value and also, technically speaking, zero depreciation. You can't sell your license on so it would seem to me that these are transactions best and rightly treated as one off business expense? Just to give you some idea of costs, the software ranges from about £300 to around £1000, so these are not massive expenses but not tiny either (I've bought about 3-4 lots of software at this price).

Anybody have any thoughts on this? It would probably be easiest for me to just right them off as a business expense and some forums have suggested software in general is best classes as a business expense, but wanted to check on here!

Thanks in advance for your time!

chrismac1

I'd write this off as an expense "Equipment expensed". I'd also be tempted to do that with the hardware because the tax impact is the same due to the 100% capital aloowances so long as there is no personal use element - though even there you could just take out the personal % of the cost from the business expense total.

Software is generally an expense. As for licences, if you pay for a 12 month licence 6 months before the end of your accounting year, then the 6 months' of this which falls into the future period would be left out of the business expense total - the accounting term for this is "prepayment" if you want to Google this. For most clients the only software costs I capitalise are where the software is for a commercial, revenue-generating website where you can order product via the website and pay over the net.

Corda1983

Hi Chris,

Thanks so much for the advice. If I'm able to also write my computer purchase off as a business expense that would be ideal - but I was led to believe it would be a capital expense? Also there is no personal element with any of the hardware or software - I have a personal computer I use for general browsing, daily stuff etc.

Also, regarding the aforementioned license, it's a straightforward, one-purchase lifetime sort of thing - you buy the music library and you have the right to use it indefinitely, so there's no repeat fees or anything like that.

So I'm able to write my hardware and software off as business expenses you reckon?

PlutoinCapricorn

Is your turnover below £70,000 (formerly £50,000)? If so, HMRC just want total expenses as opposed to an itemised list. In your position, I would put everything under expenses not capital - in fact I did this with my new laptop some years back.

Obviously, a big van is a capital expense and a packet of envelopes is a sundry expense, but there is a grey area in between. The price of PCs is dropping all the time so they are no longer a major outlay.

Corda1983

PlutoinCapricorn wrote: »

Is your turnover below £70,000 (formerly £50,000)? If so, HMRC just want total expenses as opposed to an itemised list. In your position, I would put everything under expenses not capital - in fact I did this with my new laptop some years back.

Obviously, a big van is a capital expense and a packet of envelopes is a sundry expense, but there is a grey area in between. The price of PCs is dropping all the time so they are no longer a major outlay.

My turnover is well below £70k. None of my equipment has really been serious outlay; everything has been £2k or less (much less usually). The computer has been far and away the biggest single expense at around £1.5k!

So it would seem safe to just put everything down as expenses? There's probably only a dozen or so items anyway, and everything falls under the category of either music software, computer equipment (base unit, monitor etc.) or small items of musical equipment (headphones, instrument inputs, small speakers etc.). There's ultimately less than £5k's worth of stuff there, so if I can just put it all under expenses that's going to be a lot easier I think!

Thanks again for your advice!

chrismac1

It's important to realise why this treatment is OK as it's quite likely to change before long. Businesses like yours have a £100k annual investment allowance on qualifying assets on which they can claim 100% of the cost in the year of spend. This limit reduces to £25k on 6 April 2012, and in the past it has been nothing like as generous. Capital allowances are the one area of tax which have been tinkered with in every single budget for the last 5 years, and posisbly 10 - it's hard to recall one where they were not messed with. Keeping up with rule changes in this area is one reason why larger businesses hire accountants.

Corda1983

chrismac1 wrote: »

It's important to realise why this treatment is OK as it's quite likely to change before long. Businesses like yours have a £100k annual investment allowance on qualifying assets on which they can claim 100% of the cost in the year of spend. This limit reduces to £25k on 6 April 2012, and in the past it has been nothing like as generous. Capital allowances are the one area of tax which have been tinkered with in every single budget for the last 5 years, and posisbly 10 - it's hard to recall one where they were not messed with. Keeping up with rule changes in this area is one reason why larger businesses hire accountants.

Thanks for this! I was aware of the AIA (though not that the limit was being reduced so drastically next year) but was unsure about the right or best way to do things.

So, if I'm understanding everybody correctly, are you essentially saying that HMRC would not be too concerned about how I classified my spend on equipment for the purposes of my tax return, at least for this tax year?

chrismac1

No they should not be. If you claim them within "equipment expensed" you get 100% tax relief. If you claim them as capital allowances, it's 100% relief.

pjclar02

Hello there

This may or may not be relevant, but another issue to consider is the impact of the classification on your year-end accounts.

If you treat the items as "equipment expensed", the total cost will hit your profit and loss immediately. Whereas if you capitalise this on the balance sheet, you will write down the value through the profit and loss account over a period of years (say three to five years). So by capitalising the purchases you are softening the immediate impact on your profit.

This could be relevant if, say, you were looking to secure finance on the back of the figures presented in the accounts.

PlutoinCapricorn

Assuming that the OP is a sole trader, there is no need to produce the sort of accounts that are required for a limited company. HMRC just want 3 totals: income, expenses and profit. Most of us keep records based on this, maintaining itemised lists and retaining receipts to show if HMRC enquire about some aspect of the tax return.

Obviously, the idea is to reduce the taxable profit by claiming all legitimate expenses. As pjclar02 said, this may go against the need to show a large profit when applying for a mortgage or other finance, but in the OP's case the expenses are only a few thousand and apply to a tax year that has finished so I can't see any reason for going through the writing down process.

jimmo

Strictly speaking, it is wrong to write off the hardware as expenses. You should claim capital allowances. Possibly the only thing to worry about is that if you sell the hardware in the future the sale proceeds will need to be added to your business income. Under the capital allowances rules that is known as a Balancing Charge, in case you want to look it up.
As chrismac 1 says, HMRC really shouldn't be too worried about this but if you get an enquiry from a jobsworth at HMRC he or she could make a mountain out of a molehill. Speaking as a former HMRC employee, I would use the chrismac 1 method and be confident that I could handle any enquiry that came my way, but could you?
I would suggest that you do it correctly. Claim capital allowances in the form of AIA.
At worst it is just a couple more lines in your profits and tax computations.
The chances of HMRC picking you up on this seem pretty remote but, if they do, if you've done it by the book you should be able to deal with HMRC yourself.
As regards the software there appears to be no way that you could sell this on so you would be more justified in writing off the costs as expenses but take a look at what HMRC has to say on it here.
http://www.hmrc.gov.uk/manuals/bimmanual/BIM35815.htm
Did you follow that? To be honest I didn't but I think you would be marginally safer claiming AIA than risking an argument with HMRC.