Annual Investment Allowance – why private equity-backed groups need to take extra care

The Annual Investment Allowance (AIA) is a valuable relief for businesses investing in plant and machinery. It allows companies to deduct up to £1 million of qualifying expenditure from their taxable profits in the year the investment is made.

However, the rules are not always straightforward. In particular, groups of companies and businesses under common control may need to share a single £1 million allowance, which can create complications for private equity-backed portfolio companies and other complex group structures.

When does the AIA need to be shared?

The legislation provides that only one AIA is available to:

• Groups of companies, and

• Companies (or groups) that are under common control and “related” to each other

This means that even where companies are legally separate, they may still need to share a single £1 million allowance.

For groups of companies, the position is usually clear as the Companies Act definition applies. The complexity often arises when determining whether companies are under common control and whether they are related.

For AIA purposes, a person controls a company if they have the power to ensure that the company’s affairs are conducted in accordance with their wishes. This could be through shareholdings, voting rights, or powers set out in the company’s constitutional documents or shareholder agreements.

However, common control alone is not enough to require AIA to be shared. The companies must also be related.

What makes companies “related”?

Companies under common control are only required to share their AIA if they are also related. This can happen where:

• They share premises, or

• More than 50% of their turnover comes from the same economic activity

In many private equity-backed structures, this issue can arise because portfolio groups often include a management company that provides services within the group.

HMRC’s view is that where two otherwise separate portfolio groups under the same private equity house both include such management service companies, this may be sufficient for the groups to be considered related for AIA purposes. If that is the case, those groups could be treated as a single group for AIA, meaning they must share the £1 million limit.

In practice, this could mean that multiple portfolio groups within the same fund may not each be entitled to their own AIA.

Allocating the allowance

Where companies must share the AIA, the legislation does not impose strict rules on how the allowance should be divided.

This means groups can allocate the allowance in any way they see fit. In some cases, a simple pro-rata split may be appropriate. In others, it may make sense to allocate more of the allowance to companies undertaking significant capital investment.

The key point is that the total allowance across the relevant companies cannot exceed £1 million per year.

Different rules across the tax system

One of the reasons the AIA rules can be confusing is that they do not align perfectly with other areas of the tax system.

For example:

• Corporation tax rate thresholds must be shared between associated companies

• Employment allowance must be shared between connected companies

Both of these use a different definition of control under the Corporation Tax Act 2010. In addition, those rules can require the rights of relatives or associates to be taken into account where there is substantial commercial interdependence.

By contrast, the AIA rules focus on whether companies are under common control and related through premises or economic activity, which means the outcome can be different.

Getting it right

Given the complexity of ownership structures, particularly within private equity groups, it is important to fully understand the relationships between companies before claiming the AIA.

Advisers and businesses should consider:

• Whether companies are under common control

• Whether they could be regarded as related

• Whether the AIA has been allocated correctly across the relevant companies

Taking the time to review these issues can help avoid unexpected HMRC enquiries or adjustments to corporation tax returns.

If you have any questions about the Annual Investment Allowance or would like help reviewing your position, please get in touch.

Authored by: London Team