What defines capital expenditure (CapEx)?

Capital expenditure – also commonly referred to as Cap Ex is the process of acquiring either tangible or intangible fixed assets which are then shown on the balance sheet of the company’s accounts.

In terms of keeping the initial definition simple and easy to understand, Capital Expenditure (CapEx) is best viewed as anything that does not fit under the banner of operational expenditure (OpEx) which covers all the short term day to day operational expenses of the business.

Note: you may also see operational expenditure called revenue expenditure – these terms are freely used on a interchangeable basis

Understanding the distinction between capital expenditure and revenue / operational expenditure is important as the two have very different treatments when it comes to working out your tax liability at the end of the year as we will explain below.

So what defines Cap Ex?

There are two key drivers in defining if an item should be viewed as Capital Expenditure or Operational Expenditure

• Expected Lifespan – Capital Expenditure relates to items with an expected long term lifespan, typically greater than 1 year, but can vary depending on individual business policies
• Cost – Cap Ex typically encompasses large, expensive one off purchases – what constitutes large will vary by business, a £200 purchase of new office furniture will be more material to a sole trader than it will to a large business, who may opt for a larger de minimis level in relation to what they treat as capital expenditure

The HMRC Distinction: Capital vs. Revenue Expenditure

For tax purposes HMRC has clear definitions of what defines both Capital Expenditure, and also Revenue Expenditure, as they have very different treatments when it comes to calculating your tax owed

• Capital Expenditure (CapEx): HMRC define this as any spending on assets that are intended to be retained for long-term use within the business (typically >1 year) or any costs that you incur in the process of improving an asset beyond its original state / specification, or extending it’s useful working life beyond which it was originally planned when setting a rate of depreciation against the asset.
  • Tax Treatment: Anything you classify in the business as capital expenditure is not directly deductible against trading profits in the year. Instead, tax relief is claimed over time using Capital Allowances which is intended to spread the tax benefit over the lifetime of the asset.
• Revenue Expenditure (OpEx): This is best explained or defined as the day to day operational costs of the business, including any routine repairs and maintenance that occurs which restores an asset to its original condition.
  • Tax Treatment: Fully deductible from trading profits in the tax year the cost is incurred.

Practical Examples Under HMRC Rules