Claiming Tax Relief For Pre-Trading Expenditure

When setting up a business there is generally a certain amount of preparatory work that needs to be undertaken before the business is ready to start trading. For example, it may be necessary to acquire and kit out premises, recruit staff, buy stationery and other offices supplies, install computer software, advertise etc. In getting the business ready to trade, costs will be incurred.

Understandably, the business will be keen to obtain tax relief for those expenses wherever possible

Seven-year rule

For both income tax (sole traders and unincorporated businesses) and corporation tax purposes, relief is available for business expenditure incurred prior to the start of trading (‘pre-trading expenditure’), but only if the expenditure was incurred within a period of seven years prior to the commencement of the trade. Relief is available to the extent that the expenditure is not allowable as a deduction in computing profits, but would have been deductible had it been incurred after the trade had commenced.

Revenue not capital

Relief against is only available for pre-trading expenditure to the extent that it is revenue expenditure rather than capital expenditure.

‘Wholly and exclusively’ rule

Expenditure that is incurred before the start of trade must pass the ‘wholly and exclusively’ test to qualify for deductibility in the same way as expenditure incurred once trading has started. Thus pre-trading expenditure is only deductible if it is incurred wholly and exclusively for the purposes of the trade. No relief is available for pre-trading expenditure that does not pass this test.

Treated as incurred on day 1

For the purposes of giving relief, qualifying pre-trading expenditure is treated as if it had been incurred on the first day of trading, and in that way is deducted in computing the profits of the first accounting period.

Pre-commencement capital expenditure

As noted above, relief for pre-trading expenses against profits is only available for revenue expenditure. However, where the expenditure is of a capital nature and of a type that would qualify for capital allowances, such as expenditure on plant and machinery, the expenditure is treated for capital allowances purposes as if it were incurred on the first day of trading. In this way, relief is given by means of capital allowances. Where the capital expenditure is of a type that qualifies for the annual investment allowance, relief may be given in full against the profits of the first accounting period.

Stock

A business which sells goods will need to acquire stock before it is able to start trading. However, the advance purchase of stock does not qualify for relief against profits as pre-trading expenditure. Instead, the cost of stock will be deducted in computing profits (as part of the cost of sales) once trade has begun.

Example: Preparing to trade

Albert starts trading as a painter and decorator on 1 October 2015. In preparation for the commencement of the trade, he bought a van in September 2015 for £5,000 and in the period from 1 June 2015 to 30 September 2015 he spent £1,000 on equipment. He also spent £500 on marketing in August 2015, publicising his new business to obtain customers.

Albert is able to obtain relief for the marketing costs in computing his profits for the period from 1 October 2015 to 5 April 2016. The marketing costs are treated as if they were incurred on 1 October 2015. While Albert cannot deduct the cost of the van and the equipment as this is capital expenditure rather than revenue expenditure, he can claim capital allowances instead. He is treated for capital allowances purposes as if he had incurred the expenditure on 1 October 2015.

Practical Tip:

When setting up a business, keep a record of all set up costs and don’t forget to claim relief for pre-trading expenditure against profits of the first accounting period. Similarly, capital allowances can be claimed as if the capital expenditure was incurred on the first day of trading.