What is a capital cost? Accountancy jargon decoded here….
Author: Russell SmithJune 3, 2015
Jargon alert! Capital means assets which means any big cost! For example, a computer is a cost that doesn’t go through the profit and loss account in one go. This is because, accounting rules dictate that the computer will last the business for more than one year (probably three years). So, we put the computer on the balance sheet as an asset and depreciate it (write it off) to the profit and loss account over three years.
So for example if you purchase a computer for £1,200. Then the profit and loss account will show £400 in the first year, £400 in the second year and £400 in the third year. At the end of the third year, neither the profit and loss account or balance sheet will show any trace of the computer since it is now worth zero (even if you are still using it).
Whilst this is interesting from an accounts point of view, the way the tax works is completely different. The tax rules write the whole computer off in one year. So if you purchase the computer you will get the full tax deduction (20% of £1,200) in the first year.
The way that it is actually recorded on the tax return is slightly different, it goes in the ‘capital allowance’ box rather than as a normal expense, however the effect is the same.