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I am stuck on part of this question. The relevant information is:
New machine $800,000
Expected useful life 10 years but government legislation allows Charm plc to claim the capital cost of the machine against the manufacture of a single product
Capital allowances will therefore be claimed on a straight-line basis over 4 yearsMy question is, the machine is only used for 4/10 of its useful life on this project so do I ignore its residual value at the end of year 4? Or do I include it as a cash inflow and reduce the capital allowance by the residual value as usual (in other words end up with a balancing charge in the final year)? The information about government legislation has thrown me off!
There are two separate things here.
As far as capital allowances are concerned, we do not ever bring in the residual value – we bring in any sale proceeds (they are not the same thing – the machine may be worth something (i.e. have a residual value) but we only have sale proceeds if we have sold it).
In this question, there is no mention of selling it, and so we simply get an allowance of 25% a year on cost. (Usually in the exam it is reducing balance, but in this question is is specifically straight line).
As far as the cash flows themselves are concerned, then again we only bring in cash flows – so if we have not sold it then there is no cash flow 🙂
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