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In this question, I am confused about the capital allowance.
(1) in the answer, it is said that no capital allowance claimable in yr 5 and yr 6 as after- tax realizable value is given. I don’t understand why.
(2) in the calculation of NPV,we usually counter such a situation where the capital allowance is larger than taxable profits creating a tax loss. But you tell us in the lecture that we can ignore it. But actually it will create a different answer if we consider the CA first and then bring the losses forward and I’ve seen a question clearly mentioned this. So what shall I do in real exam?I have another problem with this same question.
Why do we realise working capilatin year 6 instead of Year 5?
1. Because the question refers to 4 years of operation we are only able to look at the cash flows over 4 years of operation and treat the realisable value after 4 years as though it was to be sold for that amount. Normally, if it were being sold we would have a balancing allowance or balancing charge, but because the realisable value is given as after-tax it is assumed that the balancing allowance or charge has already been taken into account in the amount.
2. If it is an investment by an existing company in the same country, then we assume that the company is already paying tax on existing profits, and therefore a ‘loss’ from the project in any year simply reduces whatever the existing profits are and therefor results in a tax saving. On the other hand, if the investment is (for example) setting up a new company in another country (which will be separately taxable) then if there is a loss there are no existing profits to reduce and therefore the tax in that year is zero and the loss is carried forward to reduce future profits for tax purposes.
3. I don’t know why the examiner chose to recover the working capital in year 6. More sensibly it would be in year 5 (and that would get the marks). It is an old question that was set by an examiner who has been replaced two times since then, and he sometimes did strange things 🙂I cannot open a new forum post due to duplication, so I put questions here hoping you to give me guidance. I am appreciated if you can help me.
Your business J09 (a)
This question focus on the tax savings on capital allowance. I have two problems:
(1) indirect allocated costs are not relevant. I think the allocated costs are relevant to the project and should be deducted from the cash flows. So we should do nothing about them.
(2) the first year allowance takes place in year 0. Does it mean that all the capital allowance takes place at the year when the capital is invested.
(3) one more problem, please. The depreciations start from the year when the asset is bought no matter whether it is used or not,right?
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