March 24, 2026

Capital allowances for micro entities allow your company to deduct the cost of qualifying business assets, such as equipment, machinery, and vehicles from your taxable profits, which directly reduces the amount of Corporation Tax you pay. If your micro entity buys a new laptop, tools, or a company vehicle, you do not simply write off that cost as a normal expense. Instead, you claim it through the capital allowances system. Most micro entities will benefit most from the Annual Investment Allowance, which lets you deduct the full cost of most qualifying assets in the year you buy them, up to a £1 million annual limit. This guide explains exactly how capital allowances work, which assets qualify, which do not, and how the system applies specifically to small limited companies filing under FRS 105. What are Capital Allowances and How Do They Work for a Micro Entity? Capital allowances are the UK tax system’s way of giving businesses tax relief on the purchase of physical assets used in the business. Under normal accounting rules, the cost of an asset is spread over its useful life through depreciation. However, HMRC does not accept accounting depreciation as a tax deduction. Instead, it has its own system — capital allowances — which determines how and when the cost of an asset can be deducted from your taxable profits. This matters for micro entities because it means two things: The depreciation charge shown in your accounts is added back when calculating your Corporation Tax liability The capital allowances you are entitled to claim are then deducted instead, and the figures are often different from the depreciation you have charged in your accounts In practice, many micro entities end up claiming more tax relief in the first year than their depreciation charge would suggest — especially when using the Annual Investment Allowance — because AIA allows 100% of the cost to be deducted in year one, regardless of how long the asset will be used. What is the Difference Between an Asset and an Expense for Tax Purposes? An expense is something that is used up in the course of running the business — printer paper, software subscriptions, phone bills, and accountancy fees are all examples. These are deducted from profit in the period they arise, with no capital allowance calculation needed. An asset is something with a longer useful life that the business will use over several years — machinery, vehicles, office furniture, and IT equipment are the most common examples for micro entities. The cost of these items cannot simply be written off as an expense in one go under standard tax rules; instead, they go through the capital allowances system. The distinction is not always immediately obvious, and HMRC’s guidance draws the line based on whether the expenditure creates an enduring benefit for the business. If it does, it is likely to be capital expenditure, and the capital allowances rules apply. What are the Different Types of Capital Allowances Available to Micro Entities? There are several types of capital allowances available under UK tax law. Micro entities will primarily encounter the first three, but it is worth understanding all of them. Annual Investment Allowance (AIA) The Annual Investment Allowance is the most important capital allowance for the vast majority of micro entities. It allows you to deduct 100% of the cost of most qualifying plant and machinery in the year you buy it, up to an annual limit of £1 million (as of the 2024/25 tax year). For a micro entity with a turnover of under £632,000, the £1 million AIA limit is almost always more than enough to cover all qualifying capital expenditure in a given year. This means most micro entities will be able to claim full tax relief on everything they buy in the year of purchase, rather than spreading the relief over several years. The AIA applies to plant and machinery, which covers a wide range of items including computers, office furniture, tools, machinery, and most fixtures in commercial property. It does not apply to cars (which have their own rules) or to assets you acquire through a hire purchase or lease arrangement in certain circumstances. Writing Down Allowance (WDA) The Writing Down Allowance applies to assets that are not fully covered by the AIA, or to assets that fall outside AIA eligibility. Rather than deducting the full cost in year one, you deduct a percentage of the remaining value each year. There are two rates: Main rate pool — 18% per year. This covers most plant and machinery that is not in the special rate pool. Special rate pool — 6% per year. This applies to integral features in buildings (such as electrical systems, heating systems, and lifts), long-life assets, and thermal insulation. In practice, most micro entities will prefer to use the AIA to claim 100% relief upfront on qualifying assets rather than taking the slower WDA route. However, WDA becomes relevant for assets that do not qualify for AIA (such as cars with CO2 emissions above the threshold) or where AIA has already been used in full for that year. First Year Allowances (FYA) First Year Allowances allow 100% of the cost of certain qualifying assets to be deducted in the year of purchase — similar to AIA, but applying to a specific list of assets regardless of whether AIA has already been used up. The most relevant FYA for micro entities at present is the allowance for zero-emission cars. If a micro entity purchases a new electric vehicle for business use, 100% of the cost can be deducted in year one under the First Year Allowance, outside of and in addition to the AIA limit. There have also been temporary first-year allowances introduced and extended at various points — such as the Full Expensing allowance introduced in April 2023, which allows companies to deduct 100% of qualifying main rate plant and machinery and 50% of special rate expenditure in the first year. This applies