The tax implications of expenses and capital assets are quite different, so it’s important farm businesses understand these implications before making a significant investment in new assets or renovations. Unfortunately, the difference is not always clear. When a farm business spends money on a project that is deemed a repair, this can be deducted in the current tax year as an expense. However, if money is spent on a capital improvement, that gets added to the cost of the asset, which is then depreciated over time. In other words, rather than get the full benefit of the deduction in the year the investment is made, businesses see this benefit gradually, over a number of years, depending on the class of the asset and the depreciation rate. That is the fundamental difference between expenses and capital expenditures.

Clarifying the difference

Typically, a current expense is one that recurs over a short period of time. For example, if you own a tractor, you know you will eventually need to replace the tires. Although that expense may be of considerable value, it is an anticipated expense. As long as you operate that tractor, you will expect similar costs to arise in the future. A repair restores an asset back to its original state, whereas a capital expenditure enhances an asset beyond its original condition.

Update or upgrade?

While the difference between expenses and capital assets is relatively straightforward, there are situations that introduce some ambiguity. For one, if you make a significant investment in updating an existing barn, you could argue you’re simply keeping an existing structure operational ⁠–⁠ making it an expense ⁠–⁠ but if the updates are significant enough to constitute an upgrade, this could be considered a capital expenditure. Let’s say you buy a new farm property that includes a barn, and it requires a significant amount of work to be usable. If the previous owner did this work gradually over time, that would have been considered an expense, but if you have to make a significant short‑term investment to transform an unusable barn into a usable one, that would qualify as a capital expenditure.

Overcoming uncertainty

For the most part, uncertainty arises in the case of building updates that cross over into upgrades. Classifying expenditures on vehicles and equipment tends to be more straightforward. Either you’re purchasing a new vehicle (a capital asset) or you’re paying to enable an old vehicle to continue serving its original purpose. It’s rare you would attempt to upgrade your vehicle to an extent that it would qualify as a capital expenditure, as it would usually make more sense to simply purchase a new vehicle.

Planning ahead

When making a substantial investment, it’s crucial to understand the tax implications beforehand. It’s also essential to keep good records (invoices from contractors, for example) throughout the process of purchasing new assets or upgrading your existing ones. In cases where there’s some ambiguity whether you’re investing in an expense or a capital asset, good records will make it easier to demonstrate the reality of your situation.

A bit of both

Prioritizing good recordkeeping is also wise if your project has a mix of expenses and capital expenditures, as this would otherwise be difficult to demonstrate when filing your taxes. For instance, while working on a barn, some tasks like repainting would likely qualify as a current expense, aimed at restoring the barn to its original condition. On the other hand, installing new milking equipment would typically be considered a capital expenditure and would be treated differently for tax purposes. Even if all aspects of your project are considered capital, it’s imperative these details are noted in your records because your depreciation rates may vary depending on the assets in question.

Meet the Author

Deanna Cregg
Courtice, Ontario
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