Depreciation allowance under section 32 of the Income Tax Act, 1961

This article has been republished with updates till July 2018

Depreciation is an allowance on capital assets acquired and put to use and not an expenditure unlike repairs to machinery, plant or furniture. It need not be incurred by the assessee during the previous year. The depreciation allowance has to be calculated on the assets of the assesee as per the methods and rates prescribed under the income tax law.

Depreciation allowance is one of the deductions allowed from business or professional income chargeable under section 28 or other income chargeable under section 56(2)(ii) or 56(2)(iii) of the Income Tax Act, 1961.

As per section 32 of the Income Tax Act, 1961, depreciation is allowed on tangible assets and intangible assets owned, wholly or partly, by the assesse and used for the purposes of business or profession.

As per section 57(ii) depreciation deduction is available from the income from hire of machinery, plant or furniture [Section 56(ii)] or income from buildings (in case of the building is inseparable from the letting of the said machinery, plant or furniture) [Section 56(iii)].

On new plant or machinery, apart from depreciation allowance under section 32(1) and Section 32(2), investment allowance is also available additionally as per the provisions of sections 32AC and 32AD. 

Update: Sec 32AC is not applicable from 01-04-2018 onwards

Depreciation under the Income Tax Act is allowed as a deduction, as a percentage on the written down value (WDV) of the block of assets as per the rates prescribed in New Appendix I to the Income Tax Rules, 1962.

In case of assets of an undertaking engaged in generation or generation and distribution if power, the depreciation is allowed as deduction on the actual cost i.e. straight-line method (SLM) individually on each asset at depreciation rates prescribed in Appendix IA to the Income Tax Rules, 1962 or on WDV of the block of assets. These categories of undertakings shall opt for charging depreciation either on SLM or WDV method. As per Rule 5(1A) of the Income Tax Rules, 1962 the option shall be exercised before the due date for furnishing the return of income under section 139(1) of the Income Tax Act, 1961. As per the proviso to Rule 5(1A), the option once exercised shall be final and shall apply to all the subsequent assessment years.

Block of asset: Section 2(11)

As per section 2(11) of the Income Tax Act, 1961, “block of asset” means a group of assets falling within a class of assets comprising –

a. Tangible assets, being buildings, machinery, plant or furniture,

b. Intangible assets, being know-how, patents, copyrights, trademarks, licenses, franchises, or any other business or commercial rights of similar nature, in respect of which the same percentage of depreciation is prescribed.

For the purpose of classification of assets into blocks, the percentage of depreciation within the class of assets needs to be considered. Each such class of asset with the same percentage of depreciation will be identified as a block of the asset.

For example buildings are classified into four sub-classes and their rates of depreciation are provided below:

Within the buildings class, each building needs to be classified under the above four sub-classes and to be grouped into individual block of assets based on the percentage of depreciation.

Though the rate of depreciation is same for other buildings and furniture i.e. 10% on WDV, they cannot be grouped together in one block of asset.

No depreciation allowance under section 32 in the case of business for prospecting etc. for mineral oil on machinery or plant: Section 42

No deduction under section 32 shall be allowed in respect of any machinery or plant if actual cost thereof is allowed as a deduction in one or more years under an agreement entered into by the Central Government under section 42.

Additional Depreciation: section 32(1)(iia)

If an assessee is engaged in the business of manufacture or production of any article or thing or in the business of generation or generation and distribution of power, an additional depreciation of 20% of the actual cost of new machinery or plant (other than ships and aircraft) shall be allowed as deduction.

Note:

1. No additional depreciation is available if an assessee engaged in the business of generation or generation and distribution of power and following SLM depreciation as per section 32(1)(i);

However, CBDT has issued a clarificatory circular stating that business of printing & publishing amounts to 'manufacture' of an article and thus would be eligible to claim additional depreciation on plant & machinery deployed by them.

2. Additional depreciation of 35% is available for the undertaking/enterprise sets up by the assessee on or after 1-4-2015 on new machinery or plant (other than ships and aircraft) in the backward area notified by the Central Government in this behalf in the states of

1. Andhra Pradesh
2. Bihar
3. Telangana
4. West Bengal

3. This additional depreciation is over and above normal depreciation;

4. No additional depreciation is allowed on any

a. machinery or plant

i. which, before its installation by the assesse, was used either within or outside India by any other person; or

ii. installed in any office premises or any residential accommodation including accommodation in the nature of a guest house; or

iii. the whole of the actual cost is allowed as a deduction (whether by way of depreciation or otherwise) in computing the income chargeable under the head “profits and gains of business or profession” of any one previous year;

b. office appliances or road transport vehicles.

An asset put to use for a period less than 180 days

In case of an asset acquired during the previous year and is put to use for the purpose of business or profession for a period less than 180 days in that previous year, the deduction as depreciation allowance shall be restricted to 50% of the amount of such depreciation in case of:

i. SLM depreciation on assets of an undertaking engaged in generation or generation and distribution of power;

ii. WDV method of depreciation on block of assets method on both tangible and intangible assets;

iii. Additional depreciation.

Notes:

1. In case of additional depreciation allowance, the balance 50% (out of 20% or 35% as the case may on actual cost) shall be allowed in the immediately succeeding previous year;

2. The restriction of 50% of normal depreciation is not applicable to the assets acquired prior to the previous year and put to use in the previous year for a period of less than 180 days;

Example: Machinery purchased on 1-3-2017 and put to use on 1-11-2017 for the purpose of business or profession, the depreciation would be allowed 100% of the prescribed rate and not 50% of it during the previous year 2017-18.

Depreciation deduction in case of amalgamation or demerger

In case of amalgamation or demerger, the total depreciation for the year is to be divided proportionately between the

• Amalgamating company and the amalgamated company in the case of amalgamation; or
• Demerged company and the resulting company in the case of demerger

as the case may be, basing on the number of days of usage of assets by them [fifth proviso to section 32(1)].

A mandatory claim of depreciation

As per explanation 4 to section 32(1), the depreciation deduction 32(1) in respect of both tangible and intangible assets shall apply whether or not the assessee has claimed the deduction in computing his total income.

Deduction in respect of any building, machinery, plant or furniture sold, discarded, demolished or destroyed [Section 32(1)(iii)]

In the case of any building, machinery, plant or furniture on which depreciation is claimed and allowed under section 32(1)(i) [i.e. assets of an undertaking engaged in generation or generation and distribution of power claiming SLM depreciation] is sold, discarded, demolished or destroyed in the previous year other than the previous year in which first brought to use and the money payable fall short of the WDV, such shortfall will be allowed as deduction provided that such shortfall/deficiency is actually written off in the books of the assessee.

Note: This provision is applicable for the assets of an undertaking engaged in generation or generation and distribution of power and claiming SLM depreciation.

Unabsorbed depreciation: Section 32(2)

If the profits and gains from business or profession are less than the depreciation allowance computed under section 32(1), then such short fall or unabsorbed depreciation allowance shall be added to the depreciation allowance for the following previous year or years and so on and deemed to be part of that allowance.

Only depreciation deduction under section 32(1) and section 32(2) is covered. The actual cost of the asset under section 43 in different instances and short-term capital gain or loss on sale of depreciable assets going to be covered in the forthcoming articles.

UPDATE:
CBDT vide Notification No. 103/2016 dated 07-11-2016 has restricted the highest rate of depreciation to 40% for all assets which were eligible for depreciation at a rate higher than 40% w.e.f. 01/04/2017. This notification applies to all class of taxpayers.

SOME IMPORTANT CASE LAWS RELATING TO DEPRECIATION :

• DEPRECIATION WHEN LOAN ON ASSET IS WAIVED OFF

In case, the loan taken for acquisition of the asset is waived off, then the amount waived off shall be reduced from the cost of the asset to arrive at the ‘actual cost’ for computing depreciation. So the depreciation shall be computed on the reduced amount. - Steel Authority Of India Ltd. (Delhi HC)

• DEPRECIATION ON MOBILE PHONES

Communication devices such as mobile phones & EPABX are not to be treated as ‘computers’ and therefore, not entitled to higher depreciation of 60% (Now 40%) – Federal Bank Ltd. (Kerela HC)

• DEPRECIATION ON COMPUTER ACCESSORIES & PERIPHERALS

Computer accessories and peripherals such as printers, scanners, UPS and server etc. form an integral part of the computer system and they cannot be used without the computer. Consequently, the High Court held that since they are part of the computer system, they would be eligible for depreciation at the higher rate of 60% (Now 40%) applicable to computers. - BSES Yamuna Powers Ltd (Delhi HC)

• DEPRECIATION ON ASSET NO LONGER IN USE

The depreciation can be claimed in respect of ‘discarded’ machine, which was not actually used in the relevant previous year, as long as it was used for the business in the earlier previous years and the block continues to exist. – Yamaha Motor India Pvt. Ltd. (Delhi HC)

• DEPRECIATION ON PURCHASED GOODWILL

• Allowed - B. Raveendran Pillai (Kerala);

• The specified intangible assets acquired under the slump sale agreement by the assessee are in the nature of intangible asset under the category "other business or commercial rights of similar nature" specified in section 32(1)(i) and are accordingly eligible for depreciation - Areva T and D India Ltd. (Delhi High Court)
• CARRY FORWARD OF UNABSORBED DEPRICIATION
• unabsorbed depreciation will be allowed to be carried forward to subsequent year even though the return of income of the current assessment year was not filed within the due date. - Govind Nagar Sugar Ltd (Delhi High Court)

• DEPRECIATION OF LEASED VEHICLES TO LESSOR
• The assessee was entitled to claim depreciation in respect of vehicles leased out since it has satisfied both the requirements of section 32, namely, ownership of the vehicles & its usage in the course of business - I.C.D.S. Ltd (Supreme Court)

UPDATE: Finance Act 2017

In order to bring capital expenditures in to the ambit, Finance Act 2017 has introduced a proviso under Sec 43(1), whereby if any person acquires any asset for which payment in excess of Rs 10,000 is made in cash then such item cannot be considered as capital expenditure and consequently no depreciation shall be allowed on the same.

This article has been republished with updates till July 2018