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Additional Depreciation Under Income Tax Act

Depreciation is defined as the process in which there is a reduction in the asset value due to wear and tear of the asset. This is mostly applicable for long term assets which will be give benefits for a longer duration of time such as computers, buildings, vehicles, plant and, machinery, etc. There are two types of depreciation i.e. Written down Value (WDV) Method and Straight Line Method (SLM).

According to the WDV method, depreciation of assets is computed on the book value of the asset and there is a decrease in the book value of the asset every year. The WDV method is one of the most logical methods for depreciation calculation and according to this method, the depreciation amount goes on decreasing with time. In the SLM method, an equal quantity of depreciation is levied on an asset over the time period of its usefulness.

According to Section 32 of the Income Tax Act, 1961, depreciation is allowed as an expense for a block of assets for the computation of Income Tax. The depreciation under Income Tax is permissible according to the WDV method only. Consideration of depreciation as an expense is extremely necessary for carrying out financial management and this serves as a tax saving option as well.

Depreciation is allowed only for those assets which are intended to be used in business or profession. Moreover, depreciation is allowed only in case of the use of the asset in the year in which it was purchased. According to an amendment made into the provisions of Section 32 of the Income Tax Act, 1961, currently considered as Section 32(1) (iia), an additional depreciation of 20% of the real cost of the asset shall be allowed on those machinery or plant which have been installed by assessee involved in the business of manufacture or in the production of an article. These machines or plants must have been purchased and installed after 31st March 2005, excluding aircrafts and ships.

From Assessment year 2013-14, this additional depreciation has also been made permissible for those assessees who are involved in the professions related to the generation of power or the generation and distribution of power. Again from the Assessment year 2017-18, this additional depreciation has also been allowed for those assesses involved in the profession of transmission of power. For those assets which have been used for a time period of less than 180 days, additional depreciation permitted is half of the actual rate permissible. This means 10% and the remaining half depreciation, which has not been allowed in the year of plant or machinery acquisition and installation can be claimed by the assessee in the next succeeding year.

Enhanced Depreciation in Backward Area

The first provision under Section 32(1) (iia) allows for increased possibilities of depreciation in backward areas with effect from 1st April 2016. If an assessee sets up any undertaking or an enterprise which is involved in the manufacture or production of an article or a thing in any backward area notified by the Central Government of India such as in the:

a. The State of Bihar or, b. State of Andhra Pradesh or, c. In the State of Telangana or, d. In the State of West Bengal

Then the additional depreciation which would be available for these enterprises from the time period of 1st April 2015 to 31st March 2020 is 35% and not 20%. This assessee can purchase the machinery and install the machinery, but ships and aircrafts are not included in this category.

Non-eligibility

As per another provision made into Section 32(1) (iia), under Additional depreciation, no deductions shall be allowed in the below-mentioned cases.

  • If machinery or plant has been used outside India before being installed in India by the assessee, then deduction on Additional depreciation cannot be claimed.
  • If any machinery or plant is being installed in an office premise or in residential accommodation, then no deductions are permissible.
  • In case of machinery or plant in which the entire actual cost of the machinery or plant is permitted as a deduction in the computation of the income which is chargeable under the head “Profits and gains of business or profession” in the previous year, then no deduction is permissible under Additional depreciation.
  • Additional depreciation is not allowed for other assets like furniture, buildings, ships, aircraft, Office appliances, vehicles used in road transport, plant and machinery used in guesthouses or homes, assets which are 100% depreciable like equipment used in pollution control, etc.

Additional Depreciation to the Generation of Electricity

In general, the deduction on additional depreciation is permissible only for that assessee who is involved in the production of an article or a thing. Then, this has been a matter of conflict with that assessee who is engaged in undertakings involved in the generation of electricity. There has been a certain amendment made into the law under Section 32(1) (iia) for allowing additional depreciation for assessee under this category i.e. electricity generation.

An assessee who is a joint venture company and is involved in the production of thermal power made a claim for deduction on additional depreciation under Section 32(1) (iia). But, this claim was rejected by the Assessing Officer with a statement that this type of deduction is only permissible for those assessee involved in the production of an article and this does not include generation of electricity. The assessee, however, claimed that this deduction on additional depreciation has been allowed since Assessment Year 2008-09.

The assessee was served with a notice from the Income Tax Department under Section 154 according to which the cause for being allowed with claiming such deduction needed to be clarified. The assessee responded back to the Notice, but again, the explanation was not accepted by the Assessing Officer. Then, the assessee made an appeal to the Commissioner of appeals to look into this matter.

The Section 32(1) (iia) of the Income Tax Act, 1961 was amended in the year 2013 according to which additional depreciation could be granted to an entity which is involved in the business which generates and distributes power. As per the Constitution Bench Judgment of the Supreme Court in the State of Andhra Pradesh versus NTPC, electricity is considered to goods for the sales tax computation. According to the Constitution Bench, electricity is able to be transmitted, transferred and delivered like any other non-static property. So, on the basis of this particular logic, the denial to claim additional depreciation to entities generating electricity is just not fair. Since then, it has been decided that additional depreciation under Section 32(1) (iia) of the Income Tax Act, 1961 is permissible to those companies which are generating electricity as well.

Carry Forward of Balance Depreciation

As per the Section 32(1) (iia) of the Income Tax Act, 1961 the plants and machinery engaged in the production of a thing are granted a deduction on additional depreciation at the rate of 20% in the year they were purchased. In case of a machine being purchased towards the middle of the year, depreciation cannot be claimed for the entire year but, there has been no mention in Section 32(1) (iia) regarding the carry forward of the balance depreciation into subsequent years.

There were a number of court cases by the assessee and then certain amendment has been made into the Section 32(1) (iia) which allow to carry forward the unabsorbed depreciation to the subsequent financial years. According to this amendment, a provision has been inserted into the Section 32(1) (iia) which states that if an asset which has been acquired in the previous financial year and is being used for business purpose for less than 180 days in the previous year, then the additional depreciation permissible in that particular financial year is half of the permissible rate and the remaining percentage can be claimed in the immediately succeeding financial year.

Computation

The general rate of depreciation for machinery is 15%. Moreover, additional depreciation of 20% is available in the first year for the business involved in power generation, distribution and, industrial undertaking.

So, total depreciation which is available in the first year=15%+20%=35%.

Now suppose the asset has been used for a time period which is less than 180 days, then the permissible depreciation= ½ of 35% will be available.

A balanced amount of both, the Normal depreciation and Additional depreciation, can be claimed together in the next succeeding year.

Let us check this out by an example.

Suppose XYZ limited is a manufacturing unit and the following details related to the unit can be summarized.

  1. The Written down Value of the plant and the machinery on let say 01.04.2018 is Rs. 30,00,000.
  2. New plant and machinery was purchased and was used by 08.06.2018 is Rs. 20,00,000.
  3. New plant and machinery was acquired and was put to use by 15.12.2018 is Rs. 8,00,000.
  4. Cost of computer acquisition of computer and installation in the premises of the office on 02.01.2019 is Rs. 3,00,000.

Now, the depreciation and additional depreciation can be calculated as mentioned below.

There are two main blocks which were found i.e. Plant and Machinery Block and Computer Block. For the Plant and machinery block, the rate of permissible depreciation is 15% and for the Computer block, the depreciation rate is 60%. But, according to the tax laws, additional depreciation is permissible only for Plant and machinery block.

Total additional depreciation of 20% is available on the Plant and machinery block acquired on 08.06.2018 and 10% additional depreciation is available for those plant and machinery block acquired on 16.12.2018.

So, now the computation can be represented in a tabular format.

AssetBlock 1 i.e. Plant and MachineryBlock 2 i.e. Computer
Rate of Depreciation15%60%
Opening value as per the Written Down Value MethodRs. 30,00,0000
Add:-
Purchased before 180 days or more
Purchased less than 120 days

Rs. 20,00,000
Rs. 8,00,000
Rs. 3,00,000
Less:-
Sales during the year
Rs. 0 Rs. 0
Before depreciation, the closing valueRs. 58,00,000Rs. 3,00,000
Depreciation ValueRs. 8,10,000
(30,00,000+20,00,000) x 15% + 8,00,000 x 15% x 1/2
Rs. 90,000
3,00,000 x 60% x 1/2
Additional Depreciation CalculatedRs. 4,80,000
(Rs.20, 00,000 x 20%) + (Rs. 8, 00,000x10%)
0
Used for official purpose
After depreciation Closing Written Down ValueRS. 45, 10,000Rs. 2,10,000

Frequently Asked Questions

Is additional depreciation mandatory in nature?

Usually, the grant of depreciation and additional depreciation is mandatory in nature, even if it is not claimed by the assessee.

What is unabsorbed depreciation?

If there is any loss under business and profession and the cause for this loss is depreciation, then it is known as unabsorbed depreciation. The unabsorbed depreciation is allowed to be carried forward to subsequent years.

What are special cases in which additional depreciation is not allowed?

Additional depreciation is not permissible in the below-mentioned cases.

  • Second-hand plant and machinery i.e. that plant and machinery which was used inside or outside India before the installation by the assessee.
  • Office appliances or vehicles used in road transport.
  • Machinery or plant which is installed in office premises or residential accommodations.
  • Machinery or plant whose actual cost is permitted as a deduction in the computation of chargeable income under the head of ‘Profits and gains of business or profession’ of the previous year.

Can depreciation reduce the profit of a company?

There is a direct impact of depreciation expense on the profit of a company i.e. on the profit of a company which is shown on the income statement of the company. The higher the depreciation expense of a company in a given year, the lesser would be the reported income or profit of the company. But, the depreciation is classified as a non-cash expense and hence, this expense is not supposed to affect the cash flow of the company.

What are the special depreciation benefits available for specific backward areas of notified states?

These provisions are applicable only for specific backward areas of specific states i.e. Andhra Pradesh, West Bengal, Bihar, and Telangana.

The special depreciation benefits that are available can be summarized below.

  • Normal depreciation
  • Additional depreciation of 35% instead of 20% additional depreciation, which is generally available. If the asset is used for more than a period of 180 days, then the additional depreciation permissible is 17.5%.
  • According to Section 32AD, a new deduction of 15% on new plant and machinery in the year of installation and not in the year of purchase.
  • In the case of companies, investment allowance is available according to Section 32AC.

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