The Hindu Business Line : Depreciation allowances for intangible assets

Mere existence of a capital asset is not sufficient to claim depreciation allowance. It should be shown that the asset in question is capable of diminishing in value over time.

T. C. A. Ramanujam

Finance [No. 2] Act, 1998 brought in a major amendment with regard to the law regarding depreciation allowance.

Section 32 of the Income-Tax Act, 1961 was amended to grant depreciation allowance on knowhow, patents, copyrights, trademarks, licences, franchisee and other business or commercial rights of similar nature, being intangible assets acquired on or af ter April 1, 1998.

Explanation 3 defined tangible assets as buildings, machinery, plant or furniture and intangible assets as knowhow, patents, etc. Explanation 4 gives a separate meaning for knowhow as any industrial information or technique likely to assist in the manufacture or processing of goods. We can all understand that knowhow can depreciate with rapid advances being made in science and technology.

Depreciation allowance is granted to compensate the assessee for depreciation suffered by him in respect of specified assets. Depreciation is a measure of the effective life an asset owing to use or obsolescence.

Mere existence of a capital asset is not sufficient to claim depreciation allowance. It should be shown that the asset in question is capable of diminishing in value over time.

Stock Exchange Membership Card

Tricky questions have arisen with regard to claim for depreciation on stock exchange membership card. The Supreme Court had held that membership of the stock exchange is a personal permission from the exchange to exercise the rights and privileges attached to the card.

For claiming depreciation on the card, the rules notified by the stock exchange will have to be examined to see if any ownership right is vested in the cardholder. The membership card is no-doubt a “capital asset” under Section 2(14) of the Act.

Property right includes ownership, estates and interests in corporeal things, and also rights such as trademarks, copyrights, patents and even rights in personam capable of transfer or transmission, such as debts. It signifies a beneficial right to a thing considered as having a money value, especially with reference to a transfer or succession, and to their capacity of being injured.

One Bench of the Income-Tax Appellate Tribunal (ITAT) held that the membership card issued by a stock exchange is a capital asset.

But then, another Bench of the Tribunal went into the question of allowance for depreciation.

It agreed that stock exchange card is a capital asset but ruled that merely because it is a capital asset, there cannot be an automatic allowance for depreciation on the card.

Conditions for depreciation claim

In Bakliwal Corporate Services (P) Ltd vs ITO 302 ITR (AT 110), the Bench pointed out that there are other statutory conditions stipulated by Section 32 which should be fulfil for a successful claim for depreciation:

The asset in question must be shown to be capable of diminishing in value.

The asset must be owned by the assessee.

The asset must be used for the purposes of business.

The principal factors responsible for the retirement of a capital asset and, therefore, responsible for depreciation are ordinary wear and tear, unusual damage, inadequacy and obsolesce. Authorities on accountancy like Pickles and Dickson have noted that in depreciation accounting, the cost of the asset is spread over the years of its usefulness in a systematic and sensible manner and, in doing so, all the causes for depreciation are taken into account before the true profits are ascertained.

The Mumbai Bench of the Tribunal directed the departmental authorities to investigate whether the stock exchange card is capable of diminishing in value. It also directed the department to find out whether the member concerned can be said to be the owner of the card under rules notified by the stock exchange. This is the first time that the issue of depreciation on membership card in the stock exchange has come up for detailed consideration.

In a volatile stock market, when the index touches, say, 20,000 points, and stays there for some months, the value of the membership card will go up substantially and may not depreciate at all.

Goodwill depreciates?

This is also true of trademarks, franchises or any other business or commercial rights of similar nature. In this connection, the question ought to arise whether the goodwill as an intangible asset is capable of depreciation in value. If it depreciates, the assessee may as well go out of business. Intangible assets by themselves are not susceptible to any uniform principle of accounting for purposes of granting depreciation allowance.

All that we can assert on the amended provision of Section 32 is knowhow as an intangible asset is capable of depreciation because of advances in science and technology.

The other intangible assets such as trademarks, goodwill, stock exchange membership card, may not be capable of depreciation at all. Probably, Section 32 may have to be recast to take into account the doubts raised by judicial authorities with regard to the claim for depreciation on certain types of intangible assets.

(The author is a Chief Commissioner of Income-Tax.)