The Hindu Business Line : An appreciation of depreciation

DEPRECIATION is an intangible expenditure. It refers to wear and tear of assets. Asset values undergo change with the efflux of time. And once an asset is owned and put to use by an assessee, the subsequent buyer will definitely pay less than the original cost of acquisition. However, there are exceptions to this rule, for example, land or vacant sites.

Mandatory allowance

Section 32 of the Income-Tax Act, 1961 provides the rate of depreciation in respect of assets owned wholly or partly by the assessee and put to use for the purpose of business or profession. The assets liable for depreciation are: i) tangible assets consisting of buildings, machinery, plant or furniture; and ii) intangible assets such as knowhow, patents, copyrights, trademarks, licences, franchises or any other business or commercial right acquired on or after April 1, 1998.

The apex court, in CIT vs Mahendra Mills (2000 243 ITR 56 SC), held that the claim of depreciation as optional. Where the assessee does not claim depreciation, it cannot be thrust on him. The Finance Act 2001 inserted explanation 5 to Section 32 (1) to provide that the depreciation has to be allowed whether or not the assessee has claimed the same. Hence, depreciation is a mandatory allowance now. It is effective from the assessment year 2002-03.

Mandate — prospectively applicable

Whether mandatory allowance of depreciation brought in by explanation 5 to Section 32 is retrospectively applicable came up before the court in CIT vs Kerala Electric Lamp Works Ltd (2003 261 ITR 721 Kerala). The High Court held that the mandatory allowance/deduction of depreciation would be applicable only from the assessment year 2002-03 onwards.

Also, in CIT vs Sree Senhavalli Textiles P Ltd (2003 259 ITR 77 Madras) it was held that the words `for the removal of doubts' in Explanation 5 to Section 32(1) would not take away the effect of the judgment in the case of Mahendra Mills (supra) and, hence, the Explanation would not apply retrospectively.

Depreciable asset of discontinued business

When a depreciable asset relating to discontinued business is sold subsequently, the resultant capital gain, whether chargeable as short term or long term, became an issue in Chhabria Trust vs Assistant CIT (2003 264 ITR AT 12 Mum). It was held that where a capital asset forming part of a block of asset has been allowed depreciation under this Act or under the Income-tax Act, 1922, then it shall be chargeable to tax as per Section 50 upon it sale. Even if a depreciable asset is not put to use during the previous year, when sold, the tax implication would be in accordance with Section 50.

However, if an asset in respect of which depreciation has been allowed is inherited and the assessee does not put it to use and no depreciation is allowed thereon, the sale of such asset will not be governed by Section 50 in the assessment of the successor. This is because the assessee getting the asset has not used it for earning income under the head `business or profession' (Rohita Subramaniam vs Deputy CIT — 57 TTJ 101).

Indexation and reinvestment

A depreciable asset is not eligible for any indexation benefit. Even if the assessee has retained ownership of an asset for a period exceeding 36 months, once the depreciation is actually allowed on such asset, no indexation benefit would be available (M. Raghavan vs Assistant CIT — 2004 266 ITR 145 Madras).

However, an assessee keeping a depreciable asset for over 36 months can invest the capital gain arising on its sale/transfer in accordance with the provision of Section 54EC or Section 54F and claim the entire capital gain as free from tax (CIT vs Assam Petroleum Industries P Ltd (2003 262 ITR 587 Gau.); Ace Builders P Ltd vs Assistant CIT (2001 76 ITD 389 Mumbai Tribunal).

Rebate on capital cost

If an assessee acquiring a depreciable asset obtains a rebate in respect thereof, whether such rebate should reduce the value of such asset is yet another issue. In Mahindra & Mahindra Ltd vs CIT (2003 261 ITR 501 Bombay) it was held that waiver loan amount is not taxable under Section 41(1) as the section is intended to tax only a benefit in respect of a deduction or expenditure which was allowed earlier. Where the supplier of a depreciable asset foregoes an amount or gives rebate in respect of the asset, then such reduction in liability may go to reduce the actual cost or written-down value of the asset.

Accordingly, the depreciation claim in respect of the asset will have to be reduced commencing from the year in which such rebate or waiver of the amount due is obtained by the assessee. Earlier years' depreciation claim, however, will not undergo any alteration due to subsequent rebate or discount obtained by the assessee.

Set off against other incomes

Depreciation is deductible against income from business or profession. If the income from business or profession is not sufficient to absorb the entire depreciation, then it can be set off against income under any other head.

Section 32 (2) uses the expression "where in the assessment of the assessee, full effect cannot be given to any allowance under subsection (1) in any previous year, owing to there being no profits or gains chargeable for that previous year."

The apex court, in the Virmani Industries (216 ITR 607 SC) case, has interpreted "no profits or gains chargeable for that year" to mean totality of the profits or gains computed under the various heads and chargeable to tax. The depreciation, hence, is not only to be set off against business incomes but also against all incomes under any other head.

It is worth noting that the Finance Bill 2004 proposal denying set off of business loss against income from salary would not be applicable in respect of depreciation. Hence, depreciation can be set off against salary income also as earlier.

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