Depreciation under the Income Tax Act

Depreciation under the Income Tax Act

The Income Tax Act of 1961 recognizes depreciation as a valid deduction for businesses and individuals. Let's learn the details of claiming depreciation deductions in India.

What is Depreciation?

Section 32 of the Income Tax Act defines depreciation as the slow decrease in an asset's value due to wear and tear or the passage of time. This decrease is recognized for accounting and tax purposes.

For example, if you buy a new car in 2001, its value will have decreased by 2024.

What Assets Qualify for Depreciation?

The Income Tax Act permits depreciation deductions for tangible and intangible assets in a business or profession.

·       Tangible Assets: These include buildings, machinery, equipment, furniture, and plant.

·       Intangible Assets: Patents, copyrights, trademarks, licenses, franchises, and similar business or commercial rights acquired on or after April 1, 1998, qualify for depreciation.

Block of Assets Concept

Depreciation is calculated on a group of assets called a "block of assets," categorized based on:

·       Life: The estimated useful life of the assets in the group.

·       Type: The nature of the assets (e.g., buildings, machinery).

·       Similar Use: How the assets are employed within the business.

Each asset class with the same depreciation rate forms a block of assets. The Income Tax Act calculates depreciation on the entire block, not individual assets.

Depreciation Rates

The Income Tax Act prescribes specific depreciation rates for different asset classes. Here are some examples:

Conditions for Claiming Depreciation

To claim depreciation, certain conditions must be met:

·       Asset Ownership: The assessee (taxpayer) must be the asset's owner, fully or partly.

·       Land: Land cost is not depreciable as it has an unlimited lifespan.

·       Business or Professional Use: The asset must be used for business or professional purposes. The depreciation deduction is proportionate to the period of such use within the financial year. Assets used for personal purposes are not depreciable.

·       Recently Acquired or Disposed Assets: If an asset is acquired, sold, removed, or damaged in the same year it was purchased, depreciation cannot be claimed for that year.

·       Co-Ownership: Co-owners can claim depreciation on their proportionate asset value share.

Mandatory vs. Optional Depreciation

Depreciation deductions have been compulsory since the 2002-03 assessment year. Even if an assessee doesn't claim depreciation in their books of accounts, the Income Tax Department assumes it has been taken. The assessee carries forward the asset's Written Down Value (WDV) after deducting depreciation. For those under likely taxation plans, the profit is considered to have already factored in depreciation.

Key Differences from Companies Act Depreciation

The methods and rates of depreciation under the Income Tax Act differ from those under the Companies Act, 1956. Taxpayers must use the rates prescribed by the Income Tax Act.

Methods of Depreciation Calculation

The Income Tax Act allows for different methods of depreciation calculation, such as the Straight Line Method (SLM) and the Written Down Value Method (WDV). The asset's chosen method and useful life may vary for accounting and tax purposes depending on the asset type and industry.