Introduction
Depreciation is a crucial concept under the Income Tax Act, 1961, allowing businesses and professionals to claim a deduction for the wear and tear of assets used in their operations. Section 32 of the Act lays down the rules for calculating depreciation, providing clarity on eligible assets, rates, and methods. In this blog, we will explore the provisions of Section 32, methods of depreciation calculation, and examples to simplify the process for taxpayers.
What is Depreciation Under Section 32?
Depreciation refers to the reduction in the value of tangible or intangible assets due to wear and tear, obsolescence, or usage over time. The Income Tax Act allows taxpayers to claim this reduction as a deduction under the head “Profits and Gains of Business or Profession”, provided the assets are used for business or professional purposes.
Eligible Assets for Depreciation
As per Section 32, depreciation can be claimed on the following assets:
1. Tangible Assets
- Buildings (excluding land).
- Machinery.
- Plant and Equipment.
- Furniture and Fixtures.
2. Intangible Assets
- Know-how, patents, copyrights, trademarks, licenses, franchises, or similar rights.
Conditions for Claiming Depreciation
- Ownership:
The asset must be owned, wholly or partially, by the assessee.- Example: A business using rented machinery cannot claim depreciation.
- Usage:
The asset must be used for business or professional purposes during the financial year. - Block of Assets:
Depreciation is calculated on the block of assets, which groups similar assets under one category.
Methods of Depreciation Calculation
Depreciation can be calculated using two methods under the Income Tax Act:
1. Written Down Value (WDV) Method
- Depreciation is calculated on the reduced value of the asset after accounting for depreciation claimed in previous years.
- This is the most commonly used method under the Income Tax Act.
Formula:
\text{WDV Depreciation} = \text{Opening WDV} \times \text{Rate of Depreciation (%)}
Example:
A machine costing ₹1,00,000 with a depreciation rate of 15% will have the following depreciation:
- Year 1: ₹1,00,000 × 15% = ₹15,000
- Year 2: ₹85,000 × 15% = ₹12,750
2. Straight Line Method (SLM)
- Depreciation is calculated as a fixed percentage of the original cost each year.
- The SLM is allowed only in specific cases (e.g., power generation units).
Formula:
\text{SLM Depreciation} = \text{Original Cost} \times \text{Rate of Depreciation (%)}
Example:
For a machine costing ₹1,00,000 with a depreciation rate of 10%, the annual depreciation will be ₹10,000 every year.
Rates of Depreciation
Depreciation rates are prescribed by the Income Tax Rules. Some common rates are:
- Building:
- Residential: 5%
- Non-residential: 10%
- Plant and Machinery:
- General: 15%
- Pollution control equipment: 40%
- Furniture: 10%
- Intangible Assets: 25%
Additional Depreciation
Under Section 32(1)(iia), businesses engaged in manufacturing or production may claim additional depreciation at 20% of the actual cost of new plant or machinery in the year of purchase.
Conditions for Additional Depreciation:
- The asset must be new and not previously used by another person.
- It should not be eligible for 100% depreciation in the year of purchase.
- The additional depreciation is not available for assets used in the service sector.
Example:
A manufacturer buys new machinery for ₹5,00,000.
- Normal Depreciation (15%): ₹75,000
- Additional Depreciation (20%): ₹1,00,000
- Total Depreciation: ₹1,75,000
Unabsorbed Depreciation
If the depreciation amount exceeds the taxable income for the year, the unabsorbed depreciation can be carried forward indefinitely and set off against income in subsequent years.
Example:
A business with taxable income of ₹1,50,000 claims depreciation of ₹2,00,000. The excess ₹50,000 is carried forward.
FAQs
1. Can depreciation be claimed for assets purchased but not used?
No, depreciation can only be claimed for assets used during the financial year.
2. Can individuals claim depreciation for personal assets?
No, depreciation is allowed only for assets used for business or professional purposes.
3. Is additional depreciation available for all businesses?
No, additional depreciation is restricted to manufacturing and production businesses.
4. How is depreciation treated for assets sold during the year?
If an asset is sold, the depreciation for that year is calculated proportionately based on the period of use.
5. Can depreciation be claimed on fully depreciated assets?
No, once an asset is fully depreciated, no further depreciation can be claimed.
Conclusion
Depreciation under Section 32 provides a valuable deduction for businesses and professionals to account for the declining value of their assets. Understanding the rules, rates, and methods of calculation ensures compliance with tax laws while optimizing deductions. If you need assistance in calculating depreciation or filing your tax returns, consult a tax expert today!
Additional Resources
Learn more about Tax Provisions on the official Income Tax India website.
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